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https://www.homeworkping.com/EN BANC[G.R. No. 12287. August 7, 1918.]

VICENTE MADRIGAL and his wife, SUSANA PATERNO, plaintiffs-appellants, vs. JAMES J. RAFFERTY, Collector of Internal Revenue, and VENANCIO CONCEPCION, Deputy Collector of Internal Revenue, defendants-appellees.

MALCOLM, J p:This appeal calls for consideration of the Income Tax Law, a

law of American origin, with reference to the Civil Code, a law of Spanish origin.

STATEMENT OF THE CASEVicente Madrigal and Susana Paterno Were legally married

prior to January 1, 1914. The marriage was contracted under the provisions of law concerning conjugal partnerships (sociedad de gananciales) . On February 25, 1915, Vicente Madrigal filed a sworn declaration on the prescribed form with the Collector of Internal Revenue, showing, as his total net income for the year 1914, the sum of P296,302.73. Subsequently Madrigal submitted the claim that the said P296,302.73 did not represent his income for the year 1914, but was in fact the income of the conjugal partnership existing between himself and his wife Susana Paterno, and that in computing and assessing the additional income tax provided by the Act of Congress of October 3, 1913, the income declared by Vicente Madrigal should be divided into two equal parts, one-half to be considered the income of Vicente Madrigal and the other half the income of Susana Paterno. The general question had in the meantime been submitted to the Attorney-General of the Philippine Islands who in an opinion dated March 17, 1915, held with the petitioner Madrigal. The revenue officers being still unsatisfied, the correspondence together with this opinion was forwarded to Washington for a decision by the United States Treasury Department. The United States Commissioner of Internal Revenue reversed the opinion of the Attorney-General, and thus decided against the claim of Madrigal.

After payment under protest, and after the protest of Madrigal had been decided adversely by the Collector of Internal Revenue, action was begun by Vicente Madrigal and his wife Susana Paterno in the Court of First Instance of the city of Manila against the Collector of Internal Revenue and the Deputy Collector of Internal Revenue for the recovery of the sum of P3,786.08, alleged to have been wrongfully and illegally assessed and collected by the defendants from the plaintiff, Vicente Madrigal, under the provisions of the Act of Congress known as the Income Tax Law. The burden of the complaint was that if the income tax for the year 1914 had been correctly and lawfully computed there would have been due and payable by each of the plaintiffs the sum of P2,921.09, which taken together amounts to a total of P5,842.18 instead of P9,668.21, erroneously and unlawfully collected from the plaintiff Vicente Madrigal, with the result that plaintiff Madrigal has paid ' as income tax for the year 1914, P3,786.08, in excess of the sum lawfully due and payable.

The answer of the defendants, together with an analysis of the tax declaration, the pleadings, and the stipulation, sets forth the basis of defendants' stand in the following way: The income of Vicente Madrigal and his wife Susana Paterno for the year 1914 was made up of three items: (1) P362,407.67, the profits made by Vicente Madrigal

in his coal and shipping business; (2) P4,086.50, the profits made by Susana Paterno in her embroidery business; (3) P16,687.80, the profits made by Vicente Madrigal in a pawnshop company. The sum of these three items is P383,181.97, the gross income of Vicente Madrigal and Susana Paterno for the year 1914. General deductions were claimed and allowed in the sum of P86,879.24. The resulting net income was P296,302.73. For the purpose of assessing the normal tax of one per cent on the net income there were allowed as specific deductions the following: (1) P16,687.80, the tax upon which was to be paid at source, and (2) P8,000, the specific exemption granted to Vicente Madrigal and Susana Paterno, husband and wife. The remainder, P271,614.93 was the sum upon which the normal tax of one per cent was assessed. The normal tax thus arrived at was P2,716.15.

The dispute between the plaintiffs and the defendants concerned the additional tax provided for in the Income Tax Law. The trial court in an exhausted decision found in favor of defendants, without costs.

ISSUES.The contentions of plaintiffs and appellants, having to do

solely with the additional income tax, is that it should be divided into two equal parts, because of the conjugal partnership existing between them. The learned argument of counsel is mostly based upon the provisions of the Civil Code establishing the sociedad de gananciales. The counter contentions of appellees are that the taxes imposed by the Income Tax Law are as the name implies taxes upon income and not upon capital and property; that the fact that Madrigal was a married man, and his marriage contracted under the provisions governing the conjugal partnership, has no bearing on income considered as income, and that the distinction must be drawn between the ordinary form of commercial partnership and the conjugal partnership of spouses resulting from the relation of marriage.

DECISION.From the point of view of test of faculty in taxation, no less

than five answers have been given in the course of history. The final stage has been the selection of income as the norm of taxation. (See Seligman, "The Income Tax," Introduction.) The Income Tax Law of the United States, extended to the Philippine Islands, is the result of an effect on the part of legislators to put into statutory form this canon of taxation and of social reform. The aim has been to mitigate the evils arising from inequalities of wealth by a progressive scheme of taxation, which places the burden on those best able to pay. To carry out this idea, public considerations have demanded an exemption roughly equivalent to the minimum of subsistence. With these exceptions, the income tax is supposed to reach the earnings of the entire non governmental property of the country. Such is the background of the Income Tax Law.

Income as contrasted with capital or property is to be the test. The essential difference between capital and income is that capital is a fund; income is a flow. A fund of property existing at an instant of time is called capital. A flow of services rendered by that capital by the payment of money from it or any other benefit rendered by a fund of capital in relation to such fund through a period of time is called income. Capital is wealth, while income is the service of wealth. (See Fisher, "The Nature of Capital and Income.") The Supreme Court of Georgia expresses the thought in the following figurative language: "The fact is that property is a tree, income is the fruit; labor is a tree, income the fruit; capital is a tree, income the fruit." (Waring vs. City of Savannah [1878], 60 Ga., 93.) A tax on income is not a tax on property. "Income," as here used, can be defined as "profits or gains." (London County Council vs. Attorney-General [1901], A. C., 26; 70 L. J. K. B. N. S., 77; 83 L. T. N. S., 605; 49 Week. Rep., 686; 4 Tax Cas., 265. See further Foster's Income Tax, second edition [1915.], Chapter IV; Black on Income Taxes, second edition [1915], Chapter VIII; Gibbons vs. Mahon [1890], 136 U. S., 549; and Towne vs. Eisner, decided by the United States Supreme Court, January 7, 1918.)

 A regulation of the United States Treasury Department

relative to returns by the husband and wife not living apart, contains the following:

"The husband, as the head and legal representative of the household and general custodian of its income, should make and render the return of the aggregate income of himself and wife, and for the purpose of levying the income tax it is assumed that he can ascertain the total amount of said income. If a wife has a separate estate managed

by herself as her own separate property, and receives an income of more than $3,000, she may make return of her own income, and if the husband has other net income, making the aggregate of both incomes more than $4,000, the wife's return should be attached to the return of her husband, or his income should be included in her return, in order that a deduction of $4,000 may be made from the aggregate of both incomes. The tax in such case, however, will be imposed only upon so much of the aggregate income of both as shall exceed $4,000. If either husband or wife separately has an income equal to or in excess of $3,000, a return of annual net income is required under the law, and such return must include the income of both, and in such case the return must be made even though the combined income of both be less than $4,000. If the aggregate net income of both exceeds $4,000, an annual return of their combined incomes must be made in the manner stated, although neither one separately has an income of $3,000 per annum. They are jointly and separately liable for such return and for the payment of the tax. The single or married status of the person claiming the specific exemption shall be determined as of the time of claiming such exemption if such claim be made within the year for which return is made, otherwise the status at the close of the year."With these general observations relative to the Income Tax

Law in force in the Philippine Islands, we turn for a moment to consider the provisions of the Civil Code dealing with the conjugal partnership. Recently in two elaborate decisions in which a long line of Spanish authorities were cited, this court, in speaking of the conjugal partnership, decided that "prior to the liquidation, the interest of the wife, and in case of her death, of her heirs, is an interest inchoate, a mere expectancy, which constitutes neither a legal nor an equitable estate, and does not ripen into title until there appears that there are assets in the community as a result of the liquidation and settlement." (Nable Jose vs. Nable Jose [1916], 15 Off. Gaz., 871; Manuel and Laxamana vs. Losano [1918], 16 Off.Gaz., 1265.)

Susana Paterno, wife of Vicente Madrigal, has an inchoate right in the property of her husband Vicente Madrigal during the life of the conjugal partnership. She has an interest in the ultimate property rights and in the ultimate ownership of property acquired as income after such income has become capital. Susana Paterno has no absolute right to one-half the income of the conjugal partnership. Not being seized of a separate estate, Susana Paterno cannot make a separate return in order to receive the benefit of the exemption which would arise by reason of the additional tax. As she has no estate and income, actually and legally vested in her and entirely distinct from her husband's property, the income cannot properly be considered the separate income of the wife for the purposes of the additional tax. Moreover, the Income Tax Law does not look on the spouses as individual partners in an ordinary partnership. The husband and wife are only entitled to the exemption of P8,000, specifically granted by the law. The higher schedules of the additional tax directed at the incomes of the wealthy may not be partially defeated by reliance on provisions in our Civil Code dealing with the conjugal partnership and having no application to the Income Tax Law. The aims and purposes of the Income Tax Law must be given effect.

The point we are discussing has heretofore been considered by the Attorney-General of the Philippine Islands and the United States Treasury Department. The decision of the latter overruling the opinion of the Attorney-General is as follows:

"TREASURY DEPARTMENT, Washington.

"Income Tax."FRANK MCINTYRE, "Chief, Bureau of Insular Affairs, War Department,"Washington, D.C.

 

"SIR:This office is in receipt of your letter of June 22, 1915, transmitting copy of correspondence 'from the Philippine authorities relative to the method of submission of income tax returns by married persons.'"You advise that 'The Governor-General, in forwarding the papers to the Bureau, advises that the Insular Auditor has

been authorized to suspend action on the warrants in question until an authoritative decision on the points raised can be secured from the Treasury Department.'"From the correspondence it appears that Gregorio Araneta, married and living with his wife, had an income of an amount sufficient to require the imposition of the additional tax provided by the statute; that the net income was properly computed and then both income and deductions and the specific exemption were divided in half and two returns made, one return for each half in the names respectively of the husband and wife, so that under the returns as filed there would be an escape from the additional tax; that Araneta claims the returns are correct on the ground that under the Philippine law his wife is entitled to half of his earnings; that Araneta has dominion over the income and under the Philippine law, the right to determine its use and disposition; that in this case the wife has no 'separate estate' within the contemplation of the Act of October 3, 1913, levying an income tax."It appears further from the correspondence that upon the foregoing explanation, tax was assessed against the entire net income against Gregorio Araneta; that the tax was paid and an application for refund made, and that the application for refund was rejected, whereupon the matter was submitted to the Attorney-General of the Islands who holds that the returns were correctly rendered, and that the refund should be allowed; and thereupon the question at issue is submitted through the Governor-General of the Islands and Bureau of Insular Affairs for the advisory opinion of this office."By paragraph M of the statute, its provisions are extended to the Philippine Islands, to be administered as in the United States but by the appropriate internal-revenue officers of the Philippine Government. You are therefore advised that upon the facts as stated, this office holds that for the Federal Income Tax (Act of October 3, 1913), the entire net income in this case was taxable to Gregorio Araneta, both for the normal and additional tax, and that the application for refund was properly rejected."The separate estate of a married woman within the contemplation of the Income Tax Law is that which belongs to her solely and separate and apart from her husband, and over which her husband has no right in equity. It may consist of lands or chattels."The statute and the regulations promulgated in accordance therewith provide that each person of lawful age (not excused from so doing) having a net income of $3,000 or over for the taxable year shall make a return showing the facts; that from the net income so shown there shall be deducted $3,000 where the person making the return is a single person, or married and not living with consort, and $1,000 additional where the person making the return is married and living with consort; but that where the husband and wife both make returns (they living together), the amount of deduction from the aggregate of their several incomes shall not exceed $4,000."The only occasion for a wife making a return is where she has income from a sole and separate estate in excess of $3,000, or where the husband and wife neither separately have an income of $3,000, but together they have an income in excess of $4,000, in which latter event either the husband or wife may make the return but not both. In all instances the income of husband and wife whether from separate estates or not, is taken as a whole for the purpose of the normal tax. Where the wife has income from a separate estate and makes return thereof, or where her income is separately shown in the return made by her husband, while the incomes are added together for the purpose of the normal tax they are taken separately for the purpose of the additional tax. In this case, however, the wife has no separate income within the contemplation of the Income Tax Law."Respectfully,

"DAVID A. GATES,

"Acting Commissioner."

 

In connection with the decision above quoted, it is well to recall a few basic ideas. The Income Tax Law was drafted by the Congress of the United States and has been by the Congress extended to the Philippine Islands. Being thus a law of American origin and being peculiarly intricate in its provisions, the authoritative decision of the official who is charged with enforcing it has peculiar force for the Philippines. It has come to be a well-settled rule that great weight should be given to the construction placed upon a revenue law, whose meaning is doubtful, by the department charged with its execution. (U. S. vs. Cerecedo Hermanos y Cia. [1907], 209 U. S., 338; In re Allen [1903], 2 Phil., 630; Government of the Philippine Islands vs. Municipality of Binalonan, and Roman Catholic Bishop of Nueva Segovia [1915], 32 Phil., 634.)

We conclude that the judgment should be as it is hereby affirmed with costs against appellants. So ordered

Torres, Johnson, Carson, Street and Fisher, JJ.; concur.||| (Madrigal v. Rafferty, G.R. No. 12287, August 07, 1918)

EN BANC[G.R. No. 17518. October 30, 1922.]

FREDERICK C. FISHER, plaintiff-appellant,vs. WENCESLAO TRINIDAD, Collector of Internal Revenue, defendant-appellee.Fisher & Dewitt and Antonio M. Opisso for appellant.Acting Attorney-General Tuason for appellee.

JOHNSON, J p:The only question presented by this appeal is: Are the "stock

dividends" in the present case "income" and taxable as such under the provisions of section 25 of Act No. 2833? While the appellant presents other important questions, under the view which we have taken of the facts and the law applicable to the present case, we deem it unnecessary to discuss them now.

The defendant demurred to the petition in the lower court. The facts are therefore admitted. They are simple and may be stated as follows:

That during the year 1919 the Philippine American Drug Company was a corporation duly organized and existing under the laws of the Philippine Islands, doing business in the city of Manila; that the appellant was a stockholder in said corporation; that said corporation, as a result of the business for that year, declared a "stock dividend;" that the proportionate share of said stock dividend of the appellant was P24,800; that the stock dividend for that amount was issued to the appellant; that thereafter, in the month of March, 1920, the appellant, upon demand of the appellee, paid, under protest, and involuntarily, unto the appellee the sum of P889.91 as income tax on said stock dividend. For the recovery o that sum (P889.91) the present action was instituted. The defendant demurred to the petition upon the ground that it did not state facts sufficient to constitute cause of action. The demurrer was sustained and the plaintiff appealed.

To sustain his appeal the appellant cites and relies on some decisions of the Supreme Court of the United States as well as the decisions of the supreme courts of some of the states of the Union, in which the question before us, based upon similar statutes, was discussed. Among the most important decisions may be mentioned the following: Towne vs. Eisner, 245 U. S., 418; Doyle vs. Mitchell Bros. Co., 247 U. S., 179; Eisner vs. Macomber, 252 U. S., 189; Dekoven vs. Alsop, 205 Ill., 309; 63 L. R. A., 587; Kaufman vs. Charlottesville Woolen Mills, 93 Va., 673.

In each of said cases an effort was made to collect an "income tax" upon "stock dividends" and in each case it was held that "stock dividends" were capital and not an "income" and therefore not subject to the "income tax law.

The appellee admits the doctrine established in the case of Eisner vs. Macomber (252 U.S., 189), that a "stock dividend" is not "income" but argues that said Act No. 2833, in imposing the tax on the stock dividend, does not violate the provisions of the Jones Law. The appellee further argues that the statute of the United States providing for tax upon stock dividends is different from the statute of the Philippine Islands, and therefore the decision of the Supreme Court of the United States should not be followed in interpreting the statute in force here.

For the purpose of ascertaining the difference in the said statutes (United States and Philippine Islands), providing for an income tax in the United States as well as that in the Philippine Islands, the two statutes are here quoted for the purpose of determining the difference, if any, in the language of the two statutes.

Chapter 463 of an Act of Congress of September 8, 1916, in its title 1 provides for the collection an "income tax." Section 2 of said Act attempts to define what is an income. The definition follows:

"That the term 'dividends' as used in this title shall be held to mean any distribution made or ordered to be made by a corporation, . . . out of its earning or profits out of its earnings or profits accrued since March first, nineteen hundred and thirteen, and payable to its shareholders whether in cash or in stock of the corporation, . . . which stock dividend shall be considered income, to the amount of its cash value."Act No. 2833 of the Philippine Legislature is an Act

establishing "an income tax." Section 25 of said Act attempts to define the application of the income tax. The definition follows:

"The term 'dividends' as used in this law shall be held to mean any distribution made or ordered to be made by a corporation, . . . out of its earnings or profits accrued since March first,

nineteen hundred and thirteen, and payable to its shareholders, whether in cash or in stock of the corporation, . . . Stock dividend shall be considered income, to the amount of the earnings or profits distributed."It will be noted from a reading of the provisions of the two

laws above quoted that the writer of the law of the Philippine Islands must have had before him the statute of the United States. No important argument can be based upon the slight difference in the wording of the two sections.

It is further argued by the appellee that there are no constitutional limitations upon the power of the Philippine Legislature such as exist in he United States, and, in support of that contention, he cites a number of decisions. There is no question that he Philippine Legislature may provide for the payment of an income tax, but it cannot, under the guise of an income tax, collect a tax on property which is not an "income." The Philippine Legislature cannot impose a tax upon "property" under a law which provides for a tax upon "income" only. The Philippine Legislature has no power to provide a tax upon "automobiles" only, and under that law collect a tax upon a carreton or bull cart. Constitutional limitations upon the power of the Legislature are no stronger than statutory limitations, that is to say, a statute expressly adopted for one purpose cannot, with our amendment, be applied to another purpose which is entirely distinct and different. A statute providing for an income tax cannot be construed to cover property which is not, in fact, income. The Legislature cannot, by a statutory declaration, change the real nature of a tax which it imposes. A law which imposes an importation tax on rice only cannot be construed to impose an importation tax on corn.

It is true that the statute in question provides for an income tax and contains a further provision that "stock dividends" shall be considered income and are therefore subject to income tax provided for in said law. If "stock dividends" are not "income" then the law permits a tax upon something not within the purpose and intent of the law.

It becomes necessary in this connection to ascertain what is an "income" in order that we may be able to determine whether "stock dividends" are "income" in the sense that word is used in the statute. Perhaps it would be more logical to determine first what are "stock dividends" in order to "income." Generally speaking, stock dividends represent undistributed increase in the capital of corporations of firms, joint stock companies, etc., for a particular period. They are used to show the increased interest or proportional share in the capital of each stockholder. In other words, the inventory of the property of the corporation, etc., for a particular period shows an increase in its capital, so that the stock theretofore issued does not show the real value of the stockholder's interest, and additional stock is issued showing the increase in the actual capital, or property, or asset of the corporation, etc.

 To illustrate: A and B form a corporation with an authorized

capital of P10,000 for the purpose of opening and conducting a drug store, with assets of the value of P2,000, and each contributes P1,000. Their entire assets are invested in drugs and put upon the shelves in their place of business. They commence business without a cent in the treasury. Every dollar contributed is invested. Shares of stock to the amount of P1,000 are issued to each of the incorporators, which represent the actual investment and entire assets of the corporation. business for the first year is good. Merchandise is sold, and purchased, to meet the demands of the growing trade. At the end of the first year an inventory of the assets of the corporation is made, and it is then ascertained that the assets or capital of the corporation on hand amount to P4,000, with no debts, and still not a cent in the treasury. All of the receipts during the year have been reinvested in the business. Neither of the stockholders have withdrawn a penny from the business during the year. Every peso received for the sale of merchandise was immediately used in the purchase of new stock — new supplies. At the close of the year there is not a centavo in the treasury, with which either A or B could buy a cup of coffee or a pair of shoes for his family. At the beginning of the year the assets were P2,000 and at the end of the year they were P4,000, and neither of the stockholders have received a centavo from the business during the year. At the close of the year, when it is discovered that the assets are P4,000 and not P2,000, instead of selling the extra merchandise on hand and thereby reducing the business to its original capital, they agree among themselves to increase the capital issued and for that purpose issue additional stock in the form of "stock dividends" or additional stack of P1,000, each which represents the actual increase of the year each stockholder held one half interest in the capital. At the close of the year, and after the issue of the said stock dividends, they each still have one-half interest in the business.

The capital of the corporation increased during the year, but has either of them received an income? It is not denied, for the purposed of ordinary taxation, that the taxable property of the corporation at the beginning of the year was P2,000, that at the close of the year it was P4,000, and that the tax rolls should be changed in accordance with the changed conditions in the business. In other words, the ordinary tax should be increased by P2,000.

Another illustration: C and D organized a corporation for agricultural purposes with an authorized capital stock of P20,000 each contributing P5,000. With that capital they purchased a farm and, with it, one hundred head of cattle. Every peso contributed is invested. There is no money in the treasury. Much time and labor was expended during the year by the stockholders on the farm in the way of improvements. Neither received a centavo during the year from the farm or the cattle. At the beginning of the year the assets of the corporation, including the farm and the cattle, were P10,000, and at the close of the year an inventory of the property of the corporation is made, and it is then found that they have the same farm with its improvements and two hundred head of cattle by natural increase. At the end of the year it is also discovered that, by reason of business changes, the farm and the cattle both have increased in value, and that the value of the corporate property is now P20,000 instead of P10,000 as it was at the beginning of the year. The incorporators instead of reducing the property to its original capital, by selling off a part of it, issue to themselves "stock dividends" to represent the proportional value or interest of each of the stockholders in the increased capital at the close of the year. There is still not a centavo in the treasury and Neither has withdrawn a peso from the business during the year. No part of the farm or cattle has been sold and not a single peso was received out of the rents or profits of the capital of the corporation by the stockholders.

Another illustration: A, and individual farmer, buys a farm with one hundred head of cattle for the sum of P10,000. At the end of the first year, by reason of business conditions and the increase of the value of both the real estate and personal property, it is discovered that the value of the farm and the cattle is P20,000. A, during the year, has received nothing from the farm or the cattle. His books at the beginning of the year show that he had property of the value of P10,000. His books at the close of the year show that he has property of the value of P20,000. A is not a corporation. The assets of his business are not shown therefore by certificates of stock. His books, however, show that the value of his property has increased during the year by P10,000. Can the P10,000, under any theory of business or law, be regarded as an "income" upon which the farmer can be required to pay an income tax? Is there any difference in law in the condition of A in this illustration and the condition of A and B in the immediately preceding illustration? Can the increase of the Value of the property in either case be regarded as an "income" and be subjected to the payment of the income tax under the law?

Each of the foregoing illustrations, it is asserted, is analogous to the case before us and, in view of that fact, let us ascertain how lexicographers and the courts have defined an "income." The New Standard Dictionary, edition of 1915, defines an income as "the amount of money coming to a person or corporation within a specified time whether as payment for services, interest, or profit from investment." Webster's International Dictionary defines an income as "the receipts, salary; especially, the annual receipts of a private person or a corporation from property." Bouvier, in his law dictionary, says that an "income" in the federal constitution and income tax act, is used in its common or ordinary meaning and not in its technical or economic sense. (146 Nortwestern Reporter, 812,) Mr. Black in his law dictionary, says: "An income is the return in money from one's business, labor, or capital invested; gains, profit, or private revenue." "An income tax is a tax on the yearly profits arising from property, professions, trades, and offices."

The Supreme Court of the United States, in the case of Gray vs. Darlington (82 U. S., 63), said in speaking of income that mere advance in value in no sense constitutes the "income" specified in the revenue law as "income" of the owner for the year in which the sale of the property was made. Such advance constitutes and can be treated merely as an increase of capital. (In re Graham's Estate, 198 Pa., 216; Appeal of Braun, 105 Pa., 414.)

Mr. Justice Hughes, later Associate Justice of the Supreme Court of the United States and now Secretary of State of the United States, in his argument before the Supreme Court of the United States in the case of Towne vs. Eisner, supra, defined an "income" in an income tax law, unless it is otherwise specified, to mean cash or its equivalent. It does not mean chooses in action or unrealizedincrements in the value of the property, and cities in support of that definition, the definition given by the Supreme Court in the case of Gray vs. Darlington, supra.

In the case of Towne vs. Eisner, supra, Mr. Justice Holmes, speaking for the court, said: "Notwithstanding the thoughtful discussion that the case received below, we cannot doubt that the dividend was capital as well for the purposes of the Income Tax Law. . . . "A stock dividend really takes nothing from the property of the corporation, and adds nothing to the interests of the shareholder. Its property is not diminished and their interests are not increased. . . . The proportional interest of each shareholder remains the same. . . . ' In short, the corporation is no poorer and the stockholder is no richer than they were before." (Gibbons vs. Mahon, 136 U. S., 549, 559, 560; Logan Country vs. U. S., 169 U. S., 255, 261.)

In the case of Doyle vs. Mitchell Bros. Co. (247 U. S., 179), Mr. Justice Pitney, speaking for the court, said that the act employs the term "income" in its natural and obvious sense, as importing something distinct from principal or capital and conveying the idea of gain or increase arising from corporate activity.

Mr. Justice Pitney, in the case of Eisner vs. Macomber (252 U. S., 189), again speaking for the court, said: "An income may be defined as the gain derived from capital, from labor, or from both combined, provided it be understood to include profit gained through a sale or conversion of capital assets."

For bookkeeping purposes, when stock dividends are declared, the corporation or company acknowledges a liability, in form, to the stockholders, equivalent to the aggregate par value of their stock, evidenced by a "capital stock account." If profits have been made by the corporation during a particular period and not divided, they create additional bookkeeping liabilities under the head of "profit and loss," "undivided profits," "surplus account," etc., or the like. None of these, however, gives to the stockholders as a body, much less to any one of them, either a claim against the going concern or corporation, for any particular sum of money, or a right to any particular portion of the asset, or any share unless or until the directors conclude that dividends shall be made and a part of the company's assets segregated from the common fund for that purpose. The dividend normally is payable in money and when so paid, then only does the stockholder realize a profit or gain, which becomes his separate property, and thus derive an income from the capital that he has invested. Until that is done the increased assets belong to the corporation and not to the individual stockholders.

When a corporation or company issues "stock dividends" it shows that the company's accumulated profits have been capitalized, instead of distributed to the stockholder or retained as surplus available for distribution, in money or in kind, should opportunity offer. Far from being a realization of profits of the stockholder, it tends rather to postpone said realization, in that the fund represented by the new stock has been transferred from surplus to assets, and no longer is available for actual distribution. The essential and controlling fact is that the stockholder has received nothing our of the company's assets for his separate use and benefit; on the contrary, every dollar of his original investment, together with whatever accretions and accumulations resulting from employment of his money and that of the other stockholders in the business of the company, still remains the property of the company, and subject to business risks which may result in wiping out the entire investment. Having regard to the very truth of the matter, to substance and not to form, the stockholder by virtue of the stock dividend has in fact received nothing that answers the definition of an "income." (Eisner vs. Macomber, 252 U. S., 189, 209, 211.)

 The stockholder who receives a stock dividend has received

nothing but a representation of this increased interest in the capital of the corporation. There has been no separation or segregation of his interest. All the property or capital of the corporation still belongs to the corporation. There has been no separation of the interest of the stockholder from the general capital of the corporation. The stockholder, by virtue of the stock dividend, has no separate or individual control over the interest represented thereby, further than he had before the stock dividend was issued. He cannot use it for the reason that it is still the property of the corporation and not the property of the individual holder of the stock dividend. A certificate of stock represented by the stock dividend is simply a statement of his proportional interest or participation in the capital of the corporation. For bookkeeping purposes, a corporation, by issuing stockholders, evidenced by a capital stock account. The receipt of a stock dividend in no way increases the money received by the stockholder nor his cash account at the close of the year. It simply shows that there has been an increase in the amount of the capital of the corporation during the particular period, which may be due to an increased business or to a natural increase of the value of the capital due to business, economic, or another reason. We believe that the

Legislature, when it provided for an "income tax," intended to tax only the "income" of corporations, firms, or individuals, as that term is generally used in its common acceptation; that is, that the income means money received, common to a person or corporation for services, interest, or profit from investments. We do not believe that the Legislature intended that a mere increase in the value of the capital or assets of a corporation, firm, or individual, should be taxed as "income." Such property can be reached under the ordinary form of taxation.

Mr. Justice Pitney, in the case of Eisner vs. Macomber supra, said in discussing the difference between "capital" and "income": "That the fundamental relation of 'capital' to 'income' has been much discussed by economists, the former being likened to the tree or the land, the latter to the fruit or the crop; the former depicted as a reservoir supplied from springs; the latter as the outlet stream, to be measured by its flow during a period of time." It may be argued that a stockholder might sell the stock dividend which he had acquired. If he does, then he has received in fact, an income and such income, like any other profit which he realizes from the business, is an income and he may be taxed thereon.

There is a clear distinction between an extraordinary cash dividend, no matter when earned, and stock dividends declared, as in the present case. The one is a disbursement to the stockholder of accumulated earnings, and the corporation at once parts irrevocably with all interest thereon. The other involves no disbursement by the corporation. It parts with nothing to the stockholder. The latter receives, not an actual dividend, but certificate of stock which simply evidences his interest in the entire capital, including such as by investment of accumulated profits has been added to the original capital. They are not income to him, but represent additions to the source of his income, namely, his invested capital. (De Koven vs. Alsop, Ill., 309; 63 L. R. A., 587.) Such a person is in the same position, so far as his income is concerned, as the owner of a young domestic animal, one year old at the beginning of the year, which is worth P50 and, which, at the end of the year, and by reason of its growth, is worth P100. The value of his property has increased, but has he had an income during the year? It is true that he had taxable property at the beginning of the year of the value of P50, and the same taxable property at another period, of the value of P100, but he has had no income in the common acceptation of that word. The increase in the value of the property should taken account of on the tax duplicate for the purpose of ordinary taxation, but not as income for he has had none.

The question whether stock dividends are income, or capital, or assets has frequently come before the courts in another form — in cases of inheritance. A is a stockholder in a large corporation. He dies leaving a will, by the terms of which he gives to B during his lifetime the "income" from said stock, with a further provision that C shall, at B's death, become the owner of his share in the corporation. During B's life the corporation issues a stock dividend. Does the stock dividend belong to B as an income, or does it finally belong to C as a part of his share in the capital or assets of the corporation, which had been left to him as a remainder by A? While there has been some difference of opinion on that question, we believe that a great weight of authorities hold that the stock dividend is capital or assets belonging to C and not an income belonging to B. In the case of D'Ooge vs. Leeds (176 Mass., 558, 560) it was held that stock dividends in such cases were regarded as capital and not as income. (Gibbons vs. Mahon, 136 U. S., 549.)

In the case Gibbons vs. Mahon, supra, Mr. Justice Gray said: "The distinction between the title of a corporation, and the interest of its members or stockholder in the property of the corporation, is familiar and well settled. The ownership of that property is in the corporation, and not in the holders of shares of its stock. The interest of each stockholders consist in the right to a proportionate part of the profits whenever dividends are declared by the corporation, during its existence, under its charter, and to a like proportion of the property remaining, upon the termination or dissolution of the corporation, after payment of its debts." (Minot vs. Paine, 99 Mass., 101; Greff vs. Equitable Life Assurance Society, 160 N. Y., 19.)

In the case of DeKoven vs. Alsop (205 Ill., 309; 63 L. R. A., 587) Mr. Justice Wilkin said: "A dividend is defined as 'a corporate profit set aside , declared, and ordered by the directors to be paid to the stockholders on demand or at a fixed time. Until the dividend is declared, these corporate profits belong to the corporation, not to the stockholders, and are liable for corporate indebtedness.'"

There is a clear distinction between an extraordinary cash dividend, no matter when earned, and stock dividends declared. The one is a disbursement to the stockholders of accumulated earning, and the corporation at once parts irrevocably with all interest therein. The other involves no disbursement by the corporation. It parts with

nothing to the stockholders. The latter receives, not an actual dividend, but certificates of stock which evidence in a new proportion his interest in the entire capital. When a cash dividend is declared and paid to the stock holders, such cash dividend is declared and paid to the stockholder, such cash becomes the absolute property of the stockholder and cannot be reached by the creditors of the corporation in the absence of fraud. A stock dividend, however, still being the property of the corporation, and not of the stockholder, it may be reached by an execution against the corporation, and sold as a part of the property of the corporation. In such a case, if all of the property of the corporation is sold, then the stockholder certainly could not be charged with having received an income by virtue of the issuance of the stock dividend. Until the dividend is declared and paid, the corporate profits still belong to the corporation, not to the stockholders, and are liable for corporate indebtedness. The rule is well established that cash dividends, whether large or small, are regarded as "income" and all stock dividends, as capital or assets. (Cook on Corporations, Chapter 32, secs. 534, 536; Davis vs. Jackson, 152 Mass., 58; Mills vs. Britton, 64 Conn., 4;5 Am. and Eng. Encycl. of Law, 2d ed., p. 738.)

If the ownership of the property represented by a stock dividend is still in the corporation and not in the holder of such stock, then it is difficult to understand how it can be regarded as income to the stockholder and not as a part of the capital or assets of the corporation. (Gibbons vs. Mahon, supra.) The stockholder has received nothing but a representation of an interest in the property of the corporation and, as a matter of fact, he may never receive anything, depending upon the final outcome of the business of the corporation. The entire assets of the corporation may be consumed by mismanagement, or eaten up by debts and obligations, in which case the holder of the stock dividends will never have received an income from his investment in the corporation. A corporation may be solvent and prosperous today and issue stock dividends in representation of its increased assets, and tomorrow be absolutely insolvent by reason of changes in business conditions, and in such a case the stockholder would have received nothing from his investment. In such a case, if the holder of the stock dividend is required to pay an income tax on the same, the result would be that he has paid a tax upon an income which he never received. Such a conclusion is absolutely contradictory to the idea of an income. An income subject to taxation under the law must be and actual income and not a promised or prospective income.

The appellee argues that there is nothing in section 25 of Act No. 2833 which contravenes the provisions of the Jones Law. That may be admitted. He further argues that the Act of Congress (U. S. Revenue Act of 1918) expressly authorized the Philippine Legislature to provide for an income tax. That fact may also be admitted. But a careful reading of that Act will show that, while it permitted a tax upon income, the same provided that income shall include gains, profits, and income derived from salaries, wages, or compensation for personal services, as well as from interest, rent, dividends, securities, etc. The appellee emphasizes the "income from dividends." Of course, income received as dividends is taxable as an income, but an income from dividends" is a very different thing from a receipt of a "stock dividend." One is an actual receipt of profits; the other is receipt of a representation of the increased value of the assets of a corporation.

 In all of the foregoing arguments we have not overlooked

the decisions of a few of the courts in different parts of the world, which have reached a different conclusion from the one which we have arrived at in the present case. Inasmuch, however, as appeals may be taken from this court to the Supreme Court of the United States, we feel bound to follow the same doctrine announced by that court.

Having reached the conclusion, supported by the great weight of authority, that "stock dividends" are not "income," the same cannot be taxed under that provision of Act No. 2833 which provides for a tax upon income. Under the guise of an income tax, property which is not an income cannot be taxed. When the assets of a corporation have increased so as to justify the issuance of a stock dividend, the increase of the assets should be taken account of by the Government in the ordinary tax duplicates for the purposes of assessment and collection of an additional tax. For all of the foregoing reasons, we are of the opinion, and so decide, that the judgment of the lower court should be revoked, and without any finding as to costs, it is so ordered.

SECOND DIVISION

[G.R. No. 48532. August 31, 1992.]

HERNANDO B. CONWI, JAIME E. DY-LIACCO, VICENTE D. HERRERA, BENJAMIN T. ILDEFONSO, ALEXANDER LACSON, JR., ADRIAN O. MICIANO, EDUARDO A. RIALP, LEANDRO G. SANTILLAN, and JAIME A. SOQUES, petitioners,vs. THE HONORABLE COURT OF TAX APPEALS and COMMISSIONER OF INTERNAL REVENUE, respondents.

[G.R. No. 48533. August 31, 1992.]

ENRIQUE R. ABAD SANTOS, HERNANDO B. CONWI, TEDDY L. DIMAYUGA, JAIME E. DY-LIACO, MELQUIADES J. GAMBOA, JR., MANUEL L. GUZMAN, VICENTE D. HERRERA, BENJAMIN T. ILDEFONSO, ALEXANDER LACSON, JR., ADRIAN O. MICIANO, EDUARDO A. RIALP and JAIME A. SOQUES, petitioners, vs. THE HONORABLE COURT OF TAX APPEALS and COMMISSIONER OF INTERNAL REVENUE, respondents.

Angara, Abello, Concepcion, Regala & Cruz for petitioners.

NOCON, J p:

Petitioners pray that this Court reverse the Decision of the public respondent Court of Tax Appeals, promulgated September 26, 1977 1 denying petitioners' claim for tax refunds, and order the Commissioner of Internal Revenue to refund to them their income taxes which they claim to have been erroneously or illegally paid or collected.

As summarized by the Solicitor General, the facts of the cases are as follows: prLL

Petitioners are Filipino citizens and employees of Procter and Gamble, Philippine Manufacturing Corporation, with offices at Sarmiento Building Ayala Avenue, Makati, Rizal. Said corporation is a subsidiary of Procter & Gamble, a foreign corporation based in Cincinnati, Ohio, U.S.A. During the years 1970 and 1971 petitioners were assigned, for certain periods, to other subsidiaries of Procter & Gamble, outside of the Philippines, during which petitioners were paid U.S. dollars as compensation for services in their foreign assignments. (Paragraphs III, Petitions for Review, C.T.A. Cases Nos. 2511 and 2594, Exhs. D, D-1 to D-19). When petitioners in C.T.A. Case No. 2511 filed their income tax returns for the year 1970, they computed the tax due by applying the dollar-to-peso conversion on the basis of the floating rate ordained under B.I.R. Ruling No. 70-027 dated May 14, 1970, as follows:

From January 1 to February 20, 1970 at the conversion rate of P3.90 to U.S. $1.00;

From February 21 to December 31, 1970 at the conversion rate of P6.25 to U S. $1.00

Petitioners in C.T.A Case No. 2594 likewise used the above conversion rate in converting their dollar income for 1971 to Philippine peso. However, on February 8, 1973 and October 8, 1973, petitioners in said cases filed with the office of the respondent Commissioner, amended income tax returns for the

above-mentioned years, this time using the par value of the peso as prescribed in Section 48 of Republic Act No. 265 in relation to Section 6 of Commonwealth Act No. 699 as the basis for converting their respective dollar income into Philippine pesos for purposes of computing and paying the corresponding income tax due from them. The aforesaid computation as shown in the amended income tax returns resulted in the alleged overpayments, refund and/or tax credit. Accordingly, claims for refund of said over-payments were filed with respondent Commissioner. Without awaiting the resolution of the Commissioner of Internal Revenue on their claims, petitioners filed their petitions for review in the above-mentioned cases.

Respondent Commissioner filed his Answer to petitioners' petition for review in C.T.A. Case No. 2511 on July 31, 1973, while his Answer in C.T.A. Case No. 2594 was filed on August 7, 1974.

Upon joint motion of the parties on the ground that these two cases involve common question of law and facts, the respondent Court of Tax Appeals heard the cases jointly. In its decision dated September 26, 1977, the respondent Court of Tax Appeals held that the proper conversion rate for the purpose of reporting and paying the Philippine income tax on the dollar earnings of petitioners are the rates prescribed under Revenue Memorandum Circulars Nos. 7-71 and 41-71. Accordingly, the claim for refund and/or tax credit of petitioners in the above-entitled cases was denied and the petitions for review dismissed, with costs against petitioners. Hence, this petition for review on certiorari. 2

Petitioners claim that public respondent Court of Tax Appeals erred in holding: LibLex

1.That petitioners' dollar earnings are receipts derived from foreign exchange transactions.

2.That the proper rate of conversion of petitioners' dollar earnings for tax purposes is the prevailing free market rate of exchange and not the par value of the peso; and

3.That the use of the par value of the peso to convert petitioners' dollar earnings for tax purposes into Philippine pesos is "unrealistic" and, therefore, the prevailing free market rate should be the rate used.

Respondent Commissioner of Internal Revenue, on the other hand, refutes petitioners' claims as follows:

At the outset, it is submitted that the subject matter of these two cases are Philippine income tax for the calendar years 1970 (CTA Case No. 2511) and 1971 (CTA Case No. 2594) and, therefore, should be governed by the provisions of the National Internal Revenue Code and its implementing rules and regulations, and not by the provisions of Central Bank Circular No. 42 dated May 21, 1953, as contended by petitioners.

Section 21 of the National Internal Revenue Code, before its amendment by Presidential Decrees Nos. 69 and 323 which took effect on January 1, 1973 and January 1, 1974, respectively, imposed a tax upon the taxable net income received during each taxable year from all sources by a citizen of the Philippines, whether residing here or abroad.

Petitioners are citizens of the Philippines temporarily residing abroad by virtue of their employment. Thus, in their income tax returns for the period involved herein, they gave their legal residence/address as c/o Procter & Gamble PMC, Ayala Ave., Makati, Rizal

(Annexes 'A' to 'A-8', and Annexes 'C' to 'C-8', Petition for Review, CTA Cases Nos. 2511 and 2594).

Petitioners being subject to Philippine income tax, their dollar earnings should be converted into Philippine pesos in computing the income tax due therefrom, in accordance with the provisions of Revenue Memorandum Circular No. 7-71 dated February 11, 1971 for 1970 income and Revenue Memorandum Circular No. 41-71 dated December 21, 1971 for 1971 income, which reiterated BIR Ruling No. 70-027 dated May 4, 1970, to wit:

 

'For internal revenue tax purposes, the free market rate of conversion (Revenue Circulars Nos. 7-71 and 41-71) should be applied in order to determine the true and correct value in Philippine pesos of the income of petitioners.' 3

After a careful examination of the records, the laws involved and the jurisprudence on the matter, We are inclined to agree with respondents Court of Tax Appeals and Commissioner of Internal Revenue and thus vote to deny the petition.

This is basically an income tax case. For the proper resolution of these cases income may be defined as an amount of money coming to a person or corporation within a specified time, whether as payment for services, interest or profit from investment. Unless otherwise specified, it means cash or its equivalent. 4 Income can also be thought of as a flow of the fruits of one's labor. 5

Petitioners are correct as to their claim that their dollar earnings are not receipts derived from foreign exchange transactions. For a foreign exchange transaction is simply that — a transaction in foreign exchange, foreign exchange being "the conversion of an amount of money or currency of one country into an equivalent amount of money or currency of another."6 When petitioners were assigned to the foreign subsidiaries of Procter & Gamble, they were earning in their assigned nation's currency and were ALSO spending in said currency. There was no conversion, therefore, from one currency to another. llcd

Public respondent Court of Tax Appeals did err when it concluded that the dollar incomes of petitioner fell under Section 2(f)(g) and (m) of C.B. Circular No. 42. 7

The issue now is, what exchange rate should be used to determine the peso equivalent of the foreign earnings of petitioners for income tax purposes. Petitioners claim that since the dollar earnings do not fall within the classification of foreign exchange transactions, there occurred no actual inward remittances, and, therefore, they are not included in the coverage of Central Bank Circular No. 289 which provides for the specific instances when the par value of the peso shall not be the conversion rate used. They conclude that their earnings should be converted for income tax purposes using the par value of the Philippine peso.

Respondent Commissioner argues that CB Circular No. 289 speaks of receipts for export products, receipts of sale of foreign exchange or foreign borrowings and investments but not income tax. He also claims that he had to use the prevailing free market rate of exchange in these cases because of the need to ascertain the true and correct amount of income in Philippine peso of dollar earners for Philippine income tax purposes.

A careful reading of said CB Circular No. 289 8 8a shows that the subject matters involved therein are export products, invisibles, receipts of foreign exchange, foreign exchange payments, new foreign borrowing and investments — nothing by way of income tax payments. Thus, petitioners are in error by concluding that since C.B. Circular No. 289 does not apply to them, the par value of the peso should be the guiding rate used for income tax purposes.

The dollar earnings of petitioners are the fruits of their labors in the foreign subsidiaries of Procter & Gamble. It was a definite amount of money which came to them within a specified period of time of two years as payment for their services.

Section 21 of the National Internal Revenue Code, amended up to August 4, 1969, states as follows:

Sec. 21.Rates of tax on citizens or residents. — A tax is hereby imposed upon the taxable net income received during each taxable year from all sources by every individual, whether a citizen of the Philippines residing therein or abroad or an alien residing in the Philippines, determined in accordance with the following schedule:

xxx xxx xxx

And in the implementation for the proper enforcement of the National Internal Revenue Code, Section 338 thereof empowers the Secretary of Finance to "promulgate all needful rules and regulations" to effectively enforce its provisions. 9

Pursuant to this authority, Revenue Memorandum Circular Nos. 7-71 10 and 41-71 11 were issued to prescribe a uniform rate of exchange from US dollars to Philippine pesos for INTERNAL REVENUE TAX PURPOSES for the years 1970 and 1971, respectively. Said revenue circulars were a valid exercise of the authority given to the Secretary of Finance by the Legislature which enacted the Internal Revenue Code. And these are presumed to be a valid interpretation of said code until revoked by the Secretary of Finance himself. 12

Petitioners argue that since there were no remittances and acceptances of their salaries and wages in US dollars into the Philippines, they are exempt from the coverage of such circulars. Petitioners forget that they are citizens of the Philippines, and their income, within or without, and in these cases wholly without, are subject to income tax. Sec. 21, NIRC, as amended, does not brook any exemption.

Since petitioners have already paid their 1970 and 1971 income taxes under the uniform rate of exchange prescribed under the aforestated Revenue Memorandum Circulars, there is no reason for respondent Commissioner to refund any taxes to petitioner as said Revenue Memorandum Circulars, being of long standing and not contrary to law, are valid. 13

Although it has become a worn-out cliche, the fact still remains that "taxes are the lifeblood of the government" and one of the duties of a Filipino citizen is to pay his income tax. prLL

WHEREFORE, the petitions are denied for lack of merit. The dismissal by the respondent Court of Tax Appeals of petitioners' claims for tax refunds for the income tax period for 1970 and 1971 is AFFIRMED. Costs against petitioners.

SO ORDERED.

EN BANC[G.R. Nos. L-65773-74. April 30, 1987.]

COMMISSIONER OF INTERNAL REVENUE, petitioner,vs. BRITISH OVERSEAS AIRWAYS CORPORATION and COURT OF TAX APPEALS, respondents.

Quasha, Asperilla, Ancheta, Peña, Valmonte & Marcos for respondent British Airways.

D E C I S I O NMELENCIO-HERRERA, J p:Petitioner Commissioner of Internal Revenue (CIR) seeks a review on Certiorari of the joint Decision of the Court of Tax Appeals (CTA) in CTA Cases Nos. 2373 and 2561, dated 26 January 1983, which set aside petitioner's assessment of deficiency income taxes against respondent British Overseas Airways Corporation (BOAC) for the fiscal years 1959 to 1967, 1968-69 to 1970-71, respectively, as well as its Resolution of 18 November, 1983 denying reconsideration. cdphil

BOAC is a 100% British Government-owned corporation organized and existing under the laws of the United Kingdom. It is engaged in the international airline business and is a member-signatory of the Interline Air Transport Association (IATA). As such, it operates air transportation service and sells transportation tickets over the routes of the other airline members. During the periods covered by the disputed assessments, it is admitted that BOAC had no landing rights for traffic purposes in the Philippines, and was not granted a Certificate of public convenience and necessity to operate in the Philippines by the Civil Aeronautics Board (CAB), except for a nine-month period, partly in 1961 and partly in 1962, when it was granted a temporary landing permit by the CAB. Consequently, it did not carry passengers and/or cargo to or from the Philippines, although during the period covered by the assessments, it maintained a general sales agent in the Philippines — Warner Barnes and Company, Ltd., and later Qantas Airways — which was responsible for selling BOAC tickets covering passengers and cargoes. 1

G.R. No. 65773 (CTA Case No. 2373, the First Case)

On 7 May 1968, petitioner Commissioner of Internal Revenue (CIR, for brevity) assessed BOAC the aggregate amount of P2,498,358.56 for deficiency income taxes covering the years 1959 to 1963. This was protested by BOAC. Subsequent investigation resulted in the issuance of a new assessment, dated 16 January 1970 for the years 1959 to 1967 in the amount of P858,307.79. BOAC paid this new assessment under protest.

On 7 October 1970, BOAC filed a claim for refund of the amount of P858,307.79, which claim was denied by the CIR on 16 February 1972. But before said denial, BOAC had already filed a petition for review with the Tax Court on 27 January 1972, assailing the assessment and praying for the refund of the amount paid.

G.R. No. 65774 (CTA Case No. 2561, the Second Case)

On 17 November 1971, BOAC was assessed deficiency income taxes, interests, and penalty for the fiscal years 1968/1969 to 1970-1971 in the aggregate amount of P549,327.43, and the additional amounts of P1,000.00 and P1,800.00 as compromise penalties for violation of Section 46 (requiring the filing of corporation returns) penalized under Section 74 of the National Internal Revenue Code (NIRC).

On 25 November 1971, BOAC requested that the assessment be countermanded and set aside. In a letter, dated 16 February 1972, however, the CIR not only denied the BOAC request for refund in the First Case but also re-issued in the Second Case the deficiency income tax assessment for P534,132.08 for the years 1969 to 1970-71 plus P1,000.00 as compromise penalty under Section 74 of the Tax Code. BOAC's request for reconsideration was denied by the CIR on 24 August 1973. This prompted BOAC to file the Second Case before the Tax Court praying that it be absolved of liability for deficiency income tax for the years 1969 to 1971.

This case was subsequently tried jointly with the First Case.

On 26 January 1983, the Tax Court rendered the assailed joint Decision reversing the CIR. The Tax Court held that the proceeds of sales of BOAC passage tickets in the Philippines by Warner Barnes and Company, Ltd., and later by Qantas Airways, during the period in question, do not constitute BOAC income from Philippine sources "since no service of carriage of passengers or freight was performed by BOAC within the Philippines" and, therefore, said income is not subject to Philippine income

tax. The CTA position was that income from transportation is income from services so that the place where services are rendered determines the source. Thus, in the dispositive portion of its Decision, the Tax Court ordered petitioner to credit BOAC with the sum of P858,307.79, and to cancel the deficiency income tax assessments against BOAC in the amount of P534,132.08 for the fiscal years 1968-69 to 1970-71.

Hence, this Petition for Review on Certiorari of the Decision of the Tax Court.

The Solicitor General, in representation of the CIR, has aptly defined the issues, thus:

"1.Whether or not the revenue derived by private respondent British Overseas Airways Corporation (BOAC) from sales of tickets in the Philippines for air transportation, while having no landing rights here, constitute income of BOAC from Philippine sources, and, accordingly, taxable.

"2.Whether or not during the fiscal years in question BOAC is a resident foreign corporation doing business in the Philippines or has an office or place of business in the Philippines.

"3.In the alternative that private respondent may not be considered a resident foreign corporation but a non-resident foreign corporation, then it is liable to Philippine income tax at the rate of thirty-five per cent (35%) of its gross income received from all sources within the Philippines."

Under Section 20 of the 1977 Tax Code:

"(h)the term 'resident foreign corporation' applies to a foreign corporation engaged in trade or business within the Philippines or having an office or place of business therein.

"(i)The term 'non-resident foreign corporation' applies to a foreign corporation not engaged in trade or business within the Philippines and not having any office or place of business therein." LLpr

It is our considered opinion that BOAC is a resident foreign corporation. There is no specific criterion as to what constitutes "doing" or "engaging in" or "transacting" business. Each case must be judged in the light of its peculiar environmental circumstances. The term implies a continuity of commercial dealings and arrangements, and contemplates, to that extent, the performance of acts or works or the exercise of some of the functions normally incident to, and in progressive prosecution of commercial gain or for the purpose and object of the business organization. 2 "In order that a foreign corporation may be regarded as doing business within a State, there must be continuity of conduct and intention to establish a continuous business, such as the appointment of a local agent, and not one of a temporary character.' 3

BOAC, during the periods covered by the subject-assessments, maintained a general sales agent in the Philippines. That general sales agent, from 1959 to 1971, "was engaged in (1) selling and issuing tickets; (2) breaking down the whole trip into series of trips — each trip in the series corresponding to a different airline company; (3) receiving the fare from the whole trip; and (4) consequently allocating to the various airline companies on the basis of their participation in the services rendered through the mode of interline settlement as prescribed by Article VI of the Resolution No. 850 of the IATA Agreement." 4 Those activities were in exercise of the functions which are normally incident to, and are in progressive pursuit of, the purpose and object of its organization as an international air carrier. In fact, the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the generation of sales being the paramount objective. There should be no doubt then that BOAC was "engaged in" business in the Philippines through a local agent during the period covered by the assessments. Accordingly, it is a resident foreign corporation subject to tax upon its total net income received in the preceding taxable year from all sources within the Philippines. 5

"Sec. 24.Rates of tax on corporations. — . . .

"(b)Tax on foreign corporations. — . . .

"(2)Resident corporations. — A corporation organized, authorized, or existing under the laws of any foreign country, except a foreign life insurance company, engaged in trade or business within the Philippines, shall be taxable as provided in subsection (a) of this section upon the total net income received in the preceding taxable year from all sources within the Philippines. (Emphasis ours)

Next, we address ourselves to the issue of whether or not the revenue from sales of tickets by BOAC in the Philippines constitutes income from Philippine sources and, accordingly, taxable under our income tax laws.

The Tax Code defines "gross income" thus:

"'Gross income' includes gains, profits, and income derived from salaries, wages or compensation for personal service of whatever kind and in whatever form paid, or from profession, vocations, trades, business, commerce, sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interests, rents, dividends, securities, or the transactions of any business carried on for gain or profit or gains, profits, and income derived from any source whatever" (Sec. 29[3]; Emphasis supplied)

The definition is broad and comprehensive to include proceeds from sales of transport documents. "The words 'income from any source whatever' disclose a legislative policy to include all income not expressly exempted within the class of taxable income under our laws." Income means "cash received or its equivalent"; it is the amount of money coming to a person within a specific time . . .; it means something distinct from principal or capital. For, while capital is a fund, income is a flow. As used in our income tax law, "income" refers to the flow of wealth. 6

 

The records show that the Philippine gross income of BOAC for the fiscal years 1968-69 to 1970-71 amounted to P10,428,368.00. 7

Did such "flow of wealth" come from "sources within the Philippines"?

The source of an income is the property, activity or service that produced the income. 8 For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income. The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The situs of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of such protection, the flow of wealth should share the burden of supporting the government.

A transportation ticket is not a mere piece of paper. When issued by a common carrier, it constitutes the contract between the ticket-holder and the carrier. It gives rise to the obligation of the purchaser of the ticket to pay the fare and the corresponding obligation of the carrier to transport the passenger upon the terms and conditions set forth thereon. The ordinary ticket issued to members of the travelling public in general embraces within its terms all the elements to constitute it a valid contract, binding upon the parties entering into the relationship. 9

True, Section 37(a) of the Tax Code, which enumerates items of gross income from sources within the Philippines, namely: (1) interest, (2) dividends, (3) service, (4) rentals and royalties, (5) sale of real property, and (6) sale of personal property, does not mention income from the sale of tickets for international transportation. However, that does not render it less an income from sources within the Philippines. Section 37, by its language, does not intend the enumeration to be exclusive. It merely directs that the types of income listed therein be treated as income from sources within the Philippines. A cursory reading of the section will show that it does not state that it is an all-inclusive enumeration, and that no other kind of income may be so considered. 10

BOAC, however, would impress upon this Court that income derived from transportation is income for services, with the result that the place where the services are rendered determines the source; and since BOAC's service of transportation is performed outside the Philippines, the income derived is from sources without the Philippines and, therefore, not taxable under our income tax laws. The Tax Court upholds that stand in the joint Decision under review.

The absence of flight operations to and from the Philippines is not determinative of the source of income or the situs of income taxation. Admittedly, BOAC was an off-line international airline at the time pertinent to this case. The test of taxability is the "source"; and the source of an income is that activity . . . which produced the income. 11 Unquestionably, the passage documentations in these cases were sold in the Philippines and the revenue therefrom was derived from a business activity regularly pursued within the Philippines. And even if the BOAC tickets sold covered the "transport of passengers and cargo to and from foreign cities", 12 it cannot alter the fact that income from the sale of tickets was derived from the Philippines. The word "source" conveys one essential idea, that of origin, and the origin of the income herein is the Philippines. 13

It should be pointed out, however, that the assessments upheld herein apply only to the fiscal years covered by the questioned deficiency income tax assessments in these cases, or, from 1959 to 1967, 1968-69 to 1970-71. For, pursuant to Presidential Decree No. 69, promulgated on 24 November, 1972, international carriers are now taxed as follows:

". . . Provided, however, That international carriers shall pay a tax of 2-1/2 per cent on their gross Philippine billings." (Sec. 24[b] [2], Tax Code).

Presidential Decree No. 1355, promulgated on 21 April, 1978, provided a statutory definition of the term "gross Philippine billings," thus:

". . . 'Gross Philippine billings' includes gross revenue realized from uplifts anywhere in the world by any international carrier doing business in the Philippines of passage documents sold therein, whether for passenger, excess baggage or mail, provided the cargo or mail originates from the Philippines. . . ."

The foregoing provision ensures that international airlines are taxed on their income from Philippine sources. The 2-1/2% tax on gross Philippine billings is an income tax. If it had been intended as an excise or percentage tax it would have been place under Title V of the Tax Code covering Taxes on Business.

Lastly, we find as untenable the BOAC argument that the dismissal for lack of merit by this Court of the appeal in JAL vs. Commissioner of Internal Revenue (G.R. No. L-30041) on February 3, 1969, is res judicata to the present case. The ruling by the Tax Court in that case was to the effect that the mere sale of tickets, unaccompanied by the physical act of carriage of transportation, does not render the taxpayer therein subject to the common carrier's tax. As elucidated by the Tax Court, however, the common carrier's tax is an excise tax, being a tax on the activity of transporting, conveying or removing passengers and cargo from one place to another. It purports to tax the business of transportation. 14 Being an excise tax, the same can be levied by the State only when the acts, privileges or businesses are done or performed within the jurisdiction of the Philippines. The subject matter of the case under consideration is income tax, a direct tax on the income of persons and other entities "of whatever kind and in whatever form derived from any source." Since the two cases treat of a different subject matter, the decision in one cannot be res judicata to the other.

WHEREFORE, the appealed joint Decision of the Court of Tax Appeals is hereby SET ASIDE. Private respondent, the British Overseas Airways Corporation (BOAC), is hereby ordered to pay the amount of P534,132.08 as deficiency income tax for the fiscal years 1968-69 to 1970-71 plus 5% surcharge, and 1% monthly interest from April 16, 1972 for a period not to exceed three (3) years in accordance with the Tax Code. The BOAC claim for refund in the amount of P858,307.79 is hereby denied. Without costs. SO ORDERED.

EN BANC

[G.R. No. 163653. July 19, 2011.]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. FILINVEST DEVELOPMENT CORPORATION, respondent.

[G.R. No. 167689. July 19, 2011.]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. FILINVEST DEVELOPMENT CORPORATION, respondent.

DECISION

PEREZ, J p:

Assailed in these twin petitions for review on certiorari filed pursuant to Rule 45 of the 1997 Rules of Civil Procedure are the decisions rendered by the Court of Appeals (CA) in the following cases: (a) Decision dated 16 December 2003 of the then Special Fifth Division in CA-G.R. SP No. 72992; 1 and, (b) Decision dated 26 January 2005 of the then Fourteenth Division in CA-G.R. SP No. 74510. 2EcDATH

The Facts

The owner of 80% of the outstanding shares of respondent Filinvest Alabang, Inc. (FAI), respondent Filinvest Development Corporation (FDC) is a holding company which also owned 67.42% of the outstanding shares of Filinvest Land, Inc. (FLI). On 29 November 1996, FDC and FAI entered into a Deed of Exchange with FLI whereby the former both transferred in favor of the latter parcels of land appraised at P4,306,777,000.00. In exchange for said parcels which were intended to facilitate development of medium-rise residential and commercial buildings, 463,094,301 shares of stock of FLI were issued to FDC and FAI. 3 As a result of the exchange, FLI's ownership structure was changed to the extent reflected in the following tabular précis, viz.:

StockholderNumber and Percentage of Number of Number and Percentage of Shares Held Prior to theAdditional Shares Held After theExchangeShares Issued Exchange

FDC2,537,358,00067.42%42,217,0002,579,575,00061.03%

FAI00420,877,000420,877,0009.96%

OTHERS1,226,177,00032.58%01,226,177,00029.01%

––––––––––––––––––––––––––––––––––––––

3,763,535,000100%463,094,3014,226,629,000(100%)

==================================

On 13 January 1997, FLI requested a ruling from the Bureau of Internal Revenue (BIR) to the effect that no gain or loss should be recognized in the aforesaid transfer of real properties. Acting on the request, the BIR issued Ruling No. S-34-046-97 dated 3 February 1997, finding that the exchange is among those contemplated under Section 34 (c) (2) of the old National Internal Revenue Code (NIRC) 4 which provides that "(n)o gain or loss shall be recognized if property is transferred to a corporation by a person in exchange for a stock in such corporation of which as a result of such exchange said person, alone or together with others, not exceeding four (4) persons, gains control of said corporation." 5 With the BIR's reiteration of the foregoing ruling upon the 10 February 1997 request for clarification filed by FLI, 6 the latter, together with FDC and FAI, complied with all the requirements imposed in the ruling. 7

On various dates during the years 1996 and 1997, in the meantime, FDC also extended advances in favor of its affiliates, namely, FAI, FLI, Davao Sugar Central Corporation (DSCC) and Filinvest Capital, Inc. (FCI). 8 Duly evidenced by instructional letters as well as cash and journal vouchers,

said cash advances amounted to P2,557,213,942.60 in 1996 9 and P3,360,889,677.48 in 1997. 10 On 15 November 1996, FDC also entered into a Shareholders' Agreement with Reco Herrera PTE Ltd. (RHPL) for the formation of a Singapore-based joint venture company called Filinvest Asia Corporation (FAC), tasked to develop and manage FDC's 50% ownership of its PBCom Office Tower Project (the Project). With their equity participation in FAC respectively pegged at 60% and 40% in the Shareholders' Agreement, FDC subscribed to P500.7 million worth of shares in said joint venture company to RHPL's subscription worth P433.8 million. Having paid its subscription by executing a Deed of Assignment transferring to FAC a portion of its rights and interest in the Project worth P500.7 million, FDC eventually reported a net loss of P190,695,061.00 in its Annual Income Tax Return for the taxable year 1996. 11

On 3 January 2000, FDC received from the BIR a Formal Notice of Demand to pay deficiency income and documentary stamp taxes, plus interests and compromise penalties, 12 covered by the following Assessment Notices, viz.: (a) Assessment Notice No. SP-INC-96-00018-2000 for deficiency income taxes in the sum of P150,074,066.27 for 1996; (b) Assessment Notice No. SP-DST-96-00020-2000 for deficiency documentary stamp taxes in the sum of P10,425,487.06 for 1996; (c) Assessment Notice No. SP-INC-97-00019-2000 for deficiency income taxes in the sum of P5,716,927.03 for 1997; and (d) Assessment Notice No. SP-DST-97-00021-2000 for deficiency documentary stamp taxes in the sum of P5,796,699.40 for 1997. 13 The foregoing deficiency taxes were assessed on the taxable gain supposedly realized by FDC from the Deed of Exchange it executed with FAI and FLI, on the dilution resulting from the Shareholders' Agreement FDC executed with RHPL as well as the "arm's-length" interest rate and documentary stamp taxes imposable on the advances FDC extended to its affiliates. 14

On 3 January 2000, FAI similarly received from the BIR a Formal Letter of Demand for deficiency income taxes in the sum of P1,477,494,638.23 for the year 1997. 15 Covered by Assessment Notice No. SP-INC-97-0027-2000, 16 said deficiency tax was also assessed on the taxable gain purportedly realized by FAI from the Deed of Exchange it executed with FDC and FLI. 17 On 26 January 2000 or within the reglementary period of thirty (30) days from notice of the assessment, both FDC and FAI filed their respective requests for reconsideration/protest, on the ground that the deficiency income and documentary stamp taxes assessed by the BIR were bereft of factual and legal basis. 18 Having submitted the relevant supporting documents pursuant to the 31 January 2000 directive from the BIR Appellate Division, FDC and FAI filed on 11 September 2000 a letter requesting an early resolution of their request for reconsideration/protest on the ground that the 180 days prescribed for the resolution thereof under Section 228 of the NIRC was going to expire on 20 September 2000. 19cCHETI

In view of the failure of petitioner Commissioner of Internal Revenue (CIR) to resolve their request for reconsideration/protest within the aforesaid period, FDC and FAI filed on 17 October 2000 a petition for review with the Court of Tax Appeals (CTA) pursuant to Section 228 of the 1997 NIRC. Docketed before said court as CTA Case No. 6182, the petition alleged, among other matters, that as previously opined in BIR Ruling No. S-34-046-97, no taxable gain should have been assessed from the subject Deed of Exchange since FDC and FAI collectively gained further control of FLI as a consequence of the exchange; that correlative to the CIR's lack of authority to impute theoretical interests on the cash advances FDC extended in favor of its affiliates, the rule is settled that interests cannot be demanded in the absence of a stipulation to the effect; that not being promissory notes or certificates of obligations, the instructional letters as well as the cash and journal vouchers evidencing said cash advances were not subject to documentary stamp taxes; and, that no income tax may be imposed on the prospective gain from the supposed appreciation of FDC's shareholdings in FAC. As a consequence, FDC and FAC both prayed that the subject assessments for deficiency income and documentary stamp taxes for the years 1996 and 1997 be cancelled and annulled. 20

On 4 December 2000, the CIR filed its answer, claiming that the transfer of property in question should not be considered tax free since, with the resultant diminution of its shares in FLI, FDC did not gain further control of said corporation. Likewise calling attention to the fact that the cash advances FDC extended to its affiliates were interest free despite the interest bearing loans it obtained from banking institutions, the CIR invoked Section 43 of the old NIRC which, as implemented by Revenue Regulations No. 2, Section 179 (b) and (c), gave him "the power to allocate, distribute or apportion income or deductions between or among such organizations, trades or business in order to prevent evasion of taxes." The CIR justified the imposition of documentary stamp taxes on the instructional letters as well as cash and journal vouchers for said cash advances on the strength of Section 180 of the NIRC and Revenue Regulations No. 9-94 which provide that loan transactions are subject to

said tax irrespective of whether or not they are evidenced by a formal agreement or by mere office memo. The CIR also argued that FDC realized taxable gain arising from the dilution of its shares in FAC as a result of its Shareholders' Agreement with RHPL. 21

At the pre-trial conference, the parties filed a Stipulation of Facts, Documents and Issues 22 which was admitted in the 16 February 2001 resolution issued by the CTA. With the further admission of the Formal Offer of Documentary Evidence subsequently filed by FDC and FAI 23 and the conclusion of the testimony of Susana Macabelda anent the cash advances FDC extended in favor of its affiliates, 24 the CTA went on to render the Decision dated 10 September 2002 which, with the exception of the deficiency income tax on the interest income FDC supposedly realized from the advances it extended in favor of its affiliates, cancelled the rest of deficiency income and documentary stamp taxes assessed against FDC and FAI for the years 1996 and 1997, 25 thus:

WHEREFORE, in view of all the foregoing, the court finds the instant petition partly meritorious. Accordingly, Assessment Notice No. SP-INC-96-00018-2000 imposing deficiency income tax on FDC for taxable year 1996, Assessment Notice No. SP-DST-96-00020-2000 and SP-DST-97-00021-2000 imposing deficiency documentary stamp tax on FDC for taxable years 1996 and 1997, respectively and Assessment Notice No. SP-INC-97-0027-2000 imposing deficiency income tax on FAI for the taxable year 1997 are hereby CANCELLED and SET ASIDE. However, [FDC] is hereby ORDERED to PAY the amount of P5,691,972.03 as deficiency income tax for taxable year 1997. In addition, petitioner is also ORDERED to PAY 20% delinquency interest computed from February 16, 2000 until full payment thereof pursuant to Section 249 (c) (3) of the Tax Code. 26  

Finding that the collective increase of the equity participation of FDC and FAI in FLI rendered the gain derived from the exchange tax-free, the CTA also ruled that the increase in the value of FDC's shares in FAC did not result in economic advantage in the absence of actual sale or conversion thereof. While likewise finding that the documents evidencing the cash advances FDC extended to its affiliates cannot be considered as loan agreements that are subject to documentary stamp tax, the CTA enunciated, however, that the CIR was justified in assessing undeclared interests on the same cash advances pursuant to his authority under Section 43 of the NIRC in order to forestall tax evasion. For persuasive effect, the CTA referred to the equivalent provision in the Internal Revenue Code of the United States (IRC-US), i.e., Sec. 482, as implemented by Section 1.482-2 of 1965-1969 Regulations of the Law of Federal Income Taxation. 27cCaATD

Dissatisfied with the foregoing decision, FDC filed on 5 November 2002 the petition for review docketed before the CA as CA-G.R. No. 72992, pursuant to Rule 43 of the 1997 Rules of Civil Procedure. Calling attention to the fact that the cash advances it extended to its affiliates were interest-free in the absence of the express stipulation on interest required under Article 1956 of the Civil Code, FDC questioned the imposition of an arm's-length interest rate thereon on the ground, among others, that the CIR's authority under Section 43 of the NIRC: (a) does not include the power to impute imaginary interest on said transactions; (b) is directed only against controlled taxpayers and not against mother or holding corporations; and, (c) can only be invoked in cases of understatement of taxable net income or evident tax evasion. 28 Upholding FDC's position, the CA's then Special Fifth Division rendered the herein assailed decision dated 16 December 2003, 29 the decretal portion of which states:

WHEREFORE, premises considered, the instant petition is hereby GRANTED. The assailed Decision dated September 10, 2002 rendered by the Court of Tax Appeals in CTA Case No. 6182 directing petitioner Filinvest Development Corporation to pay the amount of P5,691,972.03 representing deficiency income tax on allegedly undeclared interest income for the taxable year 1997, plus 20% delinquency interest computed from February 16, 2000 until full payment thereof is REVERSED and SET ASIDE and, a new one entered annulling Assessment Notice No. SP-INC-97-00019-2000 imposing deficiency income tax on petitioner for taxable year 1997. No pronouncement as to costs. 30

With the denial of its partial motion for reconsideration of the same 11 December 2002 resolution issued by the CTA, 31 the CIR also filed the petition for review docketed before the CA as CA-G.R. No. 74510. In essence, the CIR argued that the CTA reversibly erred in cancelling the assessment notices: (a) for deficiency income taxes on the exchange of property between FDC, FAI and FLI; (b) for deficiency documentary stamp taxes on the documents evidencing FDC's cash advances to its affiliates; and (c) for deficiency income tax on the gain FDC purportedly realized from the increase of the value of its shareholdings in FAC. 32 The foregoing petition was, however, denied due course and dismissed for lack of merit in the herein assailed decision dated 26 January 2005 33 rendered by the CA's then Fourteenth Division, upon the following findings and conclusions, to wit:

1.As affirmed in the 3 February 1997 BIR Ruling No. S-34-046-97, the 29 November 1996 Deed of Exchange resulted in the combined control by FDC and FAI of more than 51% of the outstanding shares of FLI, hence, no taxable gain can be recognized from the transaction under Section 34 (c) (2) of the old NIRC;

2.The instructional letters as well as the cash and journal vouchers evidencing the advances FDC extended to its affiliates are not subject to documentary stamp taxes pursuant to BIR Ruling No. 116-98, dated 30 July 1998, since they do not partake the nature of loan agreements;

3.Although BIR Ruling No. 116-98 had been subsequently modified by BIR Ruling No. 108-99, dated 15 July 1999, to the effect that documentary stamp taxes are imposable on inter-office memos evidencing cash advances similar to those extended by FDC, said latter ruling cannot be given retroactive application if to do so would be prejudicial to the taxpayer;

4.FDC's alleged gain from the increase of its shareholdings in FAC as a consequence of the Shareholders' Agreement it executed with RHPL cannot be considered taxable income since, until actually converted thru sale or disposition of said shares, they merely represent unrealized increase in capital. 34

Respectively docketed before this Court as G.R. Nos. 163653 and 167689, the CIR's petitions for review on certiorari assailing the 16 December 2003 decision in CA-G.R. No. 72992 and the 26 January 2005 decision in CA-G.R. SP No. 74510 were consolidated pursuant to the 1 March 2006 resolution issued by this Court's Third Division.

The Issues

In G.R. No. 163653, the CIR urges the grant of its petition on the following ground:

THE COURT OF APPEALS ERRED IN REVERSING THE DECISION OF THE COURT OF TAX APPEALS AND IN HOLDING THAT THE ADVANCES EXTENDED BY RESPONDENT TO ITS AFFILIATES ARE NOT SUBJECT TO INCOME TAX. 35CTHaSD

In G.R. No. 167689, on the other hand, petitioner proffers the following issues for resolution:

I

THE HONORABLE COURT OF APPEALS COMMITTED GRAVE ABUSE OF DISCRETION IN HOLDING THAT THE EXCHANGE OF SHARES OF STOCK FOR PROPERTY AMONG FILINVEST DEVELOPMENT CORPORATION (FDC), FILINVEST ALABANG, INCORPORATED (FAI) AND FILINVEST

LAND INCORPORATED (FLI) MET ALL THE REQUIREMENTS FOR THE NON-RECOGNITION OF TAXABLE GAIN UNDER SECTION 34 (c) (2) OF THE OLD NATIONAL INTERNAL REVENUE CODE (NIRC) (NOW SECTION 40 (C) (2) (c) OF THE NIRC.

II

THE HONORABLE COURT OF APPEALS COMMITTED REVERSIBLE ERROR IN HOLDING THAT THE LETTERS OF INSTRUCTION OR CASH VOUCHERS EXTENDED BY FDC TO ITS AFFILIATES ARE NOT DEEMED LOAN AGREEMENTS SUBJECT TO DOCUMENTARY STAMP TAXES UNDER SECTION 180 OF THE NIRC.

III

THE HONORABLE COURT OF APPEALS GRAVELY ERRED IN HOLDING THAT GAIN ON DILUTION AS A RESULT OF THE INCREASE IN THE VALUE OF FDC'S SHAREHOLDINGS IN FAC IS NOT TAXABLE.36

The Court's Ruling

While the petition in G.R. No. 163653 is bereft of merit, we find the CIR's petition in G.R. No. 167689 impressed with partial merit.

In G.R. No. 163653, the CIR argues that the CA erred in reversing the CTA's finding that theoretical interests can be imputed on the advances FDC extended to its affiliates in 1996 and 1997 considering that, for said purpose, FDC resorted to interest-bearing fund borrowings from commercial banks. Since considerable interest expenses were deducted by FDC when said funds were borrowed, the CIR theorizes that interest income should likewise be declared when the same funds were sourced for the advances FDC extended to its affiliates. Invoking Section 43 of the 1993 NIRC in relation to Section 179 (b) of Revenue Regulation No. 2, the CIR maintains that it is vested with the power to allocate, distribute or apportion income or deductions between or among controlled organizations, trades or businesses even in the absence of fraud, since said power is intended "to prevent evasion of taxes or clearly to reflect the income of any such organizations, trades or businesses." In addition, the CIR asseverates that the CA should have accorded weight and respect to the findings of the CTA which, as the specialized court dedicated to the study and consideration of tax matters, can take judicial notice of US income tax laws and regulations. 37

Admittedly, Section 43 of the 1993 NIRC 38 provides that, "(i)n any case of two or more organizations, trades or businesses (whether or not incorporated and whether or not organized in the Philippines) owned or controlled directly or indirectly by the same interests, the Commissioner of Internal Revenue is authorized to distribute, apportion or allocate gross income or deductions between or among such organization, trade or business, if he determines that such distribution, apportionment or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any such organization, trade or business." In amplification of the equivalent provision 39 under Commonwealth Act No. 466, 40 Sec. 179 (b) of Revenue Regulations No. 2 states as follows:

Determination of the taxable net income of controlled taxpayer. – (A) DEFINITIONS. – When used in this section –

(1)The term "organization" includes any kind, whether it be a sole proprietorship, a partnership, a trust, an estate, or a corporation or association, irrespective of the place where organized, where operated, or where its trade or business is conducted, and regardless of whether domestic or foreign, whether exempt or taxable, or whether affiliated or not.

(2)The terms "trade" or "business" include any trade or business activity of any kind, regardless of whether or where organized, whether owned

individually or otherwise, and regardless of the place where carried on.

(3)The term "controlled" includes any kind of control, direct or indirect, whether legally enforceable, and however exercisable or exercised. It is the reality of the control which is decisive, not its form or mode of exercise. A presumption of control arises if income or deductions have been arbitrarily shifted.

(4)The term "controlled taxpayer" means any one of two or more organizations, trades, or businesses owned or controlled directly or indirectly by the same interests.

(5)The term "group" and "group of controlled taxpayers" means the organizations, trades or businesses owned or controlled by the same interests. DTEScI

(6)The term "true net income" means, in the case of a controlled taxpayer, the net income (or as the case may be, any item or element affecting net income) which would have resulted to the controlled taxpayer, had it in the conduct of its affairs (or, as the case may be, any item or element affecting net income) which would have resulted to the controlled taxpayer, had it in the conduct of its affairs (or, as the case may be, in the particular contract, transaction, arrangement or other act) dealt with the other members or members of the group at arm's length. It does not mean the income, the deductions, or the item or element of either, resulting to the controlled taxpayer by reason of the particular contract, transaction, or arrangement, the controlled taxpayer, or the interest controlling it, chose to make (even though such contract, transaction, or arrangement be legally binding upon the parties thereto). 

(B)SCOPE AND PURPOSE. – The purpose of Section 44 of the Tax Code is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer, by determining, according to the standard of an uncontrolled taxpayer, the true net income from the property and business of a controlled taxpayer. The interests controlling a group of controlled taxpayer are assumed to have complete power to cause each controlled taxpayer so to conduct its affairs that its transactions and accounting records truly reflect the net income from the property and business of each of the controlled taxpayers. If, however, this has not been done and the taxable net income are thereby understated, the statute contemplates that the Commissioner of Internal Revenue shall intervene, and, by making such distributions, apportionments, or allocations as he may deem necessary of gross income or deductions, or of any item or element affecting net income, between or among the controlled taxpayers constituting the group, shall determine the true net income of each controlled taxpayer. The standard to be applied in every case is that of an uncontrolled taxpayer. Section 44 grants no right to a controlled taxpayer to apply its provisions at will, nor does it grant any right to compel the Commissioner of Internal Revenue to apply its provisions.

(C)APPLICATION – Transactions between controlled taxpayer and another will be subjected to special scrutiny to ascertain whether the common control is being used to reduce, avoid or escape taxes. In determining the true net income of a controlled taxpayer, the Commissioner of Internal Revenue is not restricted to the case of improper accounting, to the case of a fraudulent, colorable, or sham transaction, or to the case of a device designed to reduce or avoid tax by shifting or distorting income or deductions. The authority to determine true net income extends to any case in which either by inadvertence or design the taxable net income in whole or in part, of a controlled taxpayer, is other

than it would have been had the taxpayer in the conduct of his affairs been an uncontrolled taxpayer dealing at arm's length with another uncontrolled taxpayer. 41

As may be gleaned from the definitions of the terms "controlled" and "controlled taxpayer" under paragraphs (a) (3) and (4) of the foregoing provision, it would appear that FDC and its affiliates come within the purview of Section 43 of the 1993 NIRC. Aside from owning significant portions of the shares of stock of FLI, FAI, DSCC and FCI, the fact that FDC extended substantial sums of money as cash advances to its said affiliates for the purpose of providing them financial assistance for their operational and capital expenditures seemingly indicate that the situation sought to be addressed by the subject provision exists. From the tenor of paragraph (c) of Section 179 of Revenue Regulations No. 2, it may also be seen that the CIR's power to distribute, apportion or allocate gross income or deductions between or among controlled taxpayers may be likewise exercised whether or not fraud inheres in the transaction/s under scrutiny. For as long as the controlled taxpayer's taxable income is not reflective of that which it would have realized had it been dealing at arm's length with an uncontrolled taxpayer, the CIR can make the necessary rectifications in order to prevent evasion of taxes.

Despite the broad parameters provided, however, we find that the CIR's powers of distribution, apportionment or allocation of gross income and deductions under Section 43 of the 1993 NIRC and Section 179 of Revenue Regulations No. 2 does not include the power to impute "theoretical interests" to the controlled taxpayer's transactions. Pursuant to Section 28 of the 1993 NIRC, 42 after all, the term "gross income" is understood to mean all income from whatever source derived, including, but not limited to the following items: compensation for services, including fees, commissions, and similar items; gross income derived from business; gains derived from dealings in property;" interest; rents; royalties; dividends; annuities; prizes and winnings; pensions; and partner's distributive share of the gross income of general professional partnership. 43 While it has been held that the phrase "from whatever source derived" indicates a legislative policy to include all income not expressly exempted within the class of taxable income under our laws, the term "income" has been variously interpreted to mean "cash received or its equivalent", "the amount of money coming to a person within a specific time" or "something distinct from principal or capital." 44 Otherwise stated, there must be proof of the actual or, at the very least, probable receipt or realization by the controlled taxpayer of the item of gross income sought to be distributed, apportioned or allocated by the CIR. DAcaIE

Our circumspect perusal of the record yielded no evidence of actual or possible showing that the advances FDC extended to its affiliates had resulted to the interests subsequently assessed by the CIR. For all its harping upon the supposed fact that FDC had resorted to borrowings from commercial banks, the CIR had adduced no concrete proof that said funds were, indeed, the source of the advances the former provided its affiliates. While admitting that FDC obtained interest-bearing loans from commercial banks, 45 Susan Macabelda – FDC's Funds Management Department Manager who was the sole witness presented before the CTA – clarified that the subject advances were sourced from the corporation's rights offering in 1995 as well as the sale of its investment in Bonifacio Land in 1997. 46 More significantly, said witness testified that said advances: (a) were extended to give FLI, FAI, DSCC and FCI financial assistance for their operational and capital expenditures; and, (b) were all temporarily in nature since they were repaid within the duration of one week to three months and were evidenced by mere journal entries, cash vouchers and instructional letters." 47

Even if we were, therefore, to accord precipitate credulity to the CIR's bare assertion that FDC had deducted substantial interest expense from its gross income, there would still be no factual basis for the imputation of theoretical interests on the subject advances and assess deficiency income taxes thereon. More so, when it is borne in mind that, pursuant to Article 1956 of the Civil Code of the Philippines, no interest shall be due unless it has been expressly stipulated in writing. Considering that taxes, being burdens, are not to be presumed beyond what the applicable statute expressly and clearly declares, 48 the rule is likewise settled that tax statutes must be construed strictly against the government and liberally in favor of the taxpayer. 49 Accordingly, the general rule of requiring adherence to the letter in construing statutes applies with peculiar strictness to tax laws and the provisions of a taxing act are not to be extended by implication. 50 While it is true that taxes are the lifeblood of the government, it has been held that their assessment and collection should be in accordance with law as any arbitrariness will negate the very reason for government itself. 51

In G.R. No. 167689, we also find a dearth of merit in the CIR's insistence on the imposition of deficiency income taxes on the transfer FDC and FAI effected in exchange for the shares of stock of FLI. With respect to the Deed of Exchange executed between FDC, FAI and FLI, Section 34 (c) (2) of the 1993 NIRC pertinently provides as follows:

Sec. 34.Determination of amount of and recognition of gain or loss. –

xxx xxx xxx

(c)Exception – . . .

No gain or loss shall also be recognized if property is transferred to a corporation by a person in exchange for shares of stock in such corporation of which as a result of such exchange said person, alone or together with others, not exceeding four persons, gains control of said corporation; Provided, That stocks issued for services shall not be considered as issued in return of property.

As even admitted in the 14 February 2001 Stipulation of Facts submitted by the parties, 52 the requisites for the non-recognition of gain or loss under the foregoing provision are as follows: (a) the transferee is a corporation; (b) the transferee exchanges its shares of stock for property/ies of the transferor; (c) the transfer is made by a person, acting alone or together with others, not exceeding four persons; and, (d) as a result of the exchange the transferor, alone or together with others, not exceeding four, gains control of the transferee. 53 Acting on the 13 January 1997 request filed by FLI, the BIR had, in fact, acknowledged the concurrence of the foregoing requisites in the Deed of Exchange the former executed with FDC and FAI by issuing BIR Ruling No. S-34-046-97. 54 With the BIR's reiteration of said ruling upon the request for clarification filed by FLI, 55 there is also no dispute that said transferee and transferors subsequently complied with the requirements provided for the non-recognition of gain or loss from the exchange of property for tax, as provided under Section 34 (c) (2) of the 1993 NIRC. 56

Then as now, the CIR argues that taxable gain should be recognized for the exchange considering that FDC's controlling interest in FLI was actually decreased as a result thereof. For said purpose, the CIR calls attention to the fact that, prior to the exchange, FDC owned 2,537,358,000 or 67.42% of FLI's 3,763,535,000 outstanding capital stock. Upon the issuance of 443,094,000 additional FLI shares as a consequence of the exchange and with only 42,217,000 thereof accruing in favor of FDC for a total of 2,579,575,000 shares, said corporation's controlling interest was supposedly reduced to 61%.03 when reckoned from the transferee's aggregate 4,226,629,000 outstanding shares. Without owning a share from FLI's initial 3,763,535,000 outstanding shares, on the other hand, FAI's acquisition of 420,877,000 FLI shares as a result of the exchange purportedly resulted in its control of only 9.96% of said transferee corporation's 4,226,629,000 outstanding shares. On the principle that the transaction did not qualify as a tax-free exchange under Section 34 (c) (2) of the 1993 NIRC, the CIR asseverates that taxable gain in the sum of P263,386,921.00 should be recognized on the part of FDC and in the sum of P3,088,711,367.00 on the part of FAI. 57DEHaAS 

The paucity of merit in the CIR's position is, however, evident from the categorical language of Section 34 (c) (2) of the 1993 NIRC which provides that gain or loss will not be recognized in case the exchange of property for stocks results in the control of the transferee by the transferor, alone or with other transferors not exceeding four persons. Rather than isolating the same as proposed by the CIR, FDC's 2,579,575,000 shares or 61.03% control of FLI's 4,226,629,000 outstanding shares should, therefore, be appreciated in combination with the 420,877,000 new shares issued to FAI which represents 9.96% control of said transferee corporation. Together FDC's 2,579,575,000 shares (61.03%) and FAI's 420,877,000 shares (9.96%) clearly add up to 3,000,452,000 shares or 70.99% of FLI's 4,226,629,000 shares. Since the term "control" is clearly defined as "ownership of stocks in a corporation possessing at least fifty-one percent of the total voting power of classes of stocks entitled to one vote" under Section 34 (c) (6) [c] of the 1993 NIRC, the exchange of property for stocks between FDC FAI and FLI clearly qualify as a tax-free transaction under paragraph 34 (c) (2) of the same provision.

Against the clear tenor of Section 34 (c) (2) of the 1993 NIRC, the CIR cites then Supreme Court Justice Jose Vitug and CTA Justice Ernesto D. Acosta who, in their book Tax Law and Jurisprudence, opined that said provision

could be inapplicable if control is already vested in the exchangor prior to exchange. 58 Aside from the fact that that the 10 September 2002 Decision in CTA Case No. 6182 upholding the tax-exempt status of the exchange between FDC, FAI and FLI was penned by no less than Justice Acosta himself, 59 FDC and FAI significantly point out that said authors have acknowledged that the position taken by the BIR is to the effect that "the law would apply even when the exchangor already has control of the corporation at the time of the exchange." 60 This was confirmed when, apprised in FLI's request for clarification about the change of percentage of ownership of its outstanding capital stock, the BIR opined as follows:

Please be informed that regardless of the foregoing, the transferors, Filinvest Development Corp. and Filinvest Alabang, Inc. still gained control of Filinvest Land, Inc. The term 'control' shall mean ownership of stocks in a corporation by possessing at least 51% of the total voting power of all classes of stocks entitled to vote. Control is determined by the amount of stocks received, i.e., total subscribed, whether for property or for services by the transferor or transferors. In determining the 51% stock ownership, only those persons who transferred property for stocks in the same transaction may be counted up to the maximum of five (BIR Ruling No. 547-93 dated December 29, 1993.) 61

At any rate, it also appears that the supposed reduction of FDC's shares in FLI posited by the CIR is more apparent than real. As the uncontested owner of 80% of the outstanding shares of FAI, it cannot be gainsaid that FDC ideally controls the same percentage of the 420,877,000 shares issued to its said co-transferor which, by itself, represents 7.968% of the outstanding shares of FLI. Considered alongside FDC's 61.03% control of FLI as a consequence of the 29 November 1996 Deed of Transfer, said 7.968% add up to an aggregate of 68.998% of said transferee corporation's outstanding shares of stock which is evidently still greater than the 67.42% FDC initially held prior to the exchange. This much was admitted by the parties in the 14 February 2001 Stipulation of Facts, Documents and Issues they submitted to the CTA. 62 Inasmuch as the combined ownership of FDC and FAI of FLI's outstanding capital stock adds up to a total of 70.99%, it stands to reason that neither of said transferors can be held liable for deficiency income taxes the CIR assessed on the supposed gain which resulted from the subject transfer.

On the other hand, insofar as documentary stamp taxes on loan agreements and promissory notes are concerned, Section 180 of the NIRC provides follows:

Sec. 180.Stamp tax on all loan agreements, promissory notes, bills of exchange, drafts, instruments and securities issued by the government or any of its instrumentalities, certificates of deposit bearing interest and others not payable on sight or demand. – On all loan agreements signed abroad wherein the object of the contract is located or used in the Philippines; bill of exchange (between points within the Philippines), drafts, instruments and securities issued by the Government or any of its instrumentalities or certificates of deposits drawing interest, or orders for the payment of any sum of money otherwise than at sight or on demand, or on all promissory notes, whether negotiable or non-negotiable, except bank notes issued for circulation, and on each renewal of any such note, there shall be collected a documentary stamp tax of Thirty centavos (P0.30) on each two hundred pesos, or fractional part thereof, of the face value of any such agreement, bill of exchange, draft, certificate of deposit or note: Provided, That only one documentary stamp tax shall be imposed on either loan agreement, or promissory notes issued to secure such loan, whichever will yield a higher tax: Provided however, That loan agreements or promissory notes the aggregate of which does not exceed Two hundred fifty thousand pesos (P250,000.00) executed by an individual for his purchase on installment for his personal use or that of his family and not for business, resale, barter or hire of a house, lot, motor vehicle, appliance or furniture shall be exempt from the payment of documentary stamp tax provided under this Section.

When read in conjunction with Section 173 of the 1993 NIRC, 63 the foregoing provision concededly applies to "(a)ll loan agreements, whether made or signed in the Philippines, or abroad when the obligation or right arises from Philippine sources or the property or object of the contract is located or used in the Philippines." Correlatively, Section 3 (b) and Section 6 of Revenue Regulations No. 9-94 provide as follows: aSACED

Section 3.Definition of Terms. – For purposes of these Regulations, the following term shall mean:

(b)'Loan agreement' – refers to a contract in writing where one of the parties delivers to another money or other consumable thing, upon the condition that the same amount of the same kind and quality shall be paid. The term shall include credit facilities, which may be evidenced by credit memo, advice or drawings.

The terms 'Loan Agreement" under Section 180 and "Mortgage" under Section 195, both of the Tax Code, as amended, generally refer to distinct and separate instruments. A loan agreement shall be taxed under Section 180, while a deed of mortgage shall be taxed under Section 195."

"Section 6.Stamp on all Loan Agreements. – All loan agreements whether made or signed in the Philippines, or abroad when the obligation or right arises from Philippine sources or the property or object of the contract is located in the Philippines shall be subject to the documentary stamp tax of thirty centavos (P0.30) on each two hundred pesos, or fractional part thereof, of the face value of any such agreements, pursuant to Section 180 in relation to Section 173 of the Tax Code.

In cases where no formal agreements or promissory notes have been executed to cover credit facilities, the documentary stamp tax shall be based on the amount of drawings or availment of the facilities, which may be evidenced by credit/debit memo, advice or drawings by any form of check or withdrawal slip, under Section 180 of the Tax Code.

Applying the aforesaid provisions to the case at bench, we find that the instructional letters as well as the journal and cash vouchers evidencing the advances FDC extended to its affiliates in 1996 and 1997 qualified as loan agreements upon which documentary stamp taxes may be imposed. In keeping with the caveat attendant to every BIR Ruling to the effect that it is valid only if the facts claimed by the taxpayer are correct, we find that the CA reversibly erred in utilizing BIR Ruling No. 116-98, dated 30 July 1998 which, strictly speaking, could be invoked only by ASB Development Corporation, the taxpayer who sought the same. In said ruling, the CIR opined that documents like those evidencing the advances FDC extended to its affiliates are not subject to documentary stamp tax, to wit:

On the matter of whether or not the inter-office memo covering the advances granted by an affiliate company is subject to documentary stamp tax, it is informed that nothing in Regulations No. 26 (Documentary Stamp Tax Regulations) and Revenue Regulations No. 9-94 states that the same is subject to documentary stamp tax. Such being the case, said inter-office memo evidencing the lendings or borrowings which is neither a form of promissory note nor a certificate of indebtedness issued by the corporation-affiliate or a certificate of obligation, which are, more or less, categorized as 'securities', is not subject to documentary stamp tax imposed under Section 180, 174 and 175 of the Tax Code of 1997, respectively. Rather, the inter-office memo is being prepared for accounting purposes only in order to avoid the co-mingling of funds of the corporate affiliates.

In its appeal before the CA, the CIR argued that the foregoing ruling was later modified in BIR Ruling No. 108-99 dated 15 July 1999, which opined that inter-office memos evidencing lendings or borrowings extended by a corporation to its affiliates are akin to promissory notes, hence, subject to

documentary stamp taxes. 64 In brushing aside the foregoing argument, however, the CA applied Section 246 of the 1993 NIRC 65 from which proceeds the settled principle that rulings, circulars, rules and regulations promulgated by the BIR have no retroactive application if to so apply them would be prejudicial to the taxpayers. 66 Admittedly, this rule does not apply: (a) where the taxpayer deliberately misstates or omits material facts from his return or in any document required of him by the Bureau of Internal Revenue; (b) where the facts subsequently gathered by the Bureau of Internal Revenue are materially different from the facts on which the ruling is based; or (c) where the taxpayer acted in bad faith. 67 Not being the taxpayer who, in the first instance, sought a ruling from the CIR, however, FDC cannot invoke the foregoing principle on non-retroactivity of BIR rulings. 

Viewed in the light of the foregoing considerations, we find that both the CTA and the CA erred in invalidating the assessments issued by the CIR for the deficiency documentary stamp taxes due on the instructional letters as well as the journal and cash vouchers evidencing the advances FDC extended to its affiliates in 1996 and 1997. In Assessment Notice No. SP-DST-96-00020-2000, the CIR correctly assessed the sum of P6,400,693.62 for documentary stamp tax, P3,999,793.44 in interests and P25,000.00 as compromise penalty, for a total of P10,425,487.06. Alongside the sum of P4,050,599.62 for documentary stamp tax, the CIR similarly assessed P1,721,099.78 in interests and P25,000.00 as compromise penalty in Assessment Notice No. SP-DST-97-00021-2000 or a total of P5,796,699.40. The imposition of deficiency interest is justified under Sec. 249 (a) and (b) of the NIRC which authorizes the assessment of the same "at the rate of twenty percent (20%), or such higher rate as may be prescribed by regulations", from the date prescribed for the payment of the unpaid amount of tax until full payment. 68 The imposition of the compromise penalty is, in turn, warranted under Sec. 250 69 of the NIRC which prescribes the imposition thereof "in case of each failure to file an information or return, statement or list, or keep any record or supply any information required" on the date prescribed therefor.

To our mind, no reversible error can, finally, be imputed against both the CTA and the CA for invalidating the Assessment Notice issued by the CIR for the deficiency income taxes FDC is supposed to have incurred as a consequence of the dilution of its shares in FAC. Anent FDC's Shareholders' Agreement with RHPL, the record shows that the parties were in agreement about the following factual antecedents narrated in the 14 February 2001 Stipulation of Facts, Documents and Issues they submitted before the CTA, 70viz.:

"1.11.On November 15, 1996, FDC entered into a Shareholders' Agreement ('SA') with Reco Herrera Pte. Ltd. ('RHPL') for the formation of a joint venture company named Filinvest Asia Corporation ('FAC') which is based in Singapore (pars. 1.01 and 6.11, Petition, pars. 1 and 7, Answer).

1.12.FAC, the joint venture company formed by FDC and RHPL, is tasked to develop and manage the 50% ownership interest of FDC in its PBCom Office Tower Project ('Project') with the Philippine Bank of Communications (par. 6.12, Petition; par. 7, Answer).

1.13.Pursuant to the SA between FDC and RHPL, the equity participation of FDC and RHPL in FAC was 60% and 40% respectively.

1.14.In accordance with the terms of the SA, FDC subscribed to P500.7 million worth of shares of stock representing a 60% equity participation in FAC. In turn, RHPL subscribed to P433.8 million worth of shares of stock of FAC representing a 40% equity participation in FAC.

1.15.In payment of its subscription in FAC, FDC executed a Deed of Assignment transferring to FAC a portion of FDC's right and interests in the Project to the extent of P500.7 million.

1.16.FDC reported a net loss of P190,695,061.00 in its Annual Income Tax Return for the taxable year 1996." 71

Alongside the principle that tax revenues are not intended to be liberally construed, 72 the rule is settled that the findings and conclusions of the

CTA are accorded great respect and are generally upheld by this Court, unless there is a clear showing of a reversible error or an improvident exercise of authority. 73 Absent showing of such error here, we find no strong and cogent reasons to depart from said rule with respect to the CTA's finding that no deficiency income tax can be assessed on the gain on the supposed dilution and/or increase in the value of FDC's shareholdings in FAC which the CIR, at any rate, failed to establish. Bearing in mind the meaning of "gross income" as above discussed, it cannot be gainsaid, even then, that a mere increase or appreciation in the value of said shares cannot be considered income for taxation purposes. Since "a mere advance in the value of the property of a person or corporation in no sense constitute the 'income' specified in the revenue law," it has been held in the early case of Fisher vs. Trinidad,74 that it "constitutes and can be treated merely as an increase of capital." Hence, the CIR has no factual and legal basis in assessing income tax on the increase in the value of FDC's shareholdings in FAC until the same is actually sold at a profit. CIDTcH

WHEREFORE, premises considered, the CIR's petition for review on certiorari in G.R. No. 163653 is DENIED for lack of merit and the CA's 16 December 2003 Decision in G.R. No. 72992 is AFFIRMED in toto. The CIR's petition in G.R. No. 167689 is PARTIALLY GRANTED and the CA's 26 January 2005 Decision in CA-G.R. SP No. 74510 is MODIFIED.

Accordingly, Assessment Notices Nos. SP-DST-96-00020-2000 and SP-DST-97-00021-2000 issued for deficiency documentary stamp taxes due on the instructional letters as well as journal and cash vouchers evidencing the advances FDC extended to its affiliates are declared valid.

The cancellation of Assessment Notices Nos. SP-INC-96-00018-2000, SP-INC-97-00019-2000 and SP-INC-97-0027-2000 issued for deficiency income assessed on (a) the "arms-length" interest from said advances; (b) the gain from FDC's Deed of Exchange with FAI and FLI; and (c) income from the dilution resulting from FDC's Shareholders' Agreement with RHPL is, however, upheld.

SO ORDERED.

||| (Commr. v. Filinvest Development Corp., G.R. No. 163653, 167689, July 19, 2011)

FIRST DIVISION[G.R. No. 153793. August 29, 2006.]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. JULIANE BAIER-NICKEL, as represented by Marina Q. Guzman (Attorney-in-fact), respondent.

D E C I S I O NYNARES-SANTIAGO, J p:Petitioner Commissioner of Internal Revenue (CIR) appeals from the January 18, 2002 Decision 1 of the Court of Appeals in CA-G.R. SP No. 59794, which granted the tax refund of respondent Juliane Baier-Nickel and reversed the June 28, 2000 Decision 2 of the Court of Tax Appeals (CTA) in C.T.A. Case No. 5633. Petitioner also assails the May 8, 2002 Resolution 3 of the Court of Appeals denying its motion for reconsideration.

The facts show that respondent Juliane Baier-Nickel, a non-resident German citizen, is the President of JUBANITEX, Inc., a domestic corporation engaged in "[m]anufacturing, marketing on wholesale only, buying or otherwise acquiring, holding, importing and exporting, selling and disposing embroidered textile products." 4 Through JUBANITEX's General Manager, Marina Q. Guzman, the corporation appointed and engaged the services of respondent as commission agent. It was agreed that respondent will receive 10% sales commission on all sales actually concluded and collected through her efforts. 5

In 1995, respondent received the amount of P1,707,772.64, representing her sales commission income from which JUBANITEX withheld the corresponding 10% withholding tax amounting to P170,777.26, and remitted the same to the Bureau of Internal Revenue (BIR). On October 17, 1997, respondent filed her 1995 income tax return reporting a taxable income of P1,707,772.64 and a tax due of P170,777.26. 6

On April 14, 1998, respondent filed a claim to refund the amount of P170,777.26 alleged to have been mistakenly withheld and remitted by JUBANITEX to the BIR. Respondent contended that her sales commission income is not taxable in the Philippines because the same was a compensation for her services rendered in Germany and therefore considered as income from sources outside the Philippines.

The next day, April 15, 1998, she filed a petition for review with the CTA contending that no action was taken by the BIR on her claim for refund. 7 On June 28, 2000, the CTA rendered a decision denying her claim. It held that the commissions received by respondent were actually her remuneration in the performance of her duties as President of JUBANITEX and not as a mere sales agent thereof. The income derived by respondent is therefore an income taxable in the Philippines because JUBANITEX is a domestic corporation. cDCSET

On petition with the Court of Appeals, the latter reversed the Decision of the CTA, holding that respondent received the commissions as sales agent of JUBANITEX and not as President thereof. And since the "source" of income means the activity or service that produce the income, the sales commission received by respondent is not taxable in the Philippines because it arose from the marketing activities performed by respondent in Germany. The dispositive portion of the appellate court's Decision, reads:

WHEREFORE, premises considered, the assailed decision of the Court of Tax Appeals dated June 28, 2000 is hereby REVERSED and SET ASIDE and the respondent court is hereby directed to grant petitioner a tax refund in the amount of Php 170,777.26.

SO ORDERED. 8

Petitioner filed a motion for reconsideration but was denied. 9 Hence, the instant recourse.

Petitioner maintains that the income earned by respondent is taxable in the Philippines because the source thereof is JUBANITEX, a domestic corporation located in the City of Makati. It thus implied that source of income means the physical source where the income came from. It further argued that since respondent is the President of JUBANITEX, any remuneration she received from said corporation should be construed as payment of her overall managerial services to the company and should not be interpreted as a compensation for a distinct and separate service as a sales commission agent.

Respondent, on the other hand, claims that the income she received was payment for her marketing services. She contended that income of nonresident aliens like her is subject to tax only if the source of the income is within the Philippines. Source, according to respondent is the situs of the activity which produced the income. And since the source of her income were her marketing activities in Germany, the income she derived from said activities is not subject to Philippine income taxation.

The issue here is whether respondent's sales commission income is taxable in the Philippines.

Pertinent portion of the National Internal Revenue Code (NIRC), states:

SEC. 25.Tax on Nonresident Alien Individual. —

(A)Nonresident Alien Engaged in Trade or Business Within the Philippines. —

(1)In General. — A nonresident alien individual engaged in trade or business in the Philippines shall be subject to an income tax in the same manner as an individual citizen and a resident alien individual, on taxable income received from all sources within the Philippines. A nonresident alien individual who shall come to the Philippines and stay therein for an aggregate period of more than one hundred eighty (180) days during any calendar year shall be deemed a 'nonresident alien doing business in the Philippines,' Section 22(G) of this Code notwithstanding.

xxx xxx xxx

(B)Nonresident Alien Individual Not Engaged in Trade or Business Within the Philippines. — There shall be levied, collected and paid for each taxable year upon the entire income received from all sources within the Philippines by every nonresident alien individual not engaged in trade or business within the Philippines . . . a tax equal to twenty-five percent (25%) of such income. . . .

Pursuant to the foregoing provisions of the NIRC, non-resident aliens, whether or not engaged in trade or business, are subject to Philippine income taxation on their income received from all sources within the Philippines. Thus, the keyword in determining the taxability of non-resident aliens is the income's "source." In construing the meaning of "source" in Section 25 of the NIRC, resort must be had on the origin of the provision. ScTaEA

The first Philippine income tax law enacted by the Philippine Legislature was Act No. 2833, 10 which took effect on January 1, 1920. 11 Under Section 1 thereof, nonresident aliens are likewise subject to tax on income "from all sources within the Philippine Islands," thus —

SECTION 1. (a) There shall be levied, assessed, collected, and paid annually upon the entire net income received in the preceding calendar year from all sources by every individual, a citizen or resident of the Philippine Islands, a tax of two per centum upon such income; and a like tax shall be levied, assessed, collected, and paid annually upon the entire net income received in the preceding calendar year from all sources within the Philippine Islands by every individual, a nonresident alien, including interest on bonds, notes, or other interest-bearing obligations of residents, corporate or otherwise.

Act No. 2833 substantially reproduced the United States (U.S.) Revenue Law of 1916 as amended by U.S. Revenue Law of 1917. 12 Being a law of American origin, the authoritative decisions of the official charged with enforcing it in the U.S. have peculiar persuasive force in the Philippines. 13

The Internal Revenue Code of the U.S. enumerates specific types of income to be treated as from sources within the U.S. and specifies when similar types of income are to be treated as from sources outside the U.S. 14 Under the said Code, compensation for labor and personal services

performed in the U.S., is generally treated as income from U.S. sources; while compensation for said services performed outside the U.S., is treated as income from sources outside the U.S. 15 A similar provision is found in Section 42 of our NIRC, thus:

SEC. 42.. . .

(A)Gross Income From Sources Within the Philippines. . . .

xxx xxx xxx

(3)Services. — Compensation for labor or personal services performed in the Philippines;

xxx xxx xxx

(C)Gross Income From Sources Without the Philippines. . . .

xxx xxx xxx

(3)Compensation for labor or personal services performed without the Philippines;

The following discussions on sourcing of income under the Internal Revenue Code of the U.S., are instructive:

The Supreme Court has said, in a definition much quoted but often debated, that income may be derived from three possible sources only: (1) capital and/or (2) labor; and/or (3) the sale of capital assets. While the three elements of this attempt at definition need not be accepted as all-inclusive, they serve as useful guides in any inquiry into whether a particular item is from "sources within the United States" and suggest an investigation into the nature and location of the activities or property which produce the income.

If the income is from labor the place where the labor is done should be decisive; if it is done in this country, the income should be from "sources within the United States." If the income is from capital, the place where the capital is employed should be decisive; if it is employed in this country, the income should be from "sources within the United States." If the income is from the sale of capital assets, the place where the sale is made should be likewise decisive.

Much confusion will be avoided by regarding the term "source" in this fundamental light. It is not a place, it is an activity or property. As such, it has a situs or location, and if that situs or location is within the United States the resulting income is taxable to nonresident aliens and foreign corporations. HSTAcI

 

The intention of Congress in the 1916 and subsequent statutes was to discard the 1909 and 1913 basis of taxing nonresident aliens and foreign corporations and to make the test of taxability the "source," or situs of the activities or property which produce the income. The result is that, on the one hand, nonresident aliens and nonresident foreign corporations are prevented from deriving income from the United States free from tax, and, on the other hand, there is no undue imposition of a tax when the activities do not take place in, and the property producing income is not employed in, this country. Thus, if income is to be taxed, the recipient thereof must be resident within the jurisdiction, or the property or activities out of which the income issues or is derived must be situated within the

jurisdiction so that the source of the income may be said to have a situs in this country.

The underlying theory is that the consideration for taxation is protection of life and property and that the income rightly to be levied upon to defray the burdens of the United States Government is that income which is created by activities and property protected by this Government or obtained by persons enjoying that protection. 16

The important factor therefore which determines the source of income of personal services is not the residence of the payor, or the place where the contract for service is entered into, or the place of payment, but the place where the services were actually rendered. 17

In Alexander Howden & Co., Ltd. v. Collector of Internal Revenue, 18 the Court addressed the issue on the applicable source rule relating to reinsurance premiums paid by a local insurance company to a foreign insurance company in respect of risks located in the Philippines. It was held therein that the undertaking of the foreign insurance company to indemnify the local insurance company is the activity that produced the income. Since the activity took place in the Philippines, the income derived therefrom is taxable in our jurisdiction. Citing Mertens, The Law of Federal Income Taxation, the Court emphasized that the technical meaning of source of income is the property, activity or service that produced the same. Thus:

The source of an income is the property, activity or service that produced the income. The reinsurance premiums remitted to appellants by virtue of the reinsurance contracts, accordingly, had for their source the undertaking to indemnify Commonwealth Insurance Co. against liability. Said undertaking is the activity that produced the reinsurance premiums, and the same took place in the Philippines. . . . the reinsured, the liabilities insured and the risk originally underwritten by Commonwealth Insurance Co., upon which the reinsurance premiums and indemnity were based, were all situated in the Philippines. . . . 19

In Commissioner of Internal Revenue v. British Overseas Airways Corporation (BOAC), 20 the issue was whether BOAC, a foreign airline company which does not maintain any flight to and from the Philippines is liable for Philippine income taxation in respect of sales of air tickets in the Philippines, through a general sales agent relating to the carriage of passengers and cargo between two points both outside the Philippines. Ruling in the affirmative, the Court applied the case of Alexander Howden & Co., Ltd. v. Collector of Internal Revenue, and reiterated the rule that the source of income is that "activity" which produced the income. It was held that the "sale of tickets" in the Philippines is the "activity" that produced the income and therefore BOAC should pay income tax in the Philippines because it undertook an income producing activity in the country. aHADTC

Both the petitioner and respondent cited the case of Commissioner of Internal Revenue v. British Overseas Airways Corporation in support of their arguments, but the correct interpretation of the said case favors the theory of respondent that it is the situs of the activity that determines whether such income is taxable in the Philippines. The conflict between the majority and the dissenting opinion in the said case has nothing to do with the underlying principle of the law on sourcing of income. In fact, both applied the case of Alexander Howden & Co., Ltd. v. Collector of Internal Revenue. The divergence in opinion centered on whether the sale of tickets in the Philippines is to be construed as the "activity" that produced the income, as viewed by the majority, or merely the physical source of the income, as ratiocinated by Justice Florentino P. Feliciano in his dissent. The majority, through Justice Ameurfina Melencio-Herrera, as ponente, interpreted the sale of tickets as a business activity that gave rise to the income of BOAC. Petitioner cannot therefore invoke said case to support its view that source of income is the physical source of the money earned. If such was the interpretation of the majority, the Court would have simply stated that source of income is not the business activity of BOAC but the place where the person or entity disbursing the income is located or where BOAC physically received the same. But such was not the import of the ruling of the Court. It even explained in detail the business activity undertaken by BOAC in the Philippines to pinpoint the taxable activity and to justify its conclusion that BOAC is subject to Philippine income taxation. Thus —

BOAC, during the periods covered by the subject assessments, maintained a general sales agent in the Philippines. That general sales agent, from 1959 to 1971, "was engaged in (1) selling and issuing tickets; (2) breaking down the whole trip into series of trips — each trip in the series corresponding to a different airline company; (3) receiving the fare from the whole trip; and (4) consequently allocating to the various airline companies on the basis of their participation in the services rendered through the mode of interline settlement as prescribed by Article VI of the Resolution No. 850 of the IATA Agreement." Those activities were in exercise of the functions which are normally incident to, and are in progressive pursuit of, the purpose and object of its organization as an international air carrier. In fact, the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the generation of sales being the paramount objective. There should be no doubt then that BOAC was "engaged in" business in the Philippines through a local agent during the period covered by the assessments. . . . 21

xxx xxx xxx

The source of an income is the property, activity or service that produced the income. For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income. The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The situs of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of such protection, the flow of wealth should share the burden of supporting the government.

A transportation ticket is not a mere piece of paper. When issued by a common carrier, it constitutes the contract between the ticket-holder and the carrier. It gives rise to the obligation of the purchaser of the ticket to pay the fare and the corresponding obligation of the carrier to transport the passenger upon the terms and conditions set forth thereon. The ordinary ticket issued to members of the traveling public in general embraces within its terms all the elements to constitute it a valid contract, binding upon the parties entering into the relationship. 22

The Court reiterates the rule that "source of income" relates to the property, activity or service that produced the income. With respect to rendition of labor or personal service, as in the instant case, it is the place where the labor or service was performed that determines the source of the income. There is therefore no merit in petitioner's interpretation which equates source of income in labor or personal service with the residence of the payor or the place of payment of the income.

Having disposed of the doctrine applicable in this case, we will now determine whether respondent was able to establish the factual circumstances showing that her income is exempt from Philippine income taxation.

The decisive factual consideration here is not the capacity in which respondent received the income, but the sufficiency of evidence to prove that the services she rendered were performed in Germany. Though not raised as an issue, the Court is clothed with authority to address the same because the resolution thereof will settle the vital question posed in this controversy. 23

The settled rule is that tax refunds are in the nature of tax exemptions and are to be construed strictissimi juris against the taxpayer. 24 To those therefore, who claim a refund rest the burden of proving that the transaction subjected to tax is actually exempt from taxation. aDHCAE

In the instant case, the appointment letter of respondent as agent of JUBANITEX stipulated that the activity or the service which would entitle her to 10% commission income, are "sales actually concluded and collected through [her] efforts." 25 What she presented as evidence to prove that she performed income producing activities abroad, were copies of documents she allegedly faxed to JUBANITEX and bearing instructions as to the sizes of, or designs and fabrics to be used in the finished products as well as samples of sales orders purportedly relayed to her by clients. However, these documents do not show whether the instructions or orders faxed ripened into concluded or collected sales in Germany. At the very least, these pieces of evidence show that while respondent was in Germany, she sent instructions/orders to JUBANITEX. As to whether these instructions/orders gave rise to consummated sales and whether these sales were truly concluded in Germany, respondent presented no such evidence. Neither did she establish reasonable connection between the orders/instructions faxed and the reported monthly sales purported to have transpired in Germany.

 

The paucity of respondent's evidence was even noted by Atty. Minerva Pacheco, petitioner's counsel at the hearing before the Court of Tax Appeals. She pointed out that respondent presented no contracts or orders signed by the customers in Germany to prove the sale transactions therein. 26 Likewise, in her Comment to the Formal Offer of respondent's evidence, she objected to the admission of the faxed documents bearing instruction/orders marked as Exhibits "R," 27 "V," "W", and "X," 28 for being self serving. 29 The concern raised by petitioner's counsel as to the absence of substantial evidence that would constitute proof that the sale transactions for which respondent was paid commission actually transpired outside the Philippines, is relevant because respondent stayed in the Philippines for 89 days in 1995. Except for the months of July and September 1995, respondent was in the Philippines in the months of March, May, June, and August 1995, 30 the same months when she earned commission income for services allegedly performed abroad. Furthermore, respondent presented no evidence to prove that JUBANITEX does not sell embroidered products in the Philippines and that her appointment as commission agent is exclusively for Germany and other European markets.

In sum, we find that the faxed documents presented by respondent did not constitute substantial evidence, or that relevant evidence that a reasonable mind might accept as adequate to support the conclusion 31 that it was in Germany where she performed the income producing service which gave rise to the reported monthly sales in the months of March and May to September of 1995. She thus failed to discharge the burden of proving that her income was from sources outside the Philippines and exempt from the application of our income tax law. Hence, the claim for tax refund should be denied.

The Court notes that in Commissioner of Internal Revenue v. Baier-Nickel, 32 a previous case for refund of income withheld from respondent's remunerations for services rendered abroad, the Court in a Minute Resolution dated February 17, 2003, 33 sustained the ruling of the Court of Appeals that respondent is entitled to refund the sum withheld from her sales commission income for the year 1994. This ruling has no bearing in the instant controversy because the subject matter thereof is the income of respondent for the year 1994 while, the instant case deals with her income in 1995. Otherwise, stated, res judicata has no application here. Its elements are: (1) there must be a final judgment or order; (2) the court that rendered the judgment must have jurisdiction over the subject matter and the parties; (3) it must be a judgment on the merits; (4) there must be between the two cases identity of parties, of subject matter, and of causes of action. 34 The instant case, however, did not satisfy the fourth requisite because there is no identity as to the subject matter of the previous and present case of respondent which deals with income earned and activities performed for different taxable years.

WHEREFORE, the petition is GRANTED and the January 18, 2002 Decision and May 8, 2002 Resolution of the Court of Appeals in CA-G.R. SP No. 59794, are REVERSED and SET ASIDE. The June 28, 2000 Decision of the Court of Tax Appeals in C.T.A. Case No. 5633, which denied respondent's claim for refund of income tax paid for the year 1995 is REINSTATED. IAEcCa

SO ORDERED.

||

FIRST DIVISION

[G.R. No. 137377. December 18, 2001.]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. MARUBENI CORPORATION, respondent.

PUNO, J p:

In this petition for review, the Commissioner of Internal Revenue assails the decision dated January 15, 1999 of the Court of Appeals in CA-G.R. SP No. 42518 which affirmed the decision dated July 29, 1996 of the Court of Tax Appeals in CTA Case No. 4109. The tax court ordered the Commissioner of Internal Revenue to desist from collecting the 1985 deficiency income, branch profit remittance and contractor's taxes from Marubeni Corporation after finding the latter to have properly availed of the tax amnesty under Executive Orders Nos. 41 and 64, as amended.

Respondent Marubeni Corporation is a foreign corporation organized and existing under the laws of Japan. It is engaged in general import and export trading, financing and the construction business. It is duly registered to engage in such business in the Philippines and maintains a branch office in Manila.

Sometime in November 1985, petitioner Commissioner of Internal Revenue issued a letter of authority to examine the books of accounts of the Manila branch office of respondent corporation for the fiscal year ending March 1985. In the course of the examination, petitioner found respondent to have undeclared income from two (2) contracts in the Philippines, both of which were completed in 1984. One of the contracts was with the National Development Company (NDC) in connection with the construction and installation of a wharf/port complex at the Leyte Industrial Development Estate in the municipality of Isabel, province of Leyte. The other contract was with the Philippine Phosphate Fertilizer Corporation (Philphos) for the construction of an ammonia storage complex also at the Leyte Industrial Development Estate.

On March 1, 1986, petitioner's revenue examiners recommended an assessment for deficiency income, branch profit remittance, contractor's and commercial broker's taxes. Respondent questioned this assessment in a letter dated June 5, 1986.

On August 27, 1986, respondent corporation received a letter dated August 15, 1986 from petitioner assessing respondent several deficiency taxes. The assessed deficiency internal revenue taxes, inclusive of surcharge and interest, were as follows: HAIDcE

I.DEFICIENCY INCOME TAXFY ended March 31, 1985

Undeclared gross income (Philphosand NDC construction projects)P967,269,811.14Less: Cost and expenses (50%)483,634,905.57———————Net undeclared income483,634,905.57Income tax due thereon169,272,217.00Add:50% surcharge84,636,108.5020% int. p.a.fr. 7-15-85to 8-15-8636,675,646.90———————TOTAL AMOUNT DUEP290,583,972.40 ============II.DEFICIENCY BRANCH PROFIT REMITTANCE TAX

FY ended March 31, 1985Undeclared gross income fromPhilphos and NDC construction projectsP483,634,905.57Less: Income tax thereon169,272,217.00———————Amount subject to Tax314,362,688.57———————Tax due thereon47,154,403.00Add:50% surcharge23,577,201.5020% int. p.a. fr. 4-26-85

to 8-15-8612,305,360.66———————TOTAL AMOUNT DUEP83,036,965.16============III.DEFICIENCY CONTRACTOR'S TAX

FY ended March 31, 1985Undeclared gross receipts/gross income fromPhilphos and NDC construction projectsP967,269,811.14———————Contractor's tax due thereon (4%)38,690,792.00Add:50% surcharge for non-declaration19,345,396.0020% surcharge for late payment9,672,698.00———————Sub-total67,708,886.00Add:20% int. p.a. fr. 4-21-85to 8-15-8617,854,739.46———————TOTAL AMOUNT DUEP85,563,625.46============IV.DEFICIENCY COMMERCIAL BROKER'S TAX

FY ended March 31, 1985Undeclared share from commission income(denominated as "subsidy from HomeOffice")P24,683,114.50———————Tax due thereon1,628,569.00Add:50% surcharge for non-declaration814,284.5020% surcharge for late payment407,142.25———————Sub-total2,849,995.75Add:20% int. p.a. fr. 4-21-85to 8-15-86751,539.98———————TOTAL AMOUNT DUEP3,600,535.68============

The 50% surcharge was imposed for your client's failure to report for tax purposes the aforesaid taxable revenues while the 25% surcharge was imposed because of your client's failure to pay on time the above deficiency percentage taxes.

xxx xxx xxx." 1Petitioner found that the NDC and Philphos contracts were made on a "turn-key" basis and that the gross income from the two projects amounted to P967,269,811.14. Each contract was for a piece of work and since the projects called for the construction and installation of facilities in the Philippines, the entire income therefrom constituted income from Philippine sources, hence, subject to internal revenue taxes. The assessment letter further stated that the same was petitioner's final decision and that if respondent disagreed with it, respondent may file an appeal with the Court of Tax Appeals within thirty (30) days from receipt of the assessment.

On September 26, 1986, respondent filed two (2) petitions for review with the Court of Tax Appeals. The first petition, CTA Case No. 4109, questioned the deficiency income, branch profit remittance and contractor's tax assessments in petitioner's assessment letter. The second, CTA Case No. 4110, questioned the deficiency commercial broker's assessment in the same letter. SAcCIH

Earlier, on August 2, 1986, Executive Order (E.O.) No. 41 2 declaring a one-time amnesty covering unpaid income taxes for the years 1981 to 1985 was issued. Under this E.O., a taxpayer who wished to avail of the income tax amnesty should, on or before October 31, 1986: (a) file a sworn statement declaring his net worth as of December 31, 1985; (b) file a certified true copy of his statement declaring his net worth as of December 31, 1980 on record with the Bureau of Internal Revenue (BIR), or if no such record exists, file a statement of said net worth subject to verification by the BIR; and (c) file a return and pay a tax equivalent to ten per cent (10%) of the increase in net worth from December 31, 1980 to December 31, 1985.

In accordance with the terms of E.O. No. 41, respondent filed its tax amnesty return dated October 30, 1986 and attached thereto its sworn statement of assets and liabilities and net worth as of Fiscal Year (FY) 1981 and FY 1986. The return was received by the BIR on November 3, 1986

and respondent paid the amount of P2,891,273.00 equivalent to ten percent (10%) of its net worth increase between 1981 and 1986.

The period of the amnesty in E.O. No. 41 was later extended from October 31, 1986 to December 5, 1986 by E.O. No. 54 dated November 4, 1986.

On November 17, 1986, the scope and coverage of E.O. No. 41 was expanded by Executive Order (E.O.) No. 64. In addition to the income tax amnesty granted by E.O. No. 41 for the years 1981 to 1985, E.O. No. 64 3 included estate and donor's taxes under Title III and the tax on business under Chapter II, Title V of the National Internal Revenue Code, also covering the years 1981 to 1985. E.O. No. 64 further provided that the immunities and privileges under E.O. No. 41 were extended to the foregoing tax liabilities, and the period within which the taxpayer could avail of the amnesty was extended to December 15, 1986. Those taxpayers who already filed their amnesty return under E.O. No. 41, as amended, could avail themselves of the benefits, immunities and privileges under the new E.O. by filing an amended return and paying an additional 5% on the increase in net worth to cover business, estate and donor's tax liabilities.

The period of amnesty under E.O. No. 64 was extended to January 31, 1987 by E.O No. 95 dated December 17, 1986.

On December 15, 1986, respondent filed a supplemental tax amnesty return under the benefit of E.O. No. 64 and paid a further amount of P1,445,637.00 to the BIR equivalent to five percent (5%) of the increase of its net worth between 1981 and 1986.

On July 29, 1996, almost ten (10) years after filing of the case, the Court of Tax Appeals rendered a decision in CTA Case No. 4109. The tax court found that respondent had properly availed of the tax amnesty under E.O. Nos. 41 and 64 and declared the deficiency taxes subject of said case as deemed cancelled and withdrawn. The Court of Tax Appeals disposed of as follows:

"WHEREFORE, the respondent Commissioner of Internal Revenue is hereby ORDERED to DESIST from collecting the 1985 deficiency taxes it had assessed against petitioner and the same are deemed considered [sic] CANCELLED and WITHDRAWN by reason of the proper availment by petitioner of the amnesty under Executive Order No. 41, as amended." 4

Petitioner challenged the decision of the tax court by filing CA-G.R. SP No. 42518 with the Court of Appeals.

On January 15, 1999, the Court of Appeals dismissed the petition and affirmed the decision of the Court of Tax Appeals. Hence, this recourse.

Before us, petitioner raises the following issues:

"(1)Whether or not the Court of Appeals erred in affirming the Decision of the Court of Tax Appeals which ruled that herein respondent's deficiency tax liabilities were extinguished upon respondent's availment of tax amnesty under Executive Orders Nos. 41 and 64.

(2)Whether or not respondent is liable to pay the income, branch profit remittance, and contractor's taxes assessed by petitioner." 5

The main controversy in this case lies in the interpretation of the exception to the amnesty coverage of E.O. Nos. 41 and 64. There are three (3) types of taxes involved herein — income tax, branch profit remittance tax and contractor's tax. These taxes are covered by the amnesties granted by E.O. Nos. 41 and 64. Petitioner claims, however, that respondent is disqualified from availing of the said amnesties because the latter falls under the exception in Section 4 (b) of E.O. No. 41.

Section 4 of E.O. No. 41 enumerates which taxpayers cannot avail of the amnesty granted thereunder, viz:

"Sec. 4.Exceptions. — The following taxpayers may not avail themselves of the amnesty herein granted:

a)Those falling under the provisions of Executive Order Nos. 1, 2 and 14;

b)Those with income tax cases already filed in Court as of the effectivity hereof;

c)Those with criminal cases involving violations of the income tax law already filed in court as of the effectivity hereof;

d)Those that have withholding tax liabilities under the National Internal Revenue Code, as amended, insofar as the said liabilities are concerned;

e)Those with tax cases pending investigation by the Bureau of Internal Revenue as of the effectivity hereof as a result of information furnished under Section 316 of the National Internal Revenue Code, as amended;

f)Those with pending cases involving unexplained or unlawfully acquired wealth before the Sandiganbayan;

g)Those liable under Title Seven, Chapter Three (Frauds, Illegal Exactions and Transactions) and Chapter Four (Malversation of Public Funds and Property) of the Revised Penal Code, as amended."

Petitioner argues that at the time respondent filed for income tax amnesty on October 30, 1986, CTA Case No. 4109 had already been filed and was pending; before the Court of Tax Appeals. Respondent therefore fell under the exception in Section 4 (b) of E.O. No. 41.

Petitioner's claim cannot be sustained. Section 4 (b) of E.O. No. 41 is very clear and unambiguous. It excepts from income tax amnesty those taxpayers "with income tax cases already filed in court as of the effectivity hereof." The point of reference is the date of effectivity of E.O. No. 41. The filing of income tax cases in court must have been made before and as of the date of effectivity of E.O. No. 41. Thus, for a taxpayer not to be disqualified under Section 4 (b) there must have been no income tax cases filed in court against him when E.O. No. 41 took effect. This is regardless of when the taxpayer filed for income tax amnesty, provided of course he files it on or before the deadline for filing.

E.O. No. 41 took effect on August 22, 1986. CTA Case No. 4109 questioning the 1985 deficiency income, branch profit remittance and contractor's tax assessments was filed by respondent with the Court of Tax Appeals on September 26, 1986. When E.O. No. 41 became effective on August 22, 1986, CTA Case No. 4109 had not yet been filed in court. Respondent corporation did not fall under the said exception in Section 4 (b), hence, respondent was not disqualified from availing of the amnesty for income tax under E.O. No. 41.

The same ruling also applies to the deficiency branch profit remittance tax assessment. A branch profit remittance tax is defined and imposed in Section 24 (b) (2) (ii), Title II, Chapter III of the National Internal Revenue Code. 6 In the tax code, this tax falls under Title II on Income Tax. It is a tax on income. Respondent therefore did not fall under the exception in Section 4 (b) when it filed for amnesty of its deficiency branch profit remittance tax assessment.

 

The difficulty herein is with respect to the contractor's tax assessment and respondent's availment of the amnesty under E.O. No. 64. E.O. No. 64 expanded the coverage of E.O. No. 41 by including estate and donor's taxes and tax on business. Estate and donor's taxes fall under Title III of the Tax Code while business taxes fall under Chapter II, Title V of the same. The contractor's tax is provided in Section 205, Chapter II, Title V of

the Tax Code; it is defined and imposed under the title on business taxes, and is therefore a tax on business. 7

When E.O. No. 64 took effect on November 17, 1986, it did not provide for exceptions to the coverage of the amnesty for business, estate and donor's taxes. Instead, Section 8 of E.O. No. 64 provided that:

"Section 8.The provisions of Executive Orders Nos. 41 and 54 which are not contrary to or inconsistent with this amendatory Executive Order shall remain in full force and effect."

By virtue of Section 8 as afore-quoted, the provisions of E.O. No. 41 not contrary to or inconsistent with the amendatory act were reenacted in E.O. No. 64. Thus, Section 4 of E.O. No. 41 on the exceptions to amnesty coverage also applied to E.O. No. 64. With respect to Section 4 (b) in particular, this provision excepts from tax amnesty coverage a taxpayer who has "income tax cases already filed in court as of the effectivity hereof." As to what Executive Order the exception refers to, respondent argues that because of the words "income" and "hereof," they refer to Executive Order No. 41. 8

In view of the amendment introduced by E.O. No. 64, Section 4 (b) cannot be construed to refer to E.O. No. 41 and its date of effectivity. The general rule is that an amendatory act operates prospectively. 9While an amendment is generally construed as becoming a part of the original act as if it had always been contained therein, 10 it may not be given a retroactive effect unless it is so provided expressly or by necessary implication and no vested right or obligations of contract are thereby impaired. 11

There is nothing in E.O. No. 64 that provides that it should retroact to the date of effectivity of E.O. No. 41, the original issuance. Neither is it necessarily implied from E.O. No. 64 that it or any of its provisions should apply retroactively. Executive Order No. 64 is a substantive amendment of E.O. No. 41. It does not merely change provisions in E.O. No. 41. It supplements the original act by adding other taxes not covered in the first. 12 It has been held that where a statute amending a tax law is silent as to whether it operates retroactively, the amendment will not be given a retroactive effect so as to subject to tax past transactions not subject to tax under the original act. 13 In an amendatory act, every case of doubt must be resolved against its retroactive effect. 14

Moreover, E.O. Nos. 41 and 64 are tax amnesty issuances. A tax amnesty is a general pardon or intentional overlooking by the State of its authority to impose penalties on persons otherwise guilty of evasion or violation of a revenue or tax law. 15It partakes of an absolute forgiveness or waiver by the government of its right to collect what is due it and to give tax evaders who wish to relent a chance to start with a clean slate. 16A tax amnesty, much like a tax exemption, is never favored nor presumed in law. 17If granted, the terms of the amnesty, like that of a tax exemption, must be construed strictly against the taxpayer and liberally in favor of the taxing authority. 18For the right of taxation is inherent in government. The State cannot strip itself of the most essential power of taxation by doubtful words. He who claims an exemption (or an amnesty) from the common burden must justify his claim by the clearest grant of organic or state law. It cannot be allowed to exist upon a vague implication. If a doubt arises as to the intent of the legislature, that doubt must be resolved in favor of the state. 19

In the instant case, the vagueness in Section 4 (b) brought about by E.O. No. 64 should therefore be construed strictly against the taxpayer. The term "income tax cases" should be read as to refer to estate and donor's taxes and taxes on business while the word "hereof," to E.O. No. 64. Since Executive Order No. 64 took effect on November 17, 1986, consequently, insofar as the taxes in E.O. No. 64 are concerned, the date of effectivity referred to in Section 4 (b) of E.O. No. 41 should be November 17, 1986. HEISca

Respondent filed CTA Case No. 4109 on September 26, 1986. When E.O. No. 64 took effect on November 17, 1986, CTA Case No. 4109 was already filed and pending in court. By the time respondent filed its supplementary tax amnesty return on December 15, 1986, respondent already fell under the exception in Section 4 (b) of E.O. Nos. 41 and 64 and was disqualified from availing of the business tax amnesty granted therein.

It is respondent's other argument that assuming it did not validly avail of the amnesty under the two Executive Orders, it is still not liable for the deficiency contractor's tax because the income from the projects came

from the "Offshore Portion" of the contracts. The two contracts were divided into two parts, i.e., the Onshore Portion and the Offshore Portion. All materials and equipment in the contract under the "Offshore Portion" were manufactured and completed in Japan, not in the Philippines, and are therefore not subject to Philippine taxes.

Before going into respondent's arguments, it is necessary to discuss the background of the two contracts, examine their pertinent provisions and implementation.

The NDC and Philphos are two government corporations. In 1980, the NDC, as the corporate investment arm of the Philippine Government, established the Philphos to engage in the large-scale manufacture of phosphatic fertilizer for the local and foreign markets. 20The Philphos plant complex which was envisioned to be the largest phosphatic fertilizer operation in Asia, and among the largest in the world, covered an area of 180 hectares within the 435-hectare Leyte Industrial Development Estate in the municipality of Isabel, province of Leyte.

In 1982, the NDC opened for public bidding a project to construct and install a modern, reliable, efficient and integrated wharf/port complex at the Leyte Industrial Development Estate. The wharf/port complex was intended to be one of the major facilities for the industrial plants at the Leyte Industrial Development Estate. It was to be specifically adapted to the site for the handling of phosphate rock, bagged or bulk fertilizer products, liquid materials and other products of Philphos, the Philippine Associated Smelting and Refining Corporation (Pasar), 21 and other industrial plants within the Estate. The bidding was participated in by Marubeni Head Office in Japan.

Marubeni, Japan pre-qualified and on March 22, 1982, the NDC and respondent entered into an agreement entitled "Turn-Key Contract for Leyte Industrial Estate Port Development Project Between National Development Company and Marubeni Corporation." 22The Port Development Project would consist of a wharf, berths, causeways, mechanical and liquids unloading and loading systems, fuel oil depot, utilities systems, storage and service buildings, offsite facilities, harbor service vessels, navigational aid system, fire-fighting system, area lighting, mobile equipment, spare parts and other related facilities. 23The scope of the works under the contract covered turn-key supply, which included grants of licenses and the transfer of technology and know-how, 24and:

". . . the design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning of the Wharf-Port Complex as set forth in Annex I of this Contract, as well as the coordination of tie-ins at boundaries and schedule of the use of a part or the whole of the Wharf/Port Complex through the Owner, with the design and construction of other facilities around the site. The scope of works shall also include any activity, work and supply necessary for, incidental to or appropriate under present international industrial port practice, for the timely and successful implementation of the object of this Contract, whether or not expressly referred to in the abovementioned Annex I." 25

The contract price for the wharf/port complex was ¥12,790,389,000.00 and P44,327,940.00. In the contract, the price in Japanese currency was broken down into two portions: (1) the Japanese Yen Portion I; (2) the Japanese Yen Portion II, while the price in Philippine currency was referred to as the Philippine Pesos Portion. The Japanese Yen Portions I and II were financed in two (2) ways: (a) by yen credit loan provided by the Overseas Economic Cooperation Fund (OECF); and (b) by supplier's credit in favor of Marubeni from the Export-Import Bank of Japan. The OECF is a Fund under the Ministry of Finance of Japan extended by the Japanese government as assistance to foreign governments to promote economic development. 26 The OECF extended to the Philippine Government a loan of ¥7,560,000,000.00 for the Leyte Industrial Estate Port Development Project and authorized the NDC to implement the same. 27 The other type of financing is an indirect type where the supplier, i.e., Marubeni, obtained a loan from the Export-Import Bank of Japan to advance payment to its sub-contractors. 28

Under the financing schemes, the Japanese Yen Portions I and II and the Philippine Pesos Portion were further broken down and subdivided according to the materials, equipment and services rendered on the project. The price breakdown and the corresponding materials, equipment

and services were contained in a list attached as Annex III to the contract. 29

 

A few months after execution of the NDC contract, Philphos opened for public bidding a project to construct and install two ammonia storage tanks in Isabel. Like the NDC contract, it was Marubeni Head Office in Japan that participated in and won the bidding. Thus, on May 2, 1982, Philphos and respondent corporation entered into an agreement entitled "Turn-Key Contract for Ammonia Storage Complex Between Philippine Phosphate Fertilizer Corporation and Marubeni Corporation." 30The object of the contract was to establish and place in operating condition a modern, reliable, efficient and integrated ammonia storage complex adapted to the site for the receipt and storage of liquid anhydrous ammonia 31and for the delivery of ammonia to an integrated fertilizer plant adjacent to the storage complex and to vessels at the dock. 32The storage complex was to consist of ammonia storage tanks, refrigeration system, ship unloading system, transfer pumps, ammonia heating system, fire-fighting system, area lighting, spare parts, and other related facilities. 33 The scope of the works required for the completion of the ammonia storage complex covered the supply, including grants of licenses and transfer of technology and know-how, 34and:

". . . the design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning of the Ammonia Storage Complex as set forth in Annex I of this Contract, as well as the coordination of tie-ins at boundaries and schedule of the use of a part or the whole of the Ammonia Storage Complex through the Owner with the design and construction of other facilities at and around the Site. The scope of works shall also include any activity, work and supply necessary for, incidental to or appropriate under present international industrial practice, for the timely and successful implementation of the object of this Contract, whether or not expressly referred to in the abovementioned Annex I." 35

The contract price for the project was ¥3,255,751,000.00 and P17,406,000.00. Like the NDC contract, the price was divided into three portions. The price in Japanese currency was broken down into the Japanese Yen Portion I and Japanese Yen Portion II while the price in Philippine currency was classified as the Philippine Pesos Portion. Both Japanese Yen Portions I and II were financed by supplier's credit from the Export-Import Bank of Japan. The price stated in the three portions were further broken down into the corresponding materials, equipment and services required for the project and their individual prices. Like the NDC contract, the breakdown in the Philphos contract is contained in a list attached to the latter as Annex III. 36

The division of the price into Japanese Yen Portions I and II and the Philippine Pesos Portion under the two contracts corresponds to the two parts into which the contracts were classified — the Foreign Offshore Portion and the Philippine Onshore Portion. In both contracts, the Japanese Yen Portion I corresponds to the Foreign Offshore Portion. 37Japanese Yen Portion II and the Philippine Pesos Portion correspond to the Philippine Onshore Portion. 38

Under the Philippine Onshore Portion, respondent does not deny its liability for the contractor's tax on the income from the two projects. In fact respondent claims, which petitioner has not denied, that the income it derived from the Onshore Portion of the two projects had been declared for tax purposes and the taxes thereon already paid to the Philippine government. 39 It is with regard to the gross receipts from the Foreign Offshore Portion of the two contracts that the liabilities involved in the assessments subject of this case arose. Petitioner argues that since the two agreements are turn-key, 40 they call for the supply of both materials and services to the client, they are contracts for a piece of work and are indivisible. The situs of the two projects is in the Philippines, and the materials provided and services rendered were all done and completed within the territorial jurisdiction of the Philippines. 41 Accordingly, respondent's entire receipts from the contracts, including its receipts from the Offshore Portion, constitute income from Philippine sources. The total gross receipts covering both labor and materials should be subjected to contractor's tax in accordance with the ruling in Commissioner of Internal Revenue v. Engineering Equipment & Supply Co. 42

A contractor's tax is imposed in the National Internal Revenue Code (NIRC) as follows:

"Sec. 205.Contractors, proprietors or operators of dockyards, and others. —A contractor's tax of four percent of the gross receipts is hereby imposed on proprietors or operators of the following business establishments and/or persons engaged in the business of selling or rendering the following services for a fee or compensation:

(a)General engineering, general building and specialty contractors, as defined in Republic Act No. 4566;

xxx xxx xxx

(q)Other independent contractors. The term "independent contractors" includes persons (juridical or natural) not enumerated above (but not including individuals subject to the occupation tax under the Local Tax Code) whose activity consists essentially of the sale of all kinds of services for a fee regardless of whether or not the performance of the service calls for the exercise or use of the physical or mental faculties of such contractors or their employees. It does not include regional or area headquarters established in the Philippines by multinational corporations, including their alien executives, and which headquarters do not earn or derive income from the Philippines and which act as supervisory, communications and coordinating centers for their affiliates, subsidiaries or branches in the Asia-Pacific Region.

xxx xxx xxx." 43

Under the afore-quoted provision, an independent contractor is a person whose activity consists essentially of the sale of all kinds of services for a fee, regardless of whether or not the performance of the service calls for the exercise or use of the physical or mental faculties of such contractors or their employees. The word "contractor" refers to a person who, in the pursuit of independent business, undertakes to do a specific job or piece of work for other persons, using his own means and methods without submitting himself to control as to the petty details. 44

A contractor's tax is a tax imposed upon the privilege of engaging in business. 45It is generally in the nature of an excise tax on the exercise of a privilege of selling services or labor rather than a sale on products; 46 and is directly collectible from the person exercising the privilege. 47Being an excise tax, it can be levied by the taxing authority only when the acts, privileges or business are done or performed within the jurisdiction of said authority. 48Like property taxes, it cannot be imposed on an occupation or privilege outside the taxing district. 49

In the case at bar, it is undisputed that respondent was an independent contractor under the terms of the two subject contracts. Respondent, however, argues that the work therein were not all performed in the Philippines because some of them were completed in Japan in accordance with the provisions of the contracts.

An examination of Annex III to the two contracts reveals that the materials and equipment to be made and the works and services to be performed by respondent are indeed classified into two. The first part, entitled "Breakdown of Japanese Yen Portion I" provides: CSEHcT

"Japanese Yen Portion I of the Contract Price has been subdivided according to discrete portions of materials and equipment which will be shipped to

Leyte as units and lots. This subdivision of price is to be used by owner to verify invoice for Progress Payments under Article 19.2.1 of the Contract. The agreed subdivision of Japanese Yen Portion I is as follows:

xxx xxx xxx." 50

The subdivision of Japanese Yen Portion I covers materials and equipment while Japanese Yen Portion II and the Philippine Pesos Portion enumerate other materials and equipment and the construction and installation work on the project. In other words, the supplies for the project are listed under Portion I while labor and other supplies are listed under Portion II and the Philippine Pesos Portion. Mr. Takeshi Hojo, then General Manager of the Industrial Plant Section II of the Industrial Plant Department of Marubeni Corporation in Japan who supervised the implementation of the two projects, testified that all the machines and equipment listed under Japanese Yen Portion I in Annex III were manufactured in Japan. 51The machines and equipment were designed, engineered and fabricated by Japanese firms sub-contracted by Marubeni from the list of sub-contractors in the technical appendices to each contract. 52 Marubeni sub-contracted a majority of the equipment and supplies to Kawasaki Steel Corporation which did the design, fabrication, engineering and manufacture thereof; 53 Yashima & Co. Ltd. which manufactured the mobile equipment; Bridgestone which provided the rubber fenders of the mobile equipment; 54and B.S. Japan for the supply of radio equipment. 55The engineering and design works made by Kawasaki Steel Corporation included the lay-out of the plant facility and calculation of the design in accordance with the specifications given by respondent. 56 All sub-contractors and manufacturers are Japanese corporations and are based in Japan and all engineering and design works were performed in that country. 57 

The materials and equipment under Portion I of the NDC Port Project is primarily composed of two (2) sets of ship unloader and loader; several boats and mobile equipment. 58The ship unloader unloads bags or bulk products from the ship to the port while the ship loader loads products from the port to the ship. The unloader and loader are big steel structures on top of each is a large crane and a compartment for operation of the crane. Two sets of these equipment were completely manufactured in Japan according to the specifications of the project. After manufacture, they were rolled on to a barge and transported to Isabel, Leyte. 59Upon reaching Isabel, the unloader and loader were rolled off the barge and pulled to the pier to the spot where they were installed. 60Their installation simply consisted of bolting them onto the pier. 61

Like the ship unloader and loader, the three tugboats and a line boat were completely manufactured in Japan. The boats sailed to Isabel on their own power. The mobile equipment, consisting of three to four sets of tractors, cranes and dozers, trailers and forklifts, were also manufactured and completed in Japan. They were loaded on to a shipping vessel and unloaded at the Isabel Port. These pieces of equipment were all on wheels and self-propelled. Once unloaded at the port, they were ready to be driven and perform what they were designed to do. 62

In addition to the foregoing, there are other items listed in Japanese Yen Portion I in Annex III to the NDC contract. These other items consist of supplies and materials for five (5) berths, two (2) roads, a causeway, a warehouse, a transit shed, an administration building and a security building. Most of the materials consist of steel sheets, steel pipes, channels and beams and other steel structures, navigational and communication as well as electrical equipment. 63

In connection with the Philphos contract, the major pieces of equipment supplied by respondent were the ammonia storage tanks and refrigeration units. 64The steel plates for the tank were manufactured and cut in Japan according to drawings and specifications and then shipped to Isabel. Once there, respondent's employees put the steel plates together to form the storage tank. As to the refrigeration units, they were completed and assembled in Japan and thereafter shipped to Isabel. The units were simply installed there. 65Annex III to the Philphos contract lists down under the Japanese Yen Portion I the materials for the ammonia storage tank, incidental equipment, piping facilities, electrical and instrumental apparatus, foundation material and spare parts.

All the materials and equipment transported to the Philippines were inspected and tested in Japan prior to shipment in accordance with the

terms of the contracts. 66The inspection was made by representatives of respondent corporation, of NDC and Philphos. NDC, in fact, contracted the services of a private consultancy firm to verify the correctness of the tests on the machines and equipment 67 while Philphos sent a representative to Japan to inspect the storage equipment. 68

The sub-contractors of the materials and equipment under Japanese Yen Portion I were all paid by respondent in Japan. In his deposition upon oral examination, Kenjiro Yamakawa, formerly the Assistant General Manager and Manager of the Steel Plant Marketing Department, Engineering & Construction Division, Kawasaki Steel Corporation, testified that the equipment and supplies for the two projects provided by Kawasaki under Japanese Yen Portion I were paid by Marubeni in Japan. Receipts for such payments were duly issued by Kawasaki in Japanese and English. 69Yashima & Co. Ltd. and B.S. Japan were likewise paid by Marubeni in Japan. 70

Between Marubeni and the two Philippine corporations, payments for all materials and equipment under Japanese Yen Portion I were made to Marubeni by NDC and Philphos also in Japan. The NDC, through the Philippine National Bank, established letters of credit in favor of respondent through the Bank of Tokyo. The letters of credit were financed by letters of commitment issued by the OECF with the Bank of Tokyo. The Bank of Tokyo, upon respondent's submission of pertinent documents, released the amount in the letters of credit in favor of respondent and credited the amount therein to respondent's account within the same bank. 71

Clearly, the service of "design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning, coordination. . . " 72of the two projects involved two taxing jurisdictions. These acts occurred in two countries — Japan and the Philippines. While the construction and installation work were completed within the Philippines, the evidence is clear that some pieces of equipment and supplies were completely designed and engineered in Japan. The two sets of ship unloader and loader, the boats and mobile equipment for the NDC project and the ammonia storage tanks and refrigeration units were made and completed in Japan. They were already finished products when shipped to the Philippines. The other construction supplies listed under the Offshore Portion such as the steel sheets, pipes and structures, electrical and instrumental apparatus, these were not finished products when shipped to the Philippines. They, however, were likewise fabricated and manufactured by the sub-contractors in Japan. All services for the design, fabrication, engineering and manufacture of the materials and equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered outside the taxing jurisdiction of the Philippines and are therefore not subject to contractor's tax. cHEATI

Contrary to petitioner's claim, the case of Commissioner of Internal Revenue v. Engineering Equipment & Supply Co73is not in point. In that case, the Court found that Engineering Equipment, although an independent contractor, was not engaged in the manufacture of air conditioning units in the Philippines. Engineering Equipment designed, supplied and installed centralized air-conditioning systems for clients who contracted its services. Engineering, however, did not manufacture all the materials for the air-conditioning system. It imported some items for the system it designed and installed. 74 The issues in that case dealt with services performed within the local taxing jurisdiction. There was no foreign element involved in the supply of materials and services.

With the foregoing discussion, it is unnecessary to discuss the other issues raised by the parties.

IN VIEW WHEREOF, the petition is denied. The decision in CA-G.R. SP No. 42518 is affirmed.

SO ORDERED.

||| (Commr. v. Marubeni Corp., G.R. No. 137377, December 18, 2001)

FIRST DIVISION

[G.R. No. L-24248. July 31, 1974.]

ANTONIO TUASON, JR., petitioner, vs. JOSE B. LINGAD, as Commissioner of Internal Revenue, respondent.

Araneta, Mendoza & Papa for petitioner.

Solicitor General Arturo A. Alafriz, Assistant Solicitor General Felicisimo R. Rosete and Special Attorney Antonio H . Garces for respondent.

D E C I S I O N

CASTRO,J p:

In this petition for review of the decision of the Court of Tax Appeals in CTA Case 1398, the petitioner Antonio Tuason, Jr. (hereinafter referred to as the petitioner) assails the Tax Court's conclusion that the gains he realized from the sale of residential lots (inherited from his mother) were ordinary gains and not gains from the sale of capital assets under section 34(1) of the National Internal Revenue Code. cd

The essential facts are not in dispute.

In 1948 the petitioner inherited from his mother several tracts of land, among which were two contiguous parcels situated on Pureza and Sta. Mesa streets in Manila, with an area of 318 and 67,684 square meters, respectively.

When the petitioner's mother was yet alive she had these two parcels subdivided into twenty-nine lots. Twenty-eight were allocated to their then occupants who had lease contracts with the petitioner's predecessor at various times from 1900 to 1903, which contracts expired on December 31, 1953. The 29th lot (hereinafter referred to as Lot 29), with an area of 48,000 square meters, more or less, was not leased to any person. It needed filling because of its very low elevation, and was planted to kangkong and other crops.

After the petitioner took possession of the mentioned parcels in 1950, he instructed his attorney-in-fact, J. Antonio Araneta, to sell them.

There was no difficulty encountered in selling the 28 small lots as their respective occupants bought them on a 10-year installment basis. Lot 29 could not however be sold immediately due to its low elevation.

Sometime in 1952 the petitioner's attorney-in-fact had Lot 29 filled, then subdivided into small lots and paved with macadam roads. The small lots were then sold over the years on a uniform 10-year annual amortization basis. J. Antonio Araneta, the petitioner's attorney-in-fact, did not employ any broker nor did he put up advertisements in the matter of the sale thereof.

In 1953 and 1954 the petitioner reported his income from the sale of the small lots (P102,050.79 and P103,468.56, respectively) as long-term capital gains. On May 17, 1957 the Collector of Internal Revenue upheld the petitioner's treatment of his gains from the said sale of small lots, against a contrary ruling of a revenue examiner.

In his 1957 tax return the petitioner as before treated his income from the sale of the small lots (P119,072.18) as capital gains and included only 1/2 thereof as taxable income. In this return, the petitioner deducted the real estate dealer's tax he paid for 1957. It was explained, however, that the payment of the dealer's tax was on account of rentals received from the

mentioned 28 lots and other properties of the petitioner. On the basis of the 1957 opinion of the Collector of Internal Revenue, the revenue examiner approved the petitioner's treatment of his income from the sale of the lots in question. In a memorandum dated July 16, 1962 to the Commissioner of Internal Revenue, the chief of the BIR Assessment Department advanced the same opinion, which was concurred in by the Commissioner of Internal Revenue.

On January 9, 1963, however, the Commissioner reversed himself and considered the petitioner's profits from the sales of the mentioned lots as ordinary gains. On January 28, 1963 the petitioner received a letter from the Bureau of Internal Revenue advising him to pay deficiency income tax for 1957, as follows:

Net income per orig. investigationP211,095.36Add:56% of realized profit on saleof lots which was deducted in theincome tax return and allowed in the original report of examination59,539.09————Net income per final investigationP270,824.70Less:Personal exemption1,800.00Amount subject to tax 269,024.70————Tax due thereonP98,551.00Less: Amount already assessed72,199.00————BalanceP26,352.00Add:1/2% monthly interest from6-20-59 to 6-29-624,742.36————TOTAL AMOUNT DUE ANDCOLLECTIBLEP31,095.36=======

The petitioner's motion for reconsideration of the foregoing deficiency assessment was denied, and so he went up to the Court of Tax Appeals, which however rejected his posture in a decision dated January 16,1965, and ordered him, in addition, to pay a 5% surcharge and 1% monthly interest "pursuant to Sec. 51(e) of the Revenue Code."

Hence, the present petition.

The petitioner assails the correctness of the opinion below that as he was engaged in the business of leasing the lots he inherited from his mother as well other real properties, his subsequent sales of the mentioned lots cannot be recognized as sales of capital assets but of "real property used in trade or business of the taxpayer." The petitioner argues that (1) he is not the one who leased the lots in question; (2) the lots were residential, not commercial lots; and (3) the leases on the 28 small lob were to last until 1953, before which date he was powerless to eject the lessees therefrom.

The basic issue thus raised is whether the properties in question which the petitioner had inherited and subsequently sold in small lots to other persons should be regarded as capital assets.

1.The National Internal Revenue Code (C.A. 466, as amended) defines the term "capital assets" as follows:

"(1)Capital assets. — The term 'capital assets means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or property, used in the trade or business, of a character which is subject to the allowance for depreciation provided in subsection (f) of section thirty; or real property used in the trade or business of the taxpayer."

As thus defined by law, the term "capital assets" includes all the properties of a taxpayer whether or not connected with his trade or business, except: (1) stock in trade or other property included in the taxpayer's inventory; (2) property primarily for sale to customers in the ordinary course of his trade or business; (3) property used in the trade or business of the taxpayer and subject to depreciation allowance; and (4) real property used in trade or business. 1 If the taxpayer sells or exchanges any of the properties above-enumerated, any gain or loss relative thereto is an ordinary gain or an ordinary loss; the gain or loss from the sale or exchange of all other properties of the taxpayer is a capital gain or a capital loss. 2

Under section 34(b) (2) of the Tax Code, if a gain is realized by a taxpayer (other than a corporation) from the sale or exchange of capital assets held for more than twelve months, only 50% of the net capital gain shall be taken into account in computing the net income.

The Tax Code's provision on so-called long-term capital gains constitutes a statute of partial exemption. In view of the familiar and settled rule that tax exemptions are construed in strictissimi juris against the taxpayer and liberally in favor of the taxing authority, 3 the field of application of the term "capital assets" is necessarily narrow, while its exclusions must be interpreted broadly. 4 Consequently, it is the taxpayer's burden to bring himself clearly and squarely within the terms of a tax-exempting statutory provision, otherwise, all fair doubts will be resolved against him. 5 It bears emphasis nonetheless that in the determination of whether a piece of property is a capital asset or an ordinary asset, a careful examination and weighing of all circumstances revealed in each case must be made. 6

In the case at bar, after a thoroughgoing study of all the circumstances relevant to the resolution of the issue raised, this Court is of the view, and so holds, that the petitioner's thesis is bereft of merit.

When the petitioner obtained by inheritance the parcels in question, transferred to him was not merely the duty to respect the terms of any contract thereon, but as well the correlative right to receive and enjoy the fruits of the business and property which the decedent had established and maintained. 7 Moreover, the record discloses that the petitioner owned other real properties which he was putting out for rent, from which he periodically derived a substantial income, and for which he had to pay the real estate dealer's tax (which he used to deduct from his gross income). 8 In fact, as far back as 1957 the petitioner was receiving rental payments from the mentioned 28 small lots, even if the leases executed by his deceased mother thereon expired in 1953. Under the circumstances, the petitioner's sales of the several lots forming part of his rental business cannot be characterized as other than sales of non-capital assets.

The sales concluded on installment basis of the subdivided lots comprising Lot 29 do not deserve a different characterization for tax purposes. The following circumstances in combination show unequivocally that the petitioner was, at the time material to this case, engaged in the real estate business: (1) the parcels of land involved have in totality a substantially large area, nearly seven (7) hectares, big enough to be transformed into a subdivision, and in the case at bar, the said properties are located in the heart of Metropolitan Manila; (2) they were subdivided into small lots and then sold on installment basis (this manner of selling residential lots is one of the basic earmarks of a real estate business); (3) comparatively valuable improvements were introduced in the subdivided lots for the unmistakable purpose of not simply liquidating the estate but of making the lots more saleable to the general public; (4) the employment of J. Antonio Araneta, the petitioner's attorney-in-fact, for the purpose of developing, managing, administering and selling the lots in question indicates the existence of owner-realty broker relationship; (5) the sales were made with frequency and continuity, and from these the petitioner consequently received substantial income periodically; (6) the annual sales volume of the petitioner from the said lots was considerable, e.g., P102,050.79 in 1953; P103,468.56 in 1954; and P119,072.18 in 1957; and (7) the petitioner, by his own tax returns, was not a person who can be indubitably adjudged as a stranger to the real estate business. Under the circumstances, this Court finds no error in the holding below that the income of the petitioner from the sales of the lots in question should be considered as ordinary income.

 

2.This Court notes, however, that in ordering the petitioner to pay the deficiency income tax, the Tax Court also required him to pay a 5% surcharge plus 1% monthly interest. In our opinion this additional requirement should be eliminated because the petitioner relied in good

faith upon opinions rendered by no less than the highest officials of the Bureau of Internal Revenue, including the Commissioner himself. The following ruling in Connell Bros. Co. (Phil.) vs. Collector of Internal Revenue 9 applies with reason to the case at bar: cdt

"We do not think Section 183(a) of the National Internal Revenue Code is applicable. The same imposes the penalty of 25% when the percentage tax is not paid on time, and contemplates a case where the liability for the tax is undisputed or indisputable. In the present case the taxes were paid, the delay being with reference to the deficiency, owing to a controversy as to the proper interpretation if Circulars Nos. 431 and 440 of the office of respondent-appellee. The controversy was generated in good faith, since that office itself appears to have formerly taken the view that the inclusion of the words 'tax included' on invoices issued by the taxpayer was sufficient compliance with the requirements of said circulars." 10

ACCORDINGLY, the judgment of the Court of Tax Appeals is affirmed, except the portion thereof that imposes 5% surcharge and 1% monthly interest, which is hereby set aside. No costs. cdt

Makalintal, C . J ., Makasiar, Esguerra and Muñoz Palma, JJ ., concur.

||| (Tuason, Jr. v. Lingad, G.R. No. L-24248, July 31, 1974)

[G.R. No. L-21108. November 29, 1966.]REPUBLIC OF THE PHILIPPINES, plaintiff-appellant, vs. LEONOR DE LA RAMA, ET AL., respondents-appellees.

ZALDIVAR, J.:This is an appeal from the decision of the Court of First Instance of Manila, dated December 23, 1961, in its Civil Case No. 46494, dismissing the complaint of the Republic of the Philippines against the heirs of the late Esteban de la Rama for the collection of P56,032.50 as deficiency income tax, inclusive of 50% surcharge, for the year 1950.

The estate of the late Esteban de la Rama was the subject of Special Proceedings No. 401 of the Court of First Instance of Iloilo. The executor-administrator, Eliseo Hervas, filed on March 12, 1951, income tax returns of the estate corresponding to the taxable year 1950, declaring a net income of P22,796.59, on the basis of which the amount of P3,919.00 was assessed and was paid by the estate as income tax. The Bureau of Internal Revenue later claimed that it had found out that there had been received by the estate in 1950 from the De la Rama Steamship Company, Inc. cash dividends amounting to P86,800.00 which amount was not declared in the income tax return of the estate for the year 1950. The Bureau of Internal Revenue then, on March 7, 1956, made an assessment as deficiency income tax against the estate in the sum of P56,032.50, of which amount P37,355.00 was the deficiency and P18,677.60 was the 50% surcharge.

The Collector of Internal Revenue wrote a letter, dated February 29, 1956, to Mrs. Lourdes de la Rama-Osmeña informing her of the deficiency income tax and asking payment thereof. On March 13, 1956 the latter's counsel wrote to the Collector acknowledging receipt of the assessment, but contended that Lourdes de la Rama-Osmeña had no authority to represent the estate, and that the assessment should be sent to Leonor de la Rama who was pointed to by said counsel as the administratrix of the estate of her late father. On the basis of this information the Deputy Collector of Internal Revenue, on November 22, 1956, sent a letter to Leonor de la Rama as administratrix of the estate, asking payment. The tax, as assessed, not having been paid, the deputy Commissioner of Internal Revenue, on September 7, 1959, wrote another letter to Mrs. Lourdes de la Rama-Osmeña demanding, through her, upon the heirs, the payment of the deficiency income tax within the period of thirty days from receipt thereof. The counsel of Lourdes de la Rama-Osmeña, in a letter dated September 25, 1959, insisted that the letter should be sent to Leonor de la Rama. The Deputy Commissioner of Internal Revenue wrote to Leonor de la Rama another letter, dated February 11, 1960, demanding, through her as administratrix, upon the heirs of Esteban de la Rama, the payment of the sum of P56,032.50, as deficiency income tax including the 50% surcharge, to the City Treasurer of Pasay City within thirty days from receipt thereof.

The deficiency income tax not having been paid, the Republic of the Philippines filed on March 6, 1961 with the Court of First Instance of Manila a complaint against the heirs of Esteban de la Rama, seeking to collect from each heir his/her proportionate share in the income tax liability of the estate. An amended complaint dated August 31, 1961, was admitted by the court.

The defendants-appellees, Lourdes de la Rama-Osmeña, Leonor de la Rama, Estefania de la Rama-Pirovano, Dolores de la Rama-Lopez, Charles Miller, and Aniceta de la Rama-Sian, thru counsel, filed their respective answers, the gist of their allegations and/or defenses being (1) that no cash dividends of P86,800.00 had been paid to the estate; (2) that the administration of the estate had been extended by the probate court precisely for the purpose of collecting said dividends; (3) that Leonor de la Rama had never been administratrix of the estate; (4) that the executor of the estate, Eliseo Hervas, had never been given notice of the assessment, and consequently the assessment had never become final; and (5) that the collection of the alleged deficiency income tax had prescribed. Fausto F. Gonzales, Jr., one of the defendants, not having filed an answer, was declared in default.

From the evidence introduced at the trial, both oral and documentary, the lower court found that the dividends of P86,800.00 declared by the De la Rama Steamship Co. in favor of the late Esteban de la Rama was applied to the obligation of the estate to the company declaring the dividends; that Leonor de la Rama was not the administratrix of the estate, but it was the late Eliseo Hervas who was the executor-administrator; that the administration of the estate was extended for the purpose of recovering for the estate said dividends from the De la Rama Steamship Co., Inc.; and that the question of whether the deceased Esteban de la Rama was a debtor to the entity known as the Hijos de I. de la Rama, which was also indebted to the De la Rama Steamship Co., Inc., was not a settled one.

After trial, the lower court rendered its decision, dated December 23, 1961, dismissing the complaint. The Republic of the Philippines appealed from said decision to the Court of Appeals, but the appeal was later certified to this Court because only questions of law are involved.

Plaintiff-appellant contends that the trial court erred (1) in holding that there was no basis for the assessment upon the ground that it was not proved that the income in question was received by the estate of Esteban de la Rama or by his heirs; (2) in not holding that the income was constructively received by the estate of the late Esteban de la Rama; (3) in not holding that the heirs and legatees of the late Esteban de la Rama were liable for the payment of the deficiency income tax; (4) in not holding that the assessment involved in the case had long become final; (5) in not holding that the service of the notice of assessment on Lourdes de la Rama-Osmeña and Leonor de la Rama was proper and valid; and (6) in not holding that said court had no jurisdiction to take cognizance of appellees' defense that the assessment in question was erroneous.

Plaintiff-appellant argues that the deficiency income tax in this case was assessed in the sum of P86,800.00 representing cash dividends declared in 1950 by the De la Rama Steamship Co., Inc. in favor of the late Esteban de la Rama and was applied as payment of the latter's account with the former. The application of payment appears in the books of said creditor company as follows:

"Against accounts receivable due from Esteban de la Rama P25,255.24Against the account due from Hijos de I. de la Rama. Inc., of which Don Esteban de la Rama was the principal owner P61,544.76––––Total P86,800.00"

The plaintiff-appellant maintains that this crediting of accounts in the books of the company constituted a constructive receipt by the estate or the heirs of Esteban de la Rama of the dividends, and this dividend was an income of the estate and was, therefore, taxable.

 

It is not disputed that the dividends in question were not actually paid either to the estate, or to the heirs, of the late Esteban de la Rama. The question to be resolved is whether or not the said application of the dividends to the personal accounts of the deceased Esteban de la Rama constituted constructive payment to, and hence, constructively received by, the estate or the heirs. If the debts to which the dividends were applied really existed, and were legally demandable and chargeable against the deceased, there was constructive receipt of the dividends; if there were no such debts, then there was no constructive receipt.

The first debt, as above indicated, had been contested by the executor-administrator of the estate. It does not even appear that the De la Rama Steamship Co., Inc. had ever filed a claim against the estate in connection with that indebtedness. The existence and the validity of the debt is, therefore, in dispute, and there was no proof adduced to show the existence and validity of the debt.

The second debt to which the dividends were partly applied were accounts "due from Hijos de I. de la Rama, Inc." The alleged debtor here was an entity separate and distinct from the deceased. If that was so, its debts could not be charged against the deceased, even if the deceased was the principal owner thereof, in the absence of proof of substitution of debtor. There is no evidence in the instant case that the late Esteban de la Rama substituted the "Hijos de I. de la Rama" as debtor to the De la Rama Steamship Co., Inc.; nor was there evidence that the estate of the late Esteban de la Rama owned the "Hijos de I. de la Rama, Inc.," this fact being, as found by the lower court, not a settled question because the same was denied by the administrator.

Under the National Internal Revenue Code, income tax is assessed on income that has been received, Thus, Section 21 of the Code requires that the income must be received by an individual before a tax can be levied thereon.

"SEC. 21 Rates of tax on citizens or residents. – There shall be levied, collected, and paid annually upon the entire net* income received in the preceding taxable year from all sources by every individual, a* or citizen or resident of the Philippines, . . ."

Section 56 also requires receipt of income by an estate before an income tax can be assessed thereon. It provides:

"Sec. 56. Imposition of tax – (a) application of tax. – The taxes imposed by this Title upon individuals shall apply to the income of estates or of any kind of property held in trust including –xxx xxx xxx(3) Income received by estate of deceased persons during the period of administration or settlement of the estate; . . ."

Hence, if income has not been received, no income tax can be assessed thereon. Inasmuch as the income was not received either by the estate, or by the heirs, neither the estate nor the heirs can be liable for the payment of income tax therefor.

The trial court, therefore, did not err when it held in its decision that:

"After a study of the proofs, the Court is constrained to sustain the position of the defendants on the fundamental issue that there could have been no correct and real basis for the assessment or that there is no proof that the income in question had been received; it was not actually delivered unto the Estate since it was retained by the De la Rama Steamship Co., Inc.; which applied said dividends to certain accounts receivable due from the deceased allegedly, Exh. A-1; now if truly there had been such indebtedness owing from the deceased unto said De La Rama Steamship Co., Inc., the Court will agree with plaintiff that the offsetting of the dividends against such indebtedness amounted to constructive delivery; but there has not been presented any proof to that effect, i.e., that there was such an indebtedness due from deceased; on the contrary what the evidence shows is that the former administrator of the Estate had challenged the validity of said indebtedness, Exh. D, motion of 4 June, 1951; this being the case, there is no clear showing that income in the form of said dividends had really been received, which is the verb used in Section 21 of the Internal Revenue Code, by the Estate whether actually or constructively; and the income tax being collected by the Government on income received, the Government's position is here without a clear basis; the position becomes worse when it be considered that it is not even the Estate that is being sued but the heirs themselves, who admittedly had not received any of said dividends themselves; the fiction of transfer of ownership by succession from the death of the decedent will have to give way to actual fact that the dividends have not been adjudicated at all to the heirs up to now at least so far as the evidence shows. This being the conclusion of the Court, there will be no need to discuss the question of whether the action has or has not prescribed."

The factual findings of the trial court, as stated in the above-quoted portion of the decision, is decisive in the determination of the legal issues in this case.

Appellant cites the case of Herbert vs. Commissioner of Internal Revenue 81 F (2d) 912 as authority that the crediting of dividends against accounts constitutes payment and constructive receipt of the dividends. The citation of authority misses the point in issue. In that case the existence of the indebtedness of Leon S. Herbert to the corporation that declared the dividends and against which indebtedness the dividends were applied, was never put in issue, and was admitted. In the instant case, the existence of the obligations has been disputed and, as the trial court found, has not been proved. It having been shown in the instant case that there was no basis for the assessment of the income tax, the assessment itself and the sending of notices regarding the assessment would neither have basis, and so the assessment and the notices produced no legal effect that would warrant the collection of the tax.

The appellant also contends that the assessment had become final, because the decision of the Collector of Internal Revenue was sent in a letter dated February 11, 1960 and addressed to the heirs of the late Esteban de la Rama, through Leonor de la Rama as administratrix of the estate, and was not disputed or contested by way of appeal within thirty days from receipt thereof to the Court of Tax Appeals. This contention is untenable. The lower court found that Leonor de la Rama was not the administratrix of the estate of Esteban de la Rama. The alleged deficiency income tax for 1950 was chargeable against the estate of the deceased Esteban de la Rama. On December 5, 1955, when the letter of notice for

the assessment of the deficiency income tax was first sent to Leonor de la Rama (See Annex "A" of Answer of defendant Lourdes de la Rama-Osmeña, pp. 16-17, Record on Appeal), the administration proceedings, in Special Proceedings No. 401 of the Court of First Instance of Iloilo, were still open with respect to the controverted matter regarding the cash dividends upon which the deficiency assessment was levied. This is clear from the order dated June 21, 1951 (Exhibit "E") of the Court of First Instance of Iloilo which in part provides:

"El albacea-administrador hace constar, sin embargo, que quedan por cobrar ciertos dividendos declarados y devengados por las acciones del finado Esteban de la Rama en The De la Rama Steamship Co., Inc., que los funcionarios de dicha corporation . . . no han pagado aun . . . y que por tales motivos habria necesidad de prolongar la administracion, solamente para que esta continue atendiendo, con autorizacion, a tales menesteres.xxx xxx xxx"Se ordena el cierra de la Administrasion; pero se provee, sin embargo, la extension de le misma, solamente para el proposito de iniciar y proseguir hasta su terminacion una accion contra The De la Rama Steamship Co., Inc. para el cobro de dividendos declarados por dicha corporacion en Diciembre 31, 1950 sobre las 869 acciones del finado Esteban de la Rama en la misma . . ."Y finalmente, queda relevado al Administrador Sr. Eliseo Hervas de toda responsibilidad en relacion con su administracion, excepto en lo que respecta al cobro de dividendos . . ."

The estate was still under the administration of Eliseo Hervas as regards the collection of said dividends. The administrator was the representative of the estate, whose duty it was to pay and discharge all debts and charges on the estate and to perform all orders of the court by him to be performed (Rule 71, Section 1), and to pay the taxes and assessments due to the Government or any branch or subdivision thereof (Section 7, Rule 89, Old Rules of Court). The tax must be collected from the estate of the deceased, and it is the administrator who is under obligation to pay such claim (Estate of Claude E. Haygood, Collector of Internal Revenue vs. Haygood, 65 Phil., 520). The notice of assessment, therefore, should have been sent to the administrator. In this case, notice was first sent to Lourdes de la Rama-Osmeña on February 29, 1956, and later to Leonor de la Rama on November 27, 1956, neither of whom had authority to represent the estate. As the lower court said in its decision: "Leonor de la Rama was not the administratrix of the estate of the late Esteban de la Rama and as such the demand unto her, Exh. Def. 8, p. 112, was not a correct demand before November 27, 1956, because the real administrator was the late Eliseo Hervas;.." (p. 45, Record on Appeal) The notice was not sent to the taxpayer for the purpose of giving effect to the assessment, and said notice could not produce any effect. In the case of Bautista and Corrales Tan vs. Collector of Internal Revenue, L-12259, May 27, 1959, this Court had occasion to state that "the assessment is deemed made when the notice to this effect is released, mailed or sent to the taxpayer for the purpose of giving effect to said assessment." It appearing that the person liable for the payment of the tax did not receive the assessment, the assessment could not become final and executory (R. A. 1125, Section 11).

 

Plaintiff-appellant also contends that the lower court could not take cognizance of the defense that the assessment was erroneous, this being a matter that is within the exclusive jurisdiction of the Court of Tax Appeals. This contention has no merit. According to Republic Act 1125, the Court of Tax Appeals has exclusive jurisdiction to review by appeal decisions of the Collector of Internal Revenue in cases involving disputed assessments, and the disputed assessment must be appealed by the person adversely affected by the decision within thirty days after the receipt of the decision. In the instant case, the person adversely affected should have been the administrator of the estate, and the notice of the assessment should have been sent to him. The administrator had not received the notice of assessment, and he could not appeal the assessment to the Court of Tax Appeals within 30 days from notice. Hence the assessment did not fall within the exclusive jurisdiction of the Court of Tax Appeals.

IN VIEW OF THE FOREGOING, the decision appealed from should be, as it is hereby, affirmed, without costs.

||| (Republic v. De la Rama, G.R. No. L-21108, November 29, 1966)FIRST DIVISION

[G.R. No. 188497. April 25, 2012.]COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. PILIPINAS SHELL PETROLEUM CORPORATION, respondent.

DECISIONVILLARAMA, JR., J p:Petitioner Commissioner of Internal Revenue appeals the Decision 1 dated March 25, 2009 and Resolution 2 dated June 24, 2009 of the Court of Tax Appeals (CTA) En Banc in CTA EB No. 415. The CTA dismissed the petition for review filed by petitioner assailing the CTA First Division's Decision 3 dated April 25, 2008 and Resolution 4 dated July 10, 2008 which ordered petitioner to refund the excise taxes paid by respondent Pilipinas Shell Petroleum Corporation on petroleum products it sold to international carriers.

The facts are not disputed. SaICcT

Respondent is engaged in the business of processing, treating and refining petroleum for the purpose of producing marketable products and the subsequent sale thereof. 5

On July 18, 2002, respondent filed with the Large Taxpayers Audit & Investigation Division II of the Bureau of Internal Revenue (BIR) a formal claim for refund or tax credit in the total amount of P28,064,925.15, representing excise taxes it allegedly paid on sales and deliveries of gas and fuel oils to various international carriers during the period October to December 2001. Subsequently, on October 21, 2002, a similar claim for refund or tax credit was filed by respondent with the BIR covering the period January to March 2002 in the amount of P41,614,827.99. Again, on July 3, 2003, respondent filed another formal claim for refund or tax credit in the amount of P30,652,890.55 covering deliveries from April to June 2002. 6

Since no action was taken by the petitioner on its claims, respondent filed petitions for review before the CTA on September 19, 2003 and December 23, 2003, docketed as CTA Case Nos. 6775 and 6839, respectively.

In its decision on the consolidated cases, the CTA's First Division ruled that respondent is entitled to the refund of excise taxes in the reduced amount of P95,014,283.00. The CTA First Division relied on a previous ruling rendered by the CTA En Banc in the case of "Pilipinas Shell Petroleum Corporation v. Commissioner of Internal Revenue"7 where the CTA also granted respondent's claim for refund on the basis of excise tax exemption for petroleum products sold to international carriers of foreign registry for their use or consumption outside the Philippines. Petitioner's motion for reconsideration was denied by the CTA First Division.

Petitioner elevated the case to the CTA En Banc which upheld the ruling of the First Division. The CTA pointed out the specific exemption mentioned under Section 135 of the National Internal Revenue Code of 1997 (NIRC) of petroleum products sold to international carriers such as respondent's clients. It said that this Court's ruling in Maceda v. Macaraig, Jr.8 is inapplicable because said case only put to rest the issue of whether or not the National Power Corporation (NPC) is subject to tax considering that NPC is a tax-exempt entity mentioned in Sec. 135 (c) of the NIRC (1997), whereas the present case involves the tax exemption of the sale of petroleum under Sec. 135 (a) of the same Code. Further, the CTA said that the ruling in Philippine Acetylene Co., Inc. v. Commissioner of Internal Revenue9 likewise finds no application because the party asking for the refund in said case was the seller-producer based on the exemption granted under the law to the tax-exempt buyers, NPC and Voice of America (VOA), whereas in this case it is the article or product which is exempt from tax and not the international carrier.

Petitioner filed a motion for reconsideration which the CTA likewise denied.

Hence, this petition anchored on the following grounds:I

SECTION 148 OF THE NATIONAL INTERNAL REVENUE CODE EXPRESSLY SUBJECTS THE PETROLEUM PRODUCTS TO AN EXCISE TAX BEFORE THEY ARE REMOVED FROM THE PLACE OF PRODUCTION. DTAHEC

IITHE ONLY SPECIFIC PROVISION OF THE LAW WHICH GRANTS TAX CREDIT OR TAX REFUND OF THE EXCISE TAXES PAID REFERS TO THOSE CASES WHERE GOODS LOCALLY PRODUCED OR MANUFACTURED ARE ACTUALLY EXPORTED WHICH IS NOT SO IN THIS CASE.

III

THE PRINCIPLES LAID DOWN IN MACEDA VS. MACARAIG, JR. AND PHILIPPINE ACETYLENE CO. VS. CIR ARE APPLICABLE TO THIS CASE. 10

The Solicitor General argues that the obvious intent of the law is to grant excise tax exemption to international carriers and exempt entities as buyers of petroleum products and not to the manufacturers or producers of said goods. Since the excise taxes are collected from manufacturers or producers before removal of the domestic products from the place of production, respondent paid the subject excise taxes as manufacturer or producer of the petroleum products pursuant to Sec. 148 of the NIRC. Thus, regardless of who the buyer/purchaser is, the excise tax on petroleum products attached to the said goods before their sale or delivery to international carriers, as in fact respondent averred that it paid the excise tax on its petroleum products when it "withdrew petroleum products from its place of production for eventual sale and delivery to various international carriers as well as to other customers." 11 Sec. 135 (a) and (c) granting exemption from the payment of excise tax on petroleum products can only be interpreted to mean that the respondent cannot pass on to international carriers and exempt agencies the excise taxes it paid as a manufacturer or producer.

As to whether respondent has the right to file a claim for refund or tax credit for the excise taxes it paid for the petroleum products sold to international carriers, the Solicitor General contends that Sec. 130 (D) is explicit on the circumstances under which a taxpayer may claim for a refund of excise taxes paid on manufactured products, which express enumeration did not include those excise taxes paid on petroleum products which were eventually sold to international carriers (expressio unius est exclusio alterius). Further, the Solicitor General asserts that contrary to the conclusion made by the CTA, the principles laid down by this Court in Maceda v. Macaraig, Jr.12 and Philippine Acetylene Co. v. Commissioner of Internal Revenue13 are applicable to this case. Respondent must shoulder the excise taxes it previously paid on petroleum products which it later sold to international carriers because it cannot pass on the tax burden to the said international carriers which have been granted exemption under Sec. 135 (a) of the NIRC. Considering that respondent failed to prove an express grant of a right to a tax refund, such claim cannot be implied; hence, it must be denied.

On the other hand, respondent maintains that since petroleum products sold to qualified international carriers are exempt from excise tax, no taxes should be imposed on the article, to which goods the tax attaches, whether in the hands of the said international carriers or the petroleum manufacturer or producer. As these excise taxes have been erroneously paid taxes, they can be recovered under Sec. 229 of the NIRC. Respondent contends that contrary to petitioner's assertion, Sections 204 and 229 authorizes respondent to maintain a suit or proceeding to recover such erroneously paid taxes on the petroleum products sold to tax-exempt international carriers.

As to the jurisprudence cited by the petitioner, respondent argues that they are not applicable to the case at bar. It points out that Maceda v. Macaraig, Jr. is an adjudication on the issue of tax exemption of NPC from direct and indirect taxes given the passage of various laws relating thereto. What was put in issue in said case was NPC's right to claim for refund of indirect taxes. Here, respondent's claim for refund is not anchored on the exemption of the buyer from direct and indirect taxes but on the tax exemption of the goods themselves under Sec. 135. Respondent further stressed that in Maceda v. Macaraig, Jr., this Court recognized that if NPC purchases oil from oil companies, NPC is entitled to claim reimbursement from the BIR for that part of the purchase price that represents excise taxes paid by the oil company to the BIR. Philippine Acetylene Co. v. CIR, on the other hand, involved sales tax, which is a tax on the transaction, which this Court held as due from the seller even if such tax cannot be passed on to the buyers who are tax-exempt entities. In this case, the excise tax is a tax on the goods themselves. While indeed it is the manufacturer who has the duty to pay the said tax, by specific provision of law, Sec. 135, the goods are stripped of such tax under the circumstances provided therein. Philippine Acetylene Co., Inc. v. CIR was thus not anchored on an exempting provision of law but merely on the argument that the tax burden cannot be passed on to someone. ATHCac

Respondent further contends that requiring it to shoulder the burden of excise taxes on petroleum products sold to international carriers would effectively defeat the principle of international comity upon which the grant of tax exemption on aviation fuel used in international flights was founded. If the excise taxes paid by respondent are not allowed to be refunded or credited based on the exemption provided in Sec. 135 (a), respondent avers that the manufacturers or oil companies would then be constrained to shift the tax burden to international carriers in the form of addition to the selling price.

Respondent cites as an analogous case Commissioner of International Revenue v. Tours Specialists, Inc.14 which involved the inclusion of hotel room charges remitted by partner foreign tour agents in respondent TSI's gross receipts for purposes of computing the 3% contractor's tax. TSI opposed the deficiency assessment invoking, among others, Presidential Decree No. 31, which exempts foreign tourists from paying hotel room tax. This Court upheld the CTA in ruling that while CIR may claim that the 3% contractor's tax is imposed upon a different incidence, i.e., the gross receipts of the tourist agency which he asserts includes the hotel room charges entrusted to it, the effect would be to impose a tax, and though different, it nonetheless imposes a tax actually on room charges. One way or the other, said the CTA, it would not have the effect of promoting tourism in the Philippines as that would increase the costs or expenses by the addition of a hotel room tax in the overall expenses of said tourists.

The instant petition squarely raised the issue of whether respondent as manufacturer or producer of petroleum products is exempt from the payment of excise tax on such petroleum products it sold to international carriers.

In the previous cases 15 decided by this Court involving excise taxes on petroleum products sold to international carriers, what was only resolved is the question of who is the proper party to claim the refund of excise taxes paid on petroleum products if such tax was either paid by the international carriers themselves or incorporated into the selling price of the petroleum products sold to them. We have ruled in the said cases that the statutory taxpayer, the local manufacturer of the petroleum products who is directly liable for the payment of excise tax on the said goods, is the proper party to seek a tax refund. Thus, a foreign airline company who purchased locally manufactured petroleum products for use in its international flights, as well as a foreign oil company who likewise bought petroleum products from local manufacturers and later sold these to international carriers, have no legal personality to file a claim for tax refund or credit of excise taxes previously paid by the local manufacturers even if the latter passed on to the said buyers the tax burden in the form of additional amount in the price.

Excise taxes, as the term is used in the NIRC, refer to taxes applicable to certain specified goods or articles manufactured or produced in the Philippines for domestic sales or consumption or for any other disposition and to things imported into the Philippines. These taxes are imposed in addition to the value-added tax (VAT). 16

As to petroleum products, Sec. 148 provides that excise taxes attach to the following refined and manufactured mineral oils and motor fuels as soon as they are in existence as such:

(a)Lubricating oils and greases;(b)Processed gas;(c)Waxes and petrolatum;(d)Denatured alcohol to be used for motive power;(e)Naphtha, regular gasoline and other similar

products of distillation;(f)Leaded premium gasoline;(g)Aviation turbo jet fuel;(h)Kerosene;(i)Diesel fuel oil, and similar fuel oils having more or

less the same generating power; HAICET(j)Liquefied petroleum gas;(k)Asphalts; and(l)Bunker fuel oil and similar fuel oils having more or

less the same generating capacity.

Beginning January 1, 1999, excise taxes levied on locally manufactured petroleum products and indigenous petroleum are required to be paid before their removal from the place of production. 17 However, Sec. 135 provides:

SEC. 135.Petroleum Products Sold to International Carriers and Exempt Entities or Agencies. — Petroleum products sold to the following are exempt from excise tax:

(a)International carriers of Philippine or foreign registry on their use or consumption outside the Philippines: Provided, That the petroleum products sold to these international carriers shall be stored in a bonded storage tank and may be disposed of only in accordance with the rules and regulations to be prescribed by the Secretary of Finance, upon recommendation of the Commissioner;

(b)Exempt entities or agencies covered by tax treaties, conventions and other international agreements for their use or consumption: Provided, however, That the country of said foreign international carrier or exempt entities or agencies exempts from similar taxes petroleum products sold to Philippine carriers, entities or agencies; and

(c)Entities which are by law exempt from direct and indirect taxes.

Respondent claims it is entitled to a tax refund because those petroleum products it sold to international carriers are not subject to excise tax, hence the excise taxes it paid upon withdrawal of those products were erroneously or illegally collected and should not have been paid in the first place. Since the excise tax exemption attached to the petroleum products themselves, the manufacturer or producer is under no duty to pay the excise tax thereon.

We disagree.

Under Chapter II "Exemption or Conditional Tax-Free Removal of Certain Goods" of Title VI, Sections 133, 137, 138, 139 and 140 cover conditional tax-free removal of specified goods or articles, whereas Sections 134 and 135 provide for tax exemptions. While the exemption found in Sec. 134 makes reference to the nature and quality of the goods manufactured (domestic denatured alcohol) without regard to the tax status of the buyer of the said goods, Sec. 135 deals with the tax treatment of a specified article (petroleum products) in relation to its buyer or consumer. Respondent's failure to make this important distinction apparently led it to mistakenly assume that the tax exemption under Sec. 135 (a) "attaches to the goods themselves" such that the excise tax should not have been paid in the first place.

On July 26, 1996, petitioner Commissioner issued Revenue Regulations 8-96 18 ("Excise Taxation of Petroleum Products") which provides:

SEC. 4.Time and Manner of Payment of Excise Tax on Petroleum Products, Non-Metallic Minerals and Indigenous Petroleum. —

I.Petroleum Productsxxx xxx xxx

a)On locally manufactured petroleum products

The specific tax on petroleum products locally manufactured or produced in the Philippines shall be paid by the manufacturer, producer, owner or person having possession of the same, and such tax shall be paid within fifteen (15) days from date of removal from the place of production. (Underscoring supplied.) IaEACT

Thus, if an airline company purchased jet fuel from an unregistered supplier who could not present proof of payment of specific tax, the company is liable to pay the specific tax on the date of purchase. 19 Since the excise tax must be paid upon withdrawal from the place of production, respondent cannot anchor its claim for refund on the theory that the excise taxes due thereon should not have been collected or paid in the first place.

Sec. 229 of the NIRC allows the recovery of taxes erroneously or illegally collected. An "erroneous or illegal tax" is defined as one levied without statutory authority, or upon property not subject to taxation or by some officer having no authority to levy the tax, or one which is some other similar respect is illegal. 20

Respondent's locally manufactured petroleum products are clearly subject to excise tax under Sec. 148. Hence, its claim for tax refund may not be predicated on Sec. 229 of the NIRC allowing a refund of erroneous or excess payment of tax. Respondent's claim is premised on what it determined as a tax exemption "attaching to the goods themselves," which must be based on a statute granting tax exemption, or "the result of legislative grace." Such a claim is to be construed strictissimi juris against the taxpayer, meaning that the claim cannot be made to rest on vague

inference. Where the rule of strict interpretation against the taxpayer is applicable as the claim for refund partakes of the nature of an exemption, the claimant must show that he clearly falls under the exempting statute. 21

The exemption from excise tax payment on petroleum products under Sec. 135 (a) is conferred on international carriers who purchased the same for their use or consumption outside the Philippines. The only condition set by law is for these petroleum products to be stored in a bonded storage tank and may be disposed of only in accordance with the rules and regulations to be prescribed by the Secretary of Finance, upon recommendation of the Commissioner.

On January 22, 2008, or five years after the sale by respondent of the subject petroleum products, then Secretary of Finance Margarito B. Teves issued Revenue Regulations No. 3-2008 "Amending Certain Provisions of Existing Revenue Regulations on the Granting of Outright Excise Tax Exemption on Removal of Excisable Articles Intended for Export or Sale/Delivery to International Carriers or to Tax-Exempt Entities/Agencies and Prescribing the Provisions for Availing Claims for Product Replenishment." Said issuance recognized the "tax relief to which the taxpayers are entitled" by availing of the following remedies: (a) a claim for excise tax exemption pursuant to Sections 204 and 229 of the NIRC; or (2) a product replenishment.

SEC. 2.IMPOSITION OF EXCISE TAX ON REMOVAL OF EXCISABLE ARTICLES FOR EXPORT OR SALE/DELIVERY TO INTERNATIONAL CARRIERS AND OTHER TAX-EXEMPT ENTITIES/AGENCIES. — Subject to the subsequent filing of a claim for excise tax credit/refund or product replenishment, all manufacturers of articles subject to excise tax under Title VI of the NIRC of 1997, as amended, shall pay the excise tax that is otherwise due on every removal thereof from the place of production that is intended for exportation or sale/delivery to international carriers or to tax-exempt entities/agencies: Provided, That in case the said articles are likewise being sold in the domestic market, the applicable excise tax rate shall be the same as the excise tax rate imposed on the domestically sold articles. CDESIA

In the absence of a similar article that is being sold in the domestic market, the applicable excise tax shall be computed based on the value appearing in the manufacturer's sworn statement converted to Philippine currency, as may be applicable.

xxx xxx xxx (Emphasis supplied.)

In this case, however, the Solicitor General has adopted a position contrary to existing BIR regulations and rulings recognizing the right of oil companies to seek a refund of excise taxes paid on petroleum products they sold to international carriers. It is argued that there is nothing in Sec. 135 (a) which explicitly grants exemption from the payment of excise tax in favor of oil companies selling their petroleum products to international carriers and that the only claim for refund of excise taxes authorized by the NIRC is the payment of excise tax on exported goods, as explicitly provided in Sec. 130 (D), Chapter I under the same Title VI:

(D)Credit for Excise Tax on Goods Actually Exported. — When goods locally produced or manufactured are removed and actually exported without returning to the Philippines, whether so exported in their original state or as ingredients or parts of any manufactured goods or products, any excise tax paid thereon shall be credited or refunded upon submission of the proof of actual exportation and upon receipt of the corresponding foreign exchange payment: Provided, That the excise tax on mineral products, except coal and coke, imposed under Section 151 shall not be creditable or refundable even if the mineral products are actually exported.

According to the Solicitor General, Sec. 135 (a) in relation to the other provisions on excise tax and from the nature of indirect taxation, may only be construed as prohibiting the manufacturers-sellers of petroleum products from passing on the tax to international carriers by incorporating previously paid excise taxes into the selling price. In other words,

respondent cannot shift the tax burden to international carriers who are allowed to purchase its petroleum products without having to pay the added cost of the excise tax.

We agree with the Solicitor General.

In Philippine Acetylene Co., Inc. v. Commissioner of Internal Revenue22 this Court held that petitioner manufacturer who sold its oxygen and acetylene gases to NPC, a tax-exempt entity, cannot claim exemption from the payment of sales tax simply because its buyer NPC is exempt from taxation. The Court explained that the percentage tax on sales of merchandise imposed by the Tax Code is due from the manufacturer and not from the buyer.

Respondent attempts to distinguish this case from Philippine Acetylene Co., Inc. on grounds that what was involved in the latter is a tax on the transaction (sales) and not excise tax which is a tax on the goods themselves, and that the exemption sought therein was anchored merely on the tax-exempt status of the buyer and not a specific provision of law exempting the goods sold from the excise tax. But as already stated, the language of Sec. 135 indicates that the tax exemption mentioned therein is conferred on specified buyers or consumers of the excisable articles or goods (petroleum products). Unlike Sec. 134 which explicitly exempted the article or goods itself (domestic denatured alcohol) without due regard to the tax status of the buyer or purchaser, Sec. 135 exempts from excise tax petroleum products which were sold to international carriers and other tax-exempt agencies and entities.

Considering that the excise taxes attaches to petroleum products "as soon as they are in existence as such," 23 there can be no outright exemption from the payment of excise tax on petroleum products sold to international carriers. The sole basis then of respondent's claim for refund is the express grant of excise tax exemption in favor of international carriers under Sec. 135 (a) for their purchases of locally manufactured petroleum products. Pursuant to our ruling in Philippine Acetylene, a tax exemption being enjoyed by the buyer cannot be the basis of a claim for tax exemption by the manufacturer or seller of the goods for any tax due to it as the manufacturer or seller. The excise tax imposed on petroleum products under Sec. 148 is the direct liability of the manufacturer who cannot thus invoke the excise tax exemption granted to its buyers who are international carriers. EHSCcT

In Maceda v. Macaraig, Jr., 24 the Court specifically mentioned excise tax as an example of an indirect tax where the tax burden can be shifted to the buyer:

On the other hand, "indirect taxes are taxes primarily paid by persons who can shift the burden upon someone else". For example, the excise and ad valorem taxes that the oil companies pay to the Bureau of Internal Revenue upon removal of petroleum products from its refinery can be shifted to its buyer, like the NPC, by adding them to the "cash" and/or "selling price."

An excise tax is basically an indirect tax. Indirect taxes are those that are demanded, in the first instance, from, or are paid by, one person in the expectation and intention that he can shift the burden to someone else. Stated elsewise, indirect taxes are taxes wherein the liability for the payment of the tax falls on one person but the burden thereof can be shifted or passed on to another person, such as when the tax is imposed upon goods before reaching the consumer who ultimately pays for it. When the seller passes on the tax to his buyer, he, in effect, shifts the tax burden, not the liability to pay it, to the purchaser as part of the price of goods sold or services rendered. 25

Further, in Maceda v. Macaraig, Jr., the Court ruled that because of the tax exemptions privileges being enjoyed by NPC under existing laws, the tax burden may not be shifted to it by the oil companies who shall pay for fuel oil taxes on oil they supplied to NPC. Thus:

In view of all the foregoing, the Court rules and declares that the oil companies which supply bunker fuel oil to NPC have to pay the taxes imposed upon said bunker fuel oil sold to NPC. By the very nature of indirect taxation, the economic burden of such taxation is expected to be passed on through the channels of commerce to the user or consumer of the goods sold. Because, however, the NPC has been

exempted from both direct and indirect taxation, the NPC must be held exempted from absorbing the economic burden of indirect taxation. This means, on the one hand, that the oil companies which wish to sell to NPC absorb all or part of the economic burden of the taxes previously paid to BIR, which they could shift to NPC if NPC did not enjoy exemption from indirect taxes. This means also, on the other hand, that the NPC may refuse to pay that part of the "normal" purchase price of bunker fuel oil which represents all or part of the taxes previously paid by the oil companies to BIR. If NPC nonetheless purchases such oil from the oil companies — because to do so may be more convenient and ultimately less costly for NPC than NPC itself importing and hauling and storing the oil from overseas — NPC is entitled to be reimbursed by the BIR for that part of the buying price of NPC which verifiably represents the tax already paid by the oil company-vendor to the BIR. 26 (Emphasis supplied.)

In the case of international air carriers, the tax exemption granted under Sec. 135 (a) is based on "a long-standing international consensus that fuel used for international air services should be tax-exempt." The provisions of the 1944 Convention of International Civil Aviation or the "Chicago Convention", which form binding international law, requires the contracting parties not to charge duty on aviation fuel already on board any aircraft that has arrived in their territory from another contracting state. Between individual countries, the exemption of airlines from national taxes and customs duties on a range of aviation-related goods, including parts, stores and fuel is a standard element of the network of bilateral "Air Service Agreements." 27 Later, a Resolution issued by the International Civil Aviation Organization (ICAO) expanded the provision as to similarly exempt from taxes all kinds of fuel taken on board for consumption by an aircraft from a contracting state in the territory of another contracting State departing for the territory of any other State. 28 Though initially aimed at establishing uniformity of taxation among parties to the treaty to prevent double taxation, the tax exemption now generally applies to fuel used in international travel by both domestic and foreign carriers.

On April 21, 1978, then President Ferdinand E. Marcos issued Presidential Decree (P.D.) No. 1359: ETDHSa

PRESIDENTIAL DECREE No. 1359

AMENDING SECTION 134 OF THE NATIONAL INTERNAL REVENUE CODE OF 1977.

WHEREAS, under the present law oil products sold to international carriers are subject to the specific tax;

WHEREAS, some countries allow the sale of petroleum products to Philippine Carriers without payment of taxes thereon;

WHEREAS, to foster goodwill and better relationship with foreign countries, there is a need to grant similar tax exemption in favor of foreign international carriers;

NOW, THEREFORE, I, FERDINAND E. MARCOS, President of the Philippines, by virtue of the powers vested in me by the Constitution, do hereby order and decree the following:

Section 1.Section 134 of the National Internal Revenue Code of 1977 is hereby amended to read as follows:

"Sec. 134.Articles subject to specific tax. Specific internal revenue taxes apply to things manufactured or produced in the Philippines for domestic sale or consumption and to things imported, but not to anything produced or manufactured here which shall be removed for exportation and is actually exported without returning

to the Philippines, whether so exported in its original state or as an ingredient or part of any manufactured article or product.

"HOWEVER, PETROLEUM PRODUCTS SOLD TO AN INTERNATIONAL CARRIER FOR ITS USE OR CONSUMPTION OUTSIDE OF THE PHILIPPINES SHALL NOT BE SUBJECT TO SPECIFIC TAX, PROVIDED, THAT THE COUNTRY OF SAID CARRIER EXEMPTS FROM TAX PETROLEUM PRODUCTS SOLD TO PHILIPPINE CARRIERS.

"In case of importations the internal revenue tax shall be in addition to the customs duties, if any."

Section 2.This Decree shall take effect immediately.

Contrary to respondent's assertion that the above amendment to the former provision of the 1977 Tax Code supports its position that it was not liable for excise tax on the petroleum products sold to international carriers, we find that no such inference can be drawn from the words used in the amended provision or its introductory part. Founded on the principles of international comity and reciprocity, P.D. No. 1359 granted exemption from payment of excise tax but only to foreign international carriers who are allowed to purchase petroleum products free of specific tax provided the country of said carrier also grants tax exemption to Philippine carriers. Both the earlier amendment in the 1977 Tax Code and the present Sec. 135 of the 1997 NIRC did not exempt the oil companies from the payment of excise tax on petroleum products manufactured and sold by them to international carriers.

Because an excise tax is a tax on the manufacturer and not on the purchaser, and there being no express grant under the NIRC of exemption from payment of excise tax to local manufacturers of petroleum products sold to international carriers, and absent any provision in the Code authorizing the refund or crediting of such excise taxes paid, the Court holds that Sec. 135 (a) should be construed as prohibiting the shifting of the burden of the excise tax to the international carriers who buys petroleum products from the local manufacturers. Said provision thus merely allows the international carriers to purchase petroleum products without the excise tax component as an added cost in the price fixed by the manufacturers or distributors/sellers. Consequently, the oil companies which sold such petroleum products to international carriers are not entitled to a refund of excise taxes previously paid on the goods. DEcTIS

Time and again, we have held that tax refunds are in the nature of tax exemptions which result to loss of revenue for the government. Upon the person claiming an exemption from tax payments rests the burden of justifying the exemption by words too plain to be mistaken and too categorical to be misinterpreted, 29 it is never presumed 30 nor be allowed solely on the ground of equity. 31 These exemptions, therefore, must not rest on vague, uncertain or indefinite inference, but should be granted only by a clear and unequivocal provision of law on the basis of language too plain to be mistaken. Such exemptions must be strictly construed against the taxpayer, as taxes are the lifeblood of the government. 32

WHEREFORE, the petition for review on certiorari is GRANTED. The Decision dated March 25, 2009 and Resolution dated June 24, 2009 of the Court of Tax Appeals En Banc in CTA EB No. 415 are hereby REVERSED and SET ASIDE. The claims for tax refund or credit filed by respondent Pilipinas Shell Petroleum Corporation are DENIED for lack of basis.

No pronouncement as to costs. EaHDcS

SO ORDERED.

||| (CIR v. Pilipinas Shell Petroleum Corp., G.R. No. 188497, April 25, 2012)

EN BANC

[G.R. No. 193007. July 19, 2011.]

THE RENATO V. DIAZ and AURORA MA. F. TIMBOL, petitioners, vs. THE SECRETARY OF FINANCE and THE COMMISSIONER OF INTERNAL REVENUE, respondents.

DECISION

ABAD, J p:

May toll fees collected by tollway operators be subjected to value-added tax?

The Facts and the Case

Petitioners Renato V. Diaz and Aurora Ma. F. Timbol (petitioners) filed this petition for declaratory relief 1 assailing the validity of the impending imposition of value-added tax (VAT) by the Bureau of Internal Revenue (BIR) on the collections of tollway operators.

Petitioners claim that, since the VAT would result in increased toll fees, they have an interest as regular users of tollways in stopping the BIR action. Additionally, Diaz claims that he sponsored the approval of Republic Act 7716 (the 1994 Expanded VAT Law or EVAT Law) and Republic Act 8424 (the 1997 National Internal Revenue Code or the NIRC) at the House of Representatives. Timbol, on the other hand, claims that she served as Assistant Secretary of the Department of Trade and Industry and consultant of the Toll Regulatory Board (TRB) in the past administration. CIaHDc

Petitioners allege that the BIR attempted during the administration of President Gloria Macapagal-Arroyo to impose VAT on toll fees. The imposition was deferred, however, in view of the consistent opposition of Diaz and other sectors to such move. But, upon President Benigno C. Aquino III's assumption of office in 2010, the BIR revived the idea and would impose the challenged tax on toll fees beginning August 16, 2010 unless judicially enjoined.

Petitioners hold the view that Congress did not, when it enacted the NIRC, intend to include toll fees within the meaning of "sale of services" that are subject to VAT; that a toll fee is a "user's tax," not a sale of services; that to impose VAT on toll fees would amount to a tax on public service; and that, since VAT was never factored into the formula for computing toll fees, its imposition would violate the non-impairment clause of the constitution. ITSacC

On August 13, 2010 the Court issued a temporary restraining order (TRO), enjoining the implementation of the VAT. The Court required the government, represented by respondents Cesar V. Purisima, Secretary of the Department of Finance, and Kim S. Jacinto-Henares, Commissioner of Internal Revenue, to comment on the petition within 10 days from notice. 2 Later, the Court issued another resolution treating the petition as one for prohibition. 3

On August 23, 2010 the Office of the Solicitor General filed the government's comment. 4 The government avers that the NIRC imposes VAT on all kinds of services of franchise grantees, including tollway operations, except where the law provides otherwise; that the Court should seek the meaning and intent of the law from the words used in the statute; and that the imposition of VAT on tollway operations has been the subject as early as 2003 of several BIR rulings and circulars. 5

The government also argues that petitioners have no right to invoke the non-impairment of contracts clause since they clearly have no personal interest in existing toll operating agreements (TOAs) between the government and tollway operators. At any rate, the non-impairment clause

cannot limit the State's sovereign taxing power which is generally read into contracts.

Finally, the government contends that the non-inclusion of VAT in the parametric formula for computing toll rates cannot exempt tollway operators from VAT. In any event, it cannot be claimed that the rights of tollway operators to a reasonable rate of return will be impaired by the VAT since this is imposed on top of the toll rate. Further, the imposition of VAT on toll fees would have very minimal effect on motorists using the tollways.

In their reply 6 to the government's comment, petitioners point out that tollway operators cannot be regarded as franchise grantees under the NIRC since they do not hold legislative franchises. Further, the BIR intends to collect the VAT by rounding off the toll rate and putting any excess collection in an escrow account. But this would be illegal since only the Congress can modify VAT rates and authorize its disbursement. Finally, BIR Revenue Memorandum Circular 63-2010 (BIR RMC 63-2010), which directs toll companies to record an accumulated input VAT of zero balance in their books as of August 16, 2010, contravenes Section 111 of the NIRC which grants entities that first become liable to VAT a transitional input tax credit of 2% on beginning inventory. For this reason, the VAT on toll fees cannot be implemented. HaTAEc

The Issues Presented

The case presents two procedural issues:

1.Whether or not the Court may treat the petition for declaratory relief as one for prohibition; and

2.Whether or not petitioners Diaz and Timbol have legal standing to file the action.

The case also presents two substantive issues:

1.Whether or not the government is unlawfully expanding VAT coverage by including tollway operators and tollway operations in the terms "franchise grantees" and "sale of services" under Section 108 of the Code; and

2.Whether or not the imposition of VAT on tollway operators a) amounts to a tax on tax and not a tax on services; b) will impair the tollway operators' right to a reasonable return of investment under their TOAs; and c) is not administratively feasible and cannot be implemented. SICaDA

The Court's RulingsA.On the Procedural Issues:

On August 24, 2010 the Court issued a resolution, treating the petition as one for prohibition rather than one for declaratory relief, the characterization that petitioners Diaz and Timbol gave their action. The government has sought reconsideration of the Court's resolution, 7 however, arguing that petitioners' allegations clearly made out a case for declaratory relief, an action over which the Court has no original jurisdiction. The government adds, moreover, that the petition does not meet the requirements of Rule 65 for actions for prohibition since the BIR did not exercise judicial, quasi-judicial, or ministerial functions when it sought to impose VAT on toll fees. Besides, petitioners Diaz and Timbol has a plain, speedy, and adequate remedy in the ordinary course of law against the BIR action in the form of an appeal to the Secretary of Finance.

But there are precedents for treating a petition for declaratory relief as one for prohibition if the case has far-reaching implications and raises questions that need to be resolved for the public good. 8 The Court has also held that a petition for prohibition is a proper remedy to prohibit or nullify acts of executive officials that amount to usurpation of legislative authority. 9

Here, the imposition of VAT on toll fees has far-reaching implications. Its imposition would impact, not only on the more than half a million motorists who use the tollways everyday, but more so on the government's effort to raise revenue for funding various projects and for reducing budgetary deficits. aEcTDI

To dismiss the petition and resolve the issues later, after the challenged VAT has been imposed, could cause more mischief both to the tax-paying public and the government. A belated declaration of nullity of the BIR action would make any attempt to refund to the motorists what they paid an administrative nightmare with no solution. Consequently, it is not only the right, but the duty of the Court to take cognizance of and resolve the issues that the petition raises.

Although the petition does not strictly comply with the requirements of Rule 65, the Court has ample power to waive such technical requirements when the legal questions to be resolved are of great importance to the public. The same may be said of the requirement of locus standi which is a mere procedural requisite. 10

B.On the Substantive Issues:

One. The relevant law in this case is Section 108 of the NIRC, as amended. VAT is levied, assessed, and collected, according to Section 108, on the gross receipts derived from the sale or exchange of services as well as from the use or lease of properties. The third paragraph of Section 108 defines "sale or exchange of services" as follows:

The phrase 'sale or exchange of services' means the performance of all kinds of services in the Philippines for others for a fee, remuneration or consideration, including those performed or rendered by construction and service contractors; stock, real estate, commercial, customs and immigration brokers; lessors of property, whether personal or real; warehousing services; lessors or distributors of cinematographic films; persons engaged in milling, processing, manufacturing or repacking goods for others; proprietors, operators or keepers of hotels, motels, resthouses, pension houses, inns, resorts; proprietors or operators of restaurants, refreshment parlors, cafes and other eating places, including clubs and caterers; dealers in securities; lending investors; transportation contractors on their transport of goods or cargoes, including persons who transport goods or cargoes for hire and other domestic common carriers by land relative to their transport of goods or cargoes; common carriers by air and sea relative to their transport of passengers, goods or cargoes from one place in the Philippines to another place in the Philippines; sales of electricity by generation companies, transmission, and distribution companies; services of franchise grantees of electric utilities, telephone and telegraph, radio and television broadcasting and all other franchise grantees except those under Section 119 of this Code and non-life insurance companies (except their crop insurances), including surety, fidelity, indemnity and bonding companies; and similar services regardless of whether or not the performance thereof calls for the exercise or use of the physical or mental faculties. (Underscoring supplied) EACIaT

It is plain from the above that the law imposes VAT on "all kinds of services" rendered in the Philippines for a fee, including those specified in the list. The enumeration of affected services is not exclusive. 11 By qualifying "services" with the words "all kinds," Congress has given the term "services" an all-encompassing meaning. The listing of specific services are intended to illustrate how pervasive and broad is the VAT's reach rather than establish concrete limits to its application. Thus, every activity that can be imagined as a form of "service" rendered for a fee should be deemed included unless some provision of law especially excludes it. 

Now, do tollway operators render services for a fee? Presidential Decree (P.D.) 1112 or the Toll Operation Decree establishes the legal basis for the services that tollway operators render. Essentially, tollway operators construct, maintain, and operate expressways, also called tollways, at the operators' expense. Tollways serve as alternatives to regular public highways that meander through populated areas and branch out to local roads. Traffic in the regular public highways is for this reason slow-moving.

In consideration for constructing tollways at their expense, the operators are allowed to collect government-approved fees from motorists using the tollways until such operators could fully recover their expenses and earn reasonable returns from their investments. cITAaD

When a tollway operator takes a toll fee from a motorist, the fee is in effect for the latter's use of the tollway facilities over which the operator enjoys private proprietary rights 12 that its contract and the law recognize. In this sense, the tollway operator is no different from the following service providers under Section 108 who allow others to use their properties or facilities for a fee:

1.Lessors of property, whether personal or real;

2.Warehousing service operators;

3.Lessors or distributors of cinematographic films; DISHEA

4.Proprietors, operators or keepers of hotels, motels, resthouses, pension houses, inns, resorts;

5.Lending investors (for use of money);

6.Transportation contractors on their transport of goods or cargoes, including persons who transport goods or cargoes for hire and other domestic common carriers by land relative to their transport of goods or cargoes; and

7.Common carriers by air and sea relative to their transport of passengers, goods or cargoes from one place in the Philippines to another place in the Philippines. CaESTA

It does not help petitioners' cause that Section 108 subjects to VAT "all kinds of services" rendered for a fee "regardless of whether or not the performance thereof calls for the exercise or use of the physical or mental faculties." This means that "services" to be subject to VAT need not fall under the traditional concept of services, the personal or professional kinds that require the use of human knowledge and skills.

And not only do tollway operators come under the broad term "all kinds of services," they also come under the specific class described in Section 108 as "all other franchise grantees" who are subject to VAT, "except those under Section 119 of this Code."

Tollway operators are franchise grantees and they do not belong to exceptions (the low-income radio and/or television broadcasting companies with gross annual incomes of less than P10 million and gas and water utilities) that Section 119 13 spares from the payment of VAT. The word "franchise" broadly covers government grants of a special right to do an act or series of acts of public concern. 14

Petitioners of course contend that tollway operators cannot be considered "franchise grantees" under Section 108 since they do not hold legislative franchises. But nothing in Section 108 indicates that the "franchise grantees" it speaks of are those who hold legislative franchises. Petitioners give no reason, and the Court cannot surmise any, for making a distinction between franchises granted by Congress and franchises granted by some other government agency. The latter, properly constituted, may grant franchises. Indeed, franchises conferred or granted by local authorities, as agents of the state, constitute as much a legislative franchise as though the grant had been made by Congress itself. 15 The term "franchise" has been broadly construed as referring, not only to authorizations that Congress directly issues in the form of a special law, but also to those granted by administrative agencies to which the power to grant franchises has been delegated by Congress. 16

Tollway operators are, owing to the nature and object of their business, "franchise grantees." The construction, operation, and maintenance of toll facilities on public improvements are activities of public consequence that necessarily require a special grant of authority from the state. Indeed, Congress granted special franchise for the operation of tollways to the Philippine National Construction Company, the former tollway concessionaire for the North and South Luzon Expressways. Apart from

Congress, tollway franchises may also be granted by the TRB, pursuant to the exercise of its delegated powers under P.D. 1112. 17 The franchise in this case is evidenced by a "Toll Operation Certificate." 18

Petitioners contend that the public nature of the services rendered by tollway operators excludes such services from the term "sale of services" under Section 108 of the Code. But, again, nothing in Section 108 supports this contention. The reverse is true. In specifically including by way of example electric utilities, telephone, telegraph, and broadcasting companies in its list of VAT-covered businesses, Section 108 opens other companies rendering public service for a fee to the imposition of VAT. Businesses of a public nature such as public utilities and the collection of tolls or charges for its use or service is a franchise. 19

Nor can petitioners cite as binding on the Court statements made by certain lawmakers in the course of congressional deliberations of the would-be law. As the Court said in South African Airways v. Commissioner of Internal Revenue, 20 "statements made by individual members of Congress in the consideration of a bill do not necessarily reflect the sense of that body and are, consequently, not controlling in the interpretation of law." The congressional will is ultimately determined by the language of the law that the lawmakers voted on. Consequently, the meaning and intention of the law must first be sought "in the words of the statute itself, read and considered in their natural, ordinary, commonly accepted and most obvious significations, according to good and approved usage and without resorting to forced or subtle construction."

Two. Petitioners argue that a toll fee is a "user's tax" and to impose VAT on toll fees is tantamount to taxing a tax. 21 Actually, petitioners base this argument on the following discussion in Manila International Airport Authority (MIAA) v. Court of Appeals: 22

No one can dispute that properties of public dominion mentioned in Article 420 of the Civil Code, like "roads, canals, rivers, torrents, ports and bridges constructed by the State," are owned by the State. The term "ports" includes seaports and airports. The MIAA Airport Lands and Buildings constitute a "port" constructed by the State. Under Article 420 of the Civil Code, the MIAA Airport Lands and Buildings are properties of public dominion and thus owned by the State or the Republic of the Philippines.TASCDI

. . . The operation by the government of a tollway does not change the character of the road as one for public use. Someone must pay for the maintenance of the road, either the public indirectly through the taxes they pay the government, or only those among the public who actually use the road through the toll fees they pay upon using the road. The tollway system is even a more efficient and equitable manner of taxing the public for the maintenance of public roads.

The charging of fees to the public does not determine the character of the property whether it is for public dominion or not. Article 420 of the Civil Code defines property of public dominion as "one intended for public use." Even if the government collects toll fees, the road is still "intended for public use" if anyone can use the road under the same terms and conditions as the rest of the public. The charging of fees, the limitation on the kind of vehicles that can use the road, the speed restrictions and other conditions for the use of the road do not affect the public character of the road.

The terminal fees MIAA charges to passengers, as well as the landing fees MIAA charges to airlines, constitute the bulk of the income that maintains the operations of MIAA. The collection of such fees does not change the character of MIAA as an airport for public use. Such fees are often termed user's tax. This means taxing those among the public who

actually use a public facility instead of taxing all the public including those who never use the particular public facility. A user's tax is more equitable – a principle of taxation mandated in the 1987 Constitution."23 (Underscoring supplied)

Petitioners assume that what the Court said above, equating terminal fees to a "user's tax" must also pertain to tollway fees. But the main issue in the MIAA case was whether or not Parañaque City could sell airport lands and buildings under MIAA administration at public auction to satisfy unpaid real estate taxes. Since local governments have no power to tax the national government, the Court held that the City could not proceed with the auction sale. MIAA forms part of the national government although not integrated in the department framework." 24 Thus, its airport lands and buildings are properties of public dominion beyond the commerce of man under Article 420 (1) 25 of the Civil Code and could not be sold at public auction. caIEAD

As can be seen, the discussion in the MIAA case on toll roads and toll fees was made, not to establish a rule that tollway fees are user's tax, but to make the point that airport lands and buildings are properties of public dominion and that the collection of terminal fees for their use does not make them private properties. Tollway fees are not taxes. Indeed, they are not assessed and collected by the BIR and do not go to the general coffers of the government.

It would of course be another matter if Congress enacts a law imposing a user's tax, collectible from motorists, for the construction and maintenance of certain roadways. The tax in such a case goes directly to the government for the replenishment of resources it spends for the roadways. This is not the case here. What the government seeks to tax here are fees collected from tollways that are constructed, maintained, and operated by private tollway operators at their own expense under the build, operate, and transfer scheme that the government has adopted for expressways. 26 Except for a fraction given to the government, the toll fees essentially end up as earnings of the tollway operators.  

In sum, fees paid by the public to tollway operators for use of the tollways, are not taxes in any sense. A tax is imposed under the taxing power of the government principally for the purpose of raising revenues to fund public expenditures. 27 Toll fees, on the other hand, are collected by private tollway operators as reimbursement for the costs and expenses incurred in the construction, maintenance and operation of the tollways, as well as to assure them a reasonable margin of income. Although toll fees are charged for the use of public facilities, therefore, they are not government exactions that can be properly treated as a tax. Taxes may be imposed only by the government under its sovereign authority, toll fees may be demanded by either the government or private individuals or entities, as an attribute of ownership. 28

Parenthetically, VAT on tollway operations cannot be deemed a tax on tax due to the nature of VAT as an indirect tax. In indirect taxation, a distinction is made between the liability for the tax and burden of the tax. The seller who is liable for the VAT may shift or pass on the amount of VAT it paid on goods, properties or services to the buyer. In such a case, what is transferred is not the seller's liability but merely the burden of the VAT. 29

Thus, the seller remains directly and legally liable for payment of the VAT, but the buyer bears its burden since the amount of VAT paid by the former is added to the selling price. Once shifted, the VAT ceases to be a tax 30 and simply becomes part of the cost that the buyer must pay in order to purchase the good, property or service. aEcADH

Consequently, VAT on tollway operations is not really a tax on the tollway user, but on the tollway operator. Under Section 105 of the Code, 31 VAT is imposed on any person who, in the course of trade or business, sells or renders services for a fee. In other words, the seller of services, who in this case is the tollway operator, is the person liable for VAT. The latter merely shifts the burden of VAT to the tollway user as part of the toll fees.

For this reason, VAT on tollway operations cannot be a tax on tax even if toll fees were deemed as a "user's tax." VAT is assessed against the tollway operator's gross receipts and not necessarily on the toll fees. Although the tollway operator may shift the VAT burden to the tollway user, it will not make the latter directly liable for the VAT. The shifted VAT burden simply becomes part of the toll fees that one has to pay in order to use the tollways. 32

Three. Petitioner Timbol has no personality to invoke the non-impairment of contract clause on behalf of private investors in the tollway projects. She will neither be prejudiced by nor be affected by the alleged diminution in return of investments that may result from the VAT imposition. She has no interest at all in the profits to be earned under the TOAs. The interest in and right to recover investments solely belongs to the private tollway investors. ScaCEH

Besides, her allegation that the private investors' rate of recovery will be adversely affected by imposing VAT on tollway operations is purely speculative. Equally presumptuous is her assertion that a stipulation in the TOAs known as the Material Adverse Grantor Action will be activated if VAT is thus imposed. The Court cannot rule on matters that are manifestly conjectural. Neither can it prohibit the State from exercising its sovereign taxing power based on uncertain, prophetic grounds.

Four. Finally, petitioners assert that the substantiation requirements for claiming input VAT make the VAT on tollway operations impractical and incapable of implementation. They cite the fact that, in order to claim input VAT, the name, address and tax identification number of the tollway user must be indicated in the VAT receipt or invoice. The manner by which the BIR intends to implement the VAT – by rounding off the toll rate and putting any excess collection in an escrow account – is also illegal, while the alternative of giving "change" to thousands of motorists in order to meet the exact toll rate would be a logistical nightmare. Thus, according to them, the VAT on tollway operations is not administratively feasible. 33

Administrative feasibility is one of the canons of a sound tax system. It simply means that the tax system should be capable of being effectively administered and enforced with the least inconvenience to the taxpayer. Non-observance of the canon, however, will not render a tax imposition invalid "except to the extent that specific constitutional or statutory limitations are impaired." 34 Thus, even if the imposition of VAT on tollway operations may seem burdensome to implement, it is not necessarily invalid unless some aspect of it is shown to violate any law or the Constitution.

Here, it remains to be seen how the taxing authority will actually implement the VAT on tollway operations. Any declaration by the Court that the manner of its implementation is illegal or unconstitutional would be premature. Although the transcript of the August 12, 2010 Senate hearing provides some clue as to how the BIR intends to go about it, 35 the facts pertaining to the matter are not sufficiently established for the Court to pass judgment on. Besides, any concern about how the VAT on tollway operations will be enforced must first be addressed to the BIR on whom the task of implementing tax laws primarily and exclusively rests. The Court cannot preempt the BIR's discretion on the matter, absent any clear violation of law or the Constitution.

For the same reason, the Court cannot prematurely declare as illegal, BIR RMC 63-2010 which directs toll companies to record an accumulated input VAT of zero balance in their books as of August 16, 2010, the date when the VAT imposition was supposed to take effect. The issuance allegedly violates Section 111 (A) 36 of the Code which grants first time VAT payers a transitional input VAT of 2% on beginning inventory. DCASIT

In this connection, the BIR explained that BIR RMC 63-2010 is actually the product of negotiations with tollway operators who have been assessed VAT as early as 2005, but failed to charge VAT-inclusive toll fees which by now can no longer be collected. The tollway operators agreed to waive the 2% transitional input VAT, in exchange for cancellation of their past due VAT liabilities. Notably, the right to claim the 2% transitional input VAT belongs to the tollway operators who have not questioned the circular's validity. They are thus the ones who have a right to challenge the circular in a direct and proper action brought for the purpose.

Conclusion

In fine, the Commissioner of Internal Revenue did not usurp legislative prerogative or expand the VAT law's coverage when she sought to impose VAT on tollway operations. Section 108 (A) of the Code clearly states that services of all other franchise grantees are subject to VAT, except as may be provided under Section 119 of the Code. Tollway operators are not among the franchise grantees subject to franchise tax under the latter provision. Neither are their services among the VAT-exempt transactions under Section 109 of the Code.

If the legislative intent was to exempt tollway operations from VAT, as petitioners so strongly allege, then it would have been well for the law to

clearly say so. Tax exemptions must be justified by clear statutory grant and based on language in the law too plain to be mistaken. 37 But as the law is written, no such exemption obtains for tollway operators. The Court is thus duty-bound to simply apply the law as it is found.

Lastly, the grant of tax exemption is a matter of legislative policy that is within the exclusive prerogative of Congress. The Court's role is to merely uphold this legislative policy, as reflected first and foremost in the language of the tax statute. Thus, any unwarranted burden that may be perceived to result from enforcing such policy must be properly referred to Congress. The Court has no discretion on the matter but simply applies the law. cTADCH

The VAT on franchise grantees has been in the statute books since 1994 when R.A. 7716 or the Expanded Value-Added Tax law was passed. It is only now, however, that the executive has earnestly pursued the VAT imposition against tollway operators. The executive exercises exclusive discretion in matters pertaining to the implementation and execution of tax laws. Consequently, the executive is more properly suited to deal with the immediate and practical consequences of the VAT imposition.

WHEREFORE, the Court DENIES respondents Secretary of Finance and Commissioner of Internal Revenue's motion for reconsideration of its August 24, 2010 resolution, DISMISSES the petitioners Renato V. Diaz and Aurora Ma. F. Timbol's petition for lack of merit, and SETS ASIDE the Court's temporary restraining order dated August 13, 2010.

SO ORDERED.

||| (Diaz v. Secretary of Finance, G.R. No. 193007, July 19, 2011)

EN BANC

[G.R. No. 172087. March 15, 2011.]

PHILIPPINE AMUSEMENT AND GAMING CORPORATION (PAGCOR), petitioner, vs. THE BUREAU OF INTERNAL REVENUE (BIR), represented herein by HON. JOSE MARIO BUÑAG, in his official capacity as COMMISSIONER OF INTERNAL REVENUE, public respondent,

JOHN DOE and JANE DOE, who are persons acting for, in behalf, or under the authority of Respondent, public and private respondents.

DECISION

PERALTA, J p:

For resolution of this Court is the Petition for Certiorari and Prohibition 1 with prayer for the issuance of a Temporary Restraining Order and/or Preliminary Injunction, dated April 17, 2006, of petitioner Philippine Amusement and Gaming Corporation (PAGCOR), seeking the declaration of nullity of Section 1 of Republic Act (R.A.) No. 9337 insofar as it amends Section 27 (c) of the National Internal Revenue Code of 1997, by excluding petitioner from exemption from corporate income tax for being repugnant to Sections 1 and 10 of Article III of the Constitution. Petitioner further seeks to prohibit the implementation of Bureau of Internal Revenue (BIR) Revenue Regulations No. 16-2005 for being contrary to law.

The undisputed facts follow.

PAGCOR was created pursuant to Presidential Decree (P.D.) No. 1067-A 2 on January 1, 1977. Simultaneous to its creation, P.D. No. 1067-B 3 (supplementing P.D. No. 1067-A) was issued exempting PAGCOR from the payment of any type of tax, except a franchise tax of five percent (5%) of the gross revenue. 4 Thereafter, on June 2, 1978, P.D. No. 1399 was issued expanding the scope of PAGCOR's exemption. 5

To consolidate the laws pertaining to the franchise and powers of PAGCOR, P.D. No. 1869 6 was issued. Section 13 thereof reads as follows:

Sec. 13.Exemptions. – . . .

(1)Customs Duties, taxes and other imposts on importations. – All importations of equipment, vehicles, automobiles, boats, ships, barges, aircraft and such other gambling paraphernalia, including accessories or related facilities, for the sole and exclusive use of the casinos, the proper and efficient management and administration thereof and such other clubs, recreation or amusement places to be established under and by virtue of this Franchise shall be exempt from the payment of duties, taxes and other imposts, including all kinds of fees, levies, or charges of any kind or nature.

Vessels and/or accessory ferry boats imported or to be imported by any corporation having existing contractual arrangements with the Corporation, for the sole and exclusive use of the casino or to be used to service the operations and requirements of the casino, shall likewise be totally exempt from the payment of all customs duties, taxes and other imposts, including all kinds of fees, levies, assessments or charges of any kind or nature, whether National or Local.

(2)Income and other taxes. – (a) Franchise Holder: No tax of any kind or form, income or otherwise, as well as fees, charges, or levies of whatever nature, whether National or Local, shall be assessed and collected under this Franchise from the Corporation; nor shall any form of tax or charge attach in any way to the earnings of the Corporation, except a Franchise Tax of five percent (5%)of the gross revenue or earnings derived by the Corporation from its operation under this Franchise. Such tax shall be due and payable quarterly to the National Government and shall be in lieu of all kinds of taxes, levies, fees or assessments of any kind, nature or description, levied, established, or collected by any municipal, provincial or national government authority.

(b)Others: The exemption herein granted for earnings derived from the operations conducted under the franchise, specifically from the payment of any tax, income or otherwise, as well as any form of charges, fees or levies, shall inure to the benefit of and extend to corporation(s), association(s), agency(ies), or individual(s) with whom the Corporation or operator has any contractual relationship in connection with the operations of the casino(s) authorized to be conducted under this Franchise and to those receiving compensation or other remuneration from the Corporation as a result of essential facilities furnished and/or technical services rendered to the Corporation or operator. DcSTaC

The fee or remuneration of foreign entertainers contracted by the Corporation or operator in pursuance of this provision shall be free of any tax.

(3)Dividend Income. – Notwithstanding any provision of law to the contrary, in the event the Corporation should declare a cash dividend income corresponding to the participation of the private sector shall, as an incentive to the beneficiaries, be subject only to a final flat income rate of ten percent (10%) of the regular income tax rates. The dividend income shall not in such case be considered as part of the beneficiaries' taxable income; provided, however, that such dividend income shall be totally exempted from income or other form of taxes if invested within six (6) months from the date the dividend income is received in the following:

(a)operation of the casino(s) or investments in any affiliate activity that will ultimately redound to the benefit of the Corporation; or any other corporation with whom the Corporation has any existing arrangements in connection with or related to the operations of the casino(s);

(b)Government bonds, securities, treasury notes, or government debentures; or

(c)BOI-registered or export-oriented corporation(s). 7

PAGCOR's tax exemption was removed in June 1984 through P.D. No. 1931, but it was later restored by Letter of Instruction No. 1430, which was issued in September 1984.

On January 1, 1998, R.A. No. 8424, 8 otherwise known as the National Internal Revenue Code of 1997, took effect. Section 27 (c) of R.A. No. 8424 provides that government-owned and controlled corporations (GOCCs) shall pay corporate income tax, except petitioner PAGCOR, the Government Service and Insurance Corporation, the Social Security System, the Philippine Health Insurance Corporation, and the Philippine Charity Sweepstakes Office, thus:

(c)Government-owned or Controlled Corporations, Agencies or Instrumentalities. – The provisions of existing special general laws to the contrary notwithstanding, all corporations, agencies or instrumentalities owned and controlled by the Government, except the Government Service and Insurance Corporation (GSIS), the Social Security System (SSS), the Philippine Health Insurance Corporation (PHIC), the Philippine Charity Sweepstakes Office (PCSO), and the Philippine Amusement and Gaming Corporation (PAGCOR), shall pay such rate of tax upon their taxable income as are imposed by this Section upon corporations or associations engaged in similar business, industry, or activity. 9

With the enactment of R.A. No. 9337 10 on May 24, 2005, certain sections of the National Internal Revenue Code of 1997 were amended. The particular amendment that is at issue in this case is Section 1 of R.A. No. 9337, which amended Section 27 (c) of the National Internal Revenue Code of 1997 by excluding PAGCOR from the enumeration of GOCCs that are exempt from payment of corporate income tax, thus:

(c)Government-owned or Controlled Corporations, Agencies or Instrumentalities. – The provisions of existing special general laws to the contrary notwithstanding, all corporations, agencies, or instrumentalities owned and controlled by the Government, except the Government Service and Insurance Corporation (GSIS), the Social Security System (SSS), the Philippine Health Insurance Corporation (PHIC), and the Philippine Charity Sweepstakes Office (PCSO), shall pay such rate of tax upon their taxable income as are imposed by this Section upon corporations or associations engaged in similar business, industry, or activity.

Different groups came to this Court via petitions for certiorari and prohibition 11 assailing the validity and constitutionality of R.A. No. 9337, in particular:

1)Section 4, which imposes a 10% Value Added Tax (VAT) on sale of goods and properties; Section 5, which imposes a 10% VAT on importation of goods; and Section 6, which imposes a 10% VAT on sale of services and use or lease of properties, all contain a uniform proviso authorizing the President, upon the recommendation of the Secretary of Finance, to raise the VAT rate to 12%. The said provisions were alleged to be violative of Section 28 (2), Article VI of the Constitution, which section vests in Congress the exclusive authority to fix the rate of taxes, and of Section 1, Article III of the Constitution on due process, as well as of Section 26 (2), Article VI of the Constitution, which section provides for the "no amendment rule" upon the last reading of a bill;

2)Sections 8 and 12 were alleged to be violative of Section 1, Article III of the Constitution, or the guarantee of equal protection of the laws, and Section 28 (1), Article VI of the Constitution; and

3)other technical aspects of the passage of the law, questioning the manner it was passed. THCSAE

On September 1, 2005, the Court dismissed all the petitions and upheld the constitutionality of R.A. No. 9337. 12

On the same date, respondent BIR issued Revenue Regulations (RR) No. 16Â2005, 13 specifically identifying PAGCOR as one of the franchisees subject to 10% VAT imposed under Section 108 of the National Internal Revenue Code of 1997, as amended by R.A. No. 9337. The said revenue regulation, in part, reads:

Sec. 4. 108-3.Definitions and Specific Rules on Selected Services. –

xxx xxx xxx

(h). . .

Gross Receipts of all other franchisees, other than those covered by Sec. 119 of the Tax Code, regardless of how their franchisees may have been granted, shall be subject to the 10% VAT imposed under Sec.108 of the Tax Code. This includes, among others, the Philippine Amusement and Gaming Corporation (PAGCOR), and its licensees or franchisees. 

Hence, the present petition for certiorari.

PAGCOR raises the following issues:

I

WHETHER OR NOT RA 9337, SECTION 1 (C) IS NULL AND VOID AB INITIO FOR BEING REPUGNANT TO THE EQUAL PROTECTION [CLAUSE] EMBODIED IN SECTION 1, ARTICLE III OF THE 1987 CONSTITUTION.

II

WHETHER OR NOT RA 9337, SECTION 1 (C) IS NULL AND VOID AB INITIO FOR BEING REPUGNANT TO THE NON-IMPAIRMENT [CLAUSE] EMBODIED IN SECTION 10, ARTICLE III OF THE 1987 CONSTITUTION.

III

WHETHER OR NOT RR 16-2005, SECTION 4.108-3, PARAGRAPH (H) IS NULL AND VOID AB INITIO FOR BEING BEYOND THE SCOPE OF THE BASIC LAW, RA 8424, SECTION 108, INSOFAR AS THE SAID REGULATION IMPOSED VAT ON THE SERVICES OF THE PETITIONER AS WELL AS PETITIONER'S LICENSEES OR FRANCHISEES WHEN THE BASIC LAW, AS INTERPRETED BY APPLICABLE JURISPRUDENCE, DOES NOT IMPOSE VAT ON PETITIONER OR ON PETITIONER'S LICENSEES OR FRANCHISEES. 14

The BIR, in its Comment 15 dated December 29, 2006, counters:

I

SECTION 1 OF R.A. NO. 9337 AND SECTION 13 (2) OF P.D. 1869 ARE BOTH VALID AND CONSTITUTIONAL PROVISIONS OF LAWS THAT SHOULD BE HARMONIOUSLY CONSTRUED TOGETHER SO AS TO GIVE EFFECT TO ALL OF THEIR PROVISIONS WHENEVER POSSIBLE.

II

SECTION 1 OF R.A. NO. 9337 IS NOT VIOLATIVE OF SECTION 1 AND SECTION 10, ARTICLE III OF THE 1987 CONSTITUTION.

III

BIR REVENUE REGULATIONS ARE PRESUMED VALID AND CONSTITUTIONAL UNTIL STRICKEN DOWN BY LAWFUL AUTHORITIES. AaCTcI

The Office of the Solicitor General (OSG), by way of Manifestation in Lieu of Comment, 16 concurred with the arguments of the petitioner. It added that although the State is free to select the subjects of taxation and that the inequity resulting from singling out a particular class for taxation or exemption is not an infringement of the constitutional limitation, a tax law must operate with the same force and effect to all persons, firms and corporations placed in a similar situation. Furthermore, according to the OSG, public respondent BIR exceeded its statutory authority when it enacted RR No. 16-2005, because the latter's provisions are contrary to the mandates of P.D. No. 1869 in relation to R.A. No. 9337.

The main issue is whether or not PAGCOR is still exempt from corporate income tax and VAT with the enactment of R.A. No. 9337.

After a careful study of the positions presented by the parties, this Court finds the petition partly meritorious.

Under Section 1 of R.A. No. 9337, amending Section 27 (c) of the National Internal Revenue Code of 1977, petitioner is no longer exempt from corporate income tax as it has been effectively omitted from the list of GOCCs that are exempt from it. Petitioner argues that such omission is unconstitutional, as it is violative of its right to equal protection of the laws under Section 1, Article III of the Constitution:

Sec. 1.No person shall be deprived of life, liberty, or property without due process of law, nor shall any person be denied the equal protection of the laws.

In City of Manila v. Laguio, Jr., 17 this Court expounded the meaning and scope of equal protection, thus:

Equal protection requires that all persons or things similarly situated should be treated alike, both as to rights conferred and responsibilities imposed. Similar subjects, in other words, should not be treated differently, so as to give undue favor to some and unjustly discriminate against others. The guarantee means that no person or class of persons shall be denied the same protection of laws which is enjoyed by other persons or other classes in like circumstances. The "equal protection of the laws is a pledge of the protection of equal laws." It limits governmental discrimination. The equal protection clause extends to artificial persons but only insofar as their property is concerned.

xxx xxx xxx

Legislative bodies are allowed to classify the subjects of legislation. If the classification is reasonable, the law may operate only on some and not all of the people without violating the equal protection clause. The classification must, as an indispensable requisite, not be arbitrary. To be valid, it must conform to the following requirements:

1)It must be based on substantial distinctions.

2)It must be germane to the purposes of the law.

3)It must not be limited to existing conditions only.

4)It must apply equally to all members of the class. 18

It is not contested that before the enactment of R.A. No. 9337, petitioner was one of the five GOCCs exempted from payment of corporate income tax as shown in R.A. No. 8424, Section 27 (c) of which, reads:

(c)Government-owned or Controlled Corporations, Agencies or Instrumentalities. – The provisions of existing special or general laws to the contrary notwithstanding, all corporations, agencies or instrumentalities owned and controlled by the Government, except the Government Service and Insurance Corporation (GSIS), the Social Security System (SSS), the Philippine Health Insurance Corporation (PHIC), the Philippine Charity Sweepstakes Office (PCSO), and the Philippine Amusement and Gaming Corporation (PAGCOR), shall pay such rate of tax upon their taxable income as are imposed by this Section upon corporations or associations engaged in similar business, industry, or activity. 19DIETcH

A perusal of the legislative records of the Bicameral Conference Meeting of the Committee on Ways on Means dated October 27, 1997 would show

that the exemption of PAGCOR from the payment of corporate income tax was due to the acquiescence of the Committee on Ways on Means to the request of PAGCOR that it be exempt from such tax. 20 The records of the Bicameral Conference Meeting reveal:

HON. R. DIAZ.

The other thing, sir, is we – I noticed we imposed a tax on lotto winnings.

CHAIRMAN ENRILE.Wala na, tinanggal na namin yon.HON. R. DIAZ.Tinanggal na ba natin yon?CHAIRMAN ENRILE.Oo.HON. R. DIAZ.Because I was wondering whether we covered the tax

on – Whether on a universal basis, we included a tax on cockfighting winnings.

CHAIRMAN ENRILE.No, we removed the –HON. R. DIAZ. I . . . (inaudible) natin yong lotto?CHAIRMAN ENRILE.Pati PAGCOR tinanggal upon request.CHAIRMAN JAVIER.Yeah, Philippine Insurance Commission.CHAIRMAN ENRILE.Philippine Insurance – Health, health ba. Yon ang

request ng Chairman, I will accept. (laughter) Pag-Pag-ibig yon, maliliit na sa tao yon.

HON. ROXAS.Mr. Chairman, I wonder if in the revenue gainers if we

factored in an amount that would reflect the VAT and other sales taxes –

CHAIRMAN ENRILE.No, we're talking of this measure only. We will not –

(discontinued)HON. ROXAS.No, no, no, no, from the – arising from the exemption.

Assuming that when we release the money into the hands of the public, they will not use that to – for wallpaper. They will spend that eh, Mr. Chairman. So when they spend that –

CHAIRMAN ENRILE.There's a VAT. TAacHEHON. ROXAS.There will be a VAT and there will be other sales

taxes no. Is there a quantification? Is there an approximation?

CHAIRMAN JAVIER.Not anything.HON. ROXAS.So, in effect, we have sterilized that entire seven

billion. In effect, it is not circulating in the economy which is unrealistic.

CHAIRMAN ENRILE.It does, it does, because this is taken and spent by

government, somebody receives it in the form of wages and supplies and other services and other goods. They are not being taken from the public and stored in a vault.

CHAIRMAN JAVIER.That 7.7 loss because of tax exemption. That will be

extra income for the taxpayers.HON. ROXAS.Precisely, so they will be spending it. 21

The discussion above bears out that under R.A. No. 8424, the exemption of PAGCOR from paying corporate income tax was not based on a classification showing substantial distinctions which make for real differences, but to reiterate, the exemption was granted upon the request of PAGCOR that it be exempt from the payment of corporate income tax.

With the subsequent enactment of R.A. No. 9337, amending R.A. No. 8424, PAGCOR has been excluded from the enumeration of GOCCs that are exempt from paying corporate income tax. The records of the Bicameral Conference Meeting dated April 18, 2005, of the Committee on the Disagreeing Provisions of Senate Bill No. 1950 and House Bill No. 3555,

show that it is the legislative intent that PAGCOR be subject to the payment of corporate income tax, thus:

THE CHAIRMAN (SEN. RECTO).Yes, Osmeña, the proponent of the amendment.SEN. OSMEÑA.Yeah. Mr. Chairman, one of the reasons why we're

even considering this VAT bill is we want to show the world who our creditors, that we are increasing official revenues that go to the national budget. Unfortunately today, Pagcor is unofficial.

Now, in 2003, I took a quick look this morning, Pagcor had a net income of 9.7 billion after paying some small taxes that they are subjected to. Of the 9.7 billion, they claim they remitted to national government seven billion. Pagkatapos, there are other specific remittances like to the Philippine Sports Commission, etc., as mandated by various laws, and then about 400 million to the President's Social Fund. But all in all, their net profit today should be about 12 billion. That's why I am questioning this two billion. Because while essentially they claim that the money goes to government, and I will accept that just for the sake of argument. It does not pass through the appropriation process. And I think that at least if we can capture 35 percent or 32 percent through the budgetary process, first, it is reflected in our official income of government which is applied to the national budget, and secondly, it goes through what is constitutionally mandated as Congress appropriating and defining where the money is spent and not through a board of directors that has absolutely no accountability.

REP. PUENTEBELLA. cCTAIEWell, with all due respect, Mr. Chairman, follow up

lang.There is wisdom in the comments of my good friend

from Cebu, Senator Osmeña. SEN. OSMEÑA.And Negros.REP. PUENTEBELLA.And Negros at the same time ay Kasimanwa. But I

would not want to put my friends from the Department of Finance in a difficult position, but may we know your comments on this knowing that as Senator Osmeña just mentioned, he said, "I accept that that a lot of it is going to spending for basic services," you know, going to most, I think, supposedly a lot or most of it should go to government spending, social services and the like. What is your comment on this? This is going to affect a lot of services on the government side.

THE CHAIRMAN (REP. LAPUS).Mr. Chair, Mr. Chair.SEN. OSMEÑA.It goes from pocket to the other, Monico.REP. PUENTEBELLA.I know that. But I wanted to ask them, Mr. Senator,

because you may have your own pre-judgment on this and I don't blame you. I don't blame you. And I know you have your own research. But will this not affect a lot, the disbursements on social services and other?

REP. LOCSIN.Mr. Chairman. Mr. Chairman, if I can add to that

question also. Wouldn't it be easier for you to explain to, say, foreign creditors, how do you explain to them that if there is a fiscal gap some of our richest corporations has [been] spared [from] taxation by the government which is one rich source of revenues. Now, why do you save, why do you spare certain government corporations on that, like Pagcor? So, would it be easier

for you to make an argument if everything was exposed to taxation?

REP. TEVES.Mr. Chair, please.THE CHAIRMAN (REP. LAPUS).Can we ask the DOF to respond to those before we

call Congressman Teves?MR. PURISIMA.Thank you, Mr. Chair.Yes, from definitely improving the collection, it

will help us because it will then enter as an official revenue although when dividends declare it also goes in as other income.(sic)

xxx xxx xxxREP. TEVES.Mr. Chairman. DCcIaE

xxx xxx xxxTHE CHAIRMAN (REP. LAPUS).Congressman Teves.REP. TEVES.Yeah. Pagcor is controlled under Section 27,

that is on income tax. Now, we are talking here on value-added tax. Do you mean to say we are going to amend it from income tax to value-added tax, as far as Pagcor is concerned?

THE CHAIRMAN (SEN. RECTO).No. We are just amending that section with

regard to the exemption from income tax of Pagcor.

xxx xxx xxxREP. NOGRALES.Mr. Chairman, Mr. Chairman. Mr. Chairman.THE CHAIRMAN (REP. LAPUS).Congressman Nograles.REP. NOGRALES.Just a point of inquiry from the Chair. What exactly

are the functions of Pagcor that are VATable? What will we VAT in Pagcor?

THE CHAIRMAN (REP. LAPUS).This is on own income tax. This is Pagcor income tax. REP. NOGRALES.No, that's why. Anong i-va-Vat natin sa kanya. Sale of

what?xxx xxx xxx

REP. VILLAFUERTE.Mr. Chairman, my question is, what are we VATing

Pagcor with, is it the . . .REP. NOGRALES.Mr. Chairman, this is a secret agreement or the way

they craft their contract, which basis?THE CHAIRMAN (SEN. RECTO).Congressman Nograles, the Senate version

does not discuss a VAT on Pagcor but it just takes away their exemption from non-payment of income tax.22

Taxation is the rule and exemption is the exception. 23 The burden of proof rests upon the party claiming exemption to prove that it is, in fact, covered by the exemption so claimed. 24 As a rule, tax exemptions are construed strongly against the claimant. 25 Exemptions must be shown to exist clearly and categorically, and supported by clear legal provision. 26

In this case, PAGCOR failed to prove that it is still exempt from the payment of corporate income tax, considering that Section 1 of R.A. No. 9337 amended Section 27 (c) of the National Internal Revenue Code of 1997 by omitting PAGCOR from the exemption. The legislative intent, as shown by the discussions in the Bicameral Conference Meeting, is to require PAGCOR to pay corporate income tax; hence, the omission or removal of PAGCOR from exemption from the payment of corporate income tax. It is a basic precept of statutory construction that the express mention of one person, thing, act, or consequence excludes all others as expressed in the familiar maxim expressio unius est exclusio alterius.27 Thus, the express mention of the GOCCs exempted from payment of corporate income tax excludes all others. Not being excepted, petitioner PAGCOR must be regarded as coming within the purview of the general rule that GOCCs shall pay corporate income tax, expressed in the maxim: exceptio firmat regulam in casibus non exceptis.28CSIDEc

PAGCOR cannot find support in the equal protection clause of the Constitution, as the legislative records of the Bicameral Conference Meeting dated October 27, 1997, of the Committee on Ways and Means, show that PAGCOR's exemption from payment of corporate income tax, as provided in Section 27 (c) of R.A. No. 8424, or the National Internal Revenue Code of 1997, was not made pursuant to a valid classification based on substantial distinctions and the other requirements of a reasonable classification by legislative bodies, so that the law may operate only on some, and not all, without violating the equal protection clause. The legislative records show that the basis of the grant of exemption to PAGCOR from corporate income tax was PAGCOR's own request to be exempted.

Petitioner further contends that Section 1 (c) of R.A. No. 9337 is null and void ab initio for violating the non-impairment clause of the Constitution. Petitioner avers that laws form part of, and is read into, the contract even without the parties expressly saying so. Petitioner states that the private parties/investors transacting with it considered the tax exemptions, which inure to their benefit, as the main consideration and inducement for their decision to transact/invest with it. Petitioner argues that the withdrawal of its exemption from corporate income tax by R.A. No. 9337 has the effect of changing the main consideration and inducement for the transactions of private parties with it; thus, the amendatory provision is violative of the non-impairment clause of the Constitution.

Petitioner's contention lacks merit.

The non-impairment clause is contained in Section 10, Article III of the Constitution, which provides that no law impairing the obligation of contracts shall be passed. The non-impairment clause is limited in application to laws that derogate from prior acts or contracts by enlarging, abridging or in any manner changing the intention of the parties. 29 There is impairment if a subsequent law changes the terms of a contract between the parties, imposes new conditions, dispenses with those agreed upon or withdraws remedies for the enforcement of the rights of the parties. 30

As regards franchises, Section 11, Article XII of the Constitution 31 provides that no franchise or right shall be granted except under the condition that it shall be subject to amendment, alteration, or repeal by the Congress when the common good so requires. 32

In Manila Electric Company v. Province of Laguna, 33 the Court held that a franchise partakes the nature of a grant, which is beyond the purview of the non-impairment clause of the Constitution. 34 The pertinent portion of the case states:

While the Court has, not too infrequently, referred to tax exemptions contained in special franchises as being in the nature of contracts and a part of the inducement for carrying on the franchise, these exemptions, nevertheless, are far from being strictly contractual in nature. Contractual tax exemptions, in the real sense of the term and where the non-impairment clause of the Constitution can rightly be invoked, are those agreed to by the taxing authority in contracts, such as those contained in government bonds or debentures, lawfully entered into by them under enabling laws in which the government, acting in its private capacity, sheds its cloak of authority and waives its governmental immunity. Truly, tax exemptions of this kind may not be revoked without impairing the obligations of contracts. These contractual tax exemptions, however, are not to be confused with tax exemptions granted under franchises. A franchise partakes the nature of a grant which is beyond the purview of the non-impairment clause of the Constitution. Indeed, Article XII, Section 11, of the 1987 Constitution, like its precursor provisions in the 1935 and the 1973 Constitutions, is explicit that no franchise for the operation of a public utility shall be granted except under the condition that such privilege shall be subject to amendment, alteration or repeal by Congress as and when the common good so requires.35

In this case, PAGCOR was granted a franchise to operate and maintain gambling casinos, clubs and other recreation or amusement places, sports, gaming pools, i.e., basketball, football, lotteries, etc., whether on land or

sea, within the territorial jurisdiction of the Republic of the Philippines. 36 Under Section 11, Article XII of the Constitution, PAGCOR's franchise is subject to amendment, alteration or repeal by Congress such as the amendment under Section 1 of R.A. No. 9377. Hence, the provision in Section 1 of R.A. No. 9337, amending Section 27 (c) of R.A. No. 8424 by withdrawing the exemption of PAGCOR from corporate income tax, which may affect any benefits to PAGCOR's transactions with private parties, is not violative of the non-impairment clause of the Constitution. SIcEHC

Anent the validity of RR No. 16-2005, the Court holds that the provision subjecting PAGCOR to 10% VAT is invalid for being contrary to R.A. No. 9337. Nowhere in R.A. No. 9337 is it provided that petitioner can be subjected to VAT. R.A. No. 9337 is clear only as to the removal of petitioner's exemption from the payment of corporate income tax, which was already addressed above by this Court. 

As pointed out by the OSG, R.A. No. 9337 itself exempts petitioner from VAT pursuant to Section 7 (k) thereof, which reads:

Sec. 7.Section 109 of the same Code, as amended, is hereby further amended to read as follows:

Section 109.Exempt Transactions. – (1) Subject to the provisions of Subsection (2) hereof, the following transactions shall be exempt from the value-added tax:

xxx xxx xxx

(k)Transactions which are exempt under international agreements to which the Philippines is a signatory or under special laws, except Presidential Decree No. 529. 37

Petitioner is exempt from the payment of VAT, because PAGCOR's charter, P.D. No. 1869, is a special law that grants petitioner exemption from taxes.

Moreover, the exemption of PAGCOR from VAT is supported by Section 6 of R.A. No. 9337, which retained Section 108 (B) (3) of R.A. No. 8424, thus:

[R.A. No. 9337], SEC. 6. Section 108 of the same Code (R.A. No. 8424), as amended, is hereby further amended to read as follows:

SEC. 108.Value-Added Tax on Sale of Services and Use or Lease of Properties. –

(A)Rate and Base of Tax. – There shall be levied, assessed and collected, a value-added tax equivalent to ten percent (10%) of gross receipts derived from the sale or exchange of services, including the use or lease of properties: . . .

xxx xxx xxx

(B)Transactions Subject to Zero Percent (0%) Rate. – The following services performed in the Philippines by VAT registered persons shall be subject to zero percent (0%) rate;

xxx xxx xxx

(3)Services rendered to persons or entities whose exemption under special laws or international agreements to which the Philippines is a signatory effectively subjects the supply of such services to zero percent (0%) rate;

xxx xxx xxx 38

As pointed out by petitioner, although R.A. No. 9337 introduced amendments to Section 108 of R.A. No. 8424 by imposing VAT on other services not previously covered, it did not amend the portion of Section 108 (B) (3) that subjects to zero percent rate services performed by VAT-registered persons to persons or entities whose exemption under special laws or international agreements to which the Philippines is a signatory effectively subjects the supply of such services to 0% rate. cSCTID

Petitioner's exemption from VAT under Section 108 (B) (3) of R.A. No. 8424 has been thoroughly and extensively discussed in Commissioner of Internal Revenue v. Acesite (Philippines) Hotel Corporation.39 Acesite was the owner and operator of the Holiday Inn Manila Pavilion Hotel. It leased a portion of the hotel's premises to PAGCOR. It incurred VAT amounting to P30,152,892.02 from its rental income and sale of food and beverages to PAGCOR from January 1996 to April 1997. Acesite tried to shift the said taxes to PAGCOR by incorporating it in the amount assessed to PAGCOR. However, PAGCOR refused to pay the taxes because of its tax-exempt status. PAGCOR paid only the amount due to Acesite minus VAT in the sum of P30,152,892.02. Acesite paid VAT in the amount of P30,152,892.02 to the Commissioner of Internal Revenue, fearing the legal consequences of its non-payment. In May 1998, Acesite sought the refund of the amount it paid as VAT on the ground that its transaction with PAGCOR was subject to zero rate as it was rendered to a tax-exempt entity. The Court ruled that PAGCOR and Acesite were both exempt from paying VAT, thus:

xxx xxx xxx

PAGCOR is exempt from payment of indirect taxes

It is undisputed that P.D. 1869, the charter creating PAGCOR, grants the latter an exemption from the payment of taxes. Section 13 of P.D. 1869 pertinently provides:

Sec. 13.Exemptions. –

xxx xxx xxx

(2)Income and other taxes. – (a) Franchise Holder: No tax of any kind or form, income or otherwise, as well as fees, charges or levies of whatever nature, whether National or Local, shall be assessed and collected under this Franchise from the Corporation; nor shall any form of tax or charge attach in any way to the earnings of the Corporation, except a Franchise Tax of five (5%) percent of the gross revenue or earnings derived by the Corporation from its operation under this Franchise. Such tax shall be due and payable quarterly to the National Government and shall be in lieu of all kinds of taxes, levies, fees or assessments of any kind, nature or description, levied, established or collected by any municipal, provincial, or national government authority.

(b)Others: The exemptions herein granted for earnings derived from the operations conducted under the franchise specifically from the payment of any tax, income or otherwise, as well as any form of charges, fees or levies, shall inure to the benefit of and extend to corporation(s), association(s), agency(ies), or individual(s) with whom the Corporation or operator has any contractual relationship in connection with the operations of the casino(s) authorized to be conducted under this Franchise and to those receiving compensation or other remuneration from the Corporation or operator as a result of essential facilities furnished and/or technical services rendered to the Corporation or operator.

Petitioner contends that the above tax exemption refers only to PAGCOR's direct tax liability and not to indirect taxes, like the VAT. ITScHa

We disagree.

A close scrutiny of the above provisos clearly gives PAGCOR a blanket exemption to taxes with no distinction on whether the taxes are direct or indirect. We are one with the CA ruling that PAGCOR is also exempt from indirect taxes, like VAT, as follows:

Under the above provision [Section 13 (2) (b) of P.D. 1869], the term "Corporation" or operator refers to PAGCOR. Although the law does not specifically mention PAGCOR's exemption from indirect taxes, PAGCOR is undoubtedly exempt from such taxes because the law exempts from taxes persons or entities contracting with PAGCOR in casino operations. Although, differently worded, the provision clearly exempts PAGCOR from indirect taxes. In fact, it goes one step further by granting tax exempt status to persons dealing with PAGCOR in casino operations. The unmistakable conclusion is that PAGCOR is not liable for the P30,152,892.02 VAT and neither is Acesite as the latter is effectively subject to zero percent rate under Sec. 108 B (3), R.A. 8424. (Emphasis supplied.)

Indeed, by extending the exemption to entities or individuals dealing with PAGCOR, the legislature clearly granted exemption also from indirect taxes. It must be noted that the indirect tax of VAT, as in the instant case, can be shifted or passed to the buyer, transferee, or lessee of the goods, properties, or services subject to VAT. Thus, by extending the tax exemption to entities or individuals dealing with PAGCOR in casino operations, it is exempting PAGCOR from being liable to indirect taxes.

The manner of charging VAT does not make PAGCOR liable to said tax.

It is true that VAT can either be incorporated in the value of the goods, properties, or services sold or leased, in which case it is computed as 1/11 of such value, or charged as an additional 10% to the value. Verily, the seller or lessor has the option to follow either way in charging its clients and customer. In the instant case, Acesite followed the latter method, that is, charging an additional 10% of the gross sales and rentals. Be that as it may, the use of either method, and in particular, the first method, does not denigrate the fact that PAGCOR is exempt from an indirect tax, like VAT.

VAT exemption extends to Acesite

Thus, while it was proper for PAGCOR not to pay the 10% VAT charged by Acesite, the latter is not liable for the payment of it as it is exempt in this particular transaction by operation of law to pay the indirect tax. Such exemption falls within the former Section 102 (b) (3) of the 1977 Tax Code, as amended (now Sec. 108 [b] [3] of R.A. 8424), which provides:

Section 102.Value-added tax on sale of services. – (a) Rate and base of tax – There shall be levied, assessed and collected, a value-added tax equivalent to 10% of gross receipts derived by any person engaged in the sale of services . . .; Provided, that the following services performed in the

Philippines by VATÂregistered persons shall be subject to 0%.

xxx xxx xxx

(3)Services rendered to persons or entities whose exemption under special laws or international agreements to which the Philippines is a signatory effectively subjects the supply of such services to zero (0%) rate (emphasis supplied).

The rationale for the exemption from indirect taxes provided for in P.D. 1869 and the extension of such exemption to entities or individuals dealing with PAGCOR in casino operations are best elucidated from the 1987 case of Commissioner of Internal Revenue v. John Gotamco & Sons, Inc., where the absolute tax exemption of the World Health Organization (WHO) upon an international agreement was upheld. We held in said case that the exemption of contractee WHO should be implemented to mean that the entity or person exempt is the contractor itself who constructed the building owned by contractee WHO, and such does not violate the rule that tax exemptions are personal because the manifest intention of the agreement is to exempt the contractor so that no contractor's tax may be shifted to the contractee WHO. Thus, the proviso in P.D. 1869, extending the exemption to entities or individuals dealing with PAGCOR in casino operations, is clearly to proscribe any indirect tax, like VAT, that may be shifted to PAGCOR. 40SCHIcT

Although the basis of the exemption of PAGCOR and Acesite from VAT in the case of The Commissioner of Internal Revenue v. Acesite (Philippines) Hotel Corporation was Section 102 (b) of the 1977 Tax Code, as amended, which section was retained as Section 108 (B) (3) in R.A. No. 8424, 41 it is still applicable to this case, since the provision relied upon has been retained in R.A. No. 9337. 42  

It is settled rule that in case of discrepancy between the basic law and a rule or regulation issued to implement said law, the basic law prevails, because the said rule or regulation cannot go beyond the terms and provisions of the basic law. 43 RR No. 16-2005, therefore, cannot go beyond the provisions of R.A. No. 9337. Since PAGCOR is exempt from VAT under R.A. No. 9337, the BIR exceeded its authority in subjecting PAGCOR to 10% VAT under RR No. 16-2005; hence, the said regulatory provision is hereby nullified.

WHEREFORE, the petition is PARTLY GRANTED. Section 1 of Republic Act No. 9337, amending Section 27 (c) of the National Internal Revenue Code of 1997, by excluding petitioner Philippine Amusement and Gaming Corporation from the enumeration of government-owned and controlled corporations exempted from corporate income tax is valid and constitutional, while BIR Revenue Regulations No. 16-2005 insofar as it subjects PAGCOR to 10% VAT is null and void for being contrary to the National Internal Revenue Code of 1997, as amended by Republic Act No. 9337.

No costs.

SO ORDERED.

Corona, C.J., Carpio, Carpio Morales, Velasco, Jr., Leonardo-de Castro, Bersamin, Del Castillo, Abad, Villarama, Jr., Perez, Mendoza and Sereno, JJ., concur.

||| (PAGCOR v. BIR, G.R. No. 172087, March 15, 2011)

THIRD DIVISION[G.R. No. 178788. September 29, 2010.]

UNITED AIRLINES, INC., petitioner, vs. COMMISSIONER OF INTERNAL REVENUE, respondent.

DECISIONVILLARAMA, JR., J p:Before us is a petition for review on certiorari under Rule 45 of the 1997 Rules of Civil Procedure, as amended, of the Decision 1 dated July 5, 2007 of the Court of Tax Appeals En Banc (CTA En Banc)in C.T.A. EB No. 227 denying petitioner's claim for tax refund of P5.03 million.

The undisputed facts are as follows:

Petitioner United Airlines, Inc. is a foreign corporation organized and existing under the laws of the State of Delaware, U.S.A., engaged in the international airline business.

Petitioner used to be an online international carrier of passenger and cargo, i.e., it used to operate passenger and cargo flights originating in the Philippines. Upon cessation of its passenger flights in and out of the Philippines beginning February 21, 1998, petitioner appointed a sales agent in the Philippines — Aerotel Ltd. Corp., an independent general sales agent acting as such for several international airline companies. 2 Petitioner continued operating cargo flights from the Philippines until January 31, 2001. 3

On April 12, 2002, petitioner filed with respondent Commissioner a claim for income tax refund, pursuant to Section 28 (A) (3) (a) 4 of the National Internal Revenue Code of 1997 (NIRC) in relation to Article 4 (7) 5 of the Convention between the Government of the Republic of the Philippines and the Government of the United States of America with respect to Income Taxes (RP-US Tax Treaty). Petitioner sought to refund the total amount of P15,916,680.69 pertaining to income taxes paid on gross passenger and cargo revenues for the taxable years 1999 to 2001, which included the amount of P5,028,813.23 allegedly representing income taxes paid in 1999 on passenger revenue from tickets sold in the Philippines, the uplifts of which did not originate in the Philippines. Citing the change in definition of Gross Philippine Billings (GPB) in the NIRC, petitioner argued that since it no longer operated passenger flights originating from the Philippines beginning February 21, 1998, its passenger revenue for 1999, 2000 and 2001 cannot be considered as income from sources within the Philippines, and hence should not be subject to Philippine income tax under Article 9 6 of the RP-US Tax Treaty. 7cCAIDS

As no resolution on its claim for refund had yet been made by the respondent and in view of the two (2)-year prescriptive period (from the time of filing the Final Adjustment Return for the taxable year 1999) which was about to expire on April 15, 2002, petitioner filed on said date a petition for review with the Court of Tax Appeals (CTA). 8

Petitioner asserted that under the new definition of GPB under the 1997 NIRC and Article 4 (7) of the RP-US Tax Treaty, Philippine tax authorities have jurisdiction to tax only the gross revenue derived by US air and shipping carriers from outgoing traffic in the Philippines. Since the Bureau of Internal Revenue (BIR) erroneously imposed and collected income tax in 1999 based on petitioner's gross passenger revenue, as beginning 1998 petitioner no longer flew passenger flights to and from the Philippines, petitioner is entitled to a refund of such erroneously collected income tax in the amount of P5,028,813.23. 9

In its Decision 10 dated May 18, 2006, the CTA's First Division 11 ruled that no excess or erroneously paid tax may be refunded to petitioner because the income tax on GPB under Section 28 (A) (3) (a) of the NIRC applies as well to gross revenue from carriage of cargoes originating from the Philippines. It agreed that petitioner cannot be taxed on its 1999 passenger revenue from flights originating outside the Philippines. However, in reporting a cargo revenue of P740.33 million in 1999, it was found that petitioner deducted two (2) items from its gross cargo revenue of P2.84 billion: P141.79 million as commission and P1.98 billion as other incentives of its agent. These deductions were erroneous because the gross revenue referred to in Section 28 (A) (3) (a) of the NIRC was total revenue before any deduction of commission and incentives. Petitioner's gross cargo revenue in 1999, being P2.84 billion, the GPB tax thereon was P42.54 million and not P11.1 million, the amount petitioner paid for the reported net cargo revenue of P740.33 million. The CTA First Division further noted that petitioner even underpaid its taxes on cargo revenue by P31.43 million, which amount was much higher than the P5.03 million it asked to be refunded.

A motion for reconsideration was filed by petitioner but the First Division denied the same. It held that petitioner's claim for tax refund was not offset with its tax liability; that petitioner's tax deficiency was due to erroneous deductions from its gross cargo revenue; that it did not make an assessment against petitioner; and that it merely determined if petitioner was entitled to a refund based on the undisputed facts and whether petitioner had paid the correct amount of tax. 12

Petitioner elevated the case to the CTA En Banc which affirmed the decision of the First Division.Hence, this petition anchored on the following grounds:

I.THE CTA EN BANC GROSSLY ERRED IN DENYING THE PETITIONER'S CLAIM FOR REFUND OF ERRONEOUSLY PAID INCOME TAX ON GROSS PHILIPPINE BILLINGS [GPB] BASED ON ITS FINDING THAT PETITIONER'S UNDERPAYMENT OF [P31.43 MILLION] GPB TAX ON CARGO REVENUES IS A LOT HIGHER THAN THE GPB TAX OF [P5.03 MILLION] ON PASSENGER REVENUES, WHICH IS THE SUBJECT OF THE INSTANT CLAIM FOR REFUND. THE DENIAL OF PETITIONER'S CLAIM ON SUCH GROUND CLEARLY AMOUNTS TO AN OFF-SETTING OF TAX LIABILITIES, CONTRARY TO WELL-SETTLED JURISPRUDENCE. prcd

II.THE DECISION OF THE CTA EN BANC VIOLATED PETITIONER'S RIGHT TO DUE PROCESS.

III.THE CTA EN BANC ACTED IN EXCESS OF ITS JURISDICTION BY DENYING PETITIONER'S CLAIM FOR REFUND OF ERRONEOUSLY PAID INCOME TAX ON GROSS PHILIPPINE BILLINGS BASED ON ITS FINDING THAT PETITIONER UNDERPAID GPB TAX ON CARGO REVENUES IN THE AMOUNT OF [P31.43 MILLION] FOR THE TAXABLE YEAR 1999.

IV.THE CTA EN BANC HAS NO AUTHORITY UNDER THE LAW TO MAKE ANY ASSESSMENTS FOR DEFICIENCY TAXES. THE AUTHORITY TO MAKE ASSESSMENTS FOR DEFICIENCY NATIONAL INTERNAL REVENUE TAXES IS VESTED BY THE 1997 NIRC UPON RESPONDENT.

V.ANY ASSESSMENT AGAINST PETITIONER FOR DEFICIENCY INCOME TAX FOR THE TAXABLE YEAR 1999 IS ALREADY BARRED BY PRESCRIPTION. 13

The main issue to be resolved is whether the petitioner is entitled to a refund of the amount of P5,028,813.23 it paid as income tax on its passenger revenues in 1999.

Petitioner argues that its claim for refund of erroneously paid GPB tax on off-line passenger revenues cannot be denied based on the finding of the CTA that petitioner allegedly underpaid the GPB tax on cargo revenues by P31,431,171.09, which underpayment is allegedly higher than the GPB tax of P5,028,813.23 on passenger revenues, the amount of the instant claim. The denial of petitioner's claim for refund on such ground is tantamount to an offsetting of petitioner's claim for refund of erroneously paid GPB against its alleged tax liability. Petitioner thus cites the well-entrenched rule in taxation cases that internal revenue taxes cannot be the subject of set-off or compensation. 14

According to petitioner, the offsetting of the liabilities is very clear in the instant case because the amount of petitioner's claim for refund of erroneously paid GPB tax of P5,028,813.23 for the taxable year 1999 is being offset against petitioner's alleged deficiency GPB tax liability on cargo revenues for the same year, which was not even the subject of an investigation nor any valid assessment issued by respondent against the petitioner. Under Section 228 15 of the NIRC, the "taxpayer shall be informed in writing of the law and the facts on which the assessment is made; otherwise, the assessment shall be void." This administrative process of issuing an assessment is part of procedural due process enshrined in the 1987 Constitution. Records do not show that petitioner has been assessed by the BIR for any deficiency GBP tax for 1999, nor was there any finding or investigation being conducted by respondent of any liability of petitioner for GPB tax for the said taxable period. Clearly, petitioner's right to due process was violated. 16cdasiajur

Petitioner further argues that the CTA acted in excess of its jurisdiction because the exclusive appellate jurisdiction of the CTA covers only decisions or inactions of the respondent in cases involving disputed assessments. The CTA has effectively assessed petitioner with a P31.43 million tax deficiency when it concluded that petitioner underpaid its GPB tax on cargo revenue. Since respondent did not issue an assessment for any deficiency tax, the alleged deficiency tax on its cargo revenue in 1999 cannot be considered a disputed assessment that may be passed upon by the CTA. Petitioner stresses that the authority to issue an assessment for deficiency internal revenue taxes is vested by law on respondent, not with the CTA. 17

Lastly, petitioner argues that any assessment against it for deficiency income tax for taxable year 1999 is barred by prescription. Petitioner claims that the prescriptive period within which an assessment for deficiency income tax may be made has prescribed on April 17, 2003, three (3) years after it filed its 1999 tax return. 18

Respondent Commissioner maintains that the CTA acted within its jurisdiction in denying petitioner's claim for tax refund. It points out that the objective of the CTA's determination of whether petitioner correctly paid its GPB tax for the taxable year 1999 was to ascertain the latter's entitlement to the claimed refund and not for the purpose of imposing any deficiency tax. Hence, petitioner's arguments regarding the propriety of the CTA's determination of its deficiency tax on its GPB for gross cargo revenues for 1999 are clearly misplaced. 19  

The petition has no merit.

As correctly pointed out by petitioner, inasmuch as it ceased operating passenger flights to or from the Philippines in 1998, it is not taxable under Section 28 (A) (3) (a) of the NIRC for gross passenger revenues. This much was also found by the CTA. In South African Airways v. Commissioner of Internal Revenue, 20 we ruled that the correct interpretation of the said provisions is that, if an international air carrier maintains flights to and from the Philippines, it shall be taxed at the rate of 2 1/2% of its GPB, while international air carriers that do not have flights to and from the Philippines but nonetheless earn income from other activities in the country will be taxed at the rate of 32% of such income.

Here, the subject of claim for tax refund is the tax paid on passenger revenue for taxable year 1999 at the time when petitioner was still operating cargo flights originating from the Philippines although it had ceased passenger flight operations. The CTA found that petitioner had underpaid its GPB tax for 1999 because petitioner had made deductions from its gross cargo revenues in the income tax return it filed for the taxable year 1999, the amount of underpayment even greater than the refund sought for erroneously paid GPB tax on passenger revenues for the same taxable period. Hence, the CTA ruled petitioner is not entitled to a tax refund. DHcTaE

Petitioner's arguments regarding the propriety of such determination by the CTA are misplaced.

Under Section 72 of the NIRC, the CTA can make a valid finding that petitioner made erroneous deductions on its gross cargo revenue; that because of the erroneous deductions, petitioner reported a lower cargo revenue and paid a lower income tax thereon; and that petitioner's underpayment of the income tax on cargo revenue is even higher than the income tax it paid on passenger revenue subject of the claim for refund, such that the refund cannot be granted.

Section 72 of the NIRC reads:

SEC. 72.Suit to Recover Tax Based on False or Fraudulent Returns. — When an assessment is made in case of any list, statement or return, which in the opinion of the Commissioner was false or fraudulent or contained any understatement or undervaluation, no tax collected under such assessment shall be recovered by any suit, unless it is proved that the said list, statement or return was not false nor fraudulent and did not contain any understatement or undervaluation; but this provision shall not apply to statements or returns made or to be made in good faith regarding annual depreciation of oil or gas wells and mines.

In the afore-cited case of South African Airways, this Court rejected similar arguments on the denial of claim for tax refund, as follows:

Precisely, petitioner questions the offsetting of its payment of the tax under Sec. 28(A)(3)(a) with their liability under Sec. 28(A)(1), considering that there has not yet been any assessment of their obligation under the latter provision. Petitioner argues that such offsetting is in the nature of legal compensation, which cannot be applied under the circumstances present in this case.

Article 1279 of the Civil Code contains the elements of legal compensation, to wit:

Art. 1279.In order that compensation may be proper, it is necessary:

(1)That each one of the obligors be bound principally, and that he be at the same time a principal creditor of the other;

(2)That both debts consist in a sum of money, or if the things due are consumable, they be of the same kind, and also of the same quality if the latter has been stated;

(3)That the two debts be due;

(4)That they be liquidated and demandable;

(5)That over neither of them there be any retention or controversy, commenced by third persons and communicated in due time to the debtor. CTHaSD

And we ruled in Philex Mining Corporation v. Commissioner of Internal Revenue, thus:

In several instances prior to the instant case, we have already made the pronouncement that taxes cannot be subject to compensation for the simple reason that the government and the taxpayer are not creditors and debtors of each other. There is a material distinction between a tax and debt. Debts are due to the Government in its corporate capacity, while taxes are due to the Government in its sovereign capacity. We find no cogent reason to deviate from the aforementioned distinction.

Prescinding from this premise, in Francia v. Intermediate Appellate Court, we categorically held that taxes cannot be subject to set-off or compensation, thus:

We have consistently ruled that there can be no off-setting of taxes against the claims that the taxpayer may have against the government. A person cannot refuse to pay a tax on the ground that the government owes him an amount equal to or greater than the tax being collected. The collection of a tax cannot await the results of a lawsuit against the government.

The ruling in Francia has been applied to the subsequent case of Caltex Philippines, Inc. v. Commission on Audit, which reiterated that:

. . . a taxpayer may not offset taxes due from the claims that he may have against the government. Taxes

cannot be the subject of compensation because the government and taxpayer are not mutually creditors and debtors of each other and a claim for taxes is not such a debt, demand, contract or judgment as is allowed to be set-off.

Verily, petitioner's argument is correct that the offsetting of its tax refund with its alleged tax deficiency is unavailing under Art. 1279 of the Civil Code.

Commissioner of Internal Revenue v. Court of Tax Appeals, however, granted the offsetting of a tax refund with a tax deficiency in this wise:

Further, it is also worth noting that the Court of Tax Appeals erred in denying petitioner's supplemental motion for reconsideration alleging bringing to said court's attention the existence of the deficiency income and business tax assessment against Citytrust. The fact of such deficiency assessment is intimately related to and inextricably intertwined with the right of respondent bank to claim for a tax refund for the same year. To award such refund despite the existence of that deficiency assessment is an absurdity and a polarity in conceptual effects. Herein private respondent cannot be entitled to refund and at the same time be liable for a tax deficiency assessment for the same year. DACTSa

The grant of a refund is founded on the assumption that the tax return is valid, that is, the facts stated therein are true and correct. The deficiency assessment, although not yet final, created a doubt as to and constitutes a challenge against the truth and accuracy of the facts stated in said return which, by itself and without unquestionable evidence, cannot be the basis for the grant of the refund.

Section 82, Chapter IX of the National Internal Revenue Code of 1977, which was the applicable law when the claim of Citytrust was filed, provides that "(w)hen an assessment is made in case of any list, statement, or return, which in the opinion of the Commissioner of Internal Revenue was false or fraudulent or contained any understatement or undervaluation, no tax collected under such assessment shall be recovered by any suits unless it is proved that the said list, statement, or return was not false nor fraudulent and did not contain any understatement or undervaluation; but this provision shall not apply to statements or returns made or to be made in good faith regarding annual depreciation of oil or gas wells and mines."

Moreover, to grant the refund without determination of the proper assessment and the tax due would inevitably result in multiplicity of proceedings or suits. If the deficiency assessment should subsequently be upheld, the Government will be forced to institute anew a proceeding for the recovery of erroneously refunded taxes which recourse must be filed within the prescriptive period of ten years after discovery of the falsity, fraud or omission in the false or fraudulent return involved. This would necessarily require and entail additional efforts and expenses on the part of the Government, impose a burden on and a drain of government funds, and impede or delay the

collection of much-needed revenue for governmental operations.

Thus, to avoid multiplicity of suits and unnecessary difficulties or expenses, it is both logically necessary and legally appropriate that the issue of the deficiency tax assessment against Citytrust be resolved jointly with its claim for tax refund, to determine once and for all in a single proceeding the true and correct amount of tax due or refundable.

In fact, as the Court of Tax Appeals itself has heretofore conceded, it would be only just and fair that the taxpayer and the Government alike be given equal opportunities to avail of remedies under the law to defeat each other's claim and to determine all matters of dispute between them in one single case. It is important to note that in determining whether or not petitioner is entitled to the refund of the amount paid, it would [be] necessary to determine how much the Government is entitled to collect as taxes. This would necessarily include the determination of the correct liability of the taxpayer and, certainly, a determination of this case would constitute res judicata on both parties as to all the matters subject thereof or necessarily involved therein. (Emphasis supplied.)

Sec. 82, Chapter IX of the 1977 Tax Code is now Sec. 72, Chapter XI of the 1997 NIRC. The above pronouncements are, therefore, still applicable today. EaISDC

Here, petitioner's similar tax refund claim assumes that the tax return that it filed was correct. Given, however, the finding of the CTA that petitioner, although not liable under Sec. 28(A)(3)(a) of the 1997 NIRC, is liable under Sec. 28(A)(1), the correctness of the return filed by petitioner is now put in doubt. As such, we cannot grant the prayer for a refund. 21 (Additional emphasis supplied.) 

In the case at bar, the CTA explained that it merely determined whether petitioner is entitled to a refund based on the facts. On the assumption that petitioner filed a correct return, it had the right to file a claim for refund of GPB tax on passenger revenues it paid in 1999 when it was not operating passenger flights to and from the Philippines. However, upon examination by the CTA, petitioner's return was found erroneous as it understated its gross cargo revenue for the same taxable year due to deductions of two (2) items consisting of commission and other incentives of its agent. Having underpaid the GPB tax due on its cargo revenues for 1999, petitioner is not entitled to a refund of its GPB tax on its passenger revenue, the amount of the former being even much higher (P31.43 million) than the tax refund sought (P5.2 million). The CTA therefore correctly denied the claim for tax refund after determining the proper assessment and the tax due. Obviously, the matter of prescription raised by petitioner is a non-issue. The prescriptive periods under Sections 203 22 and 222 23 of the NIRC find no application in this case.

We must emphasize that tax refunds, like tax exemptions, are construed strictly against the taxpayer and liberally in favor of the taxing authority. 24 In any event, petitioner has not discharged its burden of proof in establishing the factual basis for its claim for a refund and we find no reason to disturb the ruling of the CTA. It has been a long-standing policy and practice of the Court to respect the conclusions of quasi-judicial agencies such as the CTA, a highly specialized body specifically created for the purpose of reviewing tax cases. 25

WHEREFORE, we DENY the petition for lack of merit and AFFIRM the Decision dated July 5, 2007 of the Court of Tax Appeals En Banc in C.T.A. EB No. 227.

With costs against the petitioner.

SO ORDERED.||| (United Airlines, Inc. v. Commr., G.R. No. 178788, September 29, 2010)

[G.R. Nos. 179045-46. August 25, 2010.]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. SMART COMMUNICATION, INC., *respondent.

DECISION

DEL CASTILLO, J p:

The right of a withholding agent to claim a refund of erroneously or illegally withheld taxes comes with the responsibility to return the same to the principal taxpayer.

This Petition for Review on Certiorari under Rule 45 of the Rules of Court seeks to set aside the Decision 1 dated June 28, 2007 and the Resolution 2 dated July 31, 2007 of the Court of Tax Appeals (CTA) En Banc.

Factual Antecedents

Respondent Smart Communications, Inc. is a corporation organized and existing under Philippine law. It is an enterprise duly registered with the Board of Investments.

On May 25, 2001, respondent entered into three Agreements for Programming and Consultancy Services 3 with Prism Transactive (M) Sdn. Bhd. (Prism), a non-resident corporation duly organized and existing under the laws of Malaysia. Under the agreements, Prism was to provide programming and consultancy services for the installation of the Service Download Manager (SDM) and the Channel Manager (CM), and for the installation and implementation of Smart Money and Mobile Banking Service SIM Applications (SIM Applications) and Private Text Platform (SIM Application).

On June 25, 2001, Prism billed respondent in the amount of US$547,822.45, broken down as follows:

SDM AgreementUS$236,000.00CM Agreement296,000.00SIM Application Agreement15,822.45––––––––––––––TotalUS$547,822.45 4=============

Thinking that these payments constitute royalties, respondent withheld the amount of US$136,955.61 or P7,008,840.43, 5 representing the 25% royalty tax under the RP-Malaysia Tax Treaty. 6ITScAE

On September 25, 2001, respondent filed its Monthly Remittance Return of Final Income Taxes Withheld (BIR Form No. 1601-F) 7 for the month of August 2001.

On September 24, 2003, or within the two-year period to claim a refund, respondent filed with the Bureau of Internal Revenue (BIR), through the International Tax Affairs Division (ITAD), an administrative claim for refund 8 of the amount of P7,008,840.43.

Proceedings before the CTA Second Division

Due to the failure of the petitioner Commissioner of Internal Revenue (CIR) to act on the claim for refund, respondent filed a Petition for Review 9 with the CTA, docketed as CTA Case No. 6782 which was raffled to its Second Division.

In its Petition for Review, respondent claimed that it is entitled to a refund because the payments made to Prism are not royalties 10 but "business profits," 11 pursuant to the definition of royalties under the RP-Malaysia Tax Treaty, 12 and in view of the pertinent Commentaries of the Organization for Economic Cooperation and Development (OECD) Committee on Fiscal Affairs through the Technical Advisory Group on

Treaty Characterization of Electronic Commerce Payments. 13 Respondent further averred that since under Article 7 of the RP-Malaysia Tax Treaty, "business profits" are taxable in the Philippines "only if attributable to a permanent establishment in the Philippines, the payments made to Prism, a Malaysian company with no permanent establishment in the Philippines," 14 should not be taxed. 15

On December 1, 2003, petitioner filed his Answer 16 arguing that respondent, as withholding agent, is not a party-in-interest to file the claim for refund, 17 and that assuming for the sake of argument that it is the proper party, there is no showing that the payments made to Prism constitute "business profits." 18

Ruling of the CTA Second Division

In a Decision 19 dated February 23, 2006, the Second Division of the CTA upheld respondent's right, as a withholding agent, to file the claim for refund citing the cases of Commissioner of Internal Revenue v. Wander Philippines, Inc., 20Commissioner of Internal Revenue v. Procter & Gamble Philippine Manufacturing Corporation21 and Commissioner of Internal Revenue v. The Court of Tax Appeals. 22

However, as to the claim for refund, the Second Division found respondent entitled only to a partial refund. Although it agreed with respondent that the payments for the CM and SIM Application Agreements are "business profits," 23 and therefore, not subject to tax 24 under the RP-Malaysia Tax Treaty, the Second Division found the payment for the SDM Agreement a royalty subject to withholding tax. 25 Accordingly, respondent was granted refund in the amount of P3,989,456.43, computed as follows: 26cESDCa

ParticularsAmount (in US$)1.CM296,000.002.SIM Application15,822.45––––––––––––TotalUS$311,822.45===========ParticularsAmountTax BaseUS$311,822.45Multiply by: Withholding Tax Rate25%––––––––––––Final Withholding TaxUS$77,955.61Multiply by: Prevailing Exchange Rate51.176––––––––––––Tax Refund DueP3,989,456.43============

The dispositive portion of the Decision of the CTA Second Division reads:

WHEREFORE, premises considered, the instant petition is partially GRANTED. Accordingly, respondent Commissioner of Internal Revenue is hereby ORDERED to REFUND or ISSUE a TAX CREDIT CERTIFICATE to petitioner Smart Communications, Inc. in the amount of P3,989,456.43, representing overpaid final withholding taxes for the month of August 2001.

SO ORDERED. 27

Both parties moved for partial reconsideration 28 but the CTA Second Division denied the motions in a Resolution 29 dated July 18, 2006.

Ruling of the CTA En Banc

Unsatisfied, both parties appealed to the CTA En Banc by filing their respective Petitions for Review, 30 which were consolidated per Resolution 31 dated February 8, 2007.

On June 28, 2007, the CTA En Banc rendered a Decision affirming the partial refund granted to respondent. In sustaining respondent's right to file the claim for refund, the CTA En Banc said that although respondent "and Prism are unrelated entities, such circumstance does not affect the status of [respondent] as a party-in-interest [as its legal interest] is based on its direct and independent liability under the withholding tax system." 32 The CTA En Banc also concurred with the Second Division's characterization of the payments made to Prism, specifically that the

payments for the CM and SIM Application Agreements constitute "business profits," 33 while the payment for the SDM Agreement is a royalty. 34

The dispositive portion of the CTA En Banc Decision reads: IHCESD

WHEREFORE, the instant petition is hereby DISMISSED. Accordingly, the assailed Decision and Resolution are hereby AFFIRMED.

SO ORDERED. 35

Only petitioner sought reconsideration 36 of the Decision. The CTA En Banc, however, found no cogent reason to reverse its Decision, and thus, denied petitioner's motion for reconsideration in a Resolution 37 dated July 31, 2007.

Unfazed, petitioner availed of the present recourse.

Issues

The two issues to be resolved are: (1) whether respondent has the right to file the claim for refund; and (2) if respondent has the right, whether the payments made to Prism constitute "business profits" or royalties.

Petitioner's Arguments

Petitioner contends that the cases relied upon by the CTA in upholding respondent's right to claim the refund are inapplicable since the withholding agents therein are wholly owned subsidiaries of the principal taxpayers, unlike in the instant case where the withholding agent and the taxpayer are unrelated entities. Petitioner further claims that since respondent did not file the claim on behalf of Prism, it has no legal standing to claim the refund. To rule otherwise would result to the unjust enrichment of respondent, who never shelled-out any amount to pay the royalty taxes. Petitioner, thus, posits that the real party-in-interest to file a claim for refund of the erroneously withheld taxes is Prism. He cites as basis the case of Silkair (Singapore) Pte, Ltd. v. Commissioner of Internal Revenue, 38 where it was ruled that the proper party to file a refund is the statutory taxpayer. 39 Finally, assuming that respondent is the proper party, petitioner counters that it is still not entitled to any refund because the payments made to Prism are taxable as royalties, having been made in consideration for the use of the programs owned by Prism.

Respondent's Arguments

Respondent, on the other hand, maintains that it is the proper party to file a claim for refund as it has the statutory and primary responsibility and liability to withhold and remit the taxes to the BIR. It points out that under the withholding tax system, the agent-payor becomes a payee by fiction of law because the law makes the agent personally liable for the tax arising from the breach of its duty to withhold. Thus, the fact that respondent is not in any way related to Prism is immaterial.

Moreover, respondent asserts that the payments made to Prism do not fall under the definition of royalties since the agreements are for programming and consultancy services only, wherein Prism undertakes to perform services for the creation, development or the bringing into existence of software applications solely for the satisfaction of the peculiar needs and requirements of respondent.

Our Ruling

The petition is bereft of merit. ASCTac

Withholding agent may file a claim forrefund

Sections 204 (c) and 229 of the National Internal Revenue Code (NIRC) provide:

Sec. 204.Authority of the Commissioner to Compromise, Abate, and Refund or Credit Taxes. – The Commissioner may –

xxx xxx xxx

(C)Credit or refund taxes erroneously or illegally received or penalties imposed without authority, refund the value of internal revenue stamps when they are returned in good condition by the purchaser, and, in his discretion, redeem or change unused stamps that have been rendered unfit for use and refined their value upon proof of destruction. No credit or refund of taxes or penalties shall be allowed unless the taxpayer files in writing with the Commissioner a claim for credit or refund within two (2) years after the payment of the tax or penalty: Provided, however, That a return filed showing an overpayment shall be considered as a written claim for credit or refund. 

xxx xxx xxx

Sec. 229.Recovery of Tax Erroneously or Illegally Collected. – No suit or proceeding shall be maintained in any court for the recovery of any national internal revenue tax hereafter alleged to have been erroneously or illegally assessed or collected, or of any penalty claimed to have been collected without authority, or of any sum alleged to have been excessively or in any manner wrongfully collected, until a claim for refund or credit has been duly filed with the Commissioner; but such suit or proceeding may be maintained, whether or not such tax, penalty, or sum has been paid under protest or duress.

In any case, no such suit or proceeding shall be filed after the expiration of two (2) years from the date of payment of the tax or penalty regardless of any supervening cause that may arise after payment: Provided, however, That the Commissioner may, even without a written claim therefor, refund or credit any tax, where on the face of the return upon which payment was made, such payment appears clearly to have been erroneously paid. (Emphasis supplied)

Pursuant to the foregoing, the person entitled to claim a tax refund is the taxpayer. However, in case the taxpayer does not file a claim for refund, the withholding agent may file the claim.

In Commissioner of Internal Revenue v. Procter & Gamble Philippine Manufacturing Corporation,40 a withholding agent was considered a proper party to file a claim for refund of the withheld taxes of its foreign parent company. Pertinent portions of the Decision read:

The term "taxpayer" is defined in our NIRC as referring to "any person subject to tax imposed by the Title [on Tax on Income]." It thus becomes important to note that under Section 53(c) 41 of the NIRC, the withholding agent who is "required to deduct and withhold any tax" is made "personally liable for such tax" and indeed is indemnified against any claims and demands which the stockholder might wish to make in questioning the amount of payments effected by the withholding agent in accordance with the provisions of the NIRC. The withholding agent, P&G-Phil., is directly and independently liable for the correct amount of the tax that should be withheld from the dividend remittances. The withholding agent is, moreover, subject to and liable for deficiency assessments, surcharges and penalties should the amount of the tax withheld be finally found to be less than the amount that should have been withheld under law. SCcHIE

A "person liable for tax" has been held to be a "person subject to tax" and properly considered a "taxpayer." The terms "liable for tax" and "subject to tax" both connote legal obligation or duty to pay a tax. It is very difficult, indeed conceptually impossible, to consider a person who is

statutorily made "liable for tax" as not "subject to tax." By any reasonable standard, such a person should be regarded as a party in interest, or as a person having sufficient legal interest, to bring a suit for refund of taxes he believes were illegally collected from him.

In Philippine Guaranty Company, Inc. v. Commissioner of Internal Revenue, this Court pointed out that a withholding agent is in fact the agent both of the government and of the taxpayer, and that the withholding agent is not an ordinary government agent:

"The law sets no condition for the personal liability of the withholding agent to attach. The reason is to compel the withholding agent to withhold the tax under all circumstances. In effect, the responsibility for the collection of the tax as well as the payment thereof is concentrated upon the person over whom the Government has jurisdiction. Thus, the withholding agent is constituted the agent of both the Government and the taxpayer. With respect to the collection and/or withholding of the tax, he is the Government's agent. In regard to the filing of the necessary income tax return and the payment of the tax to the Government, he is the agent of the taxpayer. The withholding agent, therefore, is no ordinary government agent especially because under Section 53 (c) he is held personally liable for the tax he is duty bound to withhold; whereas the Commissioner and his deputies are not made liable by law."

If, as pointed out in Philippine Guaranty,the withholding agent is also an agent of the beneficial owner of the dividends with respect to the filing of the necessary income tax return and with respect to actual payment of the tax to the government, such authority may reasonably be held to include the authority to file a claim for refund and to bring an action for recovery of such claim. This implied authority is especially warranted where, as in the instant case, the withholding agent is the wholly owned subsidiary of the parent-stockholder and therefore, at all times, under the effective control of such parent-stockholder. In the circumstances of this case, it seems particularly unreal to deny the implied authority of P&G-Phil. to claim a refund and to commence an action for such refund.

xxx xxx xxx

We believe and so hold that, under the circumstances of this case, P&G-Phil. is properly regarded as a "taxpayer" within the meaning of Section 309, 42 NIRC, and as impliedly authorized to file the claim for refund and the suit to recover such claim. (Emphasis supplied.)

Petitioner, however, submits that this ruling applies only when the withholding agent and the taxpayer are related parties, i.e., where the withholding agent is a wholly owned subsidiary of the taxpayer. TaDSHC

We do not agree.

Although such relation between the taxpayer and the withholding agent is a factor that increases the latter's legal interest to file a claim for refund, there is nothing in the decision to suggest that such relationship is required or that the lack of such relation deprives the withholding agent of the right to file a claim for refund. Rather, what is clear in the decision is that a withholding agent has a legal right to file a claim for refund for two reasons. First, he is considered a "taxpayer" under the NIRC as he is personally liable for the withholding tax as well as for deficiency

assessments, surcharges, and penalties, should the amount of the tax withheld be finally found to be less than the amount that should have been withheld under law. Second, as an agent of the taxpayer, his authority to file the necessary income tax return and to remit the tax withheld to the government impliedly includes the authority to file a claim for refund and to bring an action for recovery of such claim.

In this connection, it is however significant to add that while the withholding agent has the right to recover the taxes erroneously or illegally collected, he nevertheless has the obligation to remit the same to the principal taxpayer. As an agent of the taxpayer, it is his duty to return what he has recovered; otherwise, he would be unjustly enriching himself at the expense of the principal taxpayer from whom the taxes were withheld, and from whom he derives his legal right to file a claim for refund.

As to Silkair (Singapore) Pte, Ltd. v. Commissioner of Internal Revenue43 cited by the petitioner, we find the same inapplicable as it involves excise taxes, not withholding taxes. In that case, it was ruled that the proper party to question, or seek a refund of, an indirect tax "is the statutory taxpayer, the person on whom the tax is imposed by law and who paid the same even if he shifts the burden thereof to another."

In view of the foregoing, we find no error on the part of the CTA in upholding respondent's right as a withholding agent to file a claim for refund.

The payments for the CM and the SIM Application Agreements constitute"business profits"

Under the RP-Malaysia Tax Treaty, the term royalties is defined as payments of any kind received as consideration for: "(i) the use of, or the right to use, any patent, trade mark, design or model, plan, secret formula or process, any copyright of literary, artistic or scientific work, or for the use of, or the right to use, industrial, commercial, or scientific equipment, or for information concerning industrial, commercial or scientific experience; (ii) the use of, or the right to use, cinematograph films, or tapes for radio or television broadcasting." 44 These are taxed at the rate of 25% of the gross amount. 45CHcTIA

Under the same Treaty, the "business profits" of an enterprise of a Contracting State is taxable only in that State, unless the enterprise carries on business in the other Contracting State through a permanent establishment. 46 The term "permanent establishment" is defined as a fixed place of business where the enterprise is wholly or partly carried on. 47 However, even if there is no fixed place of business, an enterprise of a Contracting State is deemed to have a permanent establishment in the other Contracting State if it carries on supervisory activities in that other State for more than six months in connection with a construction, installation or assembly project which is being undertaken in that other State. 48

In the instant case, it was established during the trial that Prism does not have a permanent establishment in the Philippines. Hence, "business profits" derived from Prism's dealings with respondent are not taxable. The question is whether the payments made to Prism under the SDM, CM, and SIM Application agreements are "business profits" and not royalties.

Paragraph 1.3 of the Programming Services (Schedule A) of the SDM Agreement, 49 reads:

1.3Intellectual Property Rights (IPR)

The SDM shall be installed by PRISM, including the SDM Libraries,the IPR of which shall be retained by PRISM. PRISM, however, shall provide the Client the APIs for the SDM at no cost to the Client. The Client shall be permitted to develop programs to interface with the SDM or the SDM Libraries, using the related APIs as appropriate. 50 (Emphasis supplied.)  

Whereas, paragraph 1.4 of the Programming Services (Schedule A) of the CM Agreement and paragraph 1.3 of the Programming Services (Schedule A) of the SIM Agreement provide:

1.4Intellectual Property Rights (IPR)

TheIPR of all components of the CM belong to the Clientwith the exception of the following components, which are provided, without technical or commercial restraints or obligations:

•ConfigurationException.java

•DataStructures (DblLinkedListjava, DblListNodejava, ListEmptyException.java, ListFullException.java, ListNodeNotFoundException.java, QueueEmptyException.java, QueueFullException.java, QueueList.java, QueuListEx.java, and QueueNodeNotFoundException.java)

•FieldMappedObjeet.java•LogFileEx.java•Logging (BaseLogger.java and

Logger.java)•PrismGenericException.java SIcCEA•PrismGenericObject.java•ProtocolBuilders/CIMD2 (Alive.java,

BaseMessageData.java, DeliverMessage.java, Login.java, Logout.java, Nack.java, SubmitMessage.java,

•TemplateManagement (FileTemplateDataBag.java, TemplateDataBag.java, TemplateManagerExBag.java, and TemplateParserExBag.java)

•TemplateManager.class•TemplateServer.class•TemplateServer$RequestThread.class•Template Server_skel.class•TemplateServer_stub.class•TemplateService.class•Prism Crypto Server module for PHP4 51

xxx xxx xxx

1.3Intellectual Property Rights (IPR)

The Client shall own the IPR for the Specifications and the Source Code for the SIM Applications. PRISM shall develop an executable compiled code (the "Executable Version") of the SIM Applications for use on the aSIMetric card which, however, shall only be for the Client's use. The Executable Version may not be provided by PRISM to any third [party] without the prior written consent of the Client. It is further recognized that the Client anticipates licensing the use of the SIM Applications, but it is agreed that no license fee will be charged to PRISM or to a licensee of the aSIMetrix card from PRISM when SIMs are supplied to the Client. 52 (Emphases supplied.)

The provisions in the agreements are clear. Prism has intellectual property right over the SDM program, but not over the CM and SIM Application

programs as the proprietary rights of these programs belong to respondent. In other words, out of the payments made to Prism, only the payment for the SDM program is a royalty subject to a 25% withholding tax. A refund of the erroneously withheld royalty taxes for the payments pertaining to the CM and SIM Application Agreements is therefore in order.

Indeed, the government has no right to retain what does not belong to it. "No one, not even the State, should enrich oneself at the expense of another.'' 53TADcCS

WHEREFORE, the petition is DENIED. The assailed Decision dated June 28, 2007 and the Resolution dated July 31, 2007 of the Court of Tax Appeals En Banc are hereby AFFIRMED. The Bureau of Internal Revenue is hereby ORDERED to ISSUE a TAX CREDIT CERTIFICATE to Prism Transactive (M) Sdn. Bhd. in the amount of P3,989,456.43 representing the overpaid final withholding taxes for the month of August 2001.

SO ORDERED.

||| (Commr. v. Smart Communication, Inc., G.R. Nos. 179045-46, August 25, 2010)

SECOND DIVISION[G.R. No. 162175. June 28, 2010.]

MIGUEL J. OSSORIO PENSION FOUNDATION, INCORPORATED, petitioner, vs. COURT OF APPEALS and COMMISSIONER OF INTERNAL REVENUE, respondents.

DECISIONCARPIO, J p:

The CaseThe Miguel J. Ossorio Pension Foundation, Incorporated (petitioner or MJOPFI) filed this Petition for Certiorari1 with Prayer for the Issuance of a Temporary Restraining Order and/or Writ of Preliminary Injunction to reverse the Court of Appeals' (CA) Decision 2 dated 30 May 2003 in CA-G.R. SP No. 61829 as well as the Resolution 3 dated 7 November 2003 denying the Motion for Reconsideration. In the assailed decision, the CA affirmed the Court of Tax Appeals' (CTA) Decision 4 dated 24 October 2000. The CTA denied petitioner's claim for refund of withheld creditable tax of P3,037,500 arising from the sale of real property of which petitioner claims to be a co-owner as trustee of the employees' trust or retirement funds.

The Facts

Petitioner, a non-stock and non-profit corporation, was organized for the purpose of holding title to and administering the employees' trust or retirement funds (Employees' Trust Fund) established for the benefit of the employees of Victorias Milling Company, Inc. (VMC). 5 Petitioner, as trustee, claims that the income earned by the Employees' Trust Fund is tax exempt under Section 53 (b) of the National Internal Revenue Code (Tax Code).

Petitioner alleges that on 25 March 1992, petitioner decided to invest part of the Employees' Trust Fund to purchase a lot 6 in the Madrigal Business Park (MBP lot) in Alabang, Muntinlupa. Petitioner bought the MBP lot through VMC. 7 Petitioner alleges that its investment in the MBP lot came about upon the invitation of VMC, which also purchased two lots. Petitioner claims that its share in the MBP lot is 49.59%. Petitioner's investment manager, the Citytrust Banking Corporation (Citytrust), 8 in submitting its Portfolio Mix Analysis, regularly reported the Employees' Trust Fund's share in the MBP lot. 9 The MBP lot is covered by Transfer Certificate of Title No. 183907 (TCT 183907) with VMC as the registered owner. 10

Petitioner claims that since it needed funds to pay the retirement and pension benefits of VMC employees and to reimburse advances made by VMC, petitioner's Board of Trustees authorized the sale of its share in the MBP lot. 11

On 14 March 1997, VMC negotiated the sale of the MBP lot with Metropolitan Bank and Trust Company, Inc. (Metrobank) for P81,675,000, but the consummation of the sale was withheld. 12 On 26 March 1997, VMC eventually sold the MBP lot to Metrobank. VMC, through its Vice President Rolando Rodriguez and Assistant Vice President Teodorico Escober, signed the Deed of Absolute Sale as the sole vendor.

Metrobank, as withholding agent, paid the Bureau of Internal Revenue (BIR) P6,125,625 as withholding tax on the sale of real property.

Petitioner alleges that the parties who co-owned the MBP lot executed a notarized Memorandum of Agreement as to the proceeds of the sale, the pertinent provisions of which state: 13

2.The said parcels of land are actually co-owned by the following:

BLOCK 4, LOT 1 COVERED BY TCT NO. 183907

  % SQ. M. AMOUNT MJOPFI 49.59% 450.00 P5,504,748.25 VMC 32.23% 351.02 3,578,294.70 VFC 18.18% 197.98 2,018,207.30

3.Since Lot 1 has been sold for P81,675,000.00 (gross of 7.5% withholding tax and 3% broker's commission, MJOPFI's share in the proceeds of the sale is P40,500,000.00 (gross of 7.5% withholding tax and 3% broker's commission. However, MJO Pension Fund is indebted to VMC representing pension benefit advances paid to retirees amounting to P21,425,141.54, thereby leaving a balance of

P14,822,358.46 in favor of MJOPFI. Check for said amount of P14,822,358.46 will therefore be issued to MJOPFI as its share in the proceeds of the sale of Lot 1. The check corresponding to said amount will be deposited with MJOPFI's account with BPI Asset Management & Trust Group which will then be invested by it in the usual course of its administration of MJOPFI funds.

Petitioner claims that it is a co-owner of the MBP lot as trustee of the Employees' Trust Fund, based on the notarized Memorandum of Agreement presented before the appellate courts. Petitioner asserts that VMC has confirmed that petitioner, as trustee of the Employees' Trust Fund, is VMC's co-owner of the MBP lot. Petitioner maintains that its ownership of the MBP lot is supported by the excerpts of the minutes and the resolutions of petitioner's Board Meetings. Petitioner further contends that there is no dispute that the Employees' Trust Fund is exempt from income tax. Since petitioner, as trustee, purchased 49.59% of the MBP lot using funds of the Employees' Trust Fund, petitioner asserts that the Employees' Trust Fund's 49.59% share in the income tax paid (or P3,037,697.40 rounded off to P3,037,500) should be refunded. 14

Petitioner maintains that the tax exemption of the Employees' Trust Fund rendered the payment of P3,037,500 as illegal or erroneous. On 5 May 1997, petitioner filed a claim for tax refund. 15

On 14 August 1997, the BIR, through its Revenue District Officer, wrote petitioner stating that under Section 26 of the Tax Code, petitioner is not exempt from tax on its income from the sale of real property. The BIR asked petitioner to submit documents to prove its co-ownership of the MBP lot and its exemption from tax. 16

On 2 September 1997, petitioner replied that the applicable provision granting its claim for tax exemption is not Section 26 but Section 53 (b) of the Tax Code. Petitioner claims that its co-ownership of the MBP lot is evidenced by Board Resolution Nos. 92-34 and 96-46 and the memoranda of agreement among petitioner, VMC and its subsidiaries. 17

Since the BIR failed to act on petitioner's claim for refund, petitioner elevated its claim to the Commissioner of Internal Revenue (CIR) on 26 October 1998. The CIR did not act on petitioner's claim for refund. Hence, petitioner filed a petition for tax refund before the CTA. On 24 October 2000, the CTA rendered a decision denying the petition. 18

On 22 November 2000, petitioner filed its Petition for Review before the Court of Appeals. On 20 May 2003, the CA rendered a decision denying the appeal. The CA also denied petitioner's Motion for Reconsideration. 19

Aggrieved by the appellate court's Decision, petitioner elevated the case before this Court.

The Ruling of the Court of Tax Appeals

The CTA held that under Section 53 (b) 20 [now Section 60 (b)] of the Tax Code, it is not petitioner that is entitled to exemption from income tax but the income or earnings of the Employees' Trust Fund. The CTA stated that petitioner is not the pension trust itself but it is a separate and distinct entity whose function is to administer the pension plan for some VMC employees. 21 The CTA, after evaluating the evidence adduced by the parties, ruled that petitioner is not a party in interest.

To prove its co-ownership over the MBP lot, petitioner presented the following documents:

a.Secretary's Certificate showing how the purchase and eventual sale of the MBP lot came about.

b.Memoranda of Agreement showing various details:

i.That the MBP lot was co-owned by VMC and petitioner on a 50/50 basis;

ii.That VMC held the property in trust for North Legaspi Land Development Corporation, North Negros

Marketing Co., Inc., Victorias Insurance Factors Corporation, Victorias Science and Technical Foundation, Inc. and Canetown Development Corporation.

iii.That the previous agreement (ii) was cancelled and it showed that the MBP lot was co-owned by petitioner, VMC and Victorias Insurance Factors Corporation (VFC). 22

The CTA ruled that these pieces of evidence are self-serving and cannot by themselves prove petitioner's co-ownership of the MBP lot when the TCT, the Deed of Absolute Sale, and the Monthly Remittance Return of Income Taxes Withheld (Remittance Return) disclose otherwise. The CTA further ruled that petitioner failed to present any evidence to prove that the money used to purchase the MBP lot came from the Employees' Trust Fund. 23

The CTA concluded that petitioner is estopped from claiming a tax exemption. The CTA pointed out that VMC has led the government to believe that it is the sole owner of the MBP lot through its execution of the Deeds of Absolute Sale both during the purchase and subsequent sale of the MBP lot and through the registration of the MBP lot in VMC's name. Consequently, the tax was also paid in VMC's name alone. The CTA stated that petitioner may not now claim a refund of a portion of the tax paid by the mere expediency of presenting Secretary's Certificates and memoranda of agreement in order to prove its ownership. These documents are self-serving; hence, these documents merit very little weight. 24

The Ruling of the Court of Appeals

The CA declared that the findings of the CTA involved three types of documentary evidence that petitioner presented to prove its contention that it purchased 49.59% of the MBP lot with funds from the Employees' Trust Fund: (1) the memoranda of agreement executed by petitioner and other VMC subsidiaries; (2) Secretary's Certificates containing excerpts of the minutes of meetings conducted by the respective boards of directors or trustees of VMC and petitioner; (3) Certified True Copies of the Portfolio Mix Analysis issued by Citytrust regarding the investment of P5,504,748.25 in Madrigal Business Park I for the years 1994 to 1997. 25

The CA agreed with the CTA that these pieces of documentary evidence submitted by petitioner are largely self-serving and can be contrived easily. The CA ruled that these documents failed to show that the funds used to purchase the MBP lot came from the Employees' Trust Fund. The CA explained, thus:

We are constrained to echo the findings of the Court of Tax Appeals in regard to the failure of the petitioner to ensure that legal documents pertaining to its investments, e.g., title to the subject property, were really in its name, considering its awareness of the resulting tax benefit that such foresight or providence would produce; hence, genuine efforts towards that end should have been exerted, this notwithstanding the alleged difficulty of procuring a title under the names of all the co-owners. Indeed, we are unable to understand why petitioner would allow the title of the property to be placed solely in the name of petitioner's alleged co-owner, i.e., the VMC, although it allegedly owned a much bigger (nearly half), portion thereof. Withal, petitioner failed to ensure a "fix" so to speak, on its investment, and we are not impressed by the documents which the petitioner presented, as the same apparently allowed "mobility" of the subject real estate assets between or among the petitioner, the VMC and the latter's subsidiaries. Given the fact that the subject parcel of land was registered and sold under the name solely of VMC, even as payment of taxes was also made only under its name, we cannot but concur with the finding of the Court of Tax Appeals that petitioner's claim for refund of withheld creditable tax is bereft of solid juridical basis. 26  

The Issues

The issues presented are:

1.Whether petitioner or the Employees' Trust Fund is estopped from claiming that the Employees' Trust Fund is the beneficial owner of 49.59% of the MBP lot and that VMC merely held 49.59% of the MBP lot in trust for the Employees' Trust Fund.

2.If petitioner or the Employees' Trust Fund is not estopped, whether they have sufficiently established that the Employees' Trust Fund is the beneficial owner of 49.59% of the MBP lot, and thus entitled to tax exemption for its share in the proceeds from the sale of the MBP lot.

The Ruling of the Court

We grant the petition.

The law expressly allows a co-owner (first co-owner) of a parcel of land to register his proportionate share in the name of his co-owner (second co-owner) in whose name the entire land is registered. The second co-owner serves as a legal trustee of the first co-owner insofar as the proportionate share of the first co-owner is concerned. The first co-owner remains the owner of his proportionate share and not the second co-owner in whose name the entire land is registered. Article 1452 of the Civil Code provides:

Art. 1452.If two or more persons agree to purchase a property and by common consent the legal title is taken in the name of one of them for the benefit of all, a trust is created by force of law in favor of the others in proportion to the interest of each. (Emphasis supplied)

For Article 1452 to apply, all that a co-owner needs to show is that there is "common consent" among the purchasing co-owners to put the legal title to the purchased property in the name of one co-owner for the benefit of all. Once this "common consent" is shown, "a trust is created by force of law." The BIR has no option but to recognize such legal trust as well as the beneficial ownership of the real owners because the trust is created by force of law. The fact that the title is registered solely in the name of one person is not conclusive that he alone owns the property.

Thus, this case turns on whether petitioner can sufficiently establish that petitioner, as trustee of the Employees' Trust Fund, has a common agreement with VMC and VFC that petitioner, VMC and VFC shall jointly purchase the MBP lot and put the title to the MBP lot in the name of VMC for the benefit petitioner, VMC and VFC.

We rule that petitioner, as trustee of the Employees' Trust Fund, has more than sufficiently established that it has an agreement with VMC and VFC to purchase jointly the MBP lot and to register the MBP lot solely in the name of VMC for the benefit of petitioner, VMC and VFC.

Factual findings of the CTA will be reviewedwhen judgment is based on a misapprehension of facts.

Generally, the factual findings of the CTA, a special court exercising expertise on the subject of tax, are regarded as final, binding and conclusive upon this Court, especially if these are substantially similar to the findings of the CA which is normally the final arbiter of questions of fact. 27 However, there are recognized exceptions to this rule, 28 such as when the judgment is based on a misapprehension of facts.

Petitioner contends that the CA erred in evaluating the documents as self-serving instead of considering them as truthful and genuine because they are public documents duly notarized by a Notary Public and presumed to be regular unless the contrary appears. Petitioner explains that the CA erred in doubting the authenticity and genuineness of the three memoranda of agreement presented as evidence. Petitioner submits that there is nothing wrong in the execution of the three memoranda of agreement by the parties. Petitioner points out that VMC authorized

petitioner to administer its Employees' Trust Fund which is basically funded by donation from its founder, Miguel J. Ossorio, with his shares of stocks and share in VMC's profits. 29

Petitioner argues that the Citytrust report reflecting petitioner's investment in the MBP lot is concrete proof that money of the Employees' Trust Funds was used to purchase the MBP lot. In fact, the CIR did not dispute the authenticity and existence of this documentary evidence. Further, it would be unlikely for Citytrust to issue a certified copy of the Portfolio Mix Analysis stating that petitioner invested in the MBP lot if it were not true. 30

Petitioner claims that substantial evidence is all that is required to prove petitioner's co-ownership and all the pieces of evidence have overwhelmingly proved that petitioner is a co-owner of the MBP lot to the extent of 49.59% of the MBP lot. Petitioner explains:

Thus, how the parties became co-owners was shown by the excerpts of the minutes and the resolutions of the Board of Trustees of the petitioner and those of VMC. All these documents showed that as far as March 1992, petitioner already expressed intention to be co-owner of the said property. It then decided to invest the retirement funds to buy the said property and culminated in it owning 49.59% thereof. When it was sold to Metrobank, petitioner received its share in the proceeds from the sale thereof. The excerpts and resolutions of the parties' respective Board of Directors were certified under oath by their respective Corporate Secretaries at the time. The corporate certifications are accorded verity by law and accepted as prima facie evidence of what took place in the board meetings because the corporate secretary is, for the time being, the board itself. 31

Petitioner, citing Article 1452 of the Civil Code, claims that even if VMC registered the land solely in its name, it does not make VMC the absolute owner of the whole property or deprive petitioner of its rights as a co-owner. 32 Petitioner argues that under the Torrens system, the issuance of a TCT does not create or vest a title and it has never been recognized as a mode of acquiring ownership. 33

The issues of whether petitioner or the Employees' Trust Fund is estopped from claiming 49.59% ownership in the MBP lot, whether the documents presented by petitioner are self-serving, and whether petitioner has proven its exemption from tax, are all questions of fact which could only be resolved after reviewing, examining and evaluating the probative value of the evidence presented. The CTA ruled that the documents presented by petitioner cannot prove its co-ownership over the MBP lot especially that the TCT, Deed of Absolute Sale and the Remittance Return disclosed that VMC is the sole owner and taxpayer.

However, the appellate courts failed to consider the genuineness and due execution of the notarized Memorandum of Agreement acknowledging petitioner's ownership of the MBP lot which provides:

2.The said parcels of land are actually co-owned by the following:

BLOCK 4, LOT 1 COVERED BY TCT NO. 183907

  % SQ. M. AMOUNT MJOPFI 49.59% 450.00 P5,504,748.25 VMC 32.23% 351.02 3,578,294.70 VFC 18.18% 197.98 2,018,207.30

Thus, there is a "common consent" or agreement among petitioner, VMC and VFC to co-own the MBP lot in the proportion specified in the notarized Memorandum of Agreement.

In Cuizon v. Remoto,34 we held:

Documents acknowledged before notaries public are public documents and public documents are admissible in evidence without necessity of preliminary proof as to their authenticity and due execution. They have in their favor the presumption of regularity, and to contradict the same, there must

be evidence that is clear, convincing and more than merely preponderant.

The BIR failed to present any clear and convincing evidence to prove that the notarized Memorandum of Agreement is fictitious or has no legal effect. Likewise, VMC, the registered owner, did not repudiate petitioner's share in the MBP lot. Further, Citytrust, a reputable banking institution, has prepared a Portfolio Mix Analysis for the years 1994 to 1997 showing that petitioner invested P5,504,748.25 in the MBP lot. Absent any proof that the Citytrust bank records have been tampered or falsified, and the BIR has presented none, the Portfolio Mix Analysis should be given probative value.

The BIR argues that under the Torrens system, a third person dealing with registered property need not go beyond the TCT and since the registered owner is VMC, petitioner is estopped from claiming ownership of the MBP lot. This argument is grossly erroneous. The trustor-beneficiary is not estopped from proving its ownership over the property held in trust by the trustee when the purpose is not to contest the disposition or encumbrance of the property in favor of an innocent third-party purchaser for value. The BIR, not being a buyer or claimant to any interest in the MBP lot, has not relied on the face of the title of the MBP lot to acquire any interest in the lot. There is no basis for the BIR to claim that petitioner is estopped from proving that it co-owns, as trustee of the Employees' Trust Fund, the MBP lot. Article 1452 of the Civil Code recognizes the lawful ownership of the trustor-beneficiary over the property registered in the name of the trustee. Certainly, the Torrens system was not established to foreclose a trustor or beneficiary from proving its ownership of a property titled in the name of another person when the rights of an innocent purchaser or lien-holder are not involved. More so, when such other person, as in the present case, admits its being a mere trustee of the trustor or beneficiary.

The registration of a land under the Torrens system does not create or vest title, because registration is not one of the modes of acquiring ownership. A TCT is merely an evidence of ownership over a particular property and its issuance in favor of a particular person does not foreclose the possibility that the property may be co-owned by persons not named in the certificate, or that it may be held in trust for another person by the registered owner. 35

No particular words are required for the creation of a trust, it being sufficient that a trust is clearly intended. 36 It is immaterial whether or not the trustor and the trustee know that the relationship which they intend to create is called a trust, and whether or not the parties know the precise characteristic of the relationship which is called a trust because what is important is whether the parties manifested an intention to create the kind of relationship which in law is known as a trust. 37  

The fact that the TCT, Deed of Absolute Sale and the Remittance Return were in VMC's name does not forestall the possibility that the property is owned by another entity because Article 1452 of the Civil Code expressly authorizes a person to purchase a property with his own money and to take conveyance in the name of another.

In Tigno v. Court of Appeals, the Court explained, thus:

An implied trust arises where a person purchases land with his own money and takes conveyance thereof in the name of another. In such a case, the property is held on resulting trust in favor of the one furnishing the consideration for the transfer, unless a different intention or understanding appears. The trust which results under such circumstances does not arise from a contract or an agreement of the parties, but from the facts and circumstances; that is to say, the trust results because of equity and it arises by implication or operation of law. 38

In this case, the notarized Memorandum of Agreement and the certified true copies of the Portfolio Mix Analysis prepared by Citytrust clearly prove that petitioner invested P5,504,748.25, using funds of the Employees' Trust Fund, to purchase the MBP lot. Since the MBP lot was registered in VMC's name only, a resulting trust is created by operation of law. A resulting trust is based on the equitable doctrine that valuable consideration and not legal title determines the equitable interest and is presumed to have been contemplated by the parties. 39 Based on this resulting trust, the Employees' Trust Fund is considered the beneficial co-owner of the MBP lot.

Petitioner has sufficiently proven that it had a "common consent" or agreement with VMC and VFC to jointly purchase the MBP lot. The absence of petitioner's name in the TCT does not prevent petitioner from claiming before the BIR that the Employees' Trust Fund is the beneficial owner of 49.59% of the MBP lot and that VMC merely holds 49.59% of the MBP lot in trust, through petitioner, for the benefit of the Employees' Trust Fund.

The BIR has acknowledged that the owner of a land can validly place the title to the land in the name of another person. In BIR Ruling [DA-(I-012) 190-09] dated 16 April 2009, a certain Amelia Segarra purchased a parcel of land and registered it in the names of Armin Segarra and Amelito Segarra as trustees on the condition that upon demand by Amelia Segarra, the trustees would transfer the land in favor of their sister, Arleen May Segarra-Guevara. The BIR ruled that an implied trust is deemed created by law and the transfer of the land to the beneficiary is not subject to capital gains tax or creditable withholding tax.

Income from Employees' Trust Fund is Exempt from Income Tax

Petitioner claims that the Employees' Trust Fund is exempt from the payment of income tax. Petitioner further claims that as trustee, it acts for the Employees' Trust Fund, and can file the claim for refund. As trustee, petitioner considers itself as the entity that is entitled to file a claim for refund of taxes erroneously paid in the sale of the MBP lot. 40

The Office of the Solicitor General argues that the cardinal rule in taxation is that tax exemptions are highly disfavored and whoever claims a tax exemption must justify his right by the clearest grant of law. Tax exemption cannot arise by implication and any doubt whether the exemption exists is strictly construed against the taxpayer. 41 Further, the findings of the CTA, which were affirmed by the CA, should be given respect and weight in the absence of abuse or improvident exercise of authority. 42

Section 53 (b) and now Section 60 (b) of the Tax Code provides:

SEC. 60.Imposition of Tax. –

(A)Application of Tax. – . . .

(B)Exception. – The tax imposed by this Title shall not apply to employee's trust which forms part of a pension, stock bonus or profit-sharing plan of an employer for the benefit of some or all of his employees (1) if contributions are made to the trust by such employer, or employees, or both for the purpose of distributing to such employees the earnings and principal of the fund accumulated by the trust in accordance with such plan, and (2) if under the trust instrument it is impossible, at any time prior to the satisfaction of all liabilities with respect to employees under the trust, for any part of the corpus or income to be (within the taxable year or thereafter) used for, or diverted to, purposes other than for the exclusive benefit of his employees: Provided, That any amount actually distributed to any employee or distributee shall be taxable to him in the year in which so distributed to the extent that it exceeds the amount contributed by such employee or distributee.

Petitioner's Articles of Incorporation state the purpose for which the corporation was formed:

Primary Purpose

To hold legal title to, control, invest and administer in the manner provided, pursuant to applicable rules and conditions as established, and in the interest and for the benefit of its beneficiaries and/or participants, the private pension plan as established for certain employees of Victorias Milling Company, Inc., and other pension plans of Victorias Milling Company affiliates and/or subsidiaries, the pension funds and assets, as well as accruals, additions and increments thereto, and such amounts as may be set aside or accumulated

for the benefit of the participants of said pension plans; and in furtherance of the foregoing and as may be incidental thereto. 43 (Emphasis supplied)

Petitioner is a corporation that was formed to administer the Employees' Trust Fund. Petitioner invested P5,504,748.25 of the funds of the Employees' Trust Fund to purchase the MBP lot. When the MBP lot was sold, the gross income of the Employees' Trust Fund from the sale of the MBP lot was P40,500,000. The 7.5% withholding tax of P3,037,500 and broker's commission were deducted from the proceeds. In Commissioner of Internal Revenue v. Court of Appeals,44 the Court explained the rationale for the tax-exemption privilege of income derived from employees' trusts:

It is evident that tax-exemption is likewise to be enjoyed by the income of the pension trust. Otherwise, taxation of those earnings would result in a diminution of accumulated income and reduce whatever the trust beneficiaries would receive out of the trust fund. This would run afoul of the very intendment of the law.

In Miguel J. Ossorio Pension Foundation, Inc. v. Commissioner of Internal Revenue,45 the CTA held that petitioner is entitled to a refund of withholding taxes paid on interest income from direct loans made by the Employees' Trust Fund since such interest income is exempt from tax. The CTA, in recognizing petitioner's entitlement for tax exemption, explained:

In or about 1968, Victorias Milling Co., Inc. established a retirement or pension plan for its employees and those of its subsidiary companies pursuant to a 22-page plan. Pursuant to said pension plan, Victorias Milling Co., Inc. makes a (sic) regular financial contributions to the employee trust for the purpose of distributing or paying to said employees, the earnings and principal of the funds accumulated by the trust in accordance with said plan. Under the plan, it is imposable, at any time prior to the satisfaction of all liabilities with respect to employees under the trust, for any part of the corpus or income to be used for, or diverted to, purposes other than for the exclusive benefit of said employees. Moreover, upon the termination of the plan, any remaining assets will be applied for the benefit of all employees and their beneficiaries entitled thereto in proportion to the amount allocated for their respective benefits as provided in said plan.

The petitioner and Victorias Milling Co., Inc., on January 22, 1970, entered into a Memorandum of Understanding, whereby they agreed that petitioner would administer the pension plan funds and assets, as assigned and transferred to it in trust, as well as all amounts that may from time to time be set aside by Victorias Milling Co., Inc. "For the benefit of the Pension Plan, said administration is to be strictly adhered to pursuant to the rules and regulations of the Pension Plan and of the Articles of Incorporation and By Laws" of petitioner.

The pension plan was thereafter submitted to the Bureau of Internal Revenue for registration and for a ruling as to whether its income or earnings are exempt from income tax pursuant to Rep. Act 4917, in relation to Sec. 56(b), now Sec. 54(b), of the Tax Code.

In a letter dated January 18, 1974 addressed to Victorias Milling Co., Inc., the Bureau of Internal Revenue ruled that "the income of the trust fund of your retirement benefit plan is exempt from income tax, pursuant to Rep. Act 4917 in relation to Section 56(b) of the Tax Code."

In accordance with petitioner's Articles of Incorporation (Annex A), petitioner would "hold legal title to, control, invest and administer, in the manner provided, pursuant to applicable rules and conditions as established, and in the

interest and for the benefit of its beneficiaries and/or participants, the private pension plan as established for certain employees of Victorias Milling Co., Inc. and other pension plans of Victorias Milling Co. affiliates and/or subsidiaries, the pension funds and assets, as well as the accruals, additions and increments thereto, and such amounts as may be set aside or accumulated of said pension plans. Moreover, pursuant to the same Articles of Incorporations, petitioner is empowered to "settle, compromise or submit to arbitration, any claims, debts or damages due or owing to or from pension funds and assets and other funds and assets of the corporation, to commence or defend suits or legal proceedings and to represent said funds and assets in all suits or legal proceedings."

Petitioner, through its investment manager, the City Trust Banking Corporation, has invested the funds of the employee trust in treasury bills, Central Bank bills, direct lending, etc. so as to generate income or earnings for the benefit of the employees-beneficiaries of the pension plan. Prior to the effectivity of Presidential Decree No. 1959 on October 15, 1984, respondent did not subject said income or earning of the employee trust to income tax because they were exempt from income tax pursuant to Sec. 56(b), now Sec. 54(b) of the Tax Code and the BIR Ruling dated January 18, 1984 (Annex D). (Boldfacing supplied; italicization in the original) 

xxx xxx xxx

It asserted that the pension plan in question was previously submitted to the Bureau of Internal Revenue for a ruling as to whether the income or earnings of the retirement funds of said plan are exempt from income tax and in a letter dated January 18, 1984, the Bureau ruled that the earnings of the trust funds of the pension plan are exempt from income tax under Sec. 56(b) of the Tax Code. (Emphasis supplied)

"A close review of the provisions of the plan and trust instrument disclose that in reality the corpus and income of the trust fund are not at no time used for, or diverted to, any purpose other than for the exclusive benefit of the plan beneficiaries. This fact was likewise confirmed after verification of the plan operations by the Revenue District No. 63 of the Revenue Region No. 14, Bacolod City. Section X also confirms this fact by providing that if any assets remain after satisfaction of the requirements of all the above clauses, such remaining assets will be applied for the benefits of all persons included in such classes in proportion to the amounts allocated for their respective benefits pursuant to the foregoing priorities.

"In view of all the foregoing, this Office is of the opinion, as it hereby holds, that the income of the trust fund of your retirement benefit plan is exempt from income tax pursuant to Republic Act 4917 in relation to Section 56(b) of the Tax Code. (Annex "D" of Petition)

This CTA decision, which was affirmed by the CA in a decision dated 20 January 1993, became final and executory on 3 August 1993.

The tax-exempt character of petitioner's Employees' Trust Fund is not at issue in this case. The tax-exempt character of the Employees' Trust Fund has long been settled. It is also settled that petitioner exists for the purpose of holding title to, and administering, the tax-exempt Employees'

Trust Fund established for the benefit of VMC's employees. As such, petitioner has the personality to claim tax refunds due the Employees' Trust Fund.

In Citytrust Banking Corporation as Trustee and Investment Manager of Various Retirement Funds v. Commissioner of Internal Revenue,46 the CTA granted Citytrust's claim for refund on withholding taxes paid on the investments made by Citytrust in behalf of the trust funds it manages, including petitioner. 47 Thus:

In resolving the second issue, we note that the same is not a case of first impression. Indeed, the petitioner is correct in its adherence to the clear ruling laid by the Supreme Court way back in 1992 in the case of Commissioner of Internal Revenue vs. The Honorable Court of Appeals, The Court of Tax Appeals and GCL Retirement Plan, 207 SCRA 487 at page 496, supra, wherein it was succinctly held:

xxx xxx xxx

There can be no denying either that the final withholding tax is collected from income in respect of which employees' trusts are declared exempt (Sec. 56(b), now 53(b), Tax Code). The application of the withholdings system to interest on bank deposits or yield from deposit substitutes is essentially to maximize and expedite the collection of income taxes by requiring its payment at the source. If an employees' trust like the GCL enjoys a tax-exempt status from income, we see no logic in withholding a certain percentage of that income which it is not supposed to pay in the first place.

xxx xxx xxx

Similarly, the income of the trust funds involved herein is exempt from the payment of final withholding taxes.

This CTA decision became final and executory when the CIR failed to file a Petition for Review within the extension granted by the CA.

Similarly, in BIR Ruling [UN-450-95], Citytrust wrote the BIR to request for a ruling exempting it from the payment of withholding tax on the sale of the land by various BIR-approved trustees and tax-exempt private employees' retirement benefit trust funds 48 represented by Citytrust. The BIR ruled that the private employees benefit trust funds, which included petitioner, have met the requirements of the law and the regulations and therefore qualify as reasonable retirement benefit plans within the contemplation of Republic Act No. 4917 (now Sec. 28 (b) (7) (A), Tax Code). The income from the trust fund investments is therefore exempt from the payment of income tax and consequently from the payment of the creditable withholding tax on the sale of their real property. 49

Thus, the documents issued and certified by Citytrust showing that money from the Employees' Trust Fund was invested in the MBP lot cannot simply be brushed aside by the BIR as self-serving, in the light of previous cases holding that Citytrust was indeed handling the money of the Employees' Trust Fund. These documents, together with the notarized Memorandum of Agreement, clearly establish that petitioner, on behalf of the Employees' Trust Fund, indeed invested in the purchase of the MBP lot. Thus, the Employees' Trust Fund owns 49.59% of the MBP lot.

Since petitioner has proven that the income from the sale of the MBP lot came from an investment by the Employees' Trust Fund, petitioner, as trustee of the Employees' Trust Fund, is entitled to claim the tax refund of P3,037,500 which was erroneously paid in the sale of the MBP lot.

WHEREFORE, we GRANT the petition and SET ASIDE the Decision of 30 May 2003 of the Court of Appeals in CA-G.R. SP No. 61829. Respondent Commissioner of Internal Revenue is directed to refund petitioner Miguel J. Ossorio Pension Foundation, Incorporated, as trustee of the Employees' Trust Fund, the amount of P3,037,500, representing income tax erroneously paid.

SO ORDERED. ||| (Miguel J. Ossorio Pension Foundation, Inc. v. Court of Appeals, G.R. No. 162175, June 28, 2010)

G.R. No. L-15270             September 30, 1961

JOSE V. HERRERA and ESTER OCHANGCO HERRERA, petitioners, vs.THE QUEZON CITY BOARD OF ASSESSMENT APPEALS, respondent.

Angel A. Sison for petitioners.Jaime Agloro for respondent.

CONCEPCION, J.:

Appeal, by petitioners Jose V. Herrera and Ester Ochangco Herrera, from a decision of the Court of Tax Appeals affirming that of the Board of Assessment Appeals of Quezon City, which held that certain properties of said petitioners are subject to assessment for purposes of real estate tax.

The facts and the issue are set forth in the aforementioned decision of the Court of Tax Appeals, from which we quote:

On July 24, 1952, the Director of the Bureau of Hospitals authorized the petitioners to establish and operate the "St. Catherine's Hospital", located at 58 D. Tuazon, Sta. Mesa Heights, Quezon City (Exhibit "F-1", p. 7, BIR rec.). On or about January 3, 1953, the petitioners sent a letter to the Quezon City Assessor requesting exemption from payment of real estate tax on the lot, building and other improvements comprising the hospital stating that the same was established for charitable and humanitarian purposes and not for commercial gain (Exhibit "F-2", pp. 8-9, BIR rec.). After an inspection of the premises in question and after a careful study of the case, the exemption from real property taxes was granted effective the years 1953, 1954 and 1955.

Subsequently, however, in a letter dated August 10, 1955 (Exhibit "E", p. 65, CTA rec.) the Quezon City Assessor notified the petitioners that the aforesaid properties were re-classified from exempt to "taxable" and thus assessed for real property taxes effective 1956, enclosing therewith copies of Tax Declarations Nos. 19321 to 19322 covering the said properties. The petitioners appealed the assessment to the Quezon City Board of Assessment Appeals, which, in a decision dated March 31, 1956 and received by the former on May 17, 1956, affirmed the decision of the City Assessor. A motion for reconsideration thereof was denied on March 8, 1957. From this decision, the petitioners instituted the instant appeal.1awphîl.nèt

The building involved in this case is principally used as a hospital. It is mainly a surgical and orthopedic hospital with emphasis on obstetrical cases, the latter constituting 90% of the total number of cases registered therein. The hospital has thirty-two (32) beds, of which twenty (20) are for charity-patients and twelve (12) for pay-patients. From the evidence presented by petitioners, it is made to appear that there are two kinds of charity patients — (a) those who come for consultation only ("out-charity patients"); and (b) those who remain in the hospital for treatment ("lying-in-patients"). The out-charity patients are given free consultation and prescription, although sometimes they are furnished with free medicines which are not costly like aspirin, sulfatiazole, etc. The charity lying-in-patients are given free medical service and medicine although the food served to the pay-patients is very much better than that given to the former. Although no condition is imposed by the hospital on the admission of charity lying-in-patients, they however, usually give donations to the hospital. On the other hand, the pay-patients are required to pay for hospital services ranging from the minimum charge of P5.00 to the maximum of P40.00 for each day of stay in the hospital. The income realized from pay-patients is spent for the improvement of the charity wards. The hospital personnel is composed of three nurses, two graduate midwives, a resident physician receiving a salary of P170.00 a month and the petitioner, Dr. Ester Ochangco Herrera, as directress. As such directress, the latter does not receive any salary.

Petitioners also operate within the premises of the hospital the "St. Catherine's School of Midwifery" which was granted government recognition by the Secretary of Education on February 1, 1955 (Exhibit "F-3", p. 10, BIR rec.) This school has an enrollment of about two hundred students. The students are charged a matriculation fee of P300.00 for 1-½ years, plus P50.00 a month for board and lodging, which includes transportation to the St. Mary's Hospital. The students practice in the St. Catherine's Hospital, as well as in the St. Mary's Hospital, which is also owned by the petitioners. A separate set of accounting books is maintained by the school for midwifery distinct from that kept by the hospital. The petitioners alleged that the accounts of the school are not included in Exhibits "A", "A-1", "A-2", "B", "B-1", "B-2", "C", "C-1" and "C-2" which relate to the hospital only. However, the petitioners have refused to submit a separate statement of accounts of the school. A brief tabulation indicating the amount of income of the hospital for the years 1954, 1955 and 1956, and its operational expenses, is as follows:

1 9 5 4

Income Expenses Deficit

Charity Ward Pay Ward P14,779.50

P 5,280.04P10,803.26

P16,083.30

P1,303.80

(Exhibits "A", "A-1" and "A-2")

1 9 5 5

Income Expenses Deficit

Charity Ward Pay Ward P17,433.30

P 6,859.3214,038.92

P20,898.24P3,464.94

(Exhibits "B", "B-1" and "B-2")

1 9 5 6

Income Expenses Deficit

Charity Ward Pay Ward P21,467.40

P 5,559.8916,249.04

P21,809.93

P 341.53

(Exhibits "C", "C-1" and "C-2")

Aside from the St. Catherine and St. Mary hospitals, the petitioners declared that they also own lands and coconut plantations in Quezon Province, and other real estate in the City of Manila consisting of apartments for rent. The petitioner, Jose V. Herrera, is an architect, actively engaged in the practice of his profession, with office at Tuason Building, Escolta, Manila. He was formerly Chairman, Board of Examiners for Architects and Chairman, Board of Architects connected with the United Nations. He was also connected with the Allied Technologists which constructed the Veterans Hospital in Quezon City.

The only issue raised, is whether or not the lot, building and other improvements occupied by the St. Catherine Hospital are exempt from the real property tax. The resolution of this question boils down to the corollary issue as to whether or not the said properties are used exclusively for charitable or educational purposes. (Petitioners' brief, pp. 24-29).

The Court of Tax Appeals decided the issue in the negative, upon the ground that the St. Catherine's Hospital "has a pay ward for ... pay-patients, who are charged for the use of the private rooms, operating room, laboratory room, delivery room, etc., like other hospitals operated for profit" and that "petitioners and their family occupy a portion of the building for their residence." With respect to petitioners' claim for

exemption based upon the operation of the school of midwifery, the Court conceded that "the proposition might be proper if the property used for the school of midwifery were separate and distinct from the hospital." It added, however, that, "in the instant case, the portions of the building used for classrooms of the school of midwifery have not been shown to be exclusively for school purposes"; that said portions "rather ... have a dual use, i.e., for classroom and for hospital use, the latter not being a purpose that renders the property tax exempt;" that part of the building and lot in question "is used as a hospital, part as residence of the petitioners, part as garage, part as dormitory and part as school"; and that "the portion dedicated to educational and charitable purposes can not be identified from those destined to other uses; and the building is itself an indivisible unit of property."

It should be noted, however, that, according to the very statement of facts made in the decision appealed from, of the thirty-two (32) beds in the hospital, twenty (20) are for charity-patients; that "the income realized from pay-patients is spent for improvement of the charity wards;" and that "petitioners, Dr. Ester Ochangco Herrera, as directress" of said hospital, "does not receive any salary," although its resident physician gets a monthly salary of P170.00. It is well settled, in this connection, that the admission of pay-patients does not detract from the charitable character of a hospital, if all its funds are devoted "exclusively to the maintenance of the institution" as a "public charity" (84 C.J.S., 617; see, also, 51 Am. Jur. 607; Cooley on Taxation, Vol. 2, p. 1562; 144 A.L.R., 1489-1492). "In other words, where rendering charity is its primary object, and the funds derived from payments made by patients able to pay are devoted to the benevolent purposes of the institution, the mere fact that a profit has been made will not deprive the hospital of its benevolent character" (Prairie Du Chien Sanitarium Co. vs. City of Prairie Du Chien, 242 Wis. 262, 7 NW [2d] 832, 144 A.L.R. 1480).

Thus, we have held that the U.S.T. Hospital was not established for profit-making purposes, although it had 140 paying beds maintained only to partly finance the expenses of the free wards, containing 203 beds for charity patients (U.S.T. Hospital Employees Association vs. Sto. Tomas University Hospital, L-6988, May 24, 1954), that St. Paul's Hospital of Iloilo, a corporation organized for "charitable educational and religious purposes" can not be considered as engaged in business merely because its pharmacy department charges paying patients the cost of their medicine, plus 10% thereof, to partly offset the cost of medicines supplied free of charge to charity patients (Collector of Internal Revenue vs. St. Paul's Hospital of Iloilo, L-12127, May 25, 1959), and that the amendment of the original articles of incorporation of the University of Visayas to convert it from a non-stock to a stock corporation and the increase of its assets from P9,000 to P50,000, distributed among the members of the original non-stock corporation in terms of shares of stock, as well as the subsequent move of its board of trustees to double the stock dividends of the corporation, in view of a gain of P200,000.00 in property, besides good-will, which was not carried out, does not justify the inference that the corporation has become one for business and profit, none of its profits having inured to the benefit of any stockholder or individual (Collector of Internal Revenue vs. University of Visayas, L-13554, February 28, 1961).

Moreover, the exemption in favor of property used exclusively for charitable or educational purposes is "not limited to property actually indispensable" therefor (Cooley on Taxation, Vol. 2, p. 1430), but extends to facilities which are "incidental to and reasonably necessary for" the accomplishment of said purposes, such as, in the case of hospitals, "a school for training nurses, a nurses' home, property use to provide housing facilities for interns, resident doctors, superintendents, and other members of the hospital staff, and recreational facilities for student nurses, interns and residents" (84 C.J.S., 621), such as "athletic fields," including "a farm used for the inmates of the institution" (Cooley on Taxation, Vol. 2, p. 1430).

Within the purview of the Constitutional exemption from taxation, the St. Catherine's Hospital is, therefore, a charitable institution, and the fact that it admits pay-patients does not bar it from claiming that it is devoted exclusively to benevolent purposes, it being admitted that the income derived from pay-patients is devoted to the improvement of the charity wards, which represent almost two-thirds (2/3) of the bed capacity of the hospital, aside from "out-charity patients" who come only for consultation.

Again, the existence of "St. Catherine's School of Midwifery", with an enrollment of about 200 students, who practice partly in St. Catherine's Hospital and partly in St. Mary's Hospital, which, likewise, belongs to petitioners herein, does not, and cannot, affect the exemption to which St. Catherine's Hospital is entitled under our fundamental law. On the contrary, it furnishes another ground for exemption. Seemingly, the Court of Tax Appeals was impressed by the fact that the size of said enrollment

and the matriculation fee charged from the students of midwifery, aside from the amount they paid for board and lodging, including transportation to St. Mary's Hospital, warrants the belief that petitioners derive a substantial profit from the operation of the school aforementioned. Such factor is, however, immaterial to the issue in the case at bar, for "all lands, building and improvements used exclusively for religious, charitable or educational purposes shall be exempt from taxation," pursuant to the Constitution, regardless of whether or not material profits are derived from the operation of the institutions in question. In other words, Congress may, if it deems fit to do so, impose taxes upon such "profits", but said "lands, buildings and improvements" are beyond its taxing power.

Similarly, the garage in the building above referred to — which was obviously essential to the operation of the school of midwifery, for the students therein enrolled practiced, not only in St. Catherine's Hospital, but, also, in St. Mary's Hospital, and were entitled to transportation thereto — for Mrs. Herrera received no compensation as directress of St. Catherine's Hospital — were incidental to the operation of the latter and of said school, and, accordingly, did not affect the charitable character of said hospital and the educational nature of said school.

WHEREFORE, the decision of the Court of Tax Appeals, as well as that of the Assessment Board of Appeals of Quezon City, are hereby reversed and set aside, and another one entered declaring that the lot, building and improvements constituting the St. Catherine's Hospital are exempt from taxation under the provisions of the Constitution, without special pronouncement as to costs. It is so ordered.

G.R. No. 144104             June 29, 2004

LUNG CENTER OF THE PHILIPPINES, petitioner, vs.QUEZON CITY and CONSTANTINO P. ROSAS, in his capacity as City Assessor of Quezon City,respondents.

D E C I S I O N

CALLEJO, SR., J.:

This is a petition for review on certiorari under Rule 45 of the Rules of Court, as amended, of the Decision1dated July 17, 2000 of the Court of Appeals in CA-G.R. SP No. 57014 which affirmed the decision of the Central Board of Assessment Appeals holding that the lot owned by the petitioner and its hospital building constructed thereon are subject to assessment for purposes of real property tax.

The Antecedents

The petitioner Lung Center of the Philippines is a non-stock and non-profit entity established on January 16, 1981 by virtue of Presidential Decree No. 1823.2 It is the registered owner of a parcel of land, particularly described as Lot No. RP-3-B-3A-1-B-1, SWO-04-000495, located at Quezon Avenue corner Elliptical Road, Central District, Quezon City. The lot has an area of 121,463 square meters and is covered by Transfer Certificate of Title (TCT) No. 261320 of the Registry of Deeds of Quezon City. Erected in the middle of the aforesaid lot is a hospital known as the Lung Center of the Philippines. A big space at the ground floor is being leased to private parties, for canteen and small store spaces, and to medical or professional practitioners who use the same as their private clinics for their patients whom they charge for their professional services. Almost one-half of the entire area on the left side of the building along Quezon Avenue is vacant and idle, while a big portion on the right side, at the corner of Quezon Avenue and Elliptical Road, is being leased for commercial purposes to a private enterprise known as the Elliptical Orchids and Garden Center.

The petitioner accepts paying and non-paying patients. It also renders medical services to out-patients, both paying and non-paying. Aside from its income from paying patients, the petitioner receives annual subsidies from the government.

On June 7, 1993, both the land and the hospital building of the petitioner were assessed for real property taxes in the amount of P4,554,860 by the City Assessor of Quezon City.3 Accordingly, Tax Declaration Nos. C-021-01226 (16-2518) and C-021-01231 (15-2518-A) were issued for the land and the hospital building, respectively.4 On August 25, 1993, the petitioner filed a Claim for Exemption5 from real property taxes with the City Assessor, predicated on its claim that it is a charitable institution. The petitioner’s request was denied, and a petition was, thereafter, filed before the Local Board of Assessment Appeals of Quezon City (QC-LBAA, for brevity) for the reversal of the resolution of the City Assessor. The petitioner alleged that under Section 28, paragraph 3 of the 1987 Constitution, the property is exempt from real property taxes. It averred that a minimum of 60% of its hospital beds are exclusively used for charity patients and that the major thrust of its hospital operation is to serve charity patients. The petitioner contends that it is a charitable institution and, as such, is exempt from real property taxes. The QC-LBAA rendered judgment dismissing the petition and holding the petitioner liable for real property taxes.6

The QC-LBAA’s decision was, likewise, affirmed on appeal by the Central Board of Assessment Appeals of Quezon City (CBAA, for brevity)7 which ruled that the petitioner was not a charitable institution and that its real properties were not actually, directly and exclusively used for charitable purposes; hence, it was not entitled to real property tax exemption under the constitution and the law. The petitioner sought relief from the Court of Appeals, which rendered judgment affirming the decision of the CBAA.8

Undaunted, the petitioner filed its petition in this Court contending that:

A. THE COURT A QUO ERRED IN DECLARING PETITIONER AS NOT ENTITLED TO REALTY TAX EXEMPTIONS ON THE GROUND THAT ITS LAND, BUILDING AND IMPROVEMENTS, SUBJECT OF ASSESSMENT, ARE NOT ACTUALLY, DIRECTLY AND EXCLUSIVELY DEVOTED FOR CHARITABLE PURPOSES.

B. WHILE PETITIONER IS NOT DECLARED AS REAL PROPERTY TAX EXEMPT UNDER ITS CHARTER, PD 1823, SAID EXEMPTION MAY NEVERTHELESS BE EXTENDED UPON PROPER APPLICATION.

The petitioner avers that it is a charitable institution within the context of Section 28(3), Article VI of the 1987 Constitution. It asserts that its character as a charitable institution is not altered by the fact that it admits paying patients and renders medical services to them, leases portions of the land to private parties, and rents out portions of the hospital to private medical practitioners from which it derives income to be used for operational expenses. The petitioner points out that for the years 1995 to 1999, 100% of its out-patients were charity patients and of the hospital’s 282-bed capacity, 60% thereof, or 170 beds, is allotted to charity patients. It asserts that the fact that it receives subsidies from the government attests to its character as a charitable institution. It contends that the "exclusivity" required in the Constitution does not necessarily mean "solely." Hence, even if a portion of its real estate is leased out to private individuals from whom it derives income, it does not lose its character as a charitable institution, and its exemption from the payment of real estate taxes on its real property. The petitioner cited our ruling in Herrera v. QC-BAA9 to bolster its pose. The petitioner further contends that even if P.D. No. 1823 does not exempt it from the payment of real estate taxes, it is not precluded from seeking tax exemption under the 1987 Constitution.

In their comment on the petition, the respondents aver that the petitioner is not a charitable entity. The petitioner’s real property is not exempt from the payment of real estate taxes under P.D. No. 1823 and even under the 1987 Constitution because it failed to prove that it is a charitable institution and that the said property is actually, directly and exclusively used for charitable purposes. The respondents noted that in a newspaper report, it appears that graft charges were filed with the Sandiganbayan against the director of the petitioner, its administrative officer, and Zenaida Rivera, the proprietress of the Elliptical Orchids and Garden Center, for entering into a lease contract over 7,663.13 square meters of the property in 1990 for only P20,000 a month, when the monthly rental should be P357,000 a month as determined by the Commission on Audit; and that instead of complying with the directive of the COA for the cancellation of the contract for being grossly prejudicial to the government, the petitioner renewed the same on March 13, 1995 for a monthly rental of onlyP24,000. They assert that the petitioner uses the subsidies granted by the government for charity patients and uses the rest of its income from the property for the benefit of paying patients, among other purposes. They aver that the petitioner failed to adduce substantial evidence that 100% of its out-patients and 170 beds in the hospital are reserved for indigent patients. The respondents further assert, thus:

13. That the claims/allegations of the Petitioner LCP do not speak well of its record of service. That before a patient is admitted for treatment in the Center, first impression is that it is pay-patient and required to pay a certain amount as deposit. That even if a patient is living below the poverty line, he is charged with high hospital bills. And, without these bills being first settled, the poor patient cannot be allowed to leave the hospital or be discharged without first paying the hospital bills or issue a promissory note guaranteed and indorsed by an influential agency or person known only to the Center; that even the remains of deceased poor patients suffered the same fate. Moreover, before a patient is admitted for treatment as free or charity patient, one must undergo a series of interviews and must submit all the requirements needed by the Center, usually accompanied by endorsement by an influential agency or person known only to the Center. These facts were heard and admitted by the Petitioner LCP during the hearings before the Honorable QC-BAA and Honorable CBAA. These are the reasons of indigent patients, instead of seeking treatment with the Center, they prefer to be treated at the Quezon Institute. Can such practice by the Center be called charitable?10

The Issues

The issues for resolution are the following: (a) whether the petitioner is a charitable institution within the context of Presidential Decree No. 1823 and the 1973 and 1987 Constitutions and Section 234(b) of Republic Act No. 7160; and (b) whether the real properties of the petitioner are exempt from real property taxes.

The Court’s Ruling

The petition is partially granted.

On the first issue, we hold that the petitioner is a charitable institution within the context of the 1973 and 1987 Constitutions. To determine whether an enterprise is a charitable institution/entity or not, the elements which should be considered include the statute creating the enterprise, its corporate purposes, its constitution and by-laws, the methods of administration, the nature of the actual work performed, the character of the services rendered, the indefiniteness of the beneficiaries, and the use and occupation of the properties.11

In the legal sense, a charity may be fully defined as a gift, to be applied consistently with existing laws, for the benefit of an indefinite number of persons, either by bringing their minds and hearts under the influence of education or religion, by assisting them to establish themselves in life or otherwise lessening the burden of government.12 It may be applied to almost anything that tend to promote the well-doing and well-being of social man. It embraces the improvement and promotion of the happiness of man.13 The word "charitable" is not restricted to relief of the poor or sick.14 The test of a charity and a charitable organization are in law the same. The test whether an enterprise is charitable or not is whether it exists to carry out a purpose reorganized in law as charitable or whether it is maintained for gain, profit, or private advantage.

Under P.D. No. 1823, the petitioner is a non-profit and non-stock corporation which, subject to the provisions of the decree, is to be administered by the Office of the President of the Philippines with the Ministry of Health and the Ministry of Human Settlements. It was organized for the welfare and benefit of the Filipino people principally to help combat the high incidence of lung and pulmonary diseases in the Philippines. The raison d’etre for the creation of the petitioner is stated in the decree, viz:

Whereas, for decades, respiratory diseases have been a priority concern, having been the leading cause of illness and death in the Philippines, comprising more than 45% of the total annual deaths from all causes, thus, exacting a tremendous toll on human resources, which ailments are likely to increase and degenerate into serious lung diseases on account of unabated pollution, industrialization and unchecked cigarette smoking in the country;lavvph!l.net

Whereas, the more common lung diseases are, to a great extent, preventable, and curable with early and adequate medical care, immunization and through prompt and intensive prevention and health education programs;

Whereas, there is an urgent need to consolidate and reinforce existing programs, strategies and efforts at preventing, treating and rehabilitating people affected by lung diseases, and to undertake research and training on the cure and prevention of lung diseases, through a Lung Center which will house and nurture the above and related activities and provide tertiary-level care for more difficult and problematical cases;

Whereas, to achieve this purpose, the Government intends to provide material and financial support towards the establishment and maintenance of a Lung Center for the welfare and benefit of the Filipino people.15

The purposes for which the petitioner was created are spelled out in its Articles of Incorporation, thus:

SECOND: That the purposes for which such corporation is formed are as follows:

1. To construct, establish, equip, maintain, administer and conduct an integrated medical institution which shall specialize in the treatment, care, rehabilitation and/or relief of lung and allied diseases in line with the concern of the government to assist and provide material and financial support in the establishment and maintenance of a lung center primarily to benefit the people of the Philippines and in pursuance of the policy of the State to secure the well-being of the people by providing them specialized health and medical services and by minimizing the incidence of lung diseases in the country and elsewhere.

2. To promote the noble undertaking of scientific research related to the prevention of lung or pulmonary ailments and the care of lung patients, including the holding of a series of relevant congresses, conventions, seminars and conferences;

3. To stimulate and, whenever possible, underwrite scientific researches on the biological, demographic, social, economic, eugenic and physiological aspects of lung or pulmonary diseases and their control; and to collect and publish the findings of such research for public consumption;

4. To facilitate the dissemination of ideas and public acceptance of information on lung consciousness or awareness, and the development of fact-finding, information and reporting facilities for and in aid of the general purposes or objects aforesaid, especially in human lung requirements, general health and physical fitness, and other relevant or related fields;

5. To encourage the training of physicians, nurses, health officers, social workers and medical and technical personnel in the practical and scientific implementation of services to lung patients;

6. To assist universities and research institutions in their studies about lung diseases, to encourage advanced training in matters of the lung and related fields and to support educational programs of value to general health;

7. To encourage the formation of other organizations on the national, provincial and/or city and local levels; and to coordinate their various efforts and activities for the purpose of achieving a more effective programmatic approach on the common problems relative to the objectives enumerated herein;

8. To seek and obtain assistance in any form from both international and local foundations and organizations; and to administer grants and funds that may be given to the organization;

9. To extend, whenever possible and expedient, medical services to the public and, in general, to promote and protect the health of the masses of our people, which has long been recognized as an economic asset and a social blessing;

10. To help prevent, relieve and alleviate the lung or pulmonary afflictions and maladies of the people in any and all walks of life, including those who are poor and needy, all without regard to or discrimination, because of race, creed, color or political belief of the persons helped; and to enable them to obtain treatment when such disorders occur;

11. To participate, as circumstances may warrant, in any activity designed and carried on to promote the general health of the community;

12. To acquire and/or borrow funds and to own all funds or equipment, educational materials and supplies by purchase, donation, or otherwise and to dispose of and distribute the same in such manner, and, on such basis as the Center shall, from time to time, deem proper and best, under the particular circumstances, to serve its general and non-profit purposes and objectives;lavvphil.net

13. To buy, purchase, acquire, own, lease, hold, sell, exchange, transfer and dispose of properties, whether real or personal, for purposes herein mentioned; and

14. To do everything necessary, proper, advisable or convenient for the accomplishment of any of the

powers herein set forth and to do every other act and thing incidental thereto or connected therewith.16

Hence, the medical services of the petitioner are to be rendered to the public in general in any and all walks of life including those who are poor and the needy without discrimination. After all, any person, the rich as well as the poor, may fall sick or be injured or wounded and become a subject of charity.17

As a general principle, a charitable institution does not lose its character as such and its exemption from taxes simply because it derives income from paying patients, whether out-patient, or confined in the hospital, or receives subsidies from the government, so long as the money received is devoted or used altogether to the charitable object which it is intended to achieve; and no money inures to the private benefit of the persons managing or operating the institution.18 In Congregational Sunday School, etc. v. Board of Review,19 the State Supreme Court of Illinois held, thus:

… [A]n institution does not lose its charitable character, and consequent exemption from taxation, by reason of the fact that those recipients of its benefits who are able to pay are required to do so, where no profit is made by the institution and the amounts so received are applied in furthering its charitable purposes, and those benefits are refused to none on account of inability to pay therefor. The fundamental ground upon which all exemptions in favor of charitable institutions are based is the benefit conferred upon the public by them, and a consequent relief, to some extent, of the burden upon the state to care for and advance the interests of its citizens.20

As aptly stated by the State Supreme Court of South Dakota in Lutheran Hospital Association of South Dakota v. Baker:21

… [T]he fact that paying patients are taken, the profits derived from attendance upon these patients being exclusively devoted to the maintenance of the charity, seems rather to enhance the usefulness of the institution to the poor; for it is a matter of common observation amongst those who have gone about at all amongst the suffering classes, that the deserving poor can with difficulty be persuaded to enter an asylum of any kind confined to the reception of objects of charity; and that their honest pride is much less wounded by being placed in an institution in which paying patients are also received. The fact of receiving money from some of the patients does not, we think, at all impair the character of the charity, so long as the money thus received is devoted altogether to the charitable object which the institution is intended to further.22

The money received by the petitioner becomes a part of the trust fund and must be devoted to public trust purposes and cannot be diverted to private profit or benefit.23

Under P.D. No. 1823, the petitioner is entitled to receive donations. The petitioner does not lose its character as a charitable institution simply because the gift or donation is in the form of subsidies granted by the government. As held by the State Supreme Court of Utah in Yorgason v. County Board of Equalization of Salt Lake County:24

Second, the … government subsidy payments are provided to the project. Thus, those payments are like a gift or donation of any other kind except they come from the government. In both Intermountain Health Care and the present case, the crux is the presence or absence of material reciprocity. It is entirely irrelevant to this analysis that the government, rather than a private benefactor, chose to make up the deficit resulting from the exchange between St. Mark’s Tower and the tenants by making a contribution to the landlord, just as it would have been irrelevant in Intermountain Health Care if the patients’ income supplements had come from private individuals rather than the government.

Therefore, the fact that subsidization of part of the cost of furnishing such housing is by the government rather than private charitable contributions does not dictate the denial of a charitable exemption if the facts otherwise support such an exemption, as they do here.25

In this case, the petitioner adduced substantial evidence that it spent its income, including the subsidies from the government for 1991 and 1992 for its patients and for the operation of the hospital. It even incurred a net loss in 1991 and 1992 from its operations.

Even as we find that the petitioner is a charitable institution, we hold, anent the second issue, that those portions of its real property that are leased to private entities are not exempt from real property taxes as these are not actually, directly and exclusively used for charitable purposes.

The settled rule in this jurisdiction is that laws granting exemption from tax are construed strictissimi jurisagainst the taxpayer and liberally in favor of the taxing power. Taxation is the rule and exemption is the exception. The effect of an exemption is equivalent to an appropriation. Hence, a claim for exemption from tax payments must be clearly shown and based on language in the law too plain to be mistaken.26 As held inSalvation Army v. Hoehn:27

An intention on the part of the legislature to grant an exemption from the taxing power of the state will never be implied from language which will admit of any other reasonable construction. Such an intention must be expressed in clear and unmistakable terms, or must appear by necessary implication from the language used, for it is a well settled principle that, when a special privilege or exemption is claimed under a statute, charter or act of incorporation, it is to be construed strictly against the property owner and in favor of the public. This principle applies with peculiar force to a claim of exemption from taxation . …28

Section 2 of Presidential Decree No. 1823, relied upon by the petitioner, specifically provides that the petitioner shall enjoy the tax exemptions and privileges:

SEC. 2. TAX EXEMPTIONS AND PRIVILEGES. Being a non-profit, non-stock corporation organized primarily to help combat the high incidence of lung and pulmonary diseases in the Philippines, all donations, contributions, endowments and equipment and supplies to be imported by authorized entities or persons and by the Board of Trustees of the Lung Center of the Philippines, Inc., for the actual use and benefit of the Lung Center, shall be exempt from income and gift taxes, the same further deductible in full for the purpose of determining the maximum deductible amount under Section 30, paragraph (h), of the National Internal Revenue Code, as amended.

The Lung Center of the Philippines shall be exempt from the payment of taxes, charges and fees imposed by the Government or any political subdivision or instrumentality thereof with respect to equipment purchases made by, or for the Lung Center.29

It is plain as day that under the decree, the petitioner does not enjoy any property tax exemption privileges for its real properties as well as the building constructed thereon. If the intentions were otherwise, the same should have been among the enumeration of tax exempt privileges under Section 2:

It is a settled rule of statutory construction that the express mention of one person, thing, or consequence implies the exclusion of all others. The rule is expressed in the familiar maxim, expressio unius est exclusio alterius.

The rule of expressio unius est exclusio alterius is formulated in a number of ways. One variation of the rule is the principle that what is expressed puts an end to that which is implied. Expressium facit cessare tacitum. Thus, where a statute, by its terms, is expressly limited to certain matters, it may not, by interpretation or construction, be extended to other matters.

...

The rule of expressio unius est exclusio alterius and its variations are canons of restrictive interpretation. They are based on the rules of logic and the natural workings of the human mind. They are predicated upon one’s own voluntary act and not upon that of others. They proceed from the premise that the legislature would not have made specified enumeration in a statute had the intention been not to restrict its meaning and confine its terms to those expressly mentioned.30

The exemption must not be so enlarged by construction since the reasonable presumption is that the State has granted in express terms all it intended to grant at all, and that unless the privilege is limited to the very terms of the statute the favor would be intended beyond what was meant.31

Section 28(3), Article VI of the 1987 Philippine Constitution provides, thus:

(3) Charitable institutions, churches and parsonages or convents appurtenant thereto, mosques, non-profit cemeteries, and all lands, buildings, and improvements, actually, directly and exclusively used for religious, charitable or educational purposes shall be exempt from taxation.32

The tax exemption under this constitutional provision covers property taxes only.33 As Chief Justice Hilario G. Davide, Jr., then a member of the 1986 Constitutional Commission, explained: ". . . what is exempted is not the institution itself . . .; those exempted from real estate taxes are lands, buildings and improvements actually, directly and exclusively used for religious, charitable or educational purposes."34

Consequently, the constitutional provision is implemented by Section 234(b) of Republic Act No. 7160 (otherwise known as the Local Government Code of 1991) as follows:

SECTION 234. Exemptions from Real Property Tax. – The following are exempted from payment of the real property tax:

...

(b) Charitable institutions, churches, parsonages or convents appurtenant thereto, mosques, non-profit or religious cemeteries and all lands, buildings, and improvements actually, directly, andexclusively used for religious, charitable or educational purposes.35

We note that under the 1935 Constitution, "... all lands, buildings, and improvements used ‘exclusively’ for … charitable … purposes shall be exempt from taxation."36 However, under the 1973 and the present Constitutions, for "lands, buildings, and improvements" of the charitable institution to be considered exempt, the same should not only be "exclusively" used for charitable purposes; it is required that such property be used "actually" and "directly" for such purposes.37

In light of the foregoing substantial changes in the Constitution, the petitioner cannot rely on our ruling in Herrera v. Quezon City Board of Assessment Appeals which was promulgated on September 30, 1961 before the 1973 and 1987 Constitutions took effect.38 As this Court held in Province of Abra v. Hernando:39

… Under the 1935 Constitution: "Cemeteries, churches, and parsonages or convents appurtenant thereto, and all lands, buildings, and improvements used exclusively for religious, charitable, or educational purposes shall be exempt from taxation." The present Constitution added "charitable institutions, mosques, and non-profit cemeteries" and required that for the exemption of "lands, buildings, and improvements," they should not only be "exclusively" but also "actually" and "directly" used for religious or charitable purposes. The Constitution is worded differently. The change should not be ignored. It must be duly taken into consideration. Reliance on past decisions would have sufficed were the words "actually" as well as "directly" not added. There must be proof therefore of the actual and direct use of the lands, buildings, and improvements for religious or charitable purposes to be exempt from taxation. …

Under the 1973 and 1987 Constitutions and Rep. Act No. 7160 in order to be entitled to the exemption, the petitioner is burdened to prove, by clear and unequivocal proof, that (a) it is a charitable institution; and (b) its real properties are ACTUALLY, DIRECTLY and EXCLUSIVELY used for charitable purposes. "Exclusive" is defined as possessed and enjoyed to the exclusion of others; debarred from participation or enjoyment; and "exclusively" is defined, "in a manner to exclude; as enjoying a privilege exclusively."40 If real property is used for one or more commercial purposes, it is not exclusively used for the exempted purposes but is subject to taxation.41 The words "dominant use" or "principal use" cannot

be substituted for the words "used exclusively" without doing violence to the Constitutions and the law.42 Solely is synonymous with exclusively.43

What is meant by actual, direct and exclusive use of the property for charitable purposes is the direct and immediate and actual application of the property itself to the purposes for which the charitable institution is organized. It is not the use of the income from the real property that is determinative of whether the property is used for tax-exempt purposes.44

The petitioner failed to discharge its burden to prove that the entirety of its real property is actually, directly and exclusively used for charitable purposes. While portions of the hospital are used for the treatment of patients and the dispensation of medical services to them, whether paying or non-paying, other portions thereof are being leased to private individuals for their clinics and a canteen. Further, a portion of the land is being leased to a private individual for her business enterprise under the business name "Elliptical Orchids and Garden Center." Indeed, the petitioner’s evidence shows that it collected P1,136,483.45 as rentals in 1991 and P1,679,999.28 for 1992 from the said lessees.

Accordingly, we hold that the portions of the land leased to private entities as well as those parts of the hospital leased to private individuals are not exempt from such taxes.45 On the other hand, the portions of the land occupied by the hospital and portions of the hospital used for its patients, whether paying or non-paying, are exempt from real property taxes.

IN LIGHT OF ALL THE FOREGOING, the petition is PARTIALLY GRANTED. The respondent Quezon City Assessor is hereby DIRECTED to determine, after due hearing, the precise portions of the land and the area thereof which are leased to private persons, and to compute the real property taxes due thereon as provided for by law.

SO ORDERED.

G.R. No. L-39086 June 15, 1988

ABRA VALLEY COLLEGE, INC., represented by PEDRO V. BORGONIA, petitioner, vs.HON. JUAN P. AQUINO, Judge, Court of First Instance, Abra; ARMIN M. CARIAGA, Provincial Treasurer, Abra; GASPAR V. BOSQUE, Municipal Treasurer, Bangued, Abra; HEIRS OF PATERNO MILLARE, respondents.

 

PARAS, J.:

This is a petition for review on certiorari of the decision * of the defunct Court of First Instance of Abra, Branch I, dated June 14, 1974, rendered in Civil Case No. 656, entitled "Abra Valley Junior College, Inc., represented by Pedro V. Borgonia, plaintiff vs. Armin M. Cariaga as Provincial Treasurer of Abra, Gaspar V. Bosque as Municipal Treasurer of Bangued, Abra and Paterno Millare, defendants," the decretal portion of which reads:

IN VIEW OF ALL THE FOREGOING, the Court hereby declares:

That the distraint seizure and sale by the Municipal Treasurer of Bangued, Abra, the Provincial Treasurer of said province against the lot and building of the Abra Valley Junior College, Inc., represented by Director Pedro Borgonia located at Bangued, Abra, is valid;

That since the school is not exempt from paying taxes, it should therefore pay all back taxes in the amount of P5,140.31 and back taxes and penalties from the promulgation of this decision;

That the amount deposited by the plaintaff him the sum of P60,000.00 before the trial, be confiscated to apply for the payment of the back taxes and for the redemption of the property in question, if the amount is less than P6,000.00, the remainder must be returned to the Director of Pedro Borgonia, who represents the plaintiff herein;

That the deposit of the Municipal Treasurer in the amount of P6,000.00 also before the trial must be returned to said Municipal Treasurer of Bangued, Abra;

And finally the case is hereby ordered dismissed with costs against the plaintiff.

SO ORDERED. (Rollo, pp. 22-23)

Petitioner, an educational corporation and institution of higher learning duly incorporated with the Securities and Exchange Commission in 1948, filed a complaint (Annex "1" of Answer by the respondents Heirs of Paterno Millare; Rollo, pp. 95-97) on July 10, 1972 in the court a quo to annul and declare void the "Notice of Seizure' and the "Notice of Sale" of its lot and building located at Bangued, Abra, for non-payment of real estate taxes and penalties amounting to P5,140.31. Said "Notice of Seizure" of the college lot and building covered by Original Certificate of Title No. Q-83 duly registered in the name of petitioner, plaintiff below, on July 6, 1972, by respondents Municipal Treasurer and Provincial Treasurer, defendants below, was issued for the satisfaction of the said taxes thereon. The "Notice of Sale" was caused to be served upon the petitioner by the respondent treasurers on July 8, 1972 for the sale at public auction of said college lot and building, which sale was held on the same date. Dr. Paterno Millare, then Municipal Mayor of Bangued, Abra, offered the highest bid of P6,000.00 which was duly accepted. The certificate of sale was correspondingly issued to him.

On August 10, 1972, the respondent Paterno Millare (now deceased) filed through counstel a motion to dismiss the complaint.

On August 23, 1972, the respondent Provincial Treasurer and Municipal Treasurer, through then Provincial Fiscal Loreto C. Roldan, filed their answer (Annex "2" of Answer by the respondents Heirs of Patemo Millare; Rollo, pp. 98-100) to the complaint. This was followed by an amended answer (Annex "3," ibid, Rollo, pp. 101-103) on August 31, 1972.

On September 1, 1972 the respondent Paterno Millare filed his answer (Annex "5," ibid; Rollo, pp. 106-108).

On October 12, 1972, with the aforesaid sale of the school premises at public auction, the respondent Judge, Hon. Juan P. Aquino of the Court of First Instance of Abra, Branch I, ordered (Annex "6," ibid; Rollo, pp. 109-110) the respondents provincial and municipal treasurers to deliver to the Clerk of Court the proceeds of the auction sale. Hence, on December 14, 1972, petitioner, through Director Borgonia, deposited with the trial court the sum of P6,000.00 evidenced by PNB Check No. 904369.

On April 12, 1973, the parties entered into a stipulation of facts adopted and embodied by the trial court in its questioned decision. Said Stipulations reads:

STIPULATION OF FACTS

COME NOW the parties, assisted by counsels, and to this Honorable Court respectfully enter into the following agreed stipulation of facts:

1. That the personal circumstances of the parties as stated in paragraph 1 of the complaint is admitted; but the particular person of Mr. Armin M. Cariaga is to be substituted, however, by anyone who is actually holding the position of Provincial Treasurer of the Province of Abra;

2. That the plaintiff Abra Valley Junior College, Inc. is the owner of the lot and buildings thereon located in Bangued, Abra under Original Certificate of Title No. 0-83;

3. That the defendant Gaspar V. Bosque, as Municipal treasurer of Bangued, Abra caused to be served upon the Abra Valley Junior College, Inc. a Notice of Seizure on the property of said school under Original Certificate of Title No. 0-83 for the satisfaction of real property taxes thereon, amounting to P5,140.31; the Notice of Seizure being the one attached to the complaint as Exhibit A;

4. That on June 8, 1972 the above properties of the Abra Valley Junior College, Inc. was sold at public auction for the satisfaction of the unpaid real property taxes thereon and the same was sold to defendant Paterno Millare who offered the highest bid of P6,000.00 and a Certificate of Sale in his favor was issued by the defendant Municipal Treasurer.

5. That all other matters not particularly and specially covered by this stipulation of facts will be the subject of evidence by the parties.

WHEREFORE, it is respectfully prayed of the Honorable Court to consider and admit this stipulation of facts on the point agreed upon by the parties.

Bangued, Abra, April 12, 1973.Sgd. Agripino Brillantes Typ AGRIPINO BRILLANTES Attorney for PlaintiffSgd. Loreto Roldan Typ LORETO ROLDAN Provincial Fiscal Counsel for Defendants Provincial Treasurer of Abra and the Municipal Treasurer of Bangued, Abra

Sgd. Demetrio V. Pre Typ. DEMETRIO V. PRE Attorney for Defendant Paterno Millare (Rollo, pp. 17-18)Aside from the Stipulation of Facts, the trial court among others, found the following: (a) that the school is recognized by the government and is offering Primary, High School and College Courses, and has a school population of more than one thousand students all in all; (b) that it is located right in the heart of the town of Bangued, a few meters from the plaza and about 120 meters from the Court of First Instance building; (c) that the elementary pupils are housed in a two-storey building across the street; (d) that the high school and college students are housed in the main building; (e) that the Director with his family is in the second floor of the main building; and (f) that the annual gross income of the school reaches more than one hundred thousand pesos.

From all the foregoing, the only issue left for the Court to determine and as agreed by the parties, is whether or not the lot and building in question are used exclusively for educational purposes. (Rollo, p. 20)

The succeeding Provincial Fiscal, Hon. Jose A. Solomon and his Assistant, Hon. Eustaquio Z. Montero, filed a Memorandum for the Government on March 25, 1974, and a Supplemental Memorandum on May 7, 1974, wherein they opined "that based on the evidence, the laws applicable, court decisions and jurisprudence, the school building and school lot used for educational purposes of the Abra Valley College, Inc., are exempted from the payment of taxes." (Annexes "B," "B-1" of Petition; Rollo, pp. 24-49; 44 and 49).

Nonetheless, the trial court disagreed because of the use of the second floor by the Director of petitioner school for residential purposes. He thus ruled for the government and rendered the assailed decision.

After having been granted by the trial court ten (10) days from August 6, 1974 within which to perfect its appeal (Per Order dated August 6, 1974; Annex "G" of Petition; Rollo, p. 57) petitioner instead availed of the instant petition for review on certiorari with prayer for preliminary injunction before this Court, which petition was filed on August 17, 1974 (Rollo, p.2).

In the resolution dated August 16, 1974, this Court resolved to give DUE COURSE to the petition (Rollo, p. 58). Respondents were required to answer said petition (Rollo, p. 74).

Petitioner raised the following assignments of error:

I

THE COURT A QUO ERRED IN SUSTAINING AS VALID THE SEIZURE AND SALE OF THE COLLEGE LOT AND BUILDING USED FOR EDUCATIONAL PURPOSES OF THE PETITIONER.

II

THE COURT A QUO ERRED IN DECLARING THAT THE COLLEGE LOT AND BUILDING OF THE PETITIONER ARE NOT USED EXCLUSIVELY FOR EDUCATIONAL PURPOSES MERELY BECAUSE THE COLLEGE PRESIDENT RESIDES IN ONE ROOM OF THE COLLEGE BUILDING.

III

THE COURT A QUO ERRED IN DECLARING THAT THE COLLEGE LOT AND BUILDING OF THE PETITIONER ARE NOT EXEMPT FROM PROPERTY TAXES AND IN ORDERING PETITIONER TO PAY P5,140.31 AS REALTY TAXES.

IV

THE COURT A QUO ERRED IN ORDERING THE CONFISCATION OF THE P6,000.00 DEPOSIT MADE IN THE COURT BY PETITIONER AS PAYMENT OF THE P5,140.31 REALTY TAXES. (See Brief for the Petitioner, pp. 1-2)

The main issue in this case is the proper interpretation of the phrase "used exclusively for educational purposes."

Petitioner contends that the primary use of the lot and building for educational purposes, and not the incidental use thereof, determines and

exemption from property taxes under Section 22 (3), Article VI of the 1935 Constitution. Hence, the seizure and sale of subject college lot and building, which are contrary thereto as well as to the provision of Commonwealth Act No. 470, otherwise known as the Assessment Law, are without legal basis and therefore void.

On the other hand, private respondents maintain that the college lot and building in question which were subjected to seizure and sale to answer for the unpaid tax are used: (1) for the educational purposes of the college; (2) as the permanent residence of the President and Director thereof, Mr. Pedro V. Borgonia, and his family including the in-laws and grandchildren; and (3) for commercial purposes because the ground floor of the college building is being used and rented by a commercial establishment, the Northern Marketing Corporation (See photograph attached as Annex "8" (Comment; Rollo, p. 90]).

Due to its time frame, the constitutional provision which finds application in the case at bar is Section 22, paragraph 3, Article VI, of the then 1935 Philippine Constitution, which expressly grants exemption from realty taxes for "Cemeteries, churches and parsonages or convents appurtenant thereto, and all lands, buildings, and improvements used exclusively for religious, charitable or educational purposes ...

Relative thereto, Section 54, paragraph c, Commonwealth Act No. 470 as amended by Republic Act No. 409, otherwise known as the Assessment Law, provides:

The following are exempted from real property tax under the Assessment Law:

xxx xxx xxx

(c) churches and parsonages or convents appurtenant thereto, and all lands, buildings, and improvements used exclusively for religious, charitable, scientific or educational purposes.

xxx xxx xxx

In this regard petitioner argues that the primary use of the school lot and building is the basic and controlling guide, norm and standard to determine tax exemption, and not the mere incidental use thereof.

As early as 1916 in YMCA of Manila vs. Collector of lnternal Revenue, 33 Phil. 217 [1916], this Court ruled that while it may be true that the YMCA keeps a lodging and a boarding house and maintains a restaurant for its members, still these do not constitute business in the ordinary acceptance of the word, but an institution used exclusively for religious, charitable and educational purposes, and as such, it is entitled to be exempted from taxation.

In the case of Bishop of Nueva Segovia v. Provincial Board of Ilocos Norte, 51 Phil. 352 [1972], this Court included in the exemption a vegetable garden in an adjacent lot and another lot formerly used as a cemetery. It was clarified that the term "used exclusively" considers incidental use also. Thus, the exemption from payment of land tax in favor of the convent includes, not only the land actually occupied by the building but also the adjacent garden devoted to the incidental use of the parish priest. The lot which is not used for commercial purposes but serves solely as a sort of lodging place, also qualifies for exemption because this constitutes incidental use in religious functions.

The phrase "exclusively used for educational purposes" was further clarified by this Court in the cases ofHerrera vs. Quezon City Board of assessment Appeals, 3 SCRA 186 [1961] and Commissioner of Internal Revenue vs. Bishop of the Missionary District, 14 SCRA 991 [1965], thus —

Moreover, the exemption in favor of property used exclusively for charitable or educational purposes is 'not limited to property actually indispensable' therefor (Cooley on Taxation, Vol. 2, p. 1430), but extends to facilities which are incidental to and reasonably necessary for the accomplishment of said purposes, such as in the case of hospitals, "a school for training nurses, a nurses' home, property use to provide housing facilities for interns, resident doctors, superintendents, and other members of the hospital

staff, and recreational facilities for student nurses, interns, and residents' (84 CJS 6621), such as "Athletic fields" including "a firm used for the inmates of the institution. (Cooley on Taxation, Vol. 2, p. 1430).

The test of exemption from taxation is the use of the property for purposes mentioned in the Constitution (Apostolic Prefect v. City Treasurer of Baguio, 71 Phil, 547 [1941]).

It must be stressed however, that while this Court allows a more liberal and non-restrictive interpretation of the phrase "exclusively used for educational purposes" as provided for in Article VI, Section 22, paragraph 3 of the 1935 Philippine Constitution, reasonable emphasis has always been made that exemption extends to facilities which are incidental to and reasonably necessary for the accomplishment of the main purposes. Otherwise stated, the use of the school building or lot for commercial purposes is neither contemplated by law, nor by jurisprudence. Thus, while the use of the second floor of the main building in the case at bar for residential purposes of the Director and his family, may find justification under the concept of incidental use, which is complimentary to the main or primary purpose—educational, the lease of the first floor thereof to the Northern Marketing Corporation cannot by any stretch of the imagination be considered incidental to the purpose of education.

It will be noted however that the aforementioned lease appears to have been raised for the first time in this Court. That the matter was not taken up in the to court is really apparent in the decision of respondent Judge. No mention thereof was made in the stipulation of facts, not even in the description of the school building by the trial judge, both embodied in the decision nor as one of the issues to resolve in order to determine whether or not said properly may be exempted from payment of real estate taxes (Rollo, pp. 17-23). On the other hand, it is noteworthy that such fact was not disputed even after it was raised in this Court.

Indeed, it is axiomatic that facts not raised in the lower court cannot be taken up for the first time on appeal. Nonetheless, as an exception to the rule, this Court has held that although a factual issue is not squarely raised below, still in the interest of substantial justice, this Court is not prevented from considering a pivotal factual matter. "The Supreme Court is clothed with ample authority to review palpable errors not assigned as such if it finds that their consideration is necessary in arriving at a just decision." (Perez vs. Court of Appeals, 127 SCRA 645 [1984]).

Under the 1935 Constitution, the trial court correctly arrived at the conclusion that the school building as well as the lot where it is built, should be taxed, not because the second floor of the same is being used by the Director and his family for residential purposes, but because the first floor thereof is being used for commercial purposes. However, since only a portion is used for purposes of commerce, it is only fair that half of the assessed tax be returned to the school involved.

PREMISES CONSIDERED, the decision of the Court of First Instance of Abra, Branch I, is hereby AFFIRMED subject to the modification that half of the assessed tax be returned to the petitioner.

SO ORDERED.

G.R. No. 152904              June 8, 2007

CITY ASSESSOR OF CEBU CITY, petitioner, vs.ASSOCIATION OF BENEVOLA DE CEBU, INC., respondent.

D E C I S I O N

VELASCO, JR., J.:

Is a medical arts center built by a hospital to house its doctors a separate commercial establishment or an appurtenant to the hospital? This is the core issue to be resolved in the instant petition where petitioner insists on a 35% assessment rate on the building which he considers commercial in nature contrary to respondent’s position that it is a special real property entitled to a 10% assessment rate for purposes of realty tax.

The Case

This Petition for Review on Certiorari1 under Rule 45 assails the October 31, 2001 Decision2 of the Court of Appeals (CA) in CA-G.R. SP No. 62548, which affirmed the January 24, 2000 Decision3 and October 25, 2000 Resolution4 of the Central Board of Assessment Appeals (CBAA); and the March 11, 2002 Resolution5 of the same court denying petitioner’s Motion for Reconsideration.6 The CBAA upheld the February 10, 1999 Decision of the Local Board of Assessment Appeals (LBAA), which overturned the 35% assessment rate of respondent Cebu City Assessor and ruled that petitioner is entitled to a 10% assessment.

The Facts

Respondent Association of Benevola de Cebu, Inc. is a non-stock, non-profit organization organized under the laws of the Republic of the

Philippines and is the owner of Chong Hua Hospital (CHH) in Cebu City. In the late 1990’s, respondent constructed the CHH Medical Arts Center

(CHHMAC). Thereafter, an April 17, 1998 Certificate of Occupancy7 was issued to the center with a classification of "Commercial [Clinic]."

Petitioner City Assessor of Cebu City assessed the CHHMAC building under Tax Declaration (TD) No. ’97 GR-04-024-02529 as "commercial" with a market value of PhP 28,060,520 and an assessed value of PhP 9,821,180 at the assessment level of 35% for commercial buildings, and not at the 10% special assessment currently imposed for CHH and its other separate buildings—the CHH’s Dietary and Records Departments.

Thus, respondent filed its September 15, 1998 letter-petition with the Cebu City LBAA for reconsideration, asserting that CHHMAC is part of CHH and ought to be imposed the same special assessment level of 10% with that of CHH. On September 25, 1998, respondent formally filed its appeal with the LBAA which was docketed as Case No. 4406, TD No. ’97 GR-04-024-02529 entitled Association Benevola de Cebu, Inc. v. City Assessor.

In the September 30, 1998 Order, the LBAA directed petitioner to conduct an ocular inspection of the subject property and to submit a report on the scheduled date of hearing. In the October 7, 1998 hearing, the parties were required to submit their respective position papers.

In its position paper, petitioner argued that CHHMAC is a newly constructed five-storey building situated about 100 meters away from CHH and, based on actual inspection, was ascertained that it is not a part of the CHH building but a separate building which is actually used as commercial clinic/room spaces for renting out to physicians and, thus, classified as "commercial." Petitioner contended that in turn the medical specialists in CHHMAC charge consultation fees for patients who consult for diagnosis and relief of bodily ailment together with the ancillary (or support) services which include the areas of anesthesia, radiology, pathology, and more. Petitioner concluded the foregoing set up to be ultimately geared for commercial purposes, and thus having the proper classification as "commercial" under Building Permit No. B01-9750087 pursuant to Section 10 of the Local Assessment Regulations No. 1-92 issued by the Department of Finance (DOF).

On the other hand, respondent contended in its position paper that CHHMAC building is actually, directly, and exclusively part of CHH and should have a special assessment level of 10% as provided under City Tax

Ordinance LXX. Respondent asserted that the CHHMAC building is similarly situated as the buildings of CHH, housing its Dietary and Records Departments, are completely separate from the main CHH building and are imposed the 10% special assessment level. In fine, respondent argued that the CHHMAC, though not actually indispensable, is nonetheless incidental and reasonably necessary to CHH’s operations.

The Ruling of the Local Board of Assessment Appeals

On February 10, 1999, the LBAA rendered a Decision,8 the dispositive portion of which reads:

WHEREFORE, premises considered, the appealed decision imposing a thirty five (35) percent assessment level of TD No. ’97 GR-04-024-02529 on the Chong Hua Hospital Medical Arts building is reversed and set aside and other [sic] one issued declaring that the building is entitled to a ten (10) percent assessment level.

In reversing the ruling of petitioner City Assessor of Cebu City, the LBAA reasoned that it is of public knowledge that hospitals have plenty of spaces leased out to medical practitioners, which is both an accepted and desirable fact; thus, respondent’s claim is not disputed that such is a must for a tertiary hospital like CHH. The LBAA held that it is inconsequential that a separate building was constructed for that purpose pointing out that departments or services of other institutions and establishments are also not always housed in the same building.

Thus, the LBAA pointed to the fact that respondent’s Dietary and Records Departments which are housed in separate buildings were similarly imposed with CHH the special assessment level of 10%, ratiocinating in turn that there is no reason therefore why a higher level would be imposed for CHHMAC as it is similarly situated with the Dietary and Records Departments of the CHH.

The Ruling of the Central Board of Assessment Appeals

Aggrieved, petitioner filed its March 15, 1999 Notice of Appeal9 and March 16, 1999 Appeal Memorandum10before the CBAA Visayas Field Office which docketed the appeal as CBAA Case No. V-15, In Re: LBAA Case No. 4406, TD No. ’97 GR-04-024-02529 entitled City Assessor of Cebu City v. Local Board of Assessment Appeals of Cebu City and Associacion Benevola de Cebu, Inc. On June 3, 1999, respondent filed its Answer11to petitioner’s appeal.

Subsequently, on January 24, 2000, the CBAA rendered a Decision12 affirming in toto the LBAA Decision and resolved the issue of whether the subject building of CHHMAC is part and parcel of CHH. It agreed with the above disquisition of the LBAA that it is a matter of public knowledge that hospitals lease out spaces to its accredited medical practitioners, and in particular it is of public knowledge that before the CHHMAC was constructed, the accredited doctors of CHH were housed in the main hospital building of CHH. Moreover, citingHerrera v. Quezon City Board of Assessment Appeals13 later applied in Abra Valley College, Inc. v. Aquino,14the CBAA held that the fact that the subject building is detached from the main hospital building is of no consequence as the exemption in favor of property used exclusively for charitable or educational purposes is not only limited to property actually indispensable to the hospital, but also extends to facilities which are incidental and reasonably necessary for the accomplishment of such purposes.

Through its October 25, 2000 Resolution,15 the CBAA denied petitioner’s Motion for Reconsideration.16

The Ruling of the Court of Appeals

Not satisfied, petitioner brought before the CA a petition for review17 under Rule 43 of the Rules of Court, docketed as CA-G.R. SP No. 62548, ascribing error on the CBAA in dismissing his appeal and in affirming the February 10, 1999 Decision18 of the LBAA.

On October 31, 2001, the appellate court rendered the assailed Decision19 which affirmed the January 24, 2000 Decision of the CBAA. It agreed with the CBAA that CHHMAC is part and parcel of CHH in line with the ruling inHerrera20 on what the term "appurtenant thereto" means. Thus, the CA held that the facilities and utilities of CHHMAC are

undoubtedly necessary and indispensable for the CHH to achieve its ultimate purpose.

The CA likewise ruled that the fact that rentals are paid by CHH accredited doctors and medical specialists for spaces in CHHMAC has no bearing on its classification as a hospital since CHHMAC serves also as a place for medical check-up, diagnosis, treatment, and care for its patients as well as a specialized out-patient department of CHH where treatment and diagnosis are done by accredited medical specialists in their respective fields of anesthesia, radiology, pathology, and more.

The appellate court also applied Secs. 215 and 216 of the Local Government Code (Republic Act No. 7160) which classify lands, buildings, and improvements actually, directly, and exclusively used for hospitals as special cases of real property and not as commercial. Thus, CHHMAC being an integral part of CHH is not commercial but special and should be imposed the 10% special assessment, the same as CHH, instead of the 35% for commercial establishments.

Lastly, the CA pointed out that courts generally will not interfere in matters which are addressed to the sound discretion of the government agencies entrusted with the regulation of activities under their special technical knowledge and training—their findings and conclusions are accorded not only respect but even finality.

Through the assailed March 11, 2002 Resolution,21 the CA denied petitioner’s Motion for Reconsideration.

The Issues

Hence, before us is the instant petition with the solitary issue, as follows:

WHETHER OR NOT THERE IS SERIOUS ERROR BY THE COURT OF APPEALS IN AFFIRMING THE DECISION OF THE CENTRAL BOARD OF ASSESSMENT APPEALS THAT THE NEW BUILDING "CHONG HUA HOSPITAL AND MEDICAL ARTS CENTER" (CHHMAC) IS AN ESSENTIAL PART OF THE OLD BUILDING KNOWN AS "CHONG HUA HOSPITAL." IN THE NEGATIVE, WHETHER OR NOT THE NEW BUILDING IS LIABLE TO PAY THE 35% ASSESSMENT LEVEL. AND WHETHER OR NOT THE COURT OF APPEALS COULD INTERFERE WITH THE FINDINGS OF THE CENTRAL BOARD OF ASSESSMENT APPEALS, A GOVERNMENT AGENCY HAVING SPECIAL TECHNICAL KNOWLEDGE AND TRAINING ON THE MATTER SUBJECT OF THE PRESENT CASE.22

The Court’s Ruling

The petition is devoid of merit.

It is petitioner’s strong belief that the subject building, CHHMAC, which is built on a rented land and situated about 100 meters from the main building of CHH, is not an extension nor an integral part of CHH and thus should not enjoy the 10% special assessment. Petitioner anchors the classification of CHHMAC as "commercial," first, on Sec. 10 of Local Assessment Regulations No. 1-92 issued by the DOF, which provides:

SEC. 10. Actual use of Real Property as basis of Assessment.––Real Property shall be classified, valued and assessed on the basis of its actual use regardless of where located, whoever owns it, and whoever uses it. (Sec. 217, R.A. 7160)

A. "Actual use" refers to the purpose for which the property is principally or predominantly utilized by the person in possession of the property. (Sec. 199 (b), R.A. 7160)

Secondly, the result of the inspection on subject building by the City Assessor’s inspection team shows that CHHMAC is a commercial establishment based on the following: (1) CHHMAC is exclusively intended for lease to doctors; (2) there are neither operating rooms nor beds for patients; and (3) the doctors renting the spaces earn income from the patients who avail themselves of their services. Thus, petitioner argues that CHHMAC is principally and actually used for lease to doctors, and respondent as owner of CHHMAC derives rental income from it; hence, CHHMAC was built and is intended for profit and functions commercially.

Moreover, petitioner asserts that CHHMAC is not part of the CHH main building as it is exclusively used as private clinics of physicians who pay rental fees to petitioner. And while the private clinics might be considered

facilities, they are not incidental to nor reasonably necessary for the accomplishment of the hospital’s purposes as CHH can still function and accomplish its purpose without the existence of CHHMAC. In addition, petitioner contends that the Abra Valley College, Inc.23 ruling is not applicable to the instant case for schools, the subject matter in said case, are already entitled to special assessment. Besides, petitioner points CHHMAC is not among the facilities mentioned in said case. Further, petitioner argues that CHHMAC is not in the same category as nurses’ homes and housing facilities for the hospital staff as these are clearly not for profit, that is, not commercial, and are clearly incidental and reasonably necessary for the hospital’s purposes.

We are not persuaded.

A careful review of the records compels us to affirm the assailed CA Decision as we find no reversible error for us to reverse or alter it.

Chong Hua Hospital Medical Arts Center is an integral part of Chong Hua Hospital

We so hold that CHHMAC is an integral part of CHH.

It is undisputed that the doctors and medical specialists holding clinics in CHHMAC are those duly accredited by CHH, that is, they are consultants of the hospital and the ones who can treat CHH’s patients confined in it. This fact alone takes away CHHMAC from being categorized as "commercial" since a tertiary hospital like CHH is required by law to have a pool of physicians who comprises the required medical departments in various medical fields. As aptly pointed out by respondent:

Chong Hua Hospital is a duly licensed tertiary hospital and is covered by Dept. of Health (DOH) Adm. Order No. 68-A and the "1989 Revised Rules and Regulations" governing the registration, licensure and operation of hospitals in the Philippines. Under Sec. 6, sub-sec. 6.3, it is mandated by law, that respondent appellee in order to retain its classification as a "TERTIARY HOSPITAL," must be fully departmentalized and equipped with the service capabilities needed to support certified medical specialists and other licensed physicians rendering services in the field of medicine, pediatrics, obstetrics and gynecology, surgery, and their sub-specialties, ICCU and ancillary services which is precisely the function of the Chong Hua Hospital Medical Arts Center.24

Sec. 6.3, Administrative Order No. (AO) 68-A, Series of 1989, Revised Rules and Regulations Governing the Registration, Licensure and Operation of Hospitals in the Philippines pertinently provides:

Tertiary Hospital –– is fully departmentalized and equipped with the service capabilities needed to support certified medical specialists and other licensed physicians rendering services in the field of Medicine, Pediatrics, Obstetrics and Gynecology, Surgery, their subspecialties and ancillary services. (Emphasis supplied.)

Moreover, AO 68-A likewise provides what clinic service and medical ancillary service are, thus:

11.3.2 Clinical Service––The medical services to patients shall be performed by the medical staff appointed by the governing body of the institution. x x x

11.3.3 Medical Ancillary Service––These are support services which include Anesthesia Department, Pathology Department, Radiology Department, Out-Patient Department (OPD), Emergency Service, Dental, Pharmacy, Medical Records and Medical Social Services.

Based on these provisions, these physicians holding offices or clinics in CHHMAC, duly appointed or accredited by CHH, precisely fulfill and carry out their roles in the hospital’s services for its patients through the CHHMAC. The fact that they are holding office in a separate building, like at CHHMAC, does not take away the essence and nature of their services vis-à-vis the over-all operation of the hospital and the benefits to the hospital’s patients. Given what the law requires, it is clear that CHHMAC is an integral part of CHH.

These accredited physicians normally hold offices within the premises of the hospital; in which case there is no question as to the conduct of their business in the ambit of diagnosis, treatment and/or confinement of

patients. This was the case before 1998 and before CHHMAC was built. Verily, their transfer to a more spacious and, perhaps, convenient place and location for the benefit of the hospital’s patients does not remove them from being an integral part of the overall operation of the hospital.

Conversely, it would have been different if CHHMAC was also open for non-accredited physicians, that is, any medical practitioner, for then respondent would be running a commercial building for lease only to doctors which would indeed subject the CHHMAC to the commercial level of 35% assessment.

Moreover, the CHHMAC, being hundred meters away from the CHH main building, does not denigrate from its being an integral part of the latter. As aptly applied by the CBAA, the Herrera ruling on what constitutes property exempt from taxation is indeed applicable in the instant case, thus:

Moreover, the exemption in favor of property used exclusively for charitable or educational purposes is "not limited to property actually indispensable" therefore (Cooley on Taxation, Vol. 2, p. 1430), but extends to facilities which are "incidental to and reasonably necessary for" the accomplishment of said purposes, such as, in the case of hospitals, "a school for training nurses, a nurses’ home, property use to provide housing facilities for interns, resident doctors, superintendents, and other members of the hospital staff, and recreational facilities for student nurses, interns and residents" (84 C.J.S., 621), such as "athletic fields," including "a farm used for the inmates of the institution" (Cooley on Taxation, Vol. 2, p. 1430).25

Verily, being an integral part of CHH, CHHMAC should be under the same special assessment level of as that of the former.

The CHHMAC facility is definitely incidental to and reasonably necessary for the operations of Chong Hua Hospital

Given our discussion above, the CHHMAC facility, while seemingly not indispensable to the operations of CHH, is definitely incidental to and reasonably necessary for the operations of the hospital. Considering the legal requirements and the ramifications of the medical and clinical operations that have been transferred to the CHHMAC from the CHH main building in light of the accredited physicians’ transfer of offices in 1998 after the CHHMAC building was finished, it cannot be gainsaid that the services done in CHHMAC are indispensable and essential to the hospital’s operation.

For one, as found by the appellate court, the CHHMAC facility is primarily used by the hospital’s accredited physicians to perform medical check-up, diagnosis, treatment, and care of patients. For another, it also serves as a specialized outpatient department of the hospital.

Indubitably, the operation of the hospital is not only for confinement and surgical operations where hospital beds and operating theaters are required. Generally, confinement is required in emergency cases and where a patient necessitates close monitoring. The usual course is that patients have to be diagnosed, and then treatment and follow-up consultations follow or are required. Other cases may necessitate surgical operations or other medical intervention and confinement. Thus, the more the patients, the more important task of diagnosis, treatment, and care that may or may not require eventual confinement or medical operation in the CHHMAC.

Thus, the importance of CHHMAC in the operation of CHH cannot be over-emphasized nor disputed. Clearly, it plays a key role and provides critical support to hospital operations.

Charging rentals for the offices used by its accredited physicians cannot be equated to a commercial venture

Finally, respondent’s charge of rentals for the offices and clinics its accredited physicians occupy cannot be equated to a commercial venture, which is mainly for profit.

Respondent’s explanation on this point is well taken. First, CHHMAC is only for its consultants or accredited doctors and medical specialists. Second, the charging of rentals is a practical necessity: (1) to recoup the investment cost of the building, (2) to cover the rentals for the lot CHHMAC is built on, and (3) to maintain the CHHMAC building and its facilities. Third, as correctly pointed out by respondent, it pays the proper taxes for

its rental income. And, fourth, if there is indeed any net income from the lease income of CHHMAC, such does not inure to any private or individual person as it will be used for respondent’s other charitable projects.

Given the foregoing arguments, we fail to see any reason why the CHHMAC building should be classified as "commercial" and be imposed the commercial level of 35% as it is not operated primarily for profit but as an integral part of CHH. The CHHMAC, with operations being devoted for the benefit of the CHH’s patients, should be accorded the 10% special assessment.

In this regard, we point with approbation the appellate court’s application of Sec. 216 in relation with Sec. 215 of the Local Government Code on the proper classification of the subject CHHMAC building as "special" and not "commercial." Secs. 215 and 216 pertinently provide:

SEC. 215. Classes of Real Property for Assessment Purposes.—For purposes of assessment, real property shall be classified as residential, agricultural, commercial, industrial, mineral, timberland or special.

x x x x

SEC. 216. Special Classes of Real Property.––All lands, buildings, and other improvements thereon actually, directly and exclusively used for hospitals, cultural or scientific purposes, and those owned and used by local water districts, and government-owned or controlled corporations rendering essential public services in the supply and distribution of water and/or generation and transmission of electric power shall be classified as special. (Emphasis supplied.)

Thus, applying the above provisos in line with City Tax Ordinance LXX of Cebu City, the 10% special assessment should be imposed for the CHHMAC building which should be classified as "special."

WHEREFORE, the petition is DENIED for lack of merit and the October 31, 2001 Decision and March 11, 2002 Resolution of the CA are hereby AFFIRMED. No pronouncement as to costs.

SO ORDERED.

G.R. No. 124043 October 14, 1998

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs.COURT OF APPEALS, COURT OF TAX APPEALS and YOUNG MEN'S CHRISTIAN ASSOCIATION OF THE PHILIPPINES, INC., respondents.

 

PANGANIBAN, J.:

Is the income derived from rentals of real property owned by the Young Men's Christian Association of the Philippines, Inc. (YMCA) — established as "a welfare, educational and charitable non-profit corporation" — subject to income tax under the National Internal Revenue Code (NIRC) and the Constitution?

The Case

This is the main question raised before us in this petition for review on certiorari challenging two Resolutions issued by the Court of Appeals 1 on September 28, 1995 2 and February 29, 1996 3 in CA-GR SP No. 32007. Both Resolutions affirmed the Decision of the Court of Tax Appeals (CTA) allowing the YMCA to claim tax exemption on the latter's income from the lease of its real property.

The Facts

The facts are undisputed. 4 Private Respondent YMCA is a non-stock, non-profit institution, which conducts various programs and activities that are beneficial to the public, especially the young people, pursuant to its religious, educational and charitable objectives.

In 1980, private respondent earned, among others, an income of P676,829.80 from leasing out a portion of its premises to small shop owners, like restaurants and canteen operators, and P44,259.00 from parking fees collected from non-members. On July 2, 1984, the commissioner of internal revenue (CIR) issued an assessment to private respondent, in the total amount of P415,615.01 including surcharge and interest, for deficiency income tax, deficiency expanded withholding taxes on rentals and professional fees and deficiency withholding tax on wages. Private respondent formally protested the assessment and, as a supplement to its basic protest, filed a letter dated October 8, 1985. In reply, the CIR denied the claims of YMCA.

Contesting the denial of its protest, the YMCA filed a petition for review at the Court of Tax Appeals (CTA) on March 14, 1989. In due course, the CTA issued this ruling in favor of the YMCA:

. . . [T]he leasing of [private respondent's] facilities to small shop owners, to restaurant and canteen operators and the operation of the parking lot are reasonably incidental to and reasonably necessary for the accomplishment of the objectives of the [private respondents]. It appears from the testimonies of the witnesses for the [private respondent] particularly Mr. James C. Delote, former accountant of YMCA, that these facilities were leased to members and that they have to service the needs of its members and their guests. The rentals were minimal as for example, the barbershop was only charged P300 per month. He also testified that there was actually no lot devoted for parking space but the parking was done at the sides of the building. The parking was primarily for members with stickers on the windshields of their cars and they charged P.50 for non-members. The rentals and parking fees were just enough to cover the costs of operation and maintenance only. The earning[s] from these rentals and parking charges including those from lodging and other charges for the use of the recreational facilities constitute [the] bulk of its income which [is] channeled to support its many activities and attainment of its objectives. As pointed out earlier, the membership dues are very insufficient to support its program. We find it reasonably necessary therefore for [private respondent] to make [the] most out [of] its existing facilities to earn

some income. It would have been different if under the circumstances, [private respondent] will purchase a lot and convert it to a parking lot to cater to the needs of the general public for a fee, or construct a building and lease it out to the highest bidder or at the market rate for commercial purposes, or should it invest its funds in the buy and sell of properties, real or personal. Under these circumstances, we could conclude that the activities are already profit oriented, not incidental and reasonably necessary to the pursuit of the objectives of the association and therefore, will fall under the last paragraph of Section 27 of the Tax Code and any income derived therefrom shall be taxable.

Considering our findings that [private respondent] was not engaged in the business of operating or contracting [a] parking lot, we find no legal basis also for the imposition of [a] deficiency fixed tax and [a] contractor's tax in the amount[s] of P353.15 and P3,129.73, respectively.

xxx xxx xxx

WHEREFORE, in view of all the foregoing, the following assessments are hereby dismissed for lack of merit:

1980 Deficiency Fixed Tax — P353,15;

1980 Deficiency Contractor's Tax — P3,129.23;

1980 Deficiency Income Tax — P372,578.20.

While the following assessments are hereby sustained:

1980 Deficiency Expanded Withholding Tax — P1,798.93;

1980 Deficiency Withholding Tax on Wages — P33,058.82

plus 10% surcharge and 20% interest per annum from July 2, 1984 until fully paid but not to exceed three (3) years pursuant to Section 51(e)(2) & (3) of the National Internal Revenue Code effective as of 1984. 5

Dissatisfied with the CTA ruling, the CIR elevated the case to the Court of Appeals (CA). In its Decision of February 16, 1994, the CA 6 initially decided in favor of the CIR and disposed of the appeal in the following manner:

Following the ruling in the afore-cited cases of Province of Abra vs. Hernando and Abra Valley College Inc. vs. Aquino, the ruling of the respondent Court of Tax Appeals that "the leasing of petitioner's (herein respondent's) facilities to small shop owners, to restaurant and canteen operators and the operation of the parking lot are reasonably incidental to and reasonably necessary for the accomplishment of the objectives of the petitioners, and the income derived therefrom are tax exempt, must be reversed.

WHEREFORE, the appealed decision is hereby REVERSED in so far as it dismissed the assessment for:

1980 Deficiency Income Tax P 353.15

1980 Deficiency Contractor's Tax P 3,129.23, &

1980 Deficiency Income Tax P 372,578.20

but the same is AFFIRMED in all other respect. 7

Aggrieved, the YMCA asked for reconsideration based on the following grounds:

I

The findings of facts of the Public Respondent Court of Tax Appeals being supported by substantial evidence [are] final and conclusive.

II

The conclusions of law of [p]ublic [r]espondent exempting [p]rivate [r]espondent from the income on rentals of small shops and parking fees [are] in accord with the applicable law and jurisprudence. 8

Finding merit in the Motion for Reconsideration filed by the YMCA, the CA reversed itself and promulgated on September 28, 1995 its first assailed Resolution which, in part, reads:

The Court cannot depart from the CTA's findings of fact, as they are supported by evidence beyond what is considered as substantial.

xxx xxx xxx

The second ground raised is that the respondent CTA did not err in saying that the rental from small shops and parking fees do not result in the loss of the exemption. Not even the petitioner would hazard the suggestion that YMCA is designed for profit. Consequently, the little income from small shops and parking fees help[s] to keep its head above the water, so to speak, and allow it to continue with its laudable work.

The Court, therefore, finds the second ground of the motion to be meritorious and in accord with law and jurisprudence.

WHEREFORE, the motion for reconsideration is GRANTED; the respondent CTA's decision is AFFIRMED in toto. 9

The internal revenue commissioner's own Motion for Reconsideration was denied by Respondent Court in its second assailed Resolution of February 29, 1996. Hence, this petition for review under Rule 45 of the Rules of Court. 10

The Issues

Before us, petitioner imputes to the Court of Appeals the following errors:

I

In holding that it had departed from the findings of fact of Respondent Court of Tax Appeals when it rendered its Decision dated February 16, 1994; and

II

In affirming the conclusion of Respondent Court of Tax Appeals that the income of private respondent from rentals of small shops and parking fees [is] exempt from taxation. 11

This Court's Ruling

The petition is meritorious.

First Issue:Factual Findings of the CTA

Private respondent contends that the February 16, 1994 CA Decision reversed the factual findings of the CTA. On the other hand, petitioner argues that the CA merely reversed the "ruling of the CTA that the leasing of private respondent's facilities to small shop owners, to restaurant and canteen operators and the operation of parking lots are reasonably incidental to and reasonably necessary for the accomplishment of the objectives of the private respondent and that the income derived therefrom are tax exempt." 12 Petitioner insists that what the appellate court reversed was the legal conclusion, not the factual finding, of the CTA. 13 The commissioner has a point.

Indeed, it is a basic rule in taxation that the factual findings of the CTA, when supported by substantial evidence, will be disturbed on appeal unless it is shown that the said court committed gross error in the appreciation of facts. 14 In the present case, this Court finds that the February 16, 1994 Decision of the CA did not deviate from this rule. The latter merely applied the law to the facts as found by the CTA and ruled on the issue raised by the CIR: "Whether or not the collection or earnings of rental income from the lease of certain premises and income earned from parking fees shall fall under the last paragraph of Section 27 of the National Internal Revenue Code of 1977, as amended." 15

Clearly, the CA did not alter any fact or evidence. It merely resolved the aforementioned issue, as indeed it was expected to. That it did so in a manner different from that of the CTA did not necessarily imply a reversal of factual findings.

The distinction between a question of law and a question of fact is clear-cut. It has been held that "[t]here is a question of law in a given case when the doubt or difference arises as to what the law is on a certain state of facts; there is a question of fact when the doubt or difference arises as to the truth or falsehood of alleged facts." 16 In the present case, the CA did not doubt, much less change, the facts narrated by the CTA. It merely applied the law to the facts. That its interpretation or conclusion is different from that of the CTA is not irregular or abnormal.

Second Issue:Is the Rental Income of the YMCA Taxable?

We now come to the crucial issue: Is the rental income of the YMCA from its real estate subject to tax? At the outset, we set forth the relevant provision of the NIRC:

Sec. 27. Exemptions from tax on corporations. — The following organizations shall not be taxed under this Title in respect to income received by them as such —

xxx xxx xxx

(g) Civic league or organization not organized for profit but operated exclusively for the promotion of social welfare;

(h) Club organized and operated exclusively for pleasure, recreation, and other non-profitable purposes, no part of the net income of which inures to the benefit of any private stockholder or member;

xxx xxx xxx

Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizations from any of their properties, real or personal, or from any of their activities conducted for profit, regardless of the disposition made of such income, shall be subject to the tax imposed under this Code. (as amended by Pres. Decree No. 1457)

Petitioner argues that while the income received by the organizations enumerated in Section 27 (now Section 26) of the NIRC is, as a rule, exempted from the payment of tax "in respect to income received by them as such," the exemption does not apply to income derived ". . . from any of

their properties, real or personal, or from any of their activities conducted for profit, regardless of the disposition made of such income . . . ."

Petitioner adds that "rental income derived by a tax-exempt organization from the lease of its properties, real or personal, [is] not, therefore, exempt from income taxation, even if such income [is] exclusively used for the accomplishment of its objectives." 17 We agree with the commissioner.

Because taxes are the lifeblood of the nation, the Court has always applied the doctrine of strict in interpretation in construing tax exemptions. 18 Furthermore, a claim of statutory exemption from taxation should be manifest. and unmistakable from the language of the law on which it is based. Thus, the claimed exemption "must expressly be granted in a statute stated in a language too clear to be mistaken." 19

In the instant case, the exemption claimed by the YMCA is expressly disallowed by the very wording of the last paragraph of then Section 27 of the NIRC which mandates that the income of exempt organizations (such as the YMCA) from any of their properties, real or personal, be subject to the tax imposed by the same Code. Because the last paragraph of said section unequivocally subjects to tax the rent income of the YMCA from its real property, 20 the Court is duty-bound to abide strictly by its literal meaning and to refrain from resorting to any convoluted attempt at construction.

It is axiomatic that where the language of the law is clear and unambiguous, its express terms must be applied.21 Parenthetically, a consideration of the question of construction must not even begin, particularly when such question is on whether to apply a strict construction or a liberal one on statutes that grant tax exemptions to "religious, charitable and educational propert[ies] or institutions." 22

The last paragraph of Section 27, the YMCA argues, should be "subject to the qualification that the income from the properties must arise from activities 'conducted for profit' before it may be considered taxable." 23 This argument is erroneous. As previously stated, a reading of said paragraph ineludibly shows that the income from any property of exempt organizations, as well as that arising from any activity it conducts for profit, is taxable. The phrase "any of their activities conducted for profit" does not qualify the word "properties." This makes from the property of the organization taxable, regardless of how that income is used — whether for profit or for lofty non-profit purposes.

Verba legis non est recedendum. Hence, Respondent Court of Appeals committed reversible error when it allowed, on reconsideration, the tax exemption claimed by YMCA on income it derived from renting out its real property, on the solitary but unconvincing ground that the said income is not collected for profit but is merely incidental to its operation. The law does not make a distinction. The rental income is taxable regardless of whence such income is derived and how it is used or disposed of. Where the law does not distinguish, neither should we.

Constitutional Provisions

On Taxation

Invoking not only the NIRC but also the fundamental law, private respondent submits that Article VI, Section 28 of par. 3 of the 1987 Constitution, 24 exempts "charitable institutions" from the payment not only of property taxes but also of income tax from any source. 25 In support of its novel theory, it compares the use of the words "charitable institutions," "actually" and "directly" in the 1973 and the 1987 Constitutions, on the one hand; and in Article VI, Section 22, par. 3 of the 1935 Constitution, on the other hand. 26

Private respondent enunciates three points. First, the present provision is divisible into two categories: (1) "[c]haritable institutions, churches and parsonages or convents appurtenant thereto, mosques and non-profit cemeteries," the incomes of which are, from whatever source, all tax-exempt; 27 and (2) "[a]ll lands, buildings and improvements actually and directly used for religious, charitable or educational purposes," which are exempt only from property taxes. 28 Second, Lladoc v. Commissioner of Internal Revenue, 29 which limited the exemption only to the payment of property taxes, referred to the provision of the 1935 Constitution and not to its counterparts in the 1973 and the 1987 Constitutions. 30 Third, the phrase "actually, directly and exclusively used for religious, charitable or educational purposes" refers not only to "all lands, buildings and

improvements," but also to the above-quoted first category which includes charitable institutions like the private respondent. 31

The Court is not persuaded. The debates, interpellations and expressions of opinion of the framers of the Constitution reveal their intent which, in turn, may have guided the people in ratifying the Charter. 32 Such intent must be effectuated.

Accordingly, Justice Hilario G. Davide, Jr., a former constitutional commissioner, who is now a member of this Court, stressed during the Concom debates that ". . . what is exempted is not the institution itself . . .; those exempted from real estate taxes are lands, buildings and improvements actually, directly and exclusively used for religious, charitable or educationalpurposes." 33 Father Joaquin G. Bernas, an eminent authority on the Constitution and also a member of the Concom, adhered to the same view that the exemption created by said provision pertained only to property taxes.34

In his treatise on taxation, Mr. Justice Jose C. Vitug concurs, stating that "[t]he tax exemption covers propertytaxes only." 35 Indeed, the income tax exemption claimed by private respondent finds no basis in Article VI, Section 26, par. 3 of the Constitution.

Private respondent also invokes Article XIV, Section 4, par. 3 of the Character, 36 claiming that the YMCA "is a non-stock, non-profit educational institution whose revenues and assets are used actually, directly and exclusively for educational purposes so it is exempt from taxes on its properties and income." 37 We reiterate that private respondent is exempt from the payment of property tax, but not income tax on the rentals from its property. The bare allegation alone that it is a non-stock, non-profit educational institution is insufficient to justify its exemption from the payment of income tax.

As previously discussed, laws allowing tax exemption are construed strictissimi juris. Hence, for the YMCA to be granted the exemption it claims under the aforecited provision, it must prove with substantial evidence that (1) it falls under the classification non-stock, non-profit educational institution; and (2) the income it seeks to be exempted from taxation is used actually, directly, and exclusively for educational purposes. However, the Court notes that not a scintilla of evidence was submitted by private respondent to prove that it met the said requisites.

Is the YMCA an educational institution within the purview of Article XIV, Section 4, par. 3 of the Constitution? We rule that it is not. The term "educational institution" or "institution of learning" has acquired a well-known technical meaning, of which the members of the Constitutional Commission are deemed cognizant. 38 Under the Education Act of 1982, such term refers to schools. 39 The school system is synonymous with formal education, 40which "refers to the hierarchically structured and chronologically graded learnings organized and provided by the formal school system and for which certification is required in order for the learner to progress through the grades or move to the higher levels." 41 The Court has examined the "Amended Articles of Incorporation" and "By-Laws" 43of the YMCA, but found nothing in them that even hints that it is a school or an educational institution. 44

Furthermore, under the Education Act of 1982, even non-formal education is understood to be school-based and "private auspices such as foundations and civic-spirited organizations" are ruled out. 45 It is settled that the term "educational institution," when used in laws granting tax exemptions, refers to a ". . . school seminary, college or educational establishment . . . ." 46 Therefore, the private respondent cannot be deemed one of the educational institutions covered by the constitutional provision under consideration.

. . . Words used in the Constitution are to be taken in their ordinary acceptation. While in its broadest and best sense education embraces all forms and phases of instruction, improvement and development of mind and body, and as well of religious and moral sentiments, yet in the common understanding and application it means a place where systematic instruction in any or all of the useful branches of learning is given by methods common to schools and institutions of learning. That we conceive to be the true intent and scope of the term [educational institutions,] as used in theConstitution. 47

Moreover, without conceding that Private Respondent YMCA is an educational institution, the Court also notes that the former did not submit proof of the proportionate amount of the subject income that was actually, directly and exclusively used for educational purposes. Article XIII, Section 5 of the YMCA by-laws, which formed part of the evidence submitted, is patently insufficient, since the same merely signified that "[t]he net income derived from the rentals of the commercial buildings shall be apportioned to the Federation and Member Associations as the National Board may decide." 48 In sum, we find no basis for granting the YMCA exemption from income tax under the constitutional provision invoked.

Cases Cited by Private

Respondent Inapplicable

The cases 49 relied on by private respondent do not support its cause. YMCA of Manila v. Collector of Internal Revenue 50 and Abra Valley College, Inc. v. Aquino 51 are not applicable, because the controversy in both cases involved exemption from the payment of property tax, not income tax. Hospital de San Juan de Dios, Inc. v. Pasay City 52 is not in point either, because it involves a claim for exemption from the payment of regulatory fees, specifically electrical inspection fees, imposed by an ordinance of Pasay City — an issue not at all related to that involved in a claimed exemption from the payment of income taxes imposed on property leases. In Jesus Sacred Heart College v. Com. of Internal Revenue, 53 the party therein, which claimed an exemption from the payment of income tax, was an educational institution which submitted substantial evidence that the income subject of the controversy had been devoted or used solely for educational purposes. On the other hand, the private respondent in the present case has not given any proof that it is an educational institution, or that part of its rent income is actually, directly and exclusively used for educational purposes.

Epilogue

In deliberating on this petition, the Court expresses its sympathy with private respondent. It appreciates the nobility of its cause. However, the Court's power and function are limited merely to applying the law fairly and objectively. It cannot change the law or bend it to suit its sympathies and appreciations. Otherwise, it would be overspilling its role and invading the realm of legislation.

We concede that private respondent deserves the help and the encouragement of the government. It needs laws that can facilitate, and not frustrate, its humanitarian tasks. But the Court regrets that, given its limited constitutional authority, it cannot rule on the wisdom or propriety of legislation. That prerogative belongs to the political departments of government. Indeed, some of the members of the Court may even believe in the wisdom and prudence of granting more tax exemptions to private respondent. But such belief, however well-meaning and sincere, cannot bestow upon the Court the power to change or amend the law.

WHEREFORE, the petition is GRANTED. The Resolutions of the Court of Appeals dated September 28, 1995 and February 29, 1996 are hereby REVERSED and SET ASIDE. The Decision of the Court of Appeals dated February 16, 1995 is REINSTATED, insofar as it ruled that the income derived by petitioner from rentals of its real property is subject to income tax. No pronouncement as to costs.

SO ORDERED.

G.R. No. 160756               March 9, 2010CHAMBER OF REAL ESTATE AND BUILDERS' ASSOCIATIONS, INC., Petitioner, vs.THE HON. EXECUTIVE SECRETARY ALBERTO ROMULO, THE HON. ACTING SECRETARY OF FINANCE JUANITA D. AMATONG, and THE HON. COMMISSIONER OF INTERNAL REVENUE GUILLERMO PARAYNO, JR., Respondents.

D E C I S I O NCORONA, J.:In this original petition for certiorari and mandamus,1 petitioner Chamber of Real Estate and Builders’ Associations, Inc. is questioning the constitutionality of Section 27 (E) of Republic Act (RA) 84242 and the revenue regulations (RRs) issued by the Bureau of Internal Revenue (BIR) to implement said provision and those involving creditable withholding taxes.3

Petitioner is an association of real estate developers and builders in the Philippines. It impleaded former Executive Secretary Alberto Romulo, then acting Secretary of Finance Juanita D. Amatong and then Commissioner of Internal Revenue Guillermo Parayno, Jr. as respondents.

Petitioner assails the validity of the imposition of minimum corporate income tax (MCIT) on corporations and creditable withholding tax (CWT) on sales of real properties classified as ordinary assets.

Section 27(E) of RA 8424 provides for MCIT on domestic corporations and is implemented by RR 9-98. Petitioner argues that the MCIT violates the due process clause because it levies income tax even if there is no realized gain.

Petitioner also seeks to nullify Sections 2.57.2(J) (as amended by RR 6-2001) and 2.58.2 of RR 2-98, and Section 4(a)(ii) and (c)(ii) of RR 7-2003, all of which prescribe the rules and procedures for the collection of CWT on the sale of real properties categorized as ordinary assets. Petitioner contends that these revenue regulations are contrary to law for two reasons: first, they ignore the different treatment by RA 8424 of ordinary assets and capital assets and second, respondent Secretary of Finance has no authority to collect CWT, much less, to base the CWT on the gross selling price or fair market value of the real properties classified as ordinary assets.

Petitioner also asserts that the enumerated provisions of the subject revenue regulations violate the due process clause because, like the MCIT, the government collects income tax even when the net income has not yet been determined. They contravene the equal protection clause as well because the CWT is being levied upon real estate enterprises but not on other business enterprises, more particularly those in the manufacturing sector.

The issues to be resolved are as follows:

(1) whether or not this Court should take cognizance of the present case;

(2) whether or not the imposition of the MCIT on domestic corporations is unconstitutional and

(3) whether or not the imposition of CWT on income from sales of real properties classified as ordinary assets under RRs 2-98, 6-2001 and 7-2003, is unconstitutional.

Overview of the Assailed Provisions

Under the MCIT scheme, a corporation, beginning on its fourth year of operation, is assessed an MCIT of 2% of its gross income when such MCIT is greater than the normal corporate income tax imposed under Section 27(A).4 If the regular income tax is higher than the MCIT, the corporation does not pay the MCIT. Any excess of the MCIT over the normal tax shall be carried forward and credited against the normal income tax for the three immediately succeeding taxable years. Section 27(E) of RA 8424 provides:

Section 27 (E). [MCIT] on Domestic Corporations. -

(1) Imposition of Tax. – A [MCIT] of two percent (2%) of the gross income as of the end of the taxable year, as defined herein, is hereby imposed on a corporation taxable under this Title, beginning on the fourth taxable year immediately following the year in which such corporation commenced its business operations, when the minimum income tax is greater than the tax computed under Subsection (A) of this Section for the taxable year.

(2) Carry Forward of Excess Minimum Tax. – Any excess of the [MCIT] over the normal income tax as computed under Subsection (A) of this Section shall be carried forward and credited against the normal income tax for the three (3) immediately succeeding taxable years.

(3) Relief from the [MCIT] under certain conditions. – The Secretary of Finance is hereby authorized to suspend the imposition of the [MCIT] on any corporation which suffers losses on account of prolonged labor dispute, or because of force majeure, or because of legitimate business reverses.

The Secretary of Finance is hereby authorized to promulgate, upon recommendation of the Commissioner, the necessary rules and regulations that shall define the terms and conditions under which he may suspend the imposition of the [MCIT] in a meritorious case.

(4) Gross Income Defined. – For purposes of applying the [MCIT] provided under Subsection (E) hereof, the term ‘gross income’ shall mean gross sales less sales returns, discounts and allowances and cost of goods sold. "Cost of goods sold" shall include 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" shall include the invoice cost of the 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" shall include 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.

In the case of taxpayers engaged in the sale of service, "gross income" means gross receipts less sales returns, allowances, discounts and cost of services. "Cost of services" shall mean all direct costs and expenses necessarily incurred to provide the services required by the customers and clients including (A) salaries and employee benefits of personnel, consultants and specialists directly rendering the service and (B) cost of facilities directly utilized in providing the service such as depreciation or rental of equipment used and cost of supplies: Provided, however, that in the case of banks, "cost of services" shall include interest expense.

On August 25, 1998, respondent Secretary of Finance (Secretary), on the recommendation of the Commissioner of Internal Revenue (CIR), promulgated RR 9-98 implementing Section 27(E).5 The pertinent portions thereof read:

Sec. 2.27(E) [MCIT] on Domestic Corporations. –

(1) Imposition of the Tax. – A [MCIT] of two percent (2%) of the gross income as of the end of the taxable year (whether calendar or fiscal year, depending on the accounting period employed) is hereby imposed upon any domestic corporation beginning the fourth (4th) taxable year immediately following the taxable year in which such corporation commenced its business operations. The MCIT shall be imposed whenever such corporation has zero or negative taxable income or whenever the amount of minimum corporate income tax is greater than the normal income tax due from such corporation.

For purposes of these Regulations, the term, "normal income tax" means the income tax rates prescribed under Sec. 27(A) and Sec. 28(A)(1) of the Code xxx at 32% effective January 1, 2000 and thereafter.

x x x           x x x          x x x

(2) Carry forward of excess [MCIT]. – Any excess of the [MCIT] over the normal income tax as computed under Sec. 27(A) of the Code shall be carried forward on an annual basis and credited against the normal income tax for the three (3) immediately succeeding taxable years.

x x x           x x x          x x x

Meanwhile, on April 17, 1998, respondent Secretary, upon recommendation of respondent CIR, promulgated RR 2-98 implementing certain provisions of RA 8424 involving the withholding of taxes.6 Under Section 2.57.2(J) of RR No. 2-98, income payments from the sale, exchange or transfer of real property, other than capital assets, by persons residing in the Philippines and habitually engaged in the real estate business were subjected to CWT:

Sec. 2.57.2. Income payment subject to [CWT] and rates prescribed thereon:

x x x           x x x          x x x

(J) Gross selling price or total amount of consideration or its equivalent paid to the seller/owner for the sale, exchange or transfer of. – Real property, other than capital assets, sold by an individual, corporation, estate, trust, trust fund or pension fund and the seller/transferor is habitually engaged in the real estate business in accordance with the following schedule –

Those which are exempt from a withholding tax at source as prescribed in Sec. 2.57.5 of these regulations.

With a selling price of five hundred thousand pesos (P500,000.00) or less.

With a selling price of more than five hundred thousand pesos (P500,000.00) but not more than two million pesos (P2,000,000.00).

With selling price of more than two million pesos (P2,000,000.00)

x x x           x x x          x x x

Gross selling price shall mean the consideration stated in the sales document or the fair market value determined in accordance with Section 6 (E) of the Code, as amended, whichever is higher. In an exchange, the fair market value of the property received in exchange, as determined in the Income Tax Regulations shall be used.

Where the consideration or part thereof is payable on installment, no withholding tax is required to be made on the periodic installment payments where the buyer is an individual not engaged in trade or business. In such a case, the applicable rate of tax based on the entire consideration shall be withheld on the last installment or installments to be paid to the seller.

However, if the buyer is engaged in trade or business, whether a corporation or otherwise, the tax shall be deducted and withheld by the buyer on every installment.

This provision was amended by RR 6-2001 on July 31, 2001:

Sec. 2.57.2. Income payment subject to [CWT] and rates prescribed thereon:

x x x           x x x          x x x

(J) Gross selling price or total amount of consideration or its equivalent paid to the seller/owner for the sale, exchange or transfer of real property classified as ordinary asset. - A [CWT] based on the gross selling price/total amount of consideration or the fair market value determined in

accordance with Section 6(E) of the Code, whichever is higher, paid to the seller/owner for the sale, transfer or exchange of real property, other than capital asset, shall be imposed upon the withholding agent,/buyer, in accordance with the following schedule:

Where the seller/transferor is exempt from [CWT] in accordance with Sec. 2.57.5 of these regulations.Upon the following values of real property, where the seller/transferor is habitually engaged in the real estate business.With a selling price of Five Hundred Thousand Pesos (P500,000.00) or less.With a selling price of more than Five Hundred Thousand Pesos (P500,000.00) but not more than Two Million Pesos (P2,000,000.00).With a selling price of more than two Million Pesos (P2,000,000.00).

x x x           x x x          x x x

Gross selling price shall remain the consideration stated in the sales document or the fair market value determined in accordance with Section 6 (E) of the Code, as amended, whichever is higher. In an exchange, the fair market value of the property received in exchange shall be considered as the consideration.

x x x           x x x          x x x

However, if the buyer is engaged in trade or business, whether a corporation or otherwise, these rules shall apply:

(i) If the sale is a sale of property on the installment plan (that is, payments in the year of sale do not exceed 25% of the selling price), the tax shall be deducted and withheld by the buyer on every installment.

(ii) If, on the other hand, the sale is on a "cash basis" or is a "deferred-payment sale not on the installment plan" (that is, payments in the year of sale exceed 25% of the selling price), the buyer shall withhold the tax based on the gross selling price or fair market value of the property, whichever is higher, on the first installment.

In any case, no Certificate Authorizing Registration (CAR) shall be issued to the buyer unless the [CWT] due on the sale, transfer or exchange of real property other than capital asset has been fully paid. (Underlined amendments in the original)

Section 2.58.2 of RR 2-98 implementing Section 58(E) of RA 8424 provides that any sale, barter or exchange subject to the CWT will not be recorded by the Registry of Deeds until the CIR has certified that such transfers and conveyances have been reported and the taxes thereof have been duly paid:7

Sec. 2.58.2. Registration with the Register of Deeds. – Deeds of conveyances of land or land and building/improvement thereon arising from sales, barters, or exchanges subject to the creditable expanded withholding tax shall not be recorded by the Register of Deeds unless the [CIR] or his duly authorized representative has certified that such transfers and conveyances have been reported and the expanded withholding tax, inclusive of the documentary stamp tax, due thereon have been fully paid xxxx.

On February 11, 2003, RR No. 7-20038 was promulgated, providing for the guidelines in determining whether a particular real property is a capital or an ordinary asset for purposes of imposing the MCIT, among others. The pertinent portions thereof state:

Section 4. Applicable taxes on sale, exchange or other disposition of real property. - Gains/Income derived from sale, exchange, or other disposition of real properties shall, unless otherwise exempt, be subject to applicable taxes imposed under the Code, depending on whether the subject properties are classified as capital assets or ordinary assets;

a. In the case of individual citizen (including estates and trusts), resident aliens, and non-resident aliens engaged in trade or business in the Philippines;

x x x           x x x          x x x

(ii) The sale of real property located in the Philippines, classified as ordinary assets, shall be subject to the [CWT] (expanded) under Sec. 2.57..2(J) of [RR 2-98], as amended, based on the gross selling price or current fair market value as determined in accordance with Section 6(E) of the Code, whichever is higher, and consequently, to the ordinary income tax imposed under Sec. 24(A)(1)(c) or 25(A)(1) of the Code, as the case may be, based on net taxable income.

x x x           x x x          x x x

c. In the case of domestic corporations. –

x x x           x x x          x x x

(ii) The sale of land and/or building classified as ordinary asset and other real property (other than land and/or building treated as capital asset), regardless of the classification thereof, all of which are located in the Philippines, shall be subject to the [CWT] (expanded) under Sec. 2.57.2(J) of [RR 2-98], as amended, and consequently, to the ordinary income tax under Sec. 27(A) of the Code. In lieu of the ordinary income tax, however, domestic corporations may become subject to the [MCIT] under Sec. 27(E) of the Code, whichever is applicable.

x x x           x x x          x x x

We shall now tackle the issues raised.

Existence of a Justiciable Controversy

Courts will not assume jurisdiction over a constitutional question unless the following requisites are satisfied: (1) there must be an actual case calling for the exercise of judicial review; (2) the question before the court must be ripe for adjudication; (3) the person challenging the validity of the act must have standing to do so; (4) the question of constitutionality must have been raised at the earliest opportunity and (5) the issue of constitutionality must be the very lis mota of the case.9

Respondents aver that the first three requisites are absent in this case. According to them, there is no actual case calling for the exercise of judicial power and it is not yet ripe for adjudication because

[petitioner] did not allege that CREBA, as a corporate entity, or any of its members, has been assessed by the BIR for the payment of [MCIT] or [CWT] on sales of real property. Neither did petitioner allege that its members have shut down their businesses as a result of the payment of the MCIT or CWT. Petitioner has raised concerns in mere abstract and hypothetical form without any actual, specific and concrete instances cited that the assailed law and revenue regulations have actually and adversely affected it. Lacking empirical data on which to base any conclusion, any discussion on the constitutionality of the MCIT or CWT on sales of real property is essentially an academic exercise.

Perceived or alleged hardship to taxpayers alone is not an adequate justification for adjudicating abstract issues. Otherwise, adjudication would be no different from the giving of advisory opinion that does not really settle legal issues.10

An actual case or controversy involves a conflict of legal rights or an assertion of opposite legal claims which is susceptible of judicial resolution as distinguished from a hypothetical or abstract difference or dispute.11 On the other hand, a question is considered ripe for adjudication when the act being challenged has a direct adverse effect on the individual challenging it.12

Contrary to respondents’ assertion, we do not have to wait until petitioner’s members have shut down their operations as a result of the MCIT or CWT. The assailed provisions are already being implemented. As we stated in Didipio Earth-Savers’ Multi-Purpose Association, Incorporated (DESAMA) v. Gozun:13

By the mere enactment of the questioned law or the approval of the challenged act, the dispute is said to have ripened into a judicial controversy even without any other overt act. Indeed, even a singular violation of the Constitution and/or the law is enough to awaken judicial duty.14

If the assailed provisions are indeed unconstitutional, there is no better time than the present to settle such question once and for all.

Respondents next argue that petitioner has no legal standing to sue:

Petitioner is an association of some of the real estate developers and builders in the Philippines. Petitioners did not allege that [it] itself is in the real estate business. It did not allege any material interest or any wrong that it may suffer from the enforcement of [the assailed provisions].15

Legal standing or locus standi is a party’s personal and substantial interest in a case such that it has sustained or will sustain direct injury as a result of the governmental act being challenged.16 In Holy Spirit Homeowners Association, Inc. v. Defensor,17 we held that the association had legal standing because its members stood to be injured by the enforcement of the assailed provisions:

Petitioner association has the legal standing to institute the instant petition xxx. There is no dispute that the individual members of petitioner association are residents of the NGC. As such they are covered and stand to be either benefited or injured by the enforcement of the IRR, particularly as regards the selection process of beneficiaries and lot allocation to qualified beneficiaries. Thus, petitioner association may assail those provisions in the IRR which it believes to be unfavorable to the rights of its members. xxx Certainly, petitioner and its members have sustained direct injury arising from the enforcement of the IRR in that they have been disqualified and eliminated from the selection process.18

In any event, this Court has the discretion to take cognizance of a suit which does not satisfy the requirements of an actual case, ripeness or legal standing when paramount public interest is involved.19 The questioned MCIT and CWT affect not only petitioners but practically all domestic corporate taxpayers in our country. The transcendental importance of the issues raised and their overreaching significance to society make it proper for us to take cognizance of this petition.20

Concept and Rationale of the MCIT

The MCIT on domestic corporations is a new concept introduced by RA 8424 to the Philippine taxation system. It came about as a result of the perceived inadequacy of the self-assessment system in capturing the true income of corporations.21 It was devised as a relatively simple and effective revenue-raising instrument compared to the normal income tax which is more difficult to control and enforce. It is a means to ensure that everyone will make some minimum contribution to the support of the public sector. The congressional deliberations on this are illuminating:

Senator Enrile. Mr. President, we are not unmindful of the practice of certain corporations of reporting constantly a loss in their operations to avoid the payment of taxes, and thus avoid sharing in the cost of government. In this regard, the Tax Reform Act introduces for the first time a new concept called the [MCIT] so as to minimize tax evasion, tax avoidance, tax manipulation in the country and for administrative convenience. … This will go a long way in ensuring that corporations will pay their just share in supporting our public life and our economic advancement.22

Domestic corporations owe their corporate existence and their privilege to do business to the government. They also benefit from the efforts of the government to improve the financial market and to ensure a favorable business climate. It is therefore fair for the government to require them to make a reasonable contribution to the public expenses.

Congress intended to put a stop to the practice of corporations which, while having large turn-overs, report minimal or negative net income resulting in minimal or zero income taxes year in and year out, through under-declaration of income or over-deduction of expenses otherwise called tax shelters.23

Mr. Javier (E.) … [This] is what the Finance Dept. is trying to remedy, that is why they have proposed the [MCIT]. Because from experience too, you have corporations which have been losing year in and year out and paid no tax. So, if the corporation has been losing for the past five years to ten years, then that corporation has no business to be in business. It is dead. Why continue if you are losing year in and year out? So, we have this provision to avoid this type of tax shelters, Your Honor.24

The primary purpose of any legitimate business is to earn a profit. Continued and repeated losses after operations of a corporation or consistent reports of minimal net income render its financial statements and its tax payments suspect. For sure, certain tax avoidance schemes resorted to by corporations are allowed in our jurisdiction. The MCIT serves to put a cap on such tax shelters. As a tax on gross income, it prevents tax evasion and minimizes tax avoidance schemes achieved through sophisticated and artful manipulations of deductions and other stratagems. Since the tax base was broader, the tax rate was lowered.

To further emphasize the corrective nature of the MCIT, the following safeguards were incorporated into the law:

First, recognizing the birth pangs of businesses and the reality of the need to recoup initial major capital expenditures, the imposition of the MCIT commences only on the fourth taxable year immediately following the year in which the corporation commenced its operations.25 This grace period allows a new business to stabilize first and make its ventures viable before it is subjected to the MCIT.26

Second, the law allows the carrying forward of any excess of the MCIT paid over the normal income tax which shall be credited against the normal income tax for the three immediately succeeding years.27

Third, since certain businesses may be incurring genuine repeated losses, the law authorizes the Secretary of Finance to suspend the imposition of MCIT if a corporation suffers losses due to prolonged labor dispute, force majeure and legitimate business reverses.28

Even before the legislature introduced the MCIT to the Philippine taxation system, several other countries already had their own system of minimum corporate income taxation. Our lawmakers noted that most developing countries, particularly Latin American and Asian countries, have the same form of safeguards as we do. As pointed out during the committee hearings:

[Mr. Medalla:] Note that most developing countries where you have of course quite a bit of room for underdeclaration of gross receipts have this same form of safeguards.

In the case of Thailand, half a percent (0.5%), there’s a minimum of income tax of half a percent (0.5%) of gross assessable income. In Korea a 25% of taxable income before deductions and exemptions. Of course the different countries have different basis for that minimum income tax.

The other thing you’ll notice is the preponderance of Latin American countries that employed this method. Okay, those are additional Latin American countries.29

At present, the United States of America, Mexico, Argentina, Tunisia, Panama and Hungary have their own versions of the MCIT.30

MCIT Is Not Violative of Due Process

Petitioner claims that the MCIT under Section 27(E) of RA 8424 is unconstitutional because it is highly oppressive, arbitrary and confiscatory which amounts to deprivation of property without due process of law. It explains that gross income as defined under said provision only considers the cost of goods sold and other direct expenses; other major expenditures, such as administrative and interest expenses which are equally necessary to produce gross income, were not taken into account.31 Thus, pegging the tax base of the MCIT to a corporation’s gross income is tantamount to a confiscation of capital because gross income, unlike net income, is not "realized gain."32

We disagree.

Taxes are the lifeblood of the government. Without taxes, the government can neither exist nor endure. The exercise of taxing power derives its source from the very existence of the State whose social contract with its citizens obliges it to promote public interest and the common good.33

Taxation is an inherent attribute of sovereignty.34 It is a power that is purely legislative.35 Essentially, this means that in the legislature primarily lies the discretion to determine the nature (kind), object (purpose), extent (rate), coverage (subjects) and situs (place) of taxation.36 It has the

authority to prescribe a certain tax at a specific rate for a particular public purpose on persons or things within its jurisdiction. In other words, the legislature wields the power to define what tax shall be imposed, why it should be imposed, how much tax shall be imposed, against whom (or what) it shall be imposed and where it shall be imposed.

As a general rule, the power to tax is plenary and unlimited in its range, acknowledging in its very nature no limits, so that the principal check against its abuse is to be found only in the responsibility of the legislature (which imposes the tax) to its constituency who are to pay it.37 Nevertheless, it is circumscribed by constitutional limitations. At the same time, like any other statute, tax legislation carries a presumption of constitutionality.

The constitutional safeguard of due process is embodied in the fiat "[no] person shall be deprived of life, liberty or property without due process of law." In Sison, Jr. v. Ancheta, et al.,38 we held that the due process clause may properly be invoked to invalidate, in appropriate cases, a revenue measure39 when it amounts to a confiscation of property.40 But in the same case, we also explained that we will not strike down a revenue measure as unconstitutional (for being violative of the due process clause) on the mere allegation of arbitrariness by the taxpayer.41 There must be a factual foundation to such an unconstitutional taint.42 This merely adheres to the authoritative doctrine that, where the due process clause is invoked, considering that it is not a fixed rule but rather a broad standard, there is a need for proof of such persuasive character.43

Petitioner is correct in saying that income is distinct from capital.44 Income means all the wealth which flows into the taxpayer other than a mere return on capital. Capital is a fund or property existing at one distinct point in time while income denotes a flow of wealth during a definite period of time.45 Income is gain derived and severed from capital.46 For income to be taxable, the following requisites must exist:

(1) there must be gain;

(2) the gain must be realized or received and

(3) the gain must not be excluded by law or treaty from taxation.47

Certainly, an income tax is arbitrary and confiscatory if it taxes capital because capital is not income. In other words, it is income, not capital, which is subject to income tax. However, the MCIT is not a tax on capital.

The MCIT is imposed on gross income which is arrived at by deducting the capital spent by a corporation in the sale of its goods, i.e., the cost of goods48 and other direct expenses from gross sales. Clearly, the capital is not being taxed.

Furthermore, the MCIT is not an additional tax imposition. It is imposed in lieu of the normal net income tax, and only if the normal income tax is suspiciously low. The MCIT merely approximates the amount of net income tax due from a corporation, pegging the rate at a very much reduced 2% and uses as the base the corporation’s gross income.

Besides, there is no legal objection to a broader tax base or taxable income by eliminating all deductible items and at the same time reducing the applicable tax rate.49

Statutes taxing the gross "receipts," "earnings," or "income" of particular corporations are found in many jurisdictions. Tax thereon is generally held to be within the power of a state to impose; or constitutional, unless it interferes with interstate commerce or violates the requirement as to uniformity of taxation.50

The United States has a similar alternative minimum tax (AMT) system which is generally characterized by a lower tax rate but a broader tax base.51 Since our income tax laws are of American origin, interpretations by American courts of our parallel tax laws have persuasive effect on the interpretation of these laws.52 Although our MCIT is not exactly the same as the AMT, the policy behind them and the procedure of their implementation are comparable. On the question of the AMT’s constitutionality, the United States Court of Appeals for the Ninth Circuit stated in Okin v. Commissioner:53

In enacting the minimum tax, Congress attempted to remedy general taxpayer distrust of the system growing from large numbers of taxpayers with large incomes who were yet paying no taxes.

x x x           x x x          x x x

We thus join a number of other courts in upholding the constitutionality of the [AMT]. xxx [It] is a rational means of obtaining a broad-based tax, and therefore is constitutional.54

The U.S. Court declared that the congressional intent to ensure that corporate taxpayers would contribute a minimum amount of taxes was a legitimate governmental end to which the AMT bore a reasonable relation.55

American courts have also emphasized that Congress has the power to condition, limit or deny deductions from gross income in order to arrive at the net that it chooses to tax.56 This is because deductions are a matter of legislative grace.57

Absent any other valid objection, the assignment of gross income, instead of net income, as the tax base of the MCIT, taken with the reduction of the tax rate from 32% to 2%, is not constitutionally objectionable.

Moreover, petitioner does not cite any actual, specific and concrete negative experiences of its members nor does it present empirical data to show that the implementation of the MCIT resulted in the confiscation of their property.

In sum, petitioner failed to support, by any factual or legal basis, its allegation that the MCIT is arbitrary and confiscatory. The Court cannot strike down a law as unconstitutional simply because of its yokes.58 Taxation is necessarily burdensome because, by its nature, it adversely affects property rights.59 The party alleging the law’s unconstitutionality has the burden to demonstrate the supposed violations in understandable terms.60

RR 9-98 Merely Clarifies Section 27(E) of RA 8424

Petitioner alleges that RR 9-98 is a deprivation of property without due process of law because the MCIT is being imposed and collected even when there is actually a loss, or a zero or negative taxable income:

Sec. 2.27(E) [MCIT] on Domestic Corporations. —

(1) Imposition of the Tax. — xxx The MCIT shall be imposed whenever such corporation has zero or negative taxable income or whenever the amount of [MCIT] is greater than the normal income tax due from such corporation. (Emphasis supplied)

RR 9-98, in declaring that MCIT should be imposed whenever such corporation has zero or negative taxable income, merely defines the coverage of Section 27(E). This means that even if a corporation incurs a net loss in its business operations or reports zero income after deducting its expenses, it is still subject to an MCIT of 2% of its gross income. This is consistent with the law which imposes the MCIT on gross income notwithstanding the amount of the net income. But the law also states that the MCIT is to be paid only if it is greater than the normal net income. Obviously, it may well be the case that the MCIT would be less than the net income of the corporation which posts a zero or negative taxable income.

We now proceed to the issues involving the CWT.

The withholding tax system is a procedure through which taxes (including income taxes) are collected.61 Under Section 57 of RA 8424, the types of income subject to withholding tax are divided into three categories: (a) withholding of final tax on certain incomes; (b) withholding of creditable tax at source and (c) tax-free covenant bonds. Petitioner is concerned with the second category (CWT) and maintains that the revenue regulations on the collection of CWT on sale of real estate categorized as ordinary assets are unconstitutional.

Petitioner, after enumerating the distinctions between capital and ordinary assets under RA 8424, contends that Sections 2.57.2(J) and 2.58.2 of RR 2-98 and Sections 4(a)(ii) and (c)(ii) of RR 7-2003 were promulgated "with

grave abuse of discretion amounting to lack of jurisdiction" and "patently in contravention of law"62 because they ignore such distinctions. Petitioner’s conclusion is based on the following premises: (a) the revenue regulations use gross selling price (GSP) or fair market value (FMV) of the real estate as basis for determining the income tax for the sale of real estate classified as ordinary assets and (b) they mandate the collection of income tax on a per transaction basis, i.e., upon consummation of the sale via the CWT, contrary to RA 8424 which calls for the payment of the net income at the end of the taxable period.63

Petitioner theorizes that since RA 8424 treats capital assets and ordinary assets differently, respondents cannot disregard the distinctions set by the legislators as regards the tax base, modes of collection and payment of taxes on income from the sale of capital and ordinary assets.

Petitioner’s arguments have no merit.

Authority of the Secretary of Finance to Order the Collection of CWT on Sales of Real Property Considered as Ordinary Assets

The Secretary of Finance is granted, under Section 244 of RA 8424, the authority to promulgate the necessary rules and regulations for the effective enforcement of the provisions of the law. Such authority is subject to the limitation that the rules and regulations must not override, but must remain consistent and in harmony with, the law they seek to apply and implement.64 It is well-settled that an administrative agency cannot amend an act of Congress.65

We have long recognized that the method of withholding tax at source is a procedure of collecting income tax which is sanctioned by our tax laws.66 The withholding tax system was devised for three primary reasons: first, to provide the taxpayer a convenient manner to meet his probable income tax liability; second, to ensure the collection of income tax which can otherwise be lost or substantially reduced through failure to file the corresponding returns and third, to improve the government’s cash flow.67 This results in administrative savings, prompt and efficient collection of taxes, prevention of delinquencies and reduction of governmental effort to collect taxes through more complicated means and remedies.68

Respondent Secretary has the authority to require the withholding of a tax on items of income payable to any person, national or juridical, residing in the Philippines. Such authority is derived from Section 57(B) of RA 8424 which provides:

SEC. 57. Withholding of Tax at Source. –

x x x           x x x          x x x

(B) Withholding of Creditable Tax at Source. The [Secretary] may, upon the recommendation of the [CIR], require the withholding of a tax on the items of income payable to natural or juridical persons, residing in the Philippines, by payor-corporation/persons as provided for by law, at the rate of not less than one percent (1%) but not more than thirty-two percent (32%) thereof, which shall be credited against the income tax liability of the taxpayer for the taxable year.

The questioned provisions of RR 2-98, as amended, are well within the authority given by Section 57(B) to the Secretary, i.e., the graduated rate of 1.5%-5% is between the 1%-32% range; the withholding tax is imposed on the income payable and the tax is creditable against the income tax liability of the taxpayer for the taxable year.

Effect of RRs on the Tax Base for the Income Tax of Individuals or Corporations Engaged in the Real Estate Business

Petitioner maintains that RR 2-98, as amended, arbitrarily shifted the tax base of a real estate business’ income tax from net income to GSP or FMV of the property sold.

Petitioner is wrong.

The taxes withheld are in the nature of advance tax payments by a taxpayer in order to extinguish its possible tax obligation. 69 They are installments on the annual tax which may be due at the end of the taxable year.70

Under RR 2-98, the tax base of the income tax from the sale of real property classified as ordinary assets remains to be the entity’s net income imposed under Section 24 (resident individuals) or Section 27 (domestic corporations) in relation to Section 31 of RA 8424, i.e. gross income less allowable deductions. The CWT is to be deducted from the net income tax payable by the taxpayer at the end of the taxable year.71 Precisely, Section 4(a)(ii) and (c)(ii) of RR 7-2003 reiterate that the tax base for the sale of real property classified as ordinary assets remains to be the net taxable income:

Section 4. – Applicable taxes on sale, exchange or other disposition of real property. - Gains/Income derived from sale, exchange, or other disposition of real properties shall unless otherwise exempt, be subject to applicable taxes imposed under the Code, depending on whether the subject properties are classified as capital assets or ordinary assets;

x x x           x x x          x x x

a. In the case of individual citizens (including estates and trusts), resident aliens, and non-resident aliens engaged in trade or business in the Philippines;

x x x           x x x          x x x

(ii) The sale of real property located in the Philippines, classified as ordinary assets, shall be subject to the [CWT] (expanded) under Sec. 2.57.2(j) of [RR 2-98], as amended, based on the [GSP] or current [FMV] as determined in accordance with Section 6(E) of the Code, whichever is higher, and consequently, to theordinary income tax imposed under Sec. 24(A)(1)(c) or 25(A)(1) of the Code, as the case may be, based on net taxable income.

x x x           x x x          x x x

c. In the case of domestic corporations.

The sale of land and/or building classified as ordinary asset and other real property (other than land and/or building treated as capital asset), regardless of the classification thereof, all of which are located in the Philippines, shall be subject to the [CWT] (expanded) under Sec. 2.57.2(J) of [RR 2-98], as amended, and consequently, to the ordinary income tax under Sec. 27(A) of the Code. In lieu of the ordinary income tax, however, domestic corporations may become subject to the [MCIT] under Sec. 27(E) of the same Code, whichever is applicable. (Emphasis supplied)

Accordingly, at the end of the year, the taxpayer/seller shall file its income tax return and credit the taxes withheld (by the withholding agent/buyer) against its tax due. If the tax due is greater than the tax withheld, then the taxpayer shall pay the difference. If, on the other hand, the tax due is less than the tax withheld, the taxpayer will be entitled to a refund or tax credit. Undoubtedly, the taxpayer is taxed on its net income.

The use of the GSP/FMV as basis to determine the withholding taxes is evidently for purposes of practicality and convenience. Obviously, the withholding agent/buyer who is obligated to withhold the tax does not know, nor is he privy to, how much the taxpayer/seller will have as its net income at the end of the taxable year. Instead, said withholding agent’s knowledge and privity are limited only to the particular transaction in which he is a party. In such a case, his basis can only be the GSP or FMV as these are the only factors reasonably known or knowable by him in connection with the performance of his duties as a withholding agent.

No Blurring of Distinctions Between Ordinary Assets and Capital Assets

RR 2-98 imposes a graduated CWT on income based on the GSP or FMV of the real property categorized as ordinary assets. On the other hand, Section 27(D)(5) of RA 8424 imposes a final tax and flat rate of 6% on the gain presumed to be realized from the sale of a capital asset based on its GSP or FMV. This final tax is also withheld at source.72

The differences between the two forms of withholding tax, i.e., creditable and final, show that ordinary assets are not treated in the same manner as capital assets. Final withholding tax (FWT) and CWT are distinguished as follows:

FWT CWT

a) The amount of income tax withheld by the withholding agent is constituted as a full and final payment of the income tax due from the payee on the said income.

a) Taxes withheld on certain income payments are intended to equal or at least approximate the tax due of the payee on said income.

b)The liability for payment of the tax rests primarily on the payor as a withholding agent.

b) Payee of income is required to report the income and/or pay the difference between the tax withheld and the tax due on the income. The payee also has the right to ask for a refund if the tax withheld is more than the tax due.

c) The payee is not required to file an income tax return for the particular income.73

c) The income recipient is still required to file an income tax return, as prescribed in Sec. 51 and Sec. 52 of the NIRC, as amended.74

As previously stated, FWT is imposed on the sale of capital assets. On the other hand, CWT is imposed on the sale of ordinary assets. The inherent and substantial differences between FWT and CWT disprove petitioner’s contention that ordinary assets are being lumped together with, and treated similarly as, capital assets in contravention of the pertinent provisions of RA 8424.

Petitioner insists that the levy, collection and payment of CWT at the time of transaction are contrary to the provisions of RA 8424 on the manner and time of filing of the return, payment and assessment of income tax involving ordinary assets.75

The fact that the tax is withheld at source does not automatically mean that it is treated exactly the same way as capital gains. As aforementioned, the mechanics of the FWT are distinct from those of the CWT. The withholding agent/buyer’s act of collecting the tax at the time of the transaction by withholding the tax due from the income payable is the essence of the withholding tax method of tax collection.

No Rule that Only Passive

Incomes Can Be Subject to CWT

Petitioner submits that only passive income can be subjected to withholding tax, whether final or creditable. According to petitioner, the whole of Section 57 governs the withholding of income tax on passive income. The enumeration in Section 57(A) refers to passive income being subjected to FWT. It follows that Section 57(B) on CWT should also be limited to passive income:

SEC. 57. Withholding of Tax at Source. —

(A) Withholding of Final Tax on Certain Incomes. — Subject to rules and regulations, the [Secretary] may promulgate, upon the recommendation of the [CIR], requiring the filing of income tax return by certain income payees, the tax imposed or prescribed by Sections 24(B)(1), 24(B)(2), 24(C), 24(D)(1); 25(A)(2), 25(A)(3), 25(B), 25(C), 25(D), 25(E); 27(D)(1), 27(D)(2), 27(D)(3), 27(D)(5); 28(A)(4), 28(A)(5), 28(A)(7)(a), 28(A)(7)(b), 28(A)(7)(c), 28(B)(1), 28(B)(2), 28(B)(3), 28(B)(4), 28(B)(5)(a), 28(B)(5)(b), 28(B)(5)(c); 33; and 282 of this Code on specified items of income shall be withheld by payor-corporation and/or person and paid in the same manner and subject to the same conditions as provided in Section 58 of this Code.

(B) Withholding of Creditable Tax at Source. — The [Secretary] may, upon the recommendation of the [CIR], require the withholding of a tax on the items of income payable to natural or juridical persons, residing in the Philippines, by payor-corporation/persons as provided for by law, at the rate of not less than one percent (1%) but not more than thirty-two percent (32%) thereof, which shall be credited against the income tax liability of the taxpayer for the taxable year. (Emphasis supplied)

This line of reasoning is non sequitur.

Section 57(A) expressly states that final tax can be imposed on certain kinds of income and enumerates these as passive income. The BIR defines passive income by stating what it is not:

…if the income is generated in the active pursuit and performance of the corporation’s primary purposes, the same is not passive income…76

It is income generated by the taxpayer’s assets. These assets can be in the form of real properties that return rental income, shares of stock in a corporation that earn dividends or interest income received from savings.

On the other hand, Section 57(B) provides that the Secretary can require a CWT on "income payable to natural or juridical persons, residing in the Philippines." There is no requirement that this income be passive income. If that were the intent of Congress, it could have easily said so.

Indeed, Section 57(A) and (B) are distinct. Section 57(A) refers to FWT while Section 57(B) pertains to CWT. The former covers the kinds of passive income enumerated therein and the latter encompasses any income other than those listed in 57(A). Since the law itself makes distinctions, it is wrong to regard 57(A) and 57(B) in the same way.

To repeat, the assailed provisions of RR 2-98, as amended, do not modify or deviate from the text of Section 57(B). RR 2-98 merely implements the law by specifying what income is subject to CWT. It has been held that, where a statute does not require any particular procedure to be followed by an administrative agency, the agency may adopt any reasonable method to carry out its functions.77 Similarly, considering that the law uses the general term "income," the Secretary and CIR may specify the kinds of income the rules will apply to based on what is feasible. In addition, administrative rules and regulations ordinarily deserve to be given weight and respect by the courts78 in view of the rule-making authority given to those who formulate them and their specific expertise in their respective fields.

No Deprivation of Property Without Due Process

Petitioner avers that the imposition of CWT on GSP/FMV of real estate classified as ordinary assets deprives its members of their property without due process of law because, in their line of business, gain is never assured by mere receipt of the selling price. As a result, the government is collecting tax from net income not yet gained or earned.

Again, it is stressed that the CWT is creditable against the tax due from the seller of the property at the end of the taxable year. The seller will be able to claim a tax refund if its net income is less than the taxes withheld. Nothing is taken that is not due so there is no confiscation of property repugnant to the constitutional guarantee of due process. More importantly, the due process requirement applies to the power to tax.79 The CWT does not impose new taxes nor does it increase taxes.80 It relates entirely to the method and time of payment.

Petitioner protests that the refund remedy does not make the CWT less burdensome because taxpayers have to wait years and may even resort to litigation before they are granted a refund.81 This argument is misleading. The practical problems encountered in claiming a tax refund do not affect the constitutionality and validity of the CWT as a method of collecting the tax.1avvphi1

Petitioner complains that the amount withheld would have otherwise been used by the enterprise to pay labor wages, materials, cost of money and other expenses which can then save the entity from having to obtain loans entailing considerable interest expense. Petitioner also lists the expenses and pitfalls of the trade which add to the burden of the realty industry: huge investments and borrowings; long gestation period; sudden and

unpredictable interest rate surges; continually spiraling development/construction costs; heavy taxes and prohibitive "up-front" regulatory fees from at least 20 government agencies.82

Petitioner’s lamentations will not support its attack on the constitutionality of the CWT. Petitioner’s complaints are essentially matters of policy best addressed to the executive and legislative branches of the government. Besides, the CWT is applied only on the amounts actually received or receivable by the real estate entity. Sales on installment are taxed on a per-installment basis.83 Petitioner’s desire to utilize for its operational and capital expenses money earmarked for the payment of taxes may be a practical business option but it is not a fundamental right which can be demanded from the court or from the government.

No Violation of Equal Protection

Petitioner claims that the revenue regulations are violative of the equal protection clause because the CWT is being levied only on real estate enterprises. Specifically, petitioner points out that manufacturing enterprises are not similarly imposed a CWT on their sales, even if their manner of doing business is not much different from that of a real estate enterprise. Like a manufacturing concern, a real estate business is involved in a continuous process of production and it incurs costs and expenditures on a regular basis. The only difference is that "goods" produced by the real estate business are house and lot units.84

Again, we disagree.

The equal protection clause under the Constitution means that "no person or class of persons shall be deprived of the same protection of laws which is enjoyed by other persons or other classes in the same place and in like circumstances."85 Stated differently, all persons belonging to the same class shall be taxed alike. It follows that the guaranty of the equal protection of the laws is not violated by legislation based on a reasonable classification. Classification, to be valid, must (1) rest on substantial distinctions; (2) be germane to the purpose of the law; (3) not be limited to existing conditions only and (4) apply equally to all members of the same class.86

The taxing power has the authority to make reasonable classifications for purposes of taxation.87 Inequalities which result from a singling out of one particular class for taxation, or exemption, infringe no constitutional limitation.88 The real estate industry is, by itself, a class and can be validly treated differently from other business enterprises.

Petitioner, in insisting that its industry should be treated similarly as manufacturing enterprises, fails to realize that what distinguishes the real estate business from other manufacturing enterprises, for purposes of the imposition of the CWT, is not their production processes but the prices of their goods sold and the number of transactions involved. The income from the sale of a real property is bigger and its frequency of transaction limited, making it less cumbersome for the parties to comply with the withholding tax scheme.

On the other hand, each manufacturing enterprise may have tens of thousands of transactions with several thousand customers every month involving both minimal and substantial amounts. To require the customers of manufacturing enterprises, at present, to withhold the taxes on each of their transactions with their tens or hundreds of suppliers may result in an inefficient and unmanageable system of taxation and may well defeat the purpose of the withholding tax system.

Petitioner counters that there are other businesses wherein expensive items are also sold infrequently, e.g.heavy equipment, jewelry, furniture, appliance and other capital goods yet these are not similarly subjected to the CWT.89 As already discussed, the Secretary may adopt any reasonable method to carry out its functions.90Under Section 57(B), it may choose what to subject to CWT.

A reading of Section 2.57.2 (M) of RR 2-98 will also show that petitioner’s argument is not accurate. The sales of manufacturers who have clients within the top 5,000 corporations, as specified by the BIR, are also subject to CWT for their transactions with said 5,000 corporations.91

Section 2.58.2 of RR No. 2-98 Merely Implements Section 58 of RA 8424

Lastly, petitioner assails Section 2.58.2 of RR 2-98, which provides that the Registry of Deeds should not effect the regisration of any document transferring real property unless a certification is issued by the CIR that the withholding tax has been paid. Petitioner proffers hardly any reason to strike down this rule except to rely on its contention that the CWT is unconstitutional. We have ruled that it is not. Furthermore, this provision uses almost exactly the same wording as Section 58(E) of RA 8424 and is unquestionably in accordance with it:

Sec. 58. Returns and Payment of Taxes Withheld at Source. –

(E) Registration with Register of Deeds. - No registration of any document transferring real property shall be effected by the Register of Deeds unless the [CIR] or his duly authorized representative has certified that such transfer has been reported, and the capital gains or [CWT], if any, has been paid: xxxx any violation of this provision by the Register of Deeds shall be subject to the penalties imposed under Section 269 of this Code. (Emphasis supplied)

Conclusion

The renowned genius Albert Einstein was once quoted as saying "[the] hardest thing in the world to understand is the income tax."92 When a party questions the constitutionality of an income tax measure, it has to contend not only with Einstein’s observation but also with the vast and well-established jurisprudence in support of the plenary powers of Congress to impose taxes. Petitioner has miserably failed to discharge its burden of convincing the Court that the imposition of MCIT and CWT is unconstitutional.

WHEREFORE, the petition is hereby DISMISSED.

Costs against petitioner.

SO ORDERED.

G.R. No. L-45987             May 5, 1939

THE PEOPLE OF THE PHILIPPINES, plaintiff-appellee, vs.CAYAT, defendant-appellant.

Sinai Hamada y Cariño for appellant.Office of the Solicitor-General Tuason for appellee.

MORAN, J.:

Prosecuted for violation of Act No. 1639 (secs. 2 and 3), the accused, Cayat, a native of Baguio, Benguet, Mountain Province, was sentenced by the justice of the peace court of Baguio to pay a fine of five pesos (P5) or suffer subsidiary imprisonment in case of insolvency. On appeal of the Court of First Instance, the following information was filed against him:

That on or about the 25th day of January, 1937, in the City of Baguio, Commonwealth of the Philippines, and within the jurisdiction of this court, the above-named accused, Cayat, being a member of the non-Christian tribes, did then and there willfully, unlawfully, and illegally receive, acquire, and have in his possession and under his control or custody, one bottle of A-1-1 gin, an intoxicating liquor, other than the so-called native wines and liquors which the members of such tribes have been accustomed themselves to make prior to the passage of Act No. 1639.

Accused interposed a demurrer which was overruled. At the trial, he admitted all the facts alleged in the information, but pleaded not guilty to the charge for the reasons adduced in his demurrer and submitted the case on the pleadings. The trial court found him guilty of the crime charged and sentenced him to pay a fine of fifty pesos (P50) or supper subsidiary imprisonment in case of insolvency. The case is now before this court on appeal. Sections 2 and 3 of Act No. 1639 read:

SEC. 2. It shall be unlawful for any native of the Philippine Islands who is a member of a non-Christian tribe within the meaning of the Act Numbered Thirteen hundred and ninety-seven, to buy, receive, have in his possession, or drink any ardent spirits, ale, beer, wine, or intoxicating liquors of any kind, other than the so-called native wines and liquors which the members of such tribes have been accustomed themselves to make prior to the passage of this Act, except as provided in section one hereof; and it shall be the duty of any police officer or other duly authorized agent of the Insular or any provincial, municipal or township government to seize and forthwith destroy any such liquors found unlawfully in the possession of any member of a non-Christian tribe.

SEC. 3. Any person violating the provisions of section one or section two of this Act shall, upon conviction thereof, be punishable for each offense by a fine of not exceeding two hundred pesos or by imprisonment for a term not exceeding six months, in the discretion of the court.

The accused challenges the constitutionality of the Act on the following grounds:

(1) That it is discriminatory and denies the equal protection of the laws;

(2) That it is violative of the due process clause of the Constitution: and.

(3) That it is improper exercise of the police power of the state.

Counsel for the appellant holds out his brief as the "brief for the non-Christian tribes." It is said that as these less civilized elements of the Filipino population are "jealous of their rights in a democracy," any attempt to treat them with discrimination or "mark them as inferior or less capable rate or less entitled" will meet with their instant challenge. As the constitutionality of the Act here involved is questioned for purposes thus mentioned, it becomes imperative to examine and resolve the issues raised in the light of the policy of the government towards the non-Christian tribes adopted and consistently followed from the Spanish times to the present, more often with sacrifice and tribulation but always with conscience and humanity.

As early as 1551, the Spanish Government had assumed an unvarying solicitous attitude toward these inhabitants, and in the different laws of the Indies, their concentration in so-called "reducciones" (communities) have been persistently attempted with the end in view of according them the "spiritual and temporal benefits" of civilized life. Throughout the Spanish regime, it had been regarded by the Spanish Government as a sacred "duty to conscience and humanity" to civilize these less fortunate people living "in the obscurity of ignorance" and to accord them the "the moral and material advantages" of community life and the "protection and vigilance afforded them by the same laws." (Decree of the Governor-General of the Philippines, Jan. 14, 1887.) This policy had not been deflected from during the American period. President McKinley in his instructions to the Philippine Commission of April 7, 1900, said:

In dealing with the uncivilized tribes of the Islands, the Commission should adopt the same course followed by Congress in permitting the tribes of our North American Indians to maintain their tribal organization and government, and under which many of those tribes are now living in peace and contentment, surrounded by civilization to which they are unable or unwilling to conform. Such tribal government should, however, be subjected to wise and firm regulation; and, without undue or petty interference, constant and active effort should be exercised to prevent barbarous practices and introduce civilized customs.

Since then and up to the present, the government has been constantly vexed with the problem of determining "those practicable means of bringing about their advancement in civilization and material prosperity." (See, Act No. 253.) "Placed in an alternative of either letting them alone or guiding them in the path of civilization," the present government "has chosen to adopt the latter measure as one more in accord with humanity and with the national conscience." (Memorandum of Secretary of the Interior, quoted in Rubi vs. Provincial Board of Mindoro, 39 Phil., 660, 714.) To this end, their homes and firesides have been brought in contact with civilized communities through a network of highways and communications; the benefits of public education have to them been extended; and more lately, even the right of suffrage. And to complement this policy of attraction and assimilation, the Legislature has passed Act No. 1639 undoubtedly to secure for them the blessings of peace and harmony; to facilitate, and not to mar, their rapid and steady march to civilization and culture. It is, therefore, in this light that the Act must be understood and applied.

It is an established principle of constitutional law that the guaranty of the equal protection of the laws is not equal protection of the laws is not violated by a legislation based on reasonable classification. And the classification, to be reasonable, (1) must rest on substantial distinctions; (2) must be germane to the purposes of the law; (3) must not be limited to existing conditions only; and (4) must apply equally to all members of the same class. (Borgnis vs. Falk Co., 133 N.W., 209; Lindsley vs. Natural Carbonic Gas Co., 220 U.S. 61; 55 Law. ed., Rubi vs. Provincial Board of Mindoro, 39 Phil., 660; People and Hongkong & Shanghai Banking Corporationvs. Vera and Cu Unjieng, 37 Off. Gaz ., 187.)

Act No. 1639 satisfies these requirements. The classification rests on real and substantial, not merely imaginary or whimsical, distinctions. It is not based upon "accident of birth or parentage," as counsel to the appellant asserts, but upon the degree of civilization and culture. "The term 'non-Christian tribes' refers, not to religious belief, but, in a way, to the geographical area, and, more directly, to natives of the Philippine Islands of a low grade of civilization, usually living in tribal relationship apart from settled communities." (Rubi vs. Provincial Board of Mindoro, supra.) This distinction is unquestionably reasonable, for the Act was intended to meet the peculiar conditions existing in the non-Christian tribes. The exceptional cases of certain members thereof who at present have reached a position of cultural equality with their Christian brothers, cannot affect the reasonableness of the classification thus established.

That it is germane to the purposes of law cannot be doubted. The prohibition "to buy, receive, have in his possession, or drink any ardent spirits, ale, beer, wine, or intoxicating liquors of any kind, other than the so-called native wines and liquors which the members of such tribes have been accustomed themselves to make prior to the passage of this Act.," is unquestionably designed to insure peace and order in and among the non-Christian tribes. It has been the sad experience of the past, as the observations of the lower court disclose, that the free use of highly intoxicating liquors by the non-Christian tribes have often resulted in lawlessness and crimes, thereby hampering the efforts of the government to raise their standard of life and civilization.

The law is not limited in its application to conditions existing at the time of its enactment. It is intended to apply for all times as long as those conditions exist. The Act was not predicated, as counsel for appellant asserts, upon the assumption that the non-Christians are "impermeable to any civilizing influence." On the contrary, the Legislature understood that the civilization of a people is a slow process and that hand in hand with it must go measures of protection and security.

Finally, that the Act applies equally to all members of the class is evident from a perusal thereof. That it may be unfair in its operation against a certain number non-Christians by reason of their degree of culture, is not an argument against the equality of its application.

Appellants contends that that provision of the law empowering any police officer or other duly authorized agent of the government to seize and forthwith destroy any prohibited liquors found unlawfully in the possession of any member of the non-Christian tribes is violative of the due process of law provided in the Constitution. But this provision is not involved in the case at bar. Besides, to constitute due process of law, notice and hearing are not always necessary. This rule is especially true where much must be left to the discretion of the administrative officials in applying a law to particular cases. (McGehee, Due Process of Law p. 371, cited with approval in Rubi vs. Provincial Board of Mindoro, supra.) Due process of law means simply: (1) that there shall be a law prescribed in harmony with the general powers of the legislative department of the government; (2) that it shall be reasonable in its operation; (3) that it shall be enforced according to the regular methods of procedure prescribed; and (4) that it shall be applicable alike to all citizens of the state or to all of the class. (U.S. vs. Ling Su Fan, 10 Phil., 104, affirmed on appeal by the United States Supreme Court, 218 U.S., 302: 54 Law. ed., 1049.) Thus, a person's property may be seized by the government in payment of taxes without judicial hearing; or property used in violation of law may be confiscated (U.S. vs. Surla, 20 Phil., 163, 167), or when the property constitutes corpus delicti, as in the instant case (Moreno vs. Ago Chi, 12 Phil., 439, 442).

Neither is the Act an improper exercise of the police power of the state. It has been said that the police power is the most insistent and least limitable of all powers of the government. It has been aptly described as a power co-extensive with self-protection and constitutes the law of overruling necessity. Any measure intended to promote the health, peace, morals, education and good order of the people or to increase the industries of the state, develop its resources and add to its wealth and prosperity (Barbier vs. Connolly, 113 U.S., 27), is a legitimate exercise of the police power, unless shown to be whimsical or capricious as to unduly interfere with the rights of an individual, the same must be upheld.

Act No. 1639, as above stated, is designed to promote peace and order in the non-Christian tribes so as to remove all obstacles to their moral and intellectual growth and, eventually, to hasten their equalization and unification with the rest of their Christian brothers. Its ultimate purpose can be no other than to unify the Filipino people with a view to a greater Philippines.

The law, then, does not seek to mark the non-Christian tribes as "an inferior or less capable race." On the contrary, all measures thus far adopted in the promotion of the public policy towards them rest upon a recognition of their inherent right to equality in tht enjoyment of those privileges now enjoyed by their Christian brothers. But as there can be no true equality before the law, if there is, in fact, no equality in education, the government has endeavored, by appropriate measures, to raise their culture and civilization and secure for them the benefits of their progress, with the ultimate end in view of placing them with their Christian brothers on the basis of true equality. It is indeed gratifying that the non-Christian tribes "far from retrograding, are definitely asserting themselves in a competitive world," as appellant's attorney impressively avers, and that they are "a virile, up-and -coming people eager to take their place in the world's social scheme." As a matter of fact, there are now lawyers, doctors and other professionals educated in the best institutions here and in America. Their active participation in the multifarious welfare activities of community life or in the delicate duties of government is certainly a source of pride and gratification to people of the Philippines. But whether conditions have so changed as to warrant a partial or complete abrogation of the law, is a matter which rests exclusively within the prerogative of the National Assembly to determine. In the constitutional scheme of our government, this court can go no farther than to inquire whether the Legislature had the power to enact the law. If the power exists, and we hold it does exist, the wisdom of the policy adopted, and the adequacy under existing conditions of the measures enacted to forward it, are matters which this court has no authority to pass upon. And, if in the application of the law, the educated non-Christians shall incidentally suffer, the justification still exists in the all-comprehending principle of salus

populi suprema est lex. When the public safety or the public morals require the discontinuance of a certain practice by certain class of persons, the hand of the Legislature cannot be stayed from providing for its discontinuance by any incidental inconvenience which some members of the class may suffer. The private interests of such members must yield to the paramount interests of the nation (Cf. Boston Beer Co. vs. Mass., 97 U.S., 25; 24 law. ed., 989).

Judgment is affirmed, with costs against appellant.

G.R. No. L-23794             February 17, 1968

ORMOC SUGAR COMPANY, INC., plaintiff-appellant, vs.THE TREASURER OF ORMOC CITY, THE MUNICIPAL BOARD OF ORMOC CITY, HON. ESTEBAN C. CONEJOS as Mayor of Ormoc City and ORMOC CITY, defendants-appellees.

Ponce Enrile, Siguion Reyna, Montecillo & Belo and Teehankee, Carreon & Tañada for plaintiff-appellant. Ramon O. de Veyra for defendants-appellees.

BENGZON, J.P., J.:

          On January 29, 1964, the Municipal Board of Ormoc City passed 1 Ordinance No. 4, Series of 1964, imposing "on any and all productions of centrifugal sugar milled at the Ormoc Sugar Company, Inc., in Ormoc City a municipal tax equivalent to one per centum (1%) per export sale to the United States of America and other foreign countries." 2

          Payments for said tax were made, under protest, by Ormoc Sugar Company, Inc. on March 20, 1964 for P7,087.50 and on April 20, 1964 for P5,000, or a total of P12,087.50.

          On June 1, 1964, Ormoc Sugar Company, Inc. filed before the Court of First Instance of Leyte, with service of a copy upon the Solicitor General, a complaint 3 against the City of Ormoc as well as its Treasurer, Municipal Board and Mayor, alleging that the afore-stated ordinance is unconstitutional for being violative of the equal protection clause (Sec. 1[1], Art. III, Constitution) and the rule of uniformity of taxation (Sec. 22[1]), Art. VI, Constitution), aside from being an export tax forbidden under Section 2287 of the Revised Administrative Code. It further alleged that the tax is neither a production nor a license tax which Ormoc City under Section 15-kk of its charter and under Section 2 of Republic Act 2264, otherwise known as the Local Autonomy Act, is authorized to impose; and that the tax amounts to a customs duty, fee or charge in violation of paragraph 1 of Section 2 of Republic Act 2264 because the tax is on both the sale and export of sugar.

          Answering, the defendants asserted that the tax ordinance was within defendant city's power to enact under the Local Autonomy Act and that the same did not violate the afore-cited constitutional limitations. After pre-trial and submission of the case on memoranda, the Court of First Instance, on August 6, 1964, rendered a decision that upheld the constitutionality of the ordinance and declared the taxing power of defendant chartered city broadened by the Local Autonomy Act to include all other forms of taxes, licenses or fees not excluded in its charter.

          Appeal therefrom was directly taken to Us by plaintiff Ormoc Sugar Company, Inc. Appellant alleges the same statutory and constitutional violations in the aforesaid taxing ordinance mentioned earlier.

          Section 1 of the ordinance states: "There shall be paid to the City Treasurer on any and all productions of centrifugal sugar milled at the Ormoc Sugar Company, Incorporated, in Ormoc City, a municipal tax equivalent to one per centum (1%) per export sale to the United States of America and other foreign countries." Though referred to as a tax on the export of centrifugal sugar produced at Ormoc Sugar Company, Inc. For production of sugar alone is not taxable; the only time the tax applies is when the sugar produced is exported.

          Appellant questions the authority of the defendant Municipal Board to levy such an export tax, in view of Section 2287 of the Revised Administrative Code which denies from municipal councils the power to impose an export tax. Section 2287 in part states: "It shall not be in the power of the municipal council to impose a tax in any form whatever, upon goods and merchandise carried into the municipality, or out of the same, and any attempt to impose an import or export tax upon such goods in the guise of an unreasonable charge for wharfage use of bridges or otherwise, shall be void."

          Subsequently, however, Section 2 of Republic Act 2264 effective June 19, 1959, gave chartered cities, municipalities and municipal districts authority to levy for public purposes just and uniform taxes, licenses or fees. Anent the inconsistency between Section 2287 of the Revised Administrative Code and Section 2 of Republic Act 2264, this Court, in Nin

Bay Mining Co. v. Municipality of Roxas 4 held the former to have been repealed by the latter. And expressing Our awareness of the transcendental effects that municipal export or import taxes or licenses will have on the national economy, due to Section 2 of Republic Act 2264, We stated that there was no other alternative until Congress acts to provide remedial measures to forestall any unfavorable results.

          The point remains to be determined, however, whether constitutional limits on the power of taxation, specifically the equal protection clause and rule of uniformity of taxation, were infringed.

          The Constitution in the bill of rights provides: ". . . nor shall any person be denied the equal protection of the laws." (Sec. 1 [1], Art. III) In Felwa vs. Salas, 5 We ruled that the equal protection clause applies only to persons or things identically situated and does not bar a reasonable classification of the subject of legislation, and a classification is reasonable where (1) it is based on substantial distinctions which make real differences; (2) these are germane to the purpose of the law; (3) the classification applies not only to present conditions but also to future conditions which are substantially identical to those of the present; (4) the classification applies only to those who belong to the same class.

          A perusal of the requisites instantly shows that the questioned ordinance does not meet them, for it taxes only centrifugal sugar produced and exported by the Ormoc Sugar Company, Inc. and none other. At the time of the taxing ordinance's enactment, Ormoc Sugar Company, Inc., it is true, was the only sugar central in the city of Ormoc. Still, the classification, to be reasonable, should be in terms applicable to future conditions as well. The taxing ordinance should not be singular and exclusive as to exclude any subsequently established sugar central, of the same class as plaintiff, for the coverage of the tax. As it is now, even if later a similar company is set up, it cannot be subject to the tax because the ordinance expressly points only to Ormoc City Sugar Company, Inc. as the entity to be levied upon.

          Appellant, however, is not entitled to interest; on the refund because the taxes were not arbitrarily collected (Collector of Internal Revenue v. Binalbagan). 6 At the time of collection, the ordinance provided a sufficient basis to preclude arbitrariness, the same being then presumed constitutional until declared otherwise.

          WHEREFORE, the decision appealed from is hereby reversed, the challenged ordinance is declared unconstitutional and the defendants-appellees are hereby ordered to refund the P12,087.50 plaintiff-appellant paid under protest. No costs. So ordered.

G.R. No. 127410 January 20, 1999CONRADO L. TIU, JUAN T. MONTELIBANO JR. and ISAGANI M. JUNGCO, petitioners, vs.COURT OF APPEALS, HON. TEOFISTO T. GUINGONA JR., BASES CONVERSION AND DEVELOPMENT AUTHORITY, SUBIC BAY METROPOLITAN AUTHORITY, BUREAU OF INTERNAL REVENUE, CITY TREASURER OF OLONGAPO and MUNICIPAL TREASURER OF SUBIC, ZAMBALES, respondents. PANGANIBAN, J.:

The constituttional rights to equal protection of the law is not violated by an executive order, issued pursuant to law, granting tax and duty incentives only to the bussiness and residents within the "secured area" of the Subic Special Econimic Zone and denying them to those who live within the Zone but outside such "fenced-in" territory. The Constitution does not require absolute equality among residents. It is enough that all persons under like circumstances or conditions are given the same privileges and required to follow the same obligations. In short, a classification based on valid and reasonable standards does not violate the equal protection clause.

The Case

Before us is a petition for review under Rule 45 of the Rules of Court, seeking the reversal of the Court of Appeals' Decision 1 promulgated on August 29, 1996, and Resolution 2 dated November 13, 1996, in CA-GR SP No. 37788. 3 The challenged Decision upheld the constitutionality and validity of Executive Order No. 97-A (EO 97-A), according to which the grant and enjoyment of the tax and duty incentives authorized under Republic Act No. 7227 (RA 7227) were limited to the business enterprises and residents within the fenced-in area of the Subic Special Economic Zone (SSEZ).

The assailed Resolution denied the petitioners' motion for reconsideration.

On March 13, 1992, Congress, with the approval of the President, passed into law RA 7227 entitled "An Act Accelerating the Conversion of Military Reservations Into Other Productive Uses, Creating the Bases Conversion and Development Authority for this Purpose, Providing Funds Therefor and for Other Purposes." Section 12 thereof created the Subic Special Economic Zone and granted there to special privileges, as follows:

Sec. 12. Subic Special Economic Zone. — Subject to the concurrence by resolution of thesangguniang panlungsod of the City of Olongapo and the sangguniang bayan of the Municipalities of Subic, Morong and Hermosa, there is hereby created a Special Economic and Free-port Zone consisting of the City of Olongapo and the Municipality of Subic, Province of Zambales, the lands occupied by the Subic Naval Base and its contiguous extensions as embraced, covered, and defined by the 1947 Military Bases Agreement between the Philippines and the United States of America as amended, and within the territorial jurisdiction of the Municipalities of Morong and Hermosa, Province of Bataan, hereinafter referred to as the Subic Special Economic Zone whose metes and bounds shall be delineated in a proclamation to be issued by the President of the Philippines. Within thirty (30) days after the approval of this Act, each local government unit shall submit its resolution of concurrence to join the Subic Special Economic Zone to the Office of the President. Thereafter, the President of the Philippines shall issue a proclamation defining the metes and bounds of the zone as provided herein.

The abovementioned zone shall be subject to the following policies:

(a) Within the framework and subject to the mandate and limitations of the Constitution and the pertinent provisions of the Local Government Code, the Subic Special Economic Zone shall be developed into a self-sustaining, industrial, commercial, financial and investment center to generate employment opportunities in and around the zone and to attract and promote productive foreign investments;

(b) The Subic Special Economic Zone shall be operated and managed as a separate customs territory ensuring free flow or movement of goods and capital within, into and exported out of the Subic Special Economic Zone, as well as provide incentives such as tax and duty-free importations of raw materials, capital and equipment. However, exportation or removal of goods from the territory of the Subic Special

Economic Zone to the other parts of the Philippine territory shall be subject to customs duties and taxes under the Customs and Tariff Code and other relevant tax laws of the Philippines;

(c) The provision of existing laws, rules and regulations to the contrary notwithstanding, no taxes, local and national, shall be imposed within the Subic Special Economic Zone. In lieu of paying taxes, three percent (3%) of the gross income earned by all businesses and enterprises within the Subic Special Economic Zone shall be remitted to the National Government, one percent (1%) each to the local government units affected by the declaration of the zone in proportion to their population area, and other factors. In addition, there is hereby established a development fund of one percent (1%) of the gross income earned by all businesses and enterprises within the Subic Special Economic Zone to be utilized for the development of municipalities outside the City of Olongapo and the Municipality of Subic, and other municipalities contiguous to the base areas.

In case of conflict between national and local laws with respect to tax exemption privileges in the Subic Special Economic Zone, the same shall be resolved in favor of the latter;

(d) No exchange control policy shall be applied and free markets for foreign exchange, gold, securities and future shall be allowed and maintained in the Subic Special Economic Zone;

(e) The Central Bank, through the Monetary Board, shall supervise and regulate the operations of banks and other financial institutions within the Subic Special Economic Zone;

(f) Banking and finance shall be liberalized with the establishment of foreign currency depository units of local commercial banks and offshore banking units of foreign banks with minimum Central Bank regulation;

(g) Any investor within the Subic Special Economic Zone whose continuing investment shall not be less than two hundred fifty thousand dollars ($250,000), his/her spouse and dependent children under twenty-one (21) years of age, shall be granted permanent resident status within the Subic Special Economic Zone. They shall have the freedom of ingress and egress to and from the Subic Special Economic Zone without any need of special authorization form the Bureau of Immigration and Deportation. The Subic Bay Metropolitan Authority referred to in Section 13 of this Act may also issue working visas renewable every two (2) years to foreign executives and other aliens possessing highly technical skills which no Filipino within the Subic Special Economic Zone possesses, as certified by the Department of Labor and Employment. The names of aliens granted permanent residence status and working visas by the Subic Bay Metropolitan Authority shall be reported to the Bureau of Immigration and Deportation within thirty (30) days after issuance thereof;

(h) The defense of the zone and the security of its perimeters shall be the responsibility of the National Government in coordination with the Subic Bay Metropolitan Authority. The Subic Bay Metropolitan Authority shall provide and establish its own security and fire-fighting forces; and

(i) Except as herein provided, the local government units comprising the Subic Special Economic Zone shall retain their basic autonomy and identity. The cities shall be governed by their respective charters and the municipalities shall operate and function in accordance with Republic Act No. 7160, otherwise known as the Local Government Code of 1991.

On June 10, 1993, then President Fidel V. Ramos issued Executive Order No. 97 (EO 97), clarifying the application of the tax and duty incentives thus:

Sec. 1. On Import Taxes and Duties. — Tax and duty-free importations shall apply only to raw materials, capital goods and equipment brought in by business enterprises into the SSEZ. Except for these items, importations of other goods into the SSEZ, whether by business enterprises or resident individuals, are subject to taxes and duties under relevant Philippine laws.

The exportation or removal of tax and duty-free goods from the territory of the SSEZ to other parts of the Philippine territory shall be subject to duties and taxes under relevant Philippine laws.

Sec. 2. On All Other Taxes. — In lieu of all local and national taxes (except import taxes and duties), all business enterprises in the SSEZ shall be required to pay the tax specified in Section 12(c) of R.A. No. 7227.

Nine days after, on June 19, 1993, the President issued Executive Order No. 97-A (EO 97-A), specifying the area within which the tax-and-duty-free privilege was operative, viz.:

Sec. 1.1. The Secured Area consisting of the presently fenced-in former Subic Naval Base shall be the only completely tax and duty-free area in the SSEFPZ [Subic Special Economic and Free Port Zone]. Business enterprises and individuals (Filipinos and foreigners) residing within the Secured Area are free to import raw materials, capital goods, equipment, and consumer items tax and duty-free. Consumption items, however, must be consumed within the Secured Area. Removal of raw materials, capital goods, equipment and consumer items out of the Secured Area for sale to non-SSEFPZ registered enterprises shall be subject to the usual taxes and duties, except as may be provided herein.

On October 26, 1994, the petitioners challenged before this Court the constitutionality of EO 97-A for allegedly being violative of their right to equal protection of the laws. In a Resolution dated June 27, 1995, this Court referred the matter to the Court of Appeals, pursuant to Revised Administrative Circular No. 1-95.

Incidentally, on February 1, 1995, Proclamation No. 532 was issued by President Ramos. It delineated the exact metes and bounds of the Subic Special Economic and Free Port Zone, pursuant to Section 12 of RA 7227.

Ruling of the Court of Appeals

Respondent Court held that "there is no substantial difference between the provisions of EO 97-A and Section 12 of RA 7227. In both, the 'Secured Area' is precise and well-defined as '. . . the lands occupied by the Subic Naval Base and its contiguous extensions as embraced, covered and defined by the 1947 Military Bases Agreement between the Philippines and the United States of America, as amended . . .'" The appellate court concluded that such being the case, petitioners could not claim that EO 97-A is unconstitutional, while at the same time maintaining the validity of RA 7227.

The court a quo also explained that the intention of Congress was to confine the coverage of the SSEZ to the "secured area" and not to include the "entire Olongapo City and other areas mentioned in Section 12 of the law." It relied on the following deliberarions in the Senate:

Senator Paterno. Thank you, Mr. President. My first question is the extent of the economic zone. Since this will be a free port, in effect, I believe that it is important to delineate or make sure that the delineation will be quite precise[. M]y question is: Is it the intention that the entire of Olongapo City, the Municipality of Subic and the Municipality of Dinalupihan will be covered by the special economic zone or only portions thereof?

Senator Shahani. Only portions, Mr. President. In other words, where the actual operations of the free port will take place.

Senator Paterno. I see. So, we should say, "COVERING THE DESIGNATED PORTIONS OR CERTAIN PORTIONS OF OLONGAPO CITY, SUBIC AND DINALUPIHAN" to make it clear that it is not supposed to cover the entire area of all of these territories.

Senator Shahani. So, the Gentleman is proposing that the words "CERTAIN AREAS". . .

The President. The Chair would want to invite the attention of the Sponsor and Senator Paterno to letter "C," which says: "THE PRESIDENT OF THE PHILIPPINES IS HEREBY AUTHORIZED TO PROCLAIM, DELINEATE AND SPECIFY THE METES AND BOUNDS OF OTHER SPECIAL ECONOMIC ZONES WHICH MAY BE CREATED IN THE CLARK MILITARY RESERVATIONS AND ITS EXTENSIONS."

Probably, this provision can be expanded since, apparently, the intention is that what is referred to in Olongapo as Metro Olongapo is not by itself ipso jure already a special economic zone.

Senator Paterno. That is correct.

The President. Someone, some authority must declare which portions of the same shall be the economic zone. Is it the intention of the author that it is the President of the Philippines who will make such delineation?

Senator Shahani. Yes Mr. President.

The Court of Appeals further justified the limited application of the tax incentives as being within the prerogative of the legislature, pursuant to its "avowed purpose [of serving] some public benefit or interest." It ruled that "EO 97-A merely implements the legislative purpose of [RA 7227]."

Disagreeing, petitioners now seek before us a review of the aforecited Court of Appeals Decision and Resolution.

The Issue

Petitioners submit the following issue for the resolution of the Court:

[W]hether or not Executive Order No. 97-A violates the equal protection clause of the Constitution. Specifically the issue is whether the provisions of Executive Order No. 97-A confining the application of R.A. 7227 within the secured area and excluding the residents of the zone outside of the secured area is discriminatory or not. 4

The Court's Ruling

The petition 5 is bereft of merit.

Main Issue:

The Constitionality of EO 37-A

Citing Section 12 of RA 7227, petitioners contend that the SSEZ encompasses (1) the City of Olongapo, (2) the Municipality of Subic in Zambales, and (3) the area formerly occupied by the Subic Naval Base. However, EO 97-A, according to them, narrowed down the area within which the special privileges granted to the entire zone would apply to the present "fenced-in former Subic Naval Base" only. It has thereby excluded the residents of the first two components of the zone from enjoying the benefits granted by the law. It has effectively discriminated against them without reasonable or valid standards, in contravention of the equal protection guarantee.

On the other hand, the solicitor general defends, on behalf of respondents, the validity of EO 97-A, arguing that Section 12 of RA 7227 clearly vests in the President the authority to delineate the metes and bounds of the SSEZ. He adds that the issuance fully complies with the requiretnents of a valid classification.

We rule in favor of the constitutionality and validity of the assailed EO. Said Order is not violative of the equal protection clause; neither is it discriminatory. Rather, than we find real and substantive distinctions between the circumstances obtain;ng inside and those outside the Subic Naval Base, thereby justifying a valid and reasonable classification.

The fundamental right of equal protection of the laws is not absolute, but is subject to reasonable classification. If the groupings are characterized by substantial distinctions that make real differences, one class may be treated and regulated differently from another. 6 The classification must also be germane to the purpose of the law and must apply to all those belonging to the same class. Explaining the nature of the equal protection guarantee, the Court in Ichong v. Hernandez 8 said:

The equal protection of the law clause is against undue favor and individual or class privilege, as well as hostile discrimination or the oppression of inequality. It is not intended to prohibit legislation which is limited either [by] the object to which it is directed or by [the] territory within which it is to operate. It does not demand absolute equality among residents; it merely requires that all persons shall be treated alike, under like circumstances and conditions both as to privileges conferred and liabilities enforced. The equal protection clause is not infringed by legislation which applies only to those persons falling within a specified class, if it applies alike to all persons within such class, and reasonable. grounds exist for making a distinction between those who fall within such class and those who do not.

Classification, to be valid, must (1) rest on substantial distinctions, (2) be germane to the purpose of the law, (3) not be limited to existing conditions only, and (4) apply equally to all members of the same class. 9

We first determine the purpose of the law. From the very title itself, it is clear that RA 7227 aims primarily toaccelerate the conversion of military reservations into productive uses. Obviously, the "lands covered under the 1947 Military Bases Agreement" are its object. Thus, the law avows this policy:

Sec. 2. Declaration of Policies. — It is hereby declared the policy of the Government to accelerate the sound and balanced conversion into alternative productive uses of the Clark and Subic military reservations and their extensions (John Hay Station, Wallace Air Station, O'Donnell Transmitter Station, San Miguel Naval Communications Station and Capas Relay Station), to raise funds by the sale of portions of Metro Manila military camps, and to apply said funds as provided herein for the development and conversion to productive civilian use of the lands covered under the 1947 Military Bases Agreement between the Philippines and the United States of America, as amended.

To undertake the above objectives, the same law created the Bases Conversion and Development Authority, some of whose relevant defined purposes are:

(b) To adopt, prepare and implement a comprehensive and detailed development plan embodying a list of projects including but not limited to those provided in the Legislative-Executive Bases Council (LEBC) framework plan for the sound and balanced conversion of the Clark and Subic military reservations and their extensions consistent with ecological and environmental standards, into other productive uses to promote the economic and social development of Central Luzon in particular and the country in general;

(c). To encourage the active participation of the private sector in transforming the Clark and Subic military reservations and their extensions into other productive uses;

Further, in creating the SSEZ, the law declared it a policy to develop the zone into a "self-sustaining, industrial, commercial, financial and investment center." 10

From the above provisions of the law, it can easily be deduced that the real concern of RA 7227 is to convert the lands formerly occupied by the US military bases into economic or industrial areas. In furtherance of such objective, Congress deemed it necessary to extend economic incentives to attract and encourage investors, both local and foreign. Among such enticements are: 11 (1) a separate customs territory within the zone, (2)

tax-and-duty-free importation's, (3) restructured income tax rates on business enterprises within the zone, (4) no foreign exchange control, (5) liberalized regulations on banking and finance, and (6) the grant of resident status to certain investors and of working visas to certain foreign executives and workers .

We believe it was reasonable for the President to have delimited the application of some incentives to the confines of the former Subic military base. It is this specific area which the government intends to transform and develop from its status quo ante as an abandoned naval facility into a self-sustaining industrial and commercial zone, particularly for big foreign and local investors to use as operational bases for their businesses and industries. Why the seeming bias for the big investors? Undeniably, they are the ones who can pour huge investments to spur economic growth in the country and to generate employment opportunities for the Filipinos, the ultimate goals of the government for such conversion. The classification is, therefore, germane to the purposes of the law. And as the legal maxim goes, "The intent of a statute is the law." 12

Certainly, there are substantial differences between the big investors who are being lured to establish and operate their industries in the so-called "secured area" and the present business operators outside the area. On the one hand, we are talking of billion-peso investments and thousands of new, jobs. On the other hand, definitely none of such magnitude. In the first, the economic impact will be national; in the second, only local. Even more important, at this time the business activities outside the "secured area" are not likely to have any impact in achieving the purpose of the law, which is to turn the former military base to productive use for the benefit of the Philippine economy. There is, then, hardly any reasonable basis to extend to them the benefits and incentives accorded in RA 7227. Additionally, as the Court of Appeals pointed out, it will be easier to manage and monitor the activities within the "secured area," which is already fenced off, to prevent "fraudulent importation of merchandise" or smuggling.

It is well-settled that the equal-protection guarantee does not require territorial uniformity of laws. 13 As long as there are actual and material differences between territories, there is no violation of the constitutional clause. And of course, anyone, including the petitioners, possessing the requisite investment capital can always avail of the same benefits by channeling his or her resources or business operations into the fenced-off free port zone.

We believe that the classification set forth by the executive issuance does not apply merely to existing conditions. As laid down in RA 7227, the objective is to establish a "self-sustaining, industrial, commercial, financial and investment center" in the area. There will, therefore, be a long-term difference between such investment center and the areas outside it.

Lastly, the classification applies equally to all the resident individuals and businesses within the "secured area." The residents, being in like circumstances or contributing directly to the achievement of the end purpose of the law, are not categorized further. Instead, they are all similarly treated, both in privileges granted and in obligations required.

All told, the Court holds that no undue favor or privilege was extended. The classification occasioned by EO 97-A was not unreasonable, capricious or unfounded. To repeat, it was based, rather, on fair and substantive considerations that were germane to the legislative purpose.

WHEREFORE, the petition is DENIED for lack of merit. The assailed Decision and Resolution are hereby AFFIRMED. Costs against petitioners.1âwphi1.nêt

SO ORDERED.