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VOL. 21, SEPTEMBER 5, 1967 17

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

No. L-22492. September 5, 1967.

BASILAN ESTATES,INC., petitioner, vs. THE

COMMISSIONER OF INTERNAL REVENUE and THE
COURT OFTAX APPEALS, respondents.

Income tax; Notice of assessment, when deemed made.—Under

Section 331 of the Tax Code requiring 5 years within which to
assess deficiency taxes, the assessment is deemed made when
notice to this effect is released, mailed or sent by the Collector of
Internal Revenue to the taxpayer, and it is not required that the
notice be received by the taxpayer within the aforementioned 5-
year period.
Same; Depreciation; Definition,—Depreciation is the gradual
diminution in the useful value of tangible property resulting from
wear and tear and normal obsolescence. The term is also applied
to amortization of the value of intangible assets, the use of which
in the trade or business is definitely limited in duration.

_________________

7 See Exhibit 1 (the daily shipping list) and Exhibit 8 (certificate of quality
and weight issued by the General Superintendence Co.).

8 Rizal Surety & Insurance Co. v. Court of Appeals, L-23728, May 16, 1967.

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18 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

Same; Same; When depreciation commences.—Depreciation

commences with the acquisition of the property and its owner is
not bound to see his property gradually waste, without making
provision out of earnings for its replacement. It is entitled to see
that from earnings the value of the property invested is kept -
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unimpaired, so that at the end of any given term of years, the

original investment remains as it was in the beginning. It is not
only the right of a company to make such a provision, but it is its
duty to its bond and stockholders, and, in the case of a public
service corporation, at least, its plain duty to the public.
Accordingly, the law permits the taxpayer to recover gradually his
capital investment in wasting assets free from tax. Precisely,
Section 30(f) (1) of the Tax Code allows a deduction from gross
income for depreciation but limits the recovery to the capital
invested in the asset being depreciated.
Same; Same; Basis of depreciation.—The income tax law does
not authorize the depreciation of an asset beyond its acquisition
cost. Hence, a deduction over and above cost cannot be claimed
and allowed. The reason is that deductions from gross income are
privileges, not matters of right. They are not created by
implication but upon clear expression in the law. Moreover, the
recovery, free of income tax, of an amount more than the invested
capital in an asset will transgress the underlying purpose of a
depreciation allowance. For then what the taxpayer would recover
will be, not only the acquisition cost, but also some profit.
Recovery in due time through depreciation of investment made is
the philosophy behind depreciation allowance; the idea of profit on
the investment made has never been the underlying reason for
the allowance of a deduction for depreciation.
Same; Travelling expenses; Period within which to keep
supporting papers; Case at bar.—Under Section 337 of the
National Internal Revenue Code, receipts and papers supporting
travelling expenses need be kept by the taxpayer for a period of
five years from the last entry.
Same; Surtax on unreasonably accumulated profits; Test to
determine reasonableness of accumulation of profits.—Persuasive
jurisprudence on the matter, such as those in the United States
from where our tax law is derived, has it that: “In order to
determine whether profits were accumulated for the reasonable
needs of the business or to avoid the surtax upon shareholders,
the controlling intention of the taxpayer is that which manifested
at the time of the accumulation, not subsequently declared
intentions which are merely the products of afterthought. In
determining whether accumulations of earnings or profits in a
particular year are within the reasonable needs of a corporation,
it is necessary to take into account prior accumulations, since
accumulations prior to the year involved may have been sufficient

19

VOL. 21, SEPTEMBER 5, 1967 19

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Basilan Estates, Inc. vs. Commissioner of Internal Revenue

o cover the business needs and additional accumulations during

the year involved would not reasonably be necessary.”

APPEAL from a decision of the Court of Tax Appeals.

The facts are stated in the decision of the Court.

     Felix A. Gulfin and Antonio S. Alano for petitioner.
     Solicitor General for respondents.

BENGZON, J.P., J.:

A Philippine corporation engaged in the coconut industry,

Basilan Estates, Inc., with principal offices in Basilan City,
filed on March 24, 1954 its income tax returns for 1953 and
paid an income tax of P8,028. On February 26, 1959, the
Commissioner of Internal Revenue, per examiners’ report
of February 19, 1959, assessed Basilan Estates, Inc., a
deficiency income tax of P3,912 for 1953 and P86,876.85 as
25% surtax on unreasonably accumulated profits as of 1953
pursuant to Section 25 of the Tax Code. On non-payment of
the assessed amount, a warrant of distraint and levy was
issued but the same was not executed because Basilan
Estates, Inc. succeeded in getting the Deputy
Commissioner of Internal Revenue to order the Director of
the district in Zamboanga City to hold execution and
maintain constructive embargo instead. Because of its
refusal to waive the period of prescription, the corporation’s
request for reinvestigation was not given due course, and
on December 2, 1960, notice was served the corporation
that the warrant of distraint and levy would be executed.
On December 20, 1960, Basilan Estates, Inc. filed before
the Court of Tax Appeals a petition for review of the
Commissioner’s assessment, alleging prescription of the
period for assessment and collection; error in disallowing
claimed depreciations, travelling and miscellaneous
expenses; and error in finding the existence of
unreasonably accumulated profits and the imposition of
25% surtax thereon. On October 31, 1963, the Court of Tax
Appeals found that there was no prescription and affirmed
the deficiency assessment in toto.
On February 21, 1964, the case was appealed to Us by
the taxpayer, upon the following issues:

1. Has the Commissioner’s right to collect deficiency

income tax prescribed?

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20 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

2. Was the disallowance of items claimed as

deductible proper?
3. Have there been unreasonably accumulated profits?
If so, should the 25% surtax be imposed on the
balance of the entire surplus from 1947-1953, or
only for 1953?
4, Is the petitioner exempt from the penalty tax under
Republic Act 1823 amending Section 25 of the Tax
Code?

PRESCRIPTION

There is no dispute that the assessment of the deficiency

tax was made on February 26, 1959; but the petitioner
claims that it never received notice of such assessment or if
it did, it received the notice beyond the five-year
prescriptive period. To show prescription, the annotation
on the notice (Exhibit 10, No. 52, ACR, p. 54-A of the BIR
records) “No accompanying letter 11/25/” is advanced as
indicative of the fact that receipt of the notice was after
March 24, 1959, the last date of the five-year period within
which to assess deficiency tax, since the original returns
were filed on March 24, 1954.
Although the evidence is not clear on this point, We
cannot accept this interpretation of the petitioner,
considering the presence of circumstances that lead Us to
presume regularity in the performance of official functions.
The notice of assessment shows the assessment to have
been made on February 26, 1959, well within the five-year
period. On the right side of the notice is also stamped “Feb.
26, 1959”—denoting the date of release, according to
Bureau of Internal Revenue practice. The Commissioner
himself in his letter (Exh. H, p. 84 of BIR records)
answering petitioner’s request to lift the warrant of
distraint and levy, asserts that notice had been sent to
petitioner. In the letter of the Regional Director forwarding
the case to the Chief of the Investigation Division which
the latter received on March 10, 1959 (p. 71 of the BIR
records), notice of assessment was said to have been sent to
petitioner. Subsequently, the Chief of the Investigation
Division indorsed on March 18, 1959 (p. 24 of the

21

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VOL. 21, SEPTEMBEB 5, 1967 21

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

BIR records) the case to the Chief of the Law Division,

There it was alleged that notice was already seat to
petitioner on February 26, 1959. These circumstances
pointing to official performance of duty must necessarily
prevail over petitioner’s contrary interpretation, Besides,
even granting that notice had been received by the
petitioner late, as alleged, under Section 331 of the Tax
Code requiring five years within which to assess deficiency
taxes, the assessment is deemed made when notice to this
effect is released, mailed or sent by the Collector to the
taxpayer and it is not required that the notice be received
by the1 taxpayer within the aforementioned five-year
period,

ASSESSMENT

The questioned assessment is as follows:

       Net Income per return P40,142.90
.................................
       Add: Overclaimed P10,500.49  
depreciation ..................
       Mis. expenses disallowed 6,750.17  
.......................
    Officer’s travelling 2,300,40 19,560.06
expends disallowed ..
    Net Income per Investigation P59,702.96
......................................
    20% tax on 159,702.96 .................. 11,940.00
    Less: Tax already assessed .............. 8,028.00
    Deficiency income tax........................ P 3,912.00
    Add: Additional tax of 25% on 86,876.75
P347,507.01........................................
    Tax Due & Collectible P90,788.75
........................
The Commissioner disallowed:
       Overclaimed depreciation   P10,500.49
.......................
       Miscellaneous   6,759.17
expenses.................................

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       Officer’s travelling   2,300.40

expenses.......................

DEDUCTIONS

A. Depreciation.—Basilan Estates, Inc. claimed deductions

for the depreciation of its assets up to 1949 on

________________

1 Collector of Internal Revenue v. Bautista, L-12250 & L-12259, May

27, 1959.

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22 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

the basis of their acquisition cost. As of January 1, 1950 it

changed the depreciable value of said assets by increasing
it to conform with the increase in cost for their
replacement. Accordingly, from 1950 to 1953 it deducted
from gross income the value of depreciation computed on
the reappraised value.
In 1953, the year involved in this case, taxpayer claimed
the following depreciation deduction:

Reappraised assets ......................................... P47,342.53

New assets consisting of hospital building and 3,910.45
equipment .........................................
Total depreciation____ .................................. P51,252.98

Upon investigation and examination of taxpayer’s books

and papers, the Commissioner of Internal Revenue found
that the reappraised assets depreciated in 1953 were the
same ones upon which depreciation was claimed in 1952.
And for the year 1952, the Commissioner had already
determined, with taxpayer’s concurrence, the depreciation
allowable on said assets to be P36,842.04, computed on
their acquisition cost at rates fixed by the taxpayer. Hence,
the Commissioner pegged the deductible depreciation for
1953 on the same old assets at P36,842.04 and disallowed
the excess thereof in the amount of P10,500.49.
The question for resolution therefore is whether
depreciation shall be determined on the acquisition cost or
on the reappraised value of the assets.
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Depreciation is the gradual diminution in the useful

value of tangible property resulting from wear and tear and
normal obsolescense. The term is also applied to
amortization of the value of intangible assets, the use of
which in2 the trade or business is definitely limited in
duration. Depreciation commences with the acquisition of
the property and its owner is not bound to see his property
gradually waste, without making provision out of earnings
for its replacement. It is entitled to see that from earnings
the value of the property invested is kept unimpaired,

_______________

2 Jose Arañas, Annotations and Jurisprudence on the National Internal

Revenue Code, As Amended, Second Ed., Vol. I, p. 263.

23

VOL. 21, SEPTEMBER 5, 1967 23

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

so that at the end of any given term of years, the original

investment remains as it was in the beginning. It is not
only the right of a company to make such a provision, but it
is its duty to its bond and stockholders, and, in the case of a
public 3service corporation, at least, its plain duty to the
public. Accordingly, the law permits the taxpayer to
recover gradually his capital
4
investment in wasting assets
free from income tax. Precisely, Section 30(f)(1) which
states:

“(1) In general.—A reasonable allowance for deterioration of

property arising out of its use or employment in the business or
trade, or out of its not being used: Provided, That when the
allowance authorized under this subsection shall equal the capital
invested by the taxpayer x x x no further allowance shall be made.
x x x”

allows a deduction from gross income for depreciation but

limits the recovery to the capital invested in the asset being
depreciated.
The income tax law does not authorize the depreciation
of an asset beyond its acquisition cost. Hence, a deduction
over and above such cost cannot be claimed and allowed.
The reason 5
is that deductions6 from gross income are
privileges, not matters of right. They are not 7created by
implication but upon clear expression in the law.

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Moreover, the recovery, free of income tax, of an amount

more than the invested capital in an asset will transgress
the underlying purpose of a depreciation allowance. For
then what the taxpayer would recover will be, not only the
acquisition cost, but also some profit. Recocovery in due
time thru depreciation of investment made

_______________

3 Knoxville v. Knoxville Water Co., 212 U.S. 1, 53 L. ed. 371.

4 Detroit Edison Co. v. Commissioner, 131 F (2d) 619 (CCA 6th, 1942),
Aff’d 319 U.S. 98, 87 L. ed. 1286, 63 S. Ct. 902.
5 Palmer v. State Commission of Revenue & Taxation, 156 Kan. 690,
135 P 2d 899.
6 Southern Weaving Co. v. Query, 206 SC 307, 34 SE 2d 51.
7 See Gutierrez v. Collector of Internal Revenue, L-19537, May 20,
1965.

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24 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

is the philosophy behind depreciation allowance; the idea of

profit on the investment made has never been the
underlying reason for the allowance of a deduction for
depreciation.
Accordingly, the claim for depreciation beyond
P36,-842.04 or in the amount of P10,500.49 has no
justification in the law. The determination, therefore, of the
Commissioner of Internal Revenue disallowing said
amount, affirmed by the Court of Tax Appeals, is
sustained.
B. Expenses.—The next item involves disallowed
expenses incurred in 1953, broken as follows:

Miscellaneous expenses ................................ P 6,759.17

Officer’s travelling expenses .................. 2,300.40
Total .................................................. P 9,059.57     

These were disallowed on the ground that the nature of

these expenses could not be satisfactorily explained nor
could the same be supported by appropriate paper.
Felix Gulfin, petitioner’s accountant, explained the
P6,759.17 was actual expenses credited to the account of
the president of the corporation incurred in the interest of
the corporation during the president’s trip to Manila (pp.
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33-34 of TSN of Dec, 5, 1962); he stated that the P2,300.40

was the president’s travelling expenses to and from Manila;
as to the vouchers and receipts of these, he said the same
were made but got burned during the Basilan fire on
March 30, 1962 (p. 40 of same TSN). Petitioner further
argues that when it sent its records to Manila in February,
1959, the papers in support of these miscellaneous and
travelling expanses ware not included for the reason that
by February 9, 1959, when the Bureau of Internal Revenue
decided to investigate, petitioner had no more obligation to
keep the same since five years had lapsed from the time
these expenses were incurred (p. 41 of same TSN). On this
ground, the petitioner may be sustained, for under Section
337 of the Tax Code, receipts and papers supporting such
expenses need be kept by the taxpayer for a period of five
years from the last entry. At the time of the investigation,
said five years had lapsed. Taxpayer’s stand on this issue is
therefore sustained.
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VOL. 21, SEPTEMBER 5, 1967 25

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

UNREASONABLY ACCUMULATED PROFITS

Section 25 of the Tax Code which imposes a surtax on

profits unreasonably accumulated, provides:

"SEC. 25. Additional tax on corporations improperly accumulating

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

The Commissioner found that in violation of the above-

quoted section, petitioner had unreasonably accumulated
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profits as of 1953 in the amount of P347,507.01, based on

the following circumstances (Examiner's Report pp. 62-68
of BIR records):

1. Strong financial position of the petitioner as of

December 31, 1953. Assets were P388,617.00 while
the liabilities amounted to only P61,117.31 or a
ratio of 6:1.
2. As of 1953, the corporation had considerable capital
adequate to meet the reasonable needs of the
business amounting to P327,499.69 (assets less
liabilities).
3. The P200,000 reserved for electrification of drier
and mechanization and the P50,000 reserved for
malaria control were reverted to its surplus in
1953.
4. Withdrawal by shareholders, of large sums of
money as personal loans.
5. Investment of undistributed earnings in assets
having no proximate connection with the business
—as hospital building and equipment worth
P59,794.72.
6. In 1953, with an increase of surplus amounting to
P677,232.01, the capital stock was increased to
P500,000 although there was no need for such
increase.

Petitioner tried to show that in considering the surplus, the

examiner did not take into account the possible expenses

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26 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

for cultivation, labor, fertilization, drainage, irrigation,

repair, etc. (pp. 235-237 of TSN of Dec. 7, 1962). As aptly
answered by the examiner himself, however, they were
already included as part of the working capital (pp. 237-238
of TSN of Dec. 7, 1962).
In the unreasonable accumulation of P347,507.01 are
included P200,000 for electrification of driers and
mechanization and P50,000 for malaria control which were
reserved way back in 1948 (p. 67 of the BIR records) but
reverted to the general fund only in 1953. If there were any
plans for these amounts to be used in further expansion
through projects, it did not appear in the records as was
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properly indicated in 1948 when such amounts were

reserved. Thus, while in 1948 it was already clear that the
money was intended to go to future projects, in 1953 upon
reversion to the general fund, no such intention was shown.
Such reversion therefore gave occasion for the Government
to consider the same for tax purposes. The P250,000
reverted to the general fund was sought to be explained as
later used elsewhere: “part of it in the Hilano Industries,
Inc. in building the factory site and buildings to house
technical men xxx part of it was spent in the facilities for
the waterworks system and for industrialization of the
coconut industry” (p. 117 of TSN of Dec. 6, 1962). This is
not sufficient explanation. Persuasive jurisprudence on the
matter such as those 8in the United States from where our
tax law was derived, has it that: “In order to determine
whether profits were accumulated for the reasonable needs
of the business or to avoid the surtax upon shareholders,
the controlling intention of the taxpayer is that which is
manifested at the time of the accumulation, not
subsequently declared intentions
9
which are merely the
products of afterthought.” The reversion here was, made
because the reserved amount was not enough for the
projects intended, without any intent to channel the same
to some particular future projects in mind.
Petitioner argues that since it has P560,717.44 as its ex-

_________________

8 Collector of Internal Revenue v. Binalbagan Estates Inc., L-12752,

Jan. 30, 1965.
9 Jacob Mertens, Jr., The Law of Federal Income Taxation, Vol. 7,
Cumulative Supplement, p. 213.

27

VOL. 21, SEPTEMBER 5, 1967 27

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

penses for the year 1953, a surplus of P347,507.01 is not

unreasonably accumulated. As rightly contended by the
Government, there is no need to have such a large amount
at the beginning of the following year because during the
year, current assets are converted into cash and with the
income realized from the business as the year goes, these
expenses may well be taken care of (pp. 238 of TSN of Dec.
7, 1962). Thus, it is erroneous to say that the taxpayer is
entitled to retain enough liquid net assets in amounts
approximately equal to current operating needs for the
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year to cover “cost of goods sold and operating expenses” for

“it excludes proper consideration of funds generated by the
collection of notes receivable
10
as trade accounts during the
course of the year.” In fact, just because the fatal
accumulations are less than 70% of the annual operating
expenses of the year, it does not mean that 11
the
accumulations are reasonable as a matter, of law.”
Petitioner tried to show that investments were made
with Basilan Coconut Producers Cooperative Association
and Basilan Hospital (pp. 103-105 of TSN of Dec. 6, 1962)
totalling P59,794.72 as of December 31, 1953. This shows
all the more the unreasonable accumulation. As of
December 31, 1953 already P59,794.72 was spent—yet as
of that date there was still a surplus of P347,507.01.
Petitioner questions why the examiner covered the
period from 1948-1953 when the taxable year on review
was 1953. The surplus of P347,507.01 was taken by the
examiner frem the balance sheet of petitioner for 1953. To
check the figure arrived at, the examiner traced the
accumulation process from 1947 until 1953, and
petitioner's figure stood out to be correct. There was no
error in the process applied, for previous accumulations
should be considered in determining unreasonable
accumulations for the year concerned. “In determining
whether accumulations of earnings or profits in a
particular year are within the reasonable needs of a
corporation, it is necessary to take into account prior
accumulations, since accumulations prior to the year
involved may have been sufficient to cover the

_______________

10 bid., p. 229.
11 Ibid., p. 222.

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28 SUPREME COURT REPORTS ANNOTATED

Basilan Estates, Inc. vs. Commissioner of Internal Revenue

business needs and additional accumulations during

12
the
year involved would not reasonably be necessary.”
Another factor that stands out to show unreasonable
accumulation is the fact that large amounts were
withdrawn by or advanced to the stockholders. For the year
1953 alone these totalled P197,229.26. Yet the surplus of
P347,-507.01 was left as of December 31, 1953. We find
unacceptable petitioner's explanation that these were
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advances made in furtherance of the business purposes of

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

ALLEGED EXEMPTION

Petitioner wishes to avail of the exempting proviso in Sec.

25 of the Internal Revenue Code as amended by R.A. 1823,
approved June 22, 1957, whereby accumulated profits or
surplus if invested in any dollar-producing or dollar-
earning industry or in the purchase of bonds issued by the
Central Bank, may not be subject to the 25% surtax. We
have but to point out that the unreasonable accumulation
was in 1953. The exemption was by virtue of Republic Act
1823 which amended Sec. 25 only on June 22, 1957—more
than three years after the period covered by the
assessment.
In resume, Basilan Estates, Inc. is liable for the
payment of deficiency income tax and surtax for the year
1953 in the amount of P88,977.42, computed as follows:

Net Income per return .............................. P40,142.90

Add: Overclaimed depreciation................... 10,500.49
Net income per finding ............................... P50,643.39
20% tax on P50,643.39 ................................ P10,128.67
Less: Tax already assessed ......................... 8,028.00     

_______________

12 Ibid., 202.

29

VOL. 21, SEPTEMBER 5, 1967 29

Catelo vs. Chief of the City Jail

Deficiency income tax ................................ P 2,100.67

Add: 25% surtax on P347,507.01 ....... 86,977.75
Total tax due and collectible ............... P88,977.42     

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WHEREFORE, the judgment appealed from is modified to

the extent that petitioner is allowed its deductions for
travelling and miscellaneous expenses, but affirmed insofar
as the petitioner is liable for P2,100.67 as deficiency income
tax for 1953 and P86,876.75 as 25% surtax on the
unreasonably accumulated profit of P347,507.01. No costs.
So ordered,

     Concepcion, C.J., Reyes, J.B.L., Dizon, Makalintal,

Zaldivar, Sanchez, Castro, Angeles and Fernando, JJ.,
concur.

Judgment modified.

Notes.—The holding in the foregoing case that

deductions from gross income “are not created by
implication but upon clear expression in the law” is similar
to the rule regarding exemptions expressed in
Commissioner of Internal Revenue vs. Guerrero, L-20942,
Sept. 22, 1967, post, as follows: “(E)xemption from taxation
is not favored and is never presumed, so that if granted it
must be strictly construed against the taxpayer.”
See also Alhambra Cigar & Cigarette Mfg. Co. vs.
Commissioner of Internal Revenue, L-23226, Nov. 28, 1967,
post.

_________________

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