CHAPTER 4- FINAL INCOME TAXATION

Features of Final Income Taxation

1. Final tax
2. Tax withholding at source
3. Territorial imposition
4. Imposed on certain passive income and persons not engaged in business in the Philippines.

The final withholding system imposes upon the person making income payments the responsibility to
withhold the tax. The tax which will be deducted at source is final. The taxpayer receives the income net
of tax and there would be no need for him to file an income tax return to report the same.

Final tax on individual and corporations

Unless otherwise indicated, the final tax rates to be discussed in the following sections apply to all
taxpayers (individuals and corporations) other than:

a. Non- resident alien not engaged in trade or business (NRA-NETB), and

b. Non-resident alien foreign corporation (NRFC).

Passive Income subject to final tax

1. Interest yield from bank deposits or deposits substitutes-

Short term- 20% on individual and corporation
Long-term deposits/investment certificated- exempt on individual taxpayers but 20% on
corporation.
2. Domestic dividends, in general-
From Domestic corporation- 10% on individual and exempt on corporations
From foreign corporation- both subject to regular tax for individual and corporations
3. Dividend income from a Real Estate Investment Trust- Otherwise, cash or property dividends
paid by a REIT are subject to a final tax of 10 percent, unless the dividends are received by a
nonresident alien individual or a nonresident foreign corporation entitled to claim a preferential
withholding tax rate of less than 10 percent pursuant to an applicable tax treaty.
4. Share in the net income of a business partnership, taxable associations, joint ventures, joint
accounts or co-ownership.- 10% for resident citizens, non-resident citizens and resident alien,
and 20% for NRA-ETB.
5. Royalties, in general-
From books, literary works and musical composition- 10% for individuals and 20% for
corporations
Other sources- 20% final tax for both individual and corporations
6. Prize exceeding P10,000- 20% final tax for individuals and subject to regular income tax for
corporations.
 7. Winnings- generally subject to 20% final tax, except PCSO or lotto winnings amounting to 10,000
or less.
8. Informer’s tax reward- subject to 10% final tax individuals or corporations.
9. Interest income on tax-free corporate covenant bonds- 30% for individuals and not applicable
for corporations (subject to regular income tax).

CHAPTER 5- CAPITAL GAINS TAXATION

Classification of Taxpayer’s Properties

1. Ordinary Assets- Ordinary assets are assets that are used in the course of business, such as:
a. Stock in trade of the taxpayer, or any property of a nature that, if on hand at the end of the
taxable year, would be properly included in the taxpayer's inventory;.
b. Property held by a taxpayer largely for the purpose of selling to consumers in the ordinary
course of business;
c. Properties that are used in a trade or company and are eligible to depreciation allowances;
and
d. Real estate is a type of property that is used in commerce or business (e.g., inventories and
property, plant and equipment)
2. Capital Assets- any asset other than ordinary assets

Basically capital assets are:

a. Personal (non-business) assets; and

b. Financial assets such as cash, receivables, investments and intangible assets such as patent,
and copyright of the taxpayer.

Asset classification is relative

The classification of assets properties as ordinary asset or capital assets does not depend upon the
nature of the property but upon the nature of the taxpayer’s business and its usage by the business.

Asset classification rules

a. Proper purchased for future use in business is an ordinary asset even though this purpose is
later thwarted by circumstances beyond the taxpayer’s control.
b. Discontinuance of the active use of the property does not change its character previously
established as a business property.
c. Real property used, being used, or have been previously used, in trade of the taxpayer shall be
considered ordinary assets.
d. Properties classified as ordinary assets for being used in business by a taxpayer not engaged in
the real estate business are automatically converted to capital assets upon showing of proof
that the same have not been used in business for more than 2 years prior to the consummation
of the taxable transaction involving such property.
e. A depreciable asset is an ordinary asset even if it is fully depreciated, or there is a failure to take
depreciation during the period of ownership.
f. Real properties used by an exempt corporation in its exempt operations are considered capital
assets. Exempt corporations are not business.
g. The classification of property transferred by sale, barter or exchange, inheritance, donation, or
declaration of property dividends shall depend on wether or not the acquirer uses it in business.
h. For properties subject to involuntary transfer such as expropriation and foreclosure sale, the
involuntariness of such sale shall have no effect on the classification of such property.
i. Change in business from real estate to non- real estate business shall not change the
classification of ordinary assets previously held.

Types of Gains on dealing in Properties

1. Ordinary gain- arises from the sale, exchange and other disposition including pacto de retro
sales and other conditional sales of ordinary assets
2. Capital gain- arises from the sale, exchange and other disposition including pacto de retro sales
and other conditional sales of capital assets.

Capital Gains subject to Capital Gains tax

1. Capital gains on the sale of domestic stocks sold directly to buyer- subject to 15% capital gains
tax
2. Capital gains on the sale of real properties not used in business- subject to 6% capital gains tax

Gains from other capital assets are taxed under the regular income tax.

Domestic stocks are evidence of ownership or rights to ownership in a domestic corporation

regardless of its features, such as:

1. Preferred stocks (participative, cumulative, etc.)

2. Common stocks
3. Stock rights
4. Stock options
5. Stock warrants
6. Units of participation in any association, recreation or amusement club (golf, polo or similar
clubs)

The capital gains tax covers not only sales of domestic stocks for cash but also exchange of domestic
stocks in kind and other dispositions such as:

1. Foreclosure of property in settlement of debt

2. Pacto de retro sales- sales with buy back agreement
3. Conditional sales- sales which will be perfected upon completion of certain specified conditions
4. Voluntary buy back of shares by the issuing corporation-redemption of shares which may be re-
issued and not intended for cancellation.
The term other disposition does not include:

1. Issuance of stock by a corporation

2. Exchange of stocks for services
3. Redemption of shares in a mutual fund
4. Worthlessness of stocks
5. Redemption of stocks for cancellation by the issuing corporation
6. Gratuitous transfer of stocks

Modes of disposing domestic stocks

Shares of stocks may be sold, exchanged or disposed:

1. Through the Philippine Stock Exchange (PSE)- subject to a stock transaction tax of 60% of 1% of
the selling price effective January 1, 2018.
2. Directly to buyer- Subject to Capital Gains tax

THE CAPITAL GAINS TAX RATE

Under the old law (NIRC) net gains up to P100,000 is subject to %% and excess net gain above P100,000
is subject to 10%. But it was changed under the TRAIN LAW to a flat rate of 15%.

Consequently, there are two CGT rates now:

a. Foreign corporation- 5% to 10% CGT

b. Individuals and domestic corporations- 15% CGT

Tax compliance under the old law

There are two aspects of compliance under the previous law:

1. Transaction capital gains tax

2. Annual capital gains tax

The capital gains or losses are required to be reported after each sale, exchange and other dispositions
through the capital gains tax return, BIR Form 1707.

It should be filed within 30days after each sale, exchange and other disposition of stocks. If the tax is
qualified under the installment method the tax is due within 30 days after each installment.

The CGT is computed on the annual net gains then previous tax payments are treated as tax credit
thereto. After such credit, a residual tax due is paid while excess transactional payment is claimed as tax
refund or tax credit. The annual capital gains tax return, BIR Form 1707-A, shall be filled on or before the
15th day of the fourth month following the close of the taxable year of the taxpayer.

The change to a 15% flat rate would mean 15% CGT when the transaction resulted to a gain but would
instantly mean 15% CGT refundable when the transaction resulted to a loss.
Installment Payment of the Capital Gains Tax

When domestic stock is sold in installments, the capital gains tax may also be paid in installment if the:

a. Selling price exceeds P1,000; and

b. Initial payment does not exceed 25% of the selling price

Special tax rules in capital gain or loss measurement

1. Wash sales of stocks- Wash sale of securities is deemed to occur when within the 30 days before
and 30 days after the losing sale of securities (also referred to as the 61- day period), the
taxpayer acquired or entered into a contract or option to acquire the same or substantially
identical securities. Capital losses on wash sales by non-dealers in securities are not deductible
against capital gains because they are effectively unrealized. The taxpayer did not totally let go
of the shares. The immediate reacquisition of the shares makes the loss of a theoretical or a
feigned loss.
Rationale of the wash sales rule
The wash sales rule is intended to prevent taxpayers from feigning temporary losses
which could enable them to manipulate their reportable taxable net gain. Hence, the prohibition
against the claim of wash sales is not an absolute rule but is a form of deferral of loss intended
to reflect the economic substance of the transaction.
The wash sales rule is not applicable to dealers in securities as it is a normal way of business for
them to buy and sell stocks and as a result realize gains or incur losses within the short duration
of time.

2. Tax- free exchanges

a. Exchange of stocks pursuant to a merger or consolidation- no gain or loss shall be
recognized if in pursuance of a plan of merger or consolidation (a) a corporation, which is a
party to a merger or consolidation, exchanges property solely for stock in a corporation,
which is a party to the merger or consolidation; or, (b) a shareholder exchanges stock in a
corporation, which is a party to the merger or consolidation, solely for the stock of another
corporation also a party to the merger or consolidation; or, (c) a security holder of a
corporation, which is a party to the merger or consolidation, exchanges his securities in such
corporation, solely for stock or securities in another corporation, a party to the merger or
consolidation.
b. Transfer of stocks resulting in corporate control- no gain or loss shall be recognized if
property is transferred to a corporation by a person in exchange for stock or unit of
participation 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.

Persons not liable to the 15% capital gains tax

1. Dealers in securities
 2. Investors in shares of stocks in a mutual fund company in connection with gains realized upon
redemption of stocks in the mutual company
3. All other persons, weather natural or juridical, who are specifically exempt from national
revenue taxes under existing investment incentives and other special laws, such as:
a. Foreign government and foreign government-owned and controlled corporations
b. Qualified employee trust funds

Sale, exchange and other disposition of Real Property classified as capital asset located in the
Philippines- subject to a tax of 6% if the selling price or the fair value, whichever is higher.

Under the NIRC, the fair value of real property whichever is higher of the:

A. Zonal value, which is the value prescribed by the commissioner of Internal Revenue for real
properties for the purposes of enforcement of internal revenue laws, and
B. Fair market value, as shown in the schedule of market values of the Provincial and City
assessors.

Nature of the 6% Capital Gains Tax

a. Presumption of capital gains

The 6% capital gains tax applies even if the sale transaction resulted to a loss. Gain is always
presumed to exist. The basis of taxation is the selling price or fair value whichever is higher, not
the actual gain.
b. Non- consideration to the involuntariness of the sale
The capital gains tax applies even if the sale is involuntary or is forced by circumstances such as
the case of expropriation sale, foreclosure sale, disposition by judicial order, and other forms or
forced disposition. It also applies to conditional sales and pacto de retro sales.
c. Final tax
The capital gains tax shall be withheld by the buyer against the selling price of the seller and
remit the same to the government.

Only the properties located within the Philippines are subject to the 6% cgt for all individuals and
domestic corporations.

Exceptions to the 6% Capital Gains Tax

1. Alternative taxation rule

2. Exemption rules
a. Exemption under the NIRC
b. Exemption under special laws

Alternative taxation

An individual seller of real property capital assets has the option to be taxed either:
 a. 6% capital capital gains tax or
b. The regular income tax

It should be noted that this is permissible only when:

1. The seller is an individual taxpayer, and

2. The buyer is the government, its instrumentalities or agencies including government-owned and
controlled corporations

Basis of Alternative Taxation

The alternative taxation is intended to ease the burden of government expropriation where taxpayers
may incur losses on the forced expropriation sale and are still required to pay tax.

Exemption to the 6% Capital Gains Tax under the NIRC

The sale, exchange and other disposition of a principal residence for the re-acquisition of a new principal
residence by individual taxpayers is exempt from the capital gains tax.

Principal residence- means the house and lot which is the primary domicile of the taxpayer. If the
taxpayer has multiple residences, his principal residence is deemed that one shown in his latest tax
declaration.

Requisite of exemption:

1. The seller must be a citizen or a resident alien.

2. The sale involves the principal residence of the seller-taxpayer.
3. The proceeds of the sale is utilized in acquiring a new principal residence.
4. The BIR is duly notified by the taxpayer of his intention to avail of the tax exemption within
30days of the sale through a prescribed return (BIR Form 1706) and “Sworn Declaration of
Intent”.
5. The reacquisition of the new residence must be within 18 months from the date of sale.
6. The capital gain is held in escrow in favor of the government.
7. The exemption can only be availed once in every 10 years.
8. The historical cost or adjusted basis of the principal residence sold shall be carried over to the
new principal residence built or acquired.

It must be emphasized that the sale of the principal residence must precede the acquisition of the new
principal residence to be exempt. (BIR ruling No. 038-2015)

Capital Gains Tax Exemption under Special Laws

1. Sale of land pursuant to the Comprehensive Agrarian Reform Program- it shall be exempt from
capital gains tax. Similarly, the interest income on the selling price that may have been agreed
by the land owner and the tenant-buyer shall be exempt from income tax.
 2. Sale of socialized housing units by the National Housing Authority- the exemption is limited to
socialize housing units only. The BIR ruled that the sale of the NHA of commercial lots which is
not part of the socialized housing project for the poor and homeless is subject to capital gains
tax or regular tax and documentary stamp tax.
To qualify for exemption, the socialized housing units of the NHA must comply with price ceiling
set by the NIRC and other special laws.

- The sale of domestic stocks is subject to a documentary stamp tax of P1.50 for every P200 of the par
value of the stocks sold. (RA 9243)

-The sale of real property capital assets is subject to a documentary stamp tax on the gross selling price
or fair market value whichever is higher.

-The documentary stamp tax is P15 for every P1,000 and fractional parts of the tax basis thereof.
However, if the government is a party to the sale, the basis shall be the consideration paid.

-The late filing and payment of capital gains tax at the time or times required by law is subject to the
same penalties discussed in Chapter 4.

-The same lists of entities exempt from final tax in Chapter 5 are likewise exempt from capital gains tax.

6% CGT 15% CGT

Tax object Gain on real property Gain on sale of stocks

Basis of the tax Presumed gain Actual gain

Nature of the tax Final tax Self- assessed tax

Frequency of payment Per-transaction Transactional and annual tax

Chapter 13-B

Special allowable itemized deductions

Special deductions are other items of deductions which may or may nor partake the nature of an
expense, but are allowed by the NIRC or by special laws as deductions. Special deductions include
deduction incentives to taxpayers in assisting and in complying with certain legal requirements.

Special Allowable Deductions

A. Special expenses under the NIRC and special laws

1. Income distribution from a taxable estate or trust- income distribution made by the
administrator of a taxable estate in favor of the heirs or by a trustee of a taxable trust in
favor of the beneficiary of the trust is a special deduction against the gross income of the
estate or trust. The income distribution shall be included by the receipt heir or beneficiary in
his gross income.
2. Transfer to reserve fund and payments to policies and annuity contracts of insurance
companies- Under the Insurance Code, non-life insurance companies are required to
maintain a reserve equivalent to 40% of their gross premium, less returns and cancellations
for risks expiring within one year. For marine cargo risks, the reserve is equivalent to the
amount of premium on insurance during the last two months of the calendar year.
3. Dividend distribution of a Real Estate Investment Trust (REIT) under the RA 9856- a REIT is
publicly listed corporation established principally for the purpose of owning income-
generating real estate assets. A REIT is leggaly mandated to distribute 90% of its
distributable income as dividends to shareholders.
Under RA 9856, the dividend distributions of REITs are treated as special deductions against
gross income.
4. Transfer to reserves funds of taxable cooperatives- Under RA 9520, cooperatives are
required to maintain reserves for their protection and stability. Cooperatives are exempt
from income tax, but are subject to tax on their income from unrelated activities. The
amount transferred bu the cooperative to the reserve fund out of the net surplus from
unrelated activities is an item of deduction in the computation of the taxable net income of
the cooperative.
5. Discounts to senior citizens under RA 9257- senior citizen or elderly is entitled to 20%
discount in certain establishment such as hotels and similar lodging establishments,
restaurants, recreational centers and other places of culture, leisure and amusements,
hospitals, drugstores and services such as medical, dental, domestic air, sea and land
transport, and funeral or burial service providers.
Conditions for deductibility of sales discounts to senior citizens
1. Only that portion of the gross sales exclusively used, consumed, or enjoyed by the
senior citizen shall be eligible for the deductible sales discount.
 2. The gross selling price and the sales discount must be separately indicated in the official
receipt or sales invoice issued by the establishment for the sale of goods or services to
the senior citizen.
3. Only the actual amount of the discount granted or sales discount not exceeding 20% of
the gross selling price can be deducted from gross income, net of VAT, if applicable.
4. The discount can only be allowed as deduction from gross income for the same taxable
year that the discount is granted.
5. The business establishment giving sales discount to qualified senior citizens is required
to keep a separate and accurate record of sales which shall include the name, TIN, ID,
gross sales/receipts, discounts granted, date of transaction, and invoice number for
every sale transaction to senior citizens.
6. Discounts to persons with disability under RA 9442- similar to senior citizens, persons with
disability are entitled to a 20% discounts from certain establishments such as hotels and
similar lodging establishments, restaurants, sports and recreation centers, places of culture,
leisure and amusement, drugstores on the purchase of medicine, medical and dental
services in private facilities, and domestic air, sea and land transport.

B. Deduction incentives under special laws

1. Additional compensation expense for senior citizen employees under RA 9257- private
establishments employing senior citizen shall be entitled to additional deduction from gross
income equivalent to 15% of the total amount paid as salaries and wages to senior citizens.

Condition for deductibility of additional compensation:

1. employment shall have to continue for at least 6 months
2. the annual taxable income of the senior citizen does not exceed the poverty level as
determined by the NEDA

The poverty line or poverty threshold pertains to the amount of income sufficient to
meet basic food and non-food needs such as clothing, housing, transportation, and
health among others. The senior citizen shall submit to his employer a sworn
certification that his annual taxable income does not exceed the poverty level.

2. Additional compensation expense for persons with disability under RA 7277, as amended
by RA 9442- private entities that employed disabled persons who meet the required skills or
qualifications, either as a regular employees, apprentices or learners, shall be entitled to an
additional deduction, from their gross income, equivalent to twenty-five percent (25%) of
the total amount paid as salaries and wages to disabled persons.
Requisite for deductibility:
a. The entity present proof as certified by the Department of Labor and Employment that
disabled persons are under their company
b. The disabled employee is accredited with the Department of Labor and Employment
and the Department of Health as to his disability, skills, and qualifications
 The actual salaries shall be presented as part of regular expense while the 25% additional
salaries expense shall be presented as special itemized allowable deductions.

3. Cost of farcicalities improvements for persons with disability in accordance with RA 7277,
as amended by RA 9442- private entities that improve or modify their physical facilities in
order to provide reasonable accommodation for disabled persons shall also be entitled to an
additional deduction from their income equivalent to 50% of their direct costs of the
improvement or modifications.
4. Additional training expense under RA 8502- Jewelry Industry Development Act of 1998- a
qualified jewelry enterprise duly registered and accredited with the Board of Investment
(BOI) is entitled to an additional deduction from taxable income of 50% of the expenses
incurred in training schemes approved by Technical Education and Skills Development
Authority (TESDA). The same shall be deductible during the year the expenses were
incurred.
Conditions for deductibility:
a. A qualified jewelry enterprise must submit to the BIR a certified true copy of its
Certificate of Accreditation issued by the BOI.
b. The training scheme must be approved and certified by TESDA.
5. Additional contribution expense under the Adopt-a-School program under RA 8525-
private entities are allowed to assists a public school in particular aspects of their
educational program within an agreed period of time.
The adopting private entity which may be an individual in business or practice of profession,
a partnership, or a corporation shall team up with the DepED, CHED, Or TESDA toward
providing much needed assistance and services to public schools.
Qualifications of participating schools
Any government school in all levels may participate in the program. Priorities shall be given
to school located in the poorest provinces, low income municipalities, and other local
government units experiencing severe classroom shortages, insufficient budget, or having
numerous poor but high performing learners.
Qualifications of Adopting Private Entity
1. It must have a credible track record.
2. It must have been in existence for at least one year.
3. It must not have been prosecuted and found guilty of engaging in illegal activities such a
money laundering and other similar circumstances.

Tax deduction incentive- contributions to the government in priority activities are

deductible in full while those made in non-priority activities are deductible subject to limit.

Aside from the usual regular deductible contribution expense, an adopting entity shall be
allowed an additional deductible from gross income equivalent to 50% of the contribution of
the adopting entity for the “Adopt-a-School Program.”

Conditions for deductibility:

 a. The deduction shall be availed of in the taxable year in which the expense is paid or
incurred.
b. The expense is substantiated with sufficient evidence such as official receipts, delivery
receipts and other adequate records which shall set forth the following:
a. The amount of expenses being claimed as deductions
b. Direct connection or relation of the expenses to the adopting private
entity’s participation in the Adopt-a-School Program
c. Proof of acknowledgement or receipt of the contributed or donated
property by the recipient public school.

c. The application together with the approved MOA endorsed by the National Secretariat
shall be filed with the RDO having jurisdiction over the place of business of the adopting private
entity, copy furnished the RDO having jurisdiction over the property, if the contribution is in the
form of real property.

Procedures for availment

1. Memorandum of Agreement
An adopting private entity shall enter into a Memorandum of Agreement (MOA) with
the head of the public school. The MOA shall specify the details of the adoption which
must be for a minimum of 2 years pre-terminable only when the adopting private entity
is dissolved prior to the end of such period or when terminated for failure to possess the
qualification as such.
2. Supporting evidence
The adopting entity must maintain sufficient evidence of the amount of the assistance
incurred, establish the connection of the expense to the adopting entity’s participation
in the program, and maintain proof of acknowledgment of receipt by the public school
recipient of the donation.
3. Apply for Certificate of Tax Incentive and Tax Exemption
The adopting entity shall apply for a Certificate of Tax Incentive or Tax Exemption and
submit the following documents to the Secretariat:
a. Duly authorized or approved MOA
b. Duly authorized deed of donation
c. Official receipts and other documents showing the actual value of the contribution
or donation
d. Certificate of Title and Tax Declaration, if the donation is in the form of property
e. Other adequate records showing direct connection or correlation of the expense
being claimed as deduction to the adopting entity’s participation in the program.

Violations of deductions (RR10-2203)

1. Cash assistance, contributions or donations shall be based on the actual amount

appearing in the official receipt issued by the done.
 2. Assistance other than money
a. Personal property- acquisition cost of assistance or contribution
b. Consumable goods- acquisition cost or value at the date of donation whichever
is lower
c. Services- the value of services rendered bu the donor and the service provider
and the public school as fixed in the MOA or the actual expense incurred by the
donor, whichever is lower
d. Real property- fair value (higher of zonal value or assessed value) at the time of
contribution or the depreciated cost of the property whichever is lower

6. Additional deductions for compliance to rooming-in and breast-feeding practices under RA

7600, as amended by RA 10028- the purpose is to encourage, protect and support the
practice of breast-feeding which is believed to provide distinct benefits to the mother and
the infant aside from saving the country’s valuable foreign exchange that may otherwise be
used for milk importation.
Requirements to all establishments
Location station
Requirement to Health Institutions
Rooming-in policy
Milk Storage Facility
Milk Banks

Tax deduction incentives

The expense incurred by a private health institution in complying with the rooming- in and
breast-feeding practices shall be deductible expenses for income tax purposes up to twice
the actual amount incurred.
Conditions for deductibility:
1. The deduction shall apply for the taxable period when the expenses were incurred.
2. All health or non-health facilities, establishments and institutions shall comply with IRR
of RA 10028 within 6 months after its approval
3. The facility, establishment or institution shall secure a “Working Mother-Baby-Friendly
Certificate” from the Department of Health to be filed with the BIR.
7. Additional free legal assistance expense under RA 9999- lawyers or professional
partnerships providing pro-bono legal services are given deduction incentives for their free
legal services.
Requirements for availment
- They shall secure a certification from the Public Attorney’s Office (PAO), the Department
of Justice (DOJ), or association accredited by the Supreme Court indicating that the said
legal services to be provided are within the services defined by the Supreme Court and
that the agencies cannot provide the legal services to be provided by the legal counsel.
 Tax Deduction Incentive

The practicing lawyer or professional partnership shall be entitled to an allowable deduction

from gross income equivalent to the amount that could have been collected for the actual
performance of the actual free services rendered or up to 10% of gross income derived from
the actual performance of the legal profession whichever is lower.

For the purpose of this incentive, the free legal services must be exclusive of the 60-hour
mandatory free legal assistance rendered to indigent clients as mandatorily required under
the Role on Mandatory Legal Aid Services for practicing lawyers.

8. Additional productivity incentive bonus under RA 6971- a business enterprise which adopts
a productivity incentive program is entitled to a special additional deduction equivalent to
50% of the total productivity bonuses given to employees under the program.

Net operating loss (NOL) pertains to the excess of allowable deductions over the gross income from
business or exercise of a profession during a taxable year.

Net operating loss carry-over (NOLCO) pertains to the amount of net operating loss that is allowed by
the law to be carried over as deduction against available net income of the following three years.

NOL vs. NOLCO

It must be noted that a net operating loss is technically different with a NOLCO. A net operating loss may
occur, but may not be carried over; hence, no NOLCO. However, a NOLCO cannot exist without a prior
year net operating loss.

The rationale of NOLCO

NOLCO is intended to allow the taxpayer to recoup his losses before taxation go full swing. Without
NOLCO, income taxation would result in taxation of recoveries of lost capital.

Who can claim NOLCO?

- All taxpayers subject to tax on taxable income whether at RIT or at preferential tax rate.
- Taxpayers who are exempt or not subject to any tax cannot deduct NOLCO.

Requisites for the deductibility of NOLCO.

1. The taxpayer must not be exempt from income tax during the taxable year when the NOLCO
was incurred.
2. There has been no substantial change in the ownership of the business or enterprise

A change of at least 75% of either the paid up capital or nominal value of the outstanding shares of a
corporation is deemed a substantial change in business ownership.
Rationale of the Rule on Substantial Change in Ownership

When there is a substantial change in the ownership of the business, NOLCO is no longer allowed
because the owners for whom the loss recoupment is intended in the business. In other words,
NOLCO is privilege that is not transferable.

Rules in Carry-over of NOLCO

1. NOLCO is claimable in a first-in-first-out (FIFO) fashion

2. NOLCO can be claimed only up to the extent of the business net income in the next three year
net operating loss.
3. Any NOLCO which remains unused at the end of the three-year prescriptive period will expire.

NOLCO for Individual Taxpayers

NOLCO refers to an operating loss from business or exercise of a profession. For individual who are
mixed income earners, NOLCO is measured by separating compensation income from business or
professional income following the income classification and globalization rule.

Special Rule on NOLCO for Mining Companies

The net operating loss sustained by mining companies without the benefit of Incentives under the
Omnibus Investment Code of 1987 in any of their first 10 years operation is allowed to be carried
over a period of 5 years following the year the net operating loss was sustained.

NOLCO and Net Capital Loss Carry Over

NOLCO is deductible against available net income in the next three years of operation. Net capital
loss carry-over is deductible only up to the extent of the net capital gain in the immediate following
year.

Net Capital Loss Carry-over cannot be claimed simultaneously with NOLCO. In accordance with the
income tax benefit rule, no capital loss carry-over is allowed when the year’s operation resulted in a
net operating loss.

Merger and Consolidation

Merger occurs when one business is merged with another business. Consolidation occurs when
several businesses merge to form a new larger business.

NOLCO of the Acquirer

Under RR14-2001, the NOLCO of the acquirer which it incurred before the merger or consolidation
continues to be deductible even after the merger or consolidation so long as there is no substantial
change in its ownership.
NOLCO of the Acquiree

NOLCO is transferrable to a surviving corporation since it is viewed as part of the rights, privileges,
properties and/or interest that will be transferred to and vested in the surviving corporation upon
merger or consolidation.

Under Sec. 34(D)(3) of the NIRC, NOLCO is not allowed as deduction when there is a substantial
change in the ownership of the business. It is clear that the privilege for NOLCO deduction is
reserved by the law only to the group of owners when the loss was incurred while denying it to the
new group of owners who subsequently acquires substantial interest in the business. NOLCO is not a
transferrable rights, privilege or interest.

Chapter 15b (678-682)

IAET is a penalty tax

IAET partakes of the nature of a penalty tax and is not in lieu of dividend tax. Hence, the declaration
of profits already subjected to the IAET will still be subject to dividend tax.

IAET Exempt Entities under the NIRC

The NIRC exempts the following from the improperly accumulated earnings tax

1. Publicly- held corporations

2. Finance companies
3. Banks
4. Insurance Companies

Other entities exempt from IAET

1. Taxable partnerships
2. General professional partnerships
3. Taxable and non-taxable joint ventures
4. ECOZONE-registered entities (PEZA, BCDA, etc.)

There can be no improper accumulation of profits for partnerships and joint ventures organized as
partnerships. Recall that the net income of taxable partnerships is subject to 10% final withholding
tax upon determination of the same.

General professional partnerships are not corporations; hence. They are not subject to the minimum
tax while the 5% tax imposed on ECOZONE, enterprises is in lieu of all taxes, national or local, except
real property tax.

Period of payment of Dividend or IAET

The dividend must be declared within one year from the close of the taxable year. Any AIET from the
same taxable year will be determined and should be paid within 15 days from the end of the
following year.

Branch Profit Remittance Tax

Any profit remitted by a branch to its head office abroad shall be subject to a tax of 15% based on
the total profits applied or earmarked for remittance without any deduction for the tax component
thereof.

The 15% branch profit remittance tax is a final tax which is required to be withheld at source by the
branch of a foreign corporation

Scope of the Branch Profit Remittance Tax

The tax covers the remittance of all resident foreign corporations including ROHQs of multinational
companies, FCDUs or OBUs of foreign banks, and international carriers, except PEZA-registered
entities.