Metrobank Card Corporation

January 9, 2007 BIR RULING [DA-008-07] 34 (E) (1); DA 136-05 Metrobank Card Corporation 2/F GT Tower International 6813 Ayala Avenue cor. H.V. dela Costa Street Makati City Attention: Atty. Aileen Paulette Saavedra-De Jesus Gentlemen : This refers to your letter dated November 27, 2006 stating that Metrobank Card Corporation (MCC) is a corporation organized and existing under and by virtue of the laws of the Philippines; that MCC is engaged in the business of issuing credit cards to the general public; that in the course of its business, MCC regularly encounters cardholders' accounts turning past due, a number of them could no longer be collected/recovered despite MCC's earnest efforts to collect the same; that the obligations arise from bonafide sales of merchandise and/or service to cardholders by business establishments, through use by cardholders of credit cards issued by MCC; that the uncollectible accounts can be categorized as follows: 1. Accounts of cardholders which are relatively of small value; 2. Accounts of cardholders who have received calls and collection letters but refuse to pay their debts; 3. Restructured accounts the remaining balances thereof have not been fully paid/settled by cardholders; 4. Accounts of cardholders who have been declared insolvent by the proper courts (Insolvent Cardholders); 5. Accounts of cardholders whose whereabouts are unknown and who have failed to receive collection letters (Absconded Cardholders); 6. Accounts of cardholders where the amounts incurred resulted from the fraudulent act/s of unidentified party/ies, without fault on the part of the cardholder and no insurances have been obtained to secure these cards. Accordingly, no recovery can be made from the cardholder/s, the insurance company or any third party; 7. Accounts of deceased cardholders, whose remaining balance have been assumed by heirs/estate and who eventually defaulted in paying the obligation; and 8. Other accounts of cardholders (regardless of the amount involved) where collection has been managed internally by MCC. that the foregoing accounts shall hereinafter be collectively referred to as the "Subject Cardholders' Accounts"; that MCC, in the exercise of its business judgment no longer refers the collection of the Subject Cardholders' Accounts to independent collection agencies and/or external collection agencies/legal counsels due to justifiable grounds and/or compelling reasons, among them: (i) The sums involved (when taken individually but not collectively) are relatively minimal, the expenses incurred for their collection, if endorsed to external collection agencies or legal counsels, would be grossly unproportionate to the amounts to be collected. (ii) By its very nature, the accounts can no longer be collected (e.g. the debtor is insolvent and there are no sufficient assets left from which to recover the debt, or that the cardholder has absconded and his whereabouts could no longer be ascertained, or the fraud has been made by unidentified third party and there is no recovery that can be made from an insurance company. (iii) The cardholders simply refuse to pay their bills despite earnest efforts to collect the same and that the determination of the worthlessness of these accounts had already been established by MCC based on attendant facts and circumstances. (iv) Business exigency dictates the maintenance by MCC of its own collection unit, given the huge volume of cardholders accounts turning past-due and uncollectible on a regular basis and the costs involved in referring each and every account to third-party collection agencies. This business decision was made in order to maintain competitiveness in the card industry. that MCC has taken reasonable measures to determine the worthlessness of the Subject Cardholders' Accounts after it has employed the necessary tools, mechanisms and means to collect them, viz: 1. Collection Master Inquiry (OMCI) Screen under the Cardpac System. The system contains a complete record and analysis of each cardholder's account. As the master file of each cardholder's account, virtually all information relative to the account can be viewed through the OMCI, including but not limited to the following: account history, transactional movement, account analysis and current status of the account. All modes and schemes of collecting from the account can also be viewed in the OCMI system, to name a few: text messages sent to and received from cardholders, essential arrangements obtained from the cardholder via telephone calls, the details of reminder letters sent to the cardholder, memorandum on actions taken on the account, as well as the efforts towards restructuring and maintaining the account. Other modes of collection are likewise captured in the system. The OCMI serves as MCC's primary tool to ascertain the worthlessness of a cardholder's account. 2. Telephone calls or verbal arrangements with cardholders (Tele-verbal arrangements). Tele-verbal arrangements are frequently utilized to remind cardholders to settle their unpaid credit card debts. Tele-verbal arrangements are pre-recorded to ensure the accuracy, as well as to preserve the integrity of these arrangements. The cardholder's commitment to pay (or the absence thereof) can also be ascertained from phone calls with cardholders. As previously discussed, the essence of the tele-verbal arrangements (or the lack of such arrangement/s) are captured in the OCMI for purposes of ascertaining the collectibility or conversely, the worthlessness of an account. However, the conversations may also be transcribed when the need arise, to capture the tenor of the actual conversation between MCC and the cardholder, thereby proving MCC's efforts in restructuring and collecting the Subject Cardholders' Accounts. 3. Sending of statements of accounts (SOA) to cardholder's last known address. Despite the past due status of the Subject Cardholders' Accounts, SOAs are sent to cardholders, unless it can be established by MCC through its independent courier service providers that the cardholder is no longer present in his last known address or has in fact absconded; 4. Sending of reminder letters. All reminder/collection letters are system-generated. Due to business exigencies (considering the huge volume of accounts involved and the number of reminder letters sent to cardholders on a regular basis), MCC no longer retains printed copies of the reminder letters that it sends to cardholders through independent courier/service providers. MCC however maintains a copy of the Transmittal Report containing the details of these collection letters. Said Report can be reconciled with the Mailing List from the Philippine Postal Office to establish the fact that reminder letters were indeed sent to cardholders. 5. Restructuring Efforts. Efforts in restructuring the accounts are made initially through tele-verbal arrangements but are subsequently documented through a Restructuring Agreement which bears the cardholder's written conformity. However, most cardholders would abandon their earlier commitment to pay their restructured card obligations transforming the once restructured accounts into bad debts. As previously, discussed, restructuring efforts evidenced by tele-verbal arrangements are captured in the OCMI. 6. Court Order Declaring Cardholder's Insolvency. With respect to insolvent cardholders, the receipt by MCC of the relevant court order declaring the insolvency of the cardholder and the absence/insufficiency of his/her assets to satisfy his debts, would suffice to prove the non-collectibility of the account. As a rule, MCC opts not to participate in the insolvency proceedings in view of costs considerations, unless the amount to be collected from the cardholder is substantial enough and the remaining assets of the cardholder available for distribution to various creditors are sufficient to cover his card obligations with MCC, as well as the attorney's fees and legal costs involved. 7. Approved by the Executive Committee. After it has ascertained the worthlessness of the Subject Creditors' Accounts and its despite diligent efforts to collect the same have failed, MCC prepares the necessary internal reports and/or memorandum and recommends to its Executive Committee, the write-off of the Subject Cardholders' Accounts. that notably, the individual balance of each cardholder's account may not have a significant financial impact to the company; that however, the accumulated value of the Subject Cardholders' Account, when taken altogether, would amount to millions of pesos; that to cite as example: MCC intends to deduct from its gross income for the current taxable year, the aggregate amount of P27,517,787.43; that this amount consists of 868 Subject Cardholders' Accounts ascertained to be worthless in the current year, albeit the accounts turned past due in 2005 and 2006; that the large sum involved is attributed to the nature of the credit card business where the volume and probability of credit card accounts turning past-due and uncollectible is expected if not a regular occurrence; that it is clear from the foregoing that MCC has no more prospects of collecting from these cardholders; that given all these facts and circumstances, and the fact that MCC has exhausted reasonable efforts to collect the Subject Cardholders' Accounts, these accounts have become worthless and MCC may effect their write-off from its gross income on the taxable year/s where they apply pursuant to Section 34 (E) (1) of the Tax Code. Based on the foregoing representations, you now request confirmation of your opinion that "1. MCC is entitled to write-off the Subject Cardholders' Accounts and claim the same as bad debts deduction from its gross income on the taxable year/s that they were ascertained to be worthless pursuant to Section 34(E)(1) of the Tax Code; and 2. Due to the nature and exigencies of the credit card business where huge volumes of uncollectible card obligations are prevalent, we submit that the modes of ascertaining worthlessness of the subject card accounts and the collection efforts currently undertaken by MCC are sufficient and reasonable for purposes of write-off and in claiming the Subject Cardholders' Accounts as valid deductions against the gross income of the relevant tax period." In reply thereto, please be informed that Section 34 (E) (1) of the Tax Code of 1997 provides, as follows: "Sec. 34. Deductions from Gross Income. (E) Bad Debts. (1) In General. Debts due to the taxpayer actually ascertained to be worthless and charged off within the taxable year except those not connected with profession, trade or business and those sustained in a transaction entered into between parties mentioned under Section 36(B) of this Code: Provided, That recovery of bad debts previously allowed as deduction, in the preceding years shall be included as part of the gross income in the year of recovery to the extent of the income tax benefit of said deduction." Corollarily, Revenue Regulations No. 25-02, amending Revenue Regulations No. 05-99, and implementing the above provision, provides the requisites for valid deduction of bad debts from gross income: "Sec. 3. Requisites for valid deduction of bad debts from gross income. The requisites for deductibility of bad debts are: (1) There must be an existing indebtedness due to the taxpayer which must be valid and legally demandable; (2) The same must be connected with the taxpayer's trade, business or practice of profession; (3) The same must not be sustained in a transaction entered into between related parties enumerated under Section 36(B) of the Tax Code of 1997; (4) The same must be actually charged off the books of accounts of the taxpayer as of the end of the taxable year; and (5) The same must be actually ascertained to be worthless and uncollectible as of the end of the taxable year." The Court of Tax Appeals (CTA) in interpreting the above requisites held that the taxpayer is not required to be an "incorrigible optimist" in enforcing collection of a debt ( Western Pacific Corporation v. Commissioner of Internal Revenue, CTA Case No. 720, 22 May 1961 citing White Dental Mfg. vs. US, 274 US 398 ). He may not postpone a bad debt deduction on the basis of a mere hope of ultimate collection but rather, should exercise sound business judgment based upon information reasonably obtainable in determining worthless debts and in the examination of all the circumstances. Thus, this Office in BIR Ruling No. UN097-95 dated March 8, 1995 , ruled that " . . . [B]ad debts are allowed as deductions in the year when ascertained to be worthless and not at the time when the taxpayer may finally 'give up' on the possibility of recovering any part of the debts and decide to charge them off. (CCH, 60 Vol. 2, p: 21.009, (page 252, updated National Internal Revenue Code with Notations and Appendices, 1988 Edition, Jose Araas) The taxpayer must take reasonable steps to collect the debt. He does not have to go to court if it can be shown that a judgment once obtained would be worthless because the debtor is insolvent or 'judgment proof'. If, in the exercise of sound business judgment a taxpayer believes there is no likelihood of recovery at any time in the future, the debt has been worthless. ( Western Pacific Corporation v. Collector of Internal Revenue, CTA Case No. 720 ) In applying the above principle under the circumstances, it is crystal clear that MCC need not go through the lengthy process of hiring a collection lawyer and/or filing a collection case against the Subject Cardholders since, in all probability, it will not result in the satisfaction of the debt or execution of the judgment. The debt has become worthless already. Accordingly, MCC may write-off its accounts receivable due from the Subject Cardholders and claim it as a bad debt deduction from its gross income pursuant to Section 34 (E) (1) of the Tax Code of 1997. WHEREFORE, in view of the foregoing , this Office hereby confirms your opinion that (1) MCC is entitled to write-off the Subject Cardholders Accounts and claim the same as bad debts deduction from its gross income on the taxable year/s that they were ascertained to be worthless. (2) The modes of ascertaining the worthless of the subject card accounts and the collection efforts currently undertaken by MCC are sufficient and reasonable for purposes of write-off and in claiming the Subject Cardholders' Accounts as valid deductions against the gross income of the relevant tax period. This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it will be disclosed that the facts are different, then this ruling shall be considered null and void. Very truly yours, (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service