Non-Taxability of the Benefit Package that Caltex (Phil.), Inc. (Caltex) is Set to Provide for Its Employees under a Proposed Redundancy Early Retirement Settlement

October 15, 1996 BIR RULING NO. 105-96 29 (a) (1) (A) 000-00 105-96 Caltex (Philippines), Inc. 6/F 6750 Ayala Avenue 1226 Makati City Attention: J . J . Poblador General Manager Legal & Tax Gentlemen : This refers to your letter dated July 15, 1996 requesting for a ruling on the non-taxability of the benefit package that Caltex (Philippines), Inc. (Caltex) is set to provide for its employees under a proposed redundancy early retirement settlement. cdta It is represented that your last redundancy program, which received a BIR ruling of non-taxability for its benefits, was implemented in 1989; that since then, there have been new and substantial developments that have again compelled the company to undertake another program; that the rationale, of the program, is: "The oil industry is becoming more competitive. Changes in the business environment, such as full deregulation of the downstream industry in March 1997, will lead to more intense competition among existing players and possible threat of new entrants in the industry. The situation compels Caltex (Philippines), Inc. to be more focused, cost effective and responsive to the changing market." that the Business Process Reengineering project of Caltex will allow it to rationalize and simplify business processes; that as a result of work simplification, elimination, combination, use of technology, or outsourcing, within the bounds of law, some positions or jobs may be declared redundant; that the employees whose positions are determined by the Company to be redundant or those who are allowed tax-free early retirement benefits under the Tax Code, shall be given a special separation package; and that the total cash settlement under the proposed redundancy early retirement plan is composed of normal benefits from the BIR- approved Caltex Retirement Plan fund plus ex-gratia benefits from the companys operating revenues. Based on the foregoing representations, you now request for a ruling: "(1) that declares as non-taxable, to the recipients, all the benefits under said program; "(2) that the ex-gratia payment by the company in excess of that provided under the Retirement Plan shall qualify as deductible expense to Caltex." In reply, please be informed that pursuant to Section 28 (b) (7) (B) of the Tax Code, as amended, any amount received by an official or employee or by his heirs from the employer as a consequence of separation of such official or employee from the service of the employer due to death, sickness or other physical disability, or for any cause beyond the control of the said official or employee , shall not be included in gross income and shall be exempt from taxation regardless of age or length of service. The above mentioned law requires the presence of two (2) conditions in order that the employee benefits may be granted tax exemption: (1) the employee is separated from the service of the employer due to death, sickness, or other physical disability or for any cause beyond the control of the said official or employee, and (2) the employer pays benefits to the official or employee or his heirs as a consequence of such separation. Since the proposed separation of redundant personnel will achieve a manpower complement of a size compatible with your redefined business strategies and management objectives, it is therefore beyond the concerned employees control. Thus, any and all amounts received by them as a result thereof are exempt from income tax and consequently from the withholding tax prescribed by Section 72, Chapter 10, Title II of the Tax Code, as amended by Batas Pambansa Blg. 135 and implemented by Revenue Regulations No. 6-82, as amended. Such tax exemption as understood not to include the companys payment of salaries of the retrenched/separated employees. On the other hand, in computing taxable income subject to tax under Section 24(a) of the Tax Code, a corporate taxpayer, like Caltex (Philippines), Inc. is allowed inter alia , to deduct from its gross income all ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered. (Section 29 (a) (1) (A), Tax Code, as amended). LLphil The payment of separation pay or redundancy package is a business expense that meets the following criteria for its deductibility: 1. the expense must be ordinary and necessary; 2. it must be paid or incurred within the taxable year; 3. it must be paid or incurred in carrying on a trade or business. As held in the case of Collector of Internal Revenue vs. Philippine Education Company, Inc. 99 Phil. 321, (No. L-8505, May 30, 1956): "the term, "ordinary" as used in the statutes, does not require that the payments be habitual or normal in the sense that the same taxpayer will have to make them often; the payment may be unique or non-recurring to the particular taxpayer affected. Furthermore, an expense will be considered "necessary" where the expenditure is appropriate and helpful in the development of the taxpayer's business. It is sufficient that the expense was incurred for purposes proper to the conduct of the corporate affairs or for the purpose of realizing a profit or for minimizing a loss." Separation pay is required in the cases enumerated in Articles 283 and 284 of the Labor Code which include retrenchment and redundancy. This provision is a statutory right designed to provide the terminated/separated employee with the wherewithal need during the period that he is looking for another employment. (Santos vs. NLRC, 154 SCRA 166, 172) Hence, as far as the Redundancy Package of Caltex is concerned, it is not to be equated nor pegged down by the benefits under its Retirement Plan, since the former is meant to alleviate and help tide over the redundant/terminated employees until they find a new employment or means of livelihood. In the light of the aforecited Supreme Court ruling, the Business Process Re-engineering being undertaken by Caltex which declared quite a number of redundant positions, necessarily and logically resulted in the need for a Redundancy Package that will be granted to the affected/redundant employees. This reorganization is timely and appropriate in the light of the forthcoming full deregulation of the oil industry in order to maximize profit or minimize loss due to stiff competition from new players in the market. Any package that will not address the wherewithal need of the separated employee while looking for another employment can seriously be challenged by labor suits and other delaying factors. Furthermore, the termination pay is mandated by law and Caltex is legally bound by law and contract to make such payment. Thus, this payment certainly constitutes an ordinary and necessary expense that will be incurred within the current taxable year in connection with the business of Caltex as a manufacturer and seller of petroleum products. Accordingly, this Office is of the opinion as it hereby holds that the ex-gratia payment by Caltex (Philippines), Inc. of an amount over and above that provided under its BIR-approved Retirement Plan shall qualify as deductible expense to Caltex pursuant to Section 29 (a) (1) (A) of the Tax Code, as amended. Very truly yours, LIWAYWAY VINZONS-CHATO Commissioner of Internal Revenue