BIR Ruling No. 439-13

November 26, 2013 BIR RULING NO. 439-13 Revenue Regulations 5-2010; BIR Ruling No. 008-2011 Messrs. Gerald Alan A. Quebral and Joseph Irvin A. Obenza Congressional Oversight Committee on Comprehensive Tax Reform Program Senate of the Philippines, Pasay City Sirs : This refers to your letter dated October 16, 2013 requesting for a ruling that terminal leave pay of resigned government employees is not subject to withholding tax on income. CaSAcH It is represented that Atty. Gerald Alan A. Quebral (TIN 122-554-325) and Mr. Joseph Irvin A. Obenza (TIN 199-480-655) were the former Executive Director and Supervising Legislative Staff Officer II, respectively, at the Secretariat of the Congressional Oversight Committee on Comprehensive Tax Reform Program (COCCTRP). Messrs. Quebral and Obenza were employed on a contractual basis and their respective appointments were renewed annually by the Chairman of the COCCTRP. On August 14, 2013, Messrs. Quebral and Obenza filed their courtesy resignations before the new Chairman of the Senate Ways and Means Committee, Senator Sonny Angara. Prior to their resignation, Messrs. Quebral and Obenza filed for commutation of their accumulated leave credits. However, they received information from the Senate Accounting Office that their terminal leave pay will be subjected to withholding tax on account of the fact that their separation from government service was voluntary (resignation). The opinion of the Senate Accounting Office is that terminal leave pay will only be excluded from gross income if the separation from the service was due to a cause "beyond the control of the said official or employee" Messrs. Quebral and Obenza, however, are of the opinion that their terminal leave pay is not subject to withholding tax even though their separation from the service was due to resignation. In reply, please be informed that terminal leave refers to the money value of the total accumulated leave credits of an employee based on the highest salary rate received prior to or upon retirement date/voluntary separation. Based on this definition, the money value of the total accumulated leave credits is simply a component of the terminal leave benefits. The Department of Finance, through the BIR, has issued several revenue regulations concerning the tax treatment of leave credits paid to government officials and employees. Revenue Regulations (RR) No. 10-00 introduced an amendment to Section 2.78.1 (A) (7) of RR No. 2-98, which reads: "Section 2.78.1. Withholding of Income Tax on Compensation Income . (A) . . . (1) . . . (7) Vacation and Sick Leave Allowances. Amounts of "vacation allowances or sick leave credits" which are paid to an employee constitute compensation. Thus, the salary of an employee on vacation or on sick leave, which is paid notwithstanding his absence from work constitutes compensation. However, the monetized value of unutilized vacation leave credits of ten (10) days or less which ARE paid to PRIVATE employees during the year AND THE MONETIZED VALUE OF LEAVE CREDITS PAID TO GOVERNMENT OFFICIALS AND EMPLOYEES SHALL NOT BE SUBJECT TO INCOME TAX AND CONSEQUENTLY TO WITHHOLDING TAX." (Emphasis supplied) TSADaI Furthermore, RR No. 10-00 considers the monetized value of leave credits paid to government officials and employees as " de minimis " benefits, hence, not subject to income tax as, well as withholding tax on compensation income, the aforesaid RR states that: "SEC. 1. Section 2.78.1(A)(3), (6)(b)(ii) and (7) of Revenue Regulations No. 2-98, as last amended by Revenue Regulations No. 8-2000, is hereby further amended to read as follows: "Section 2.78.1. Withholding of Income Tax on Compensation Income . (A) . . . (1) Compensation paid in kind. xxx xxx xxx (3) Facilities and privileges of relatively small value. xxx xxx xxx" The following shall be considered as " de minimis " benefits not subject to income tax as well as withholding tax on compensation income of both managerial and rank and file employees: (a) Monetized unused vacation leave credits of private employees not exceeding ten (10) days during the year and the monetized value of leave credits paid to government officials and employees ; (b) . . ." (Emphasis supplied) The most recent BIR issuance concerning " de minimis " benefits, RR 5-2011, likewise considers the monetized value of vacation and sick leave credits paid to government officials and employees as exempt from income tax on compensation, as well as from fringe benefit tax. RR 5-2011 provides: "SEC. 1. Section 2.78.1(A)(3), (6)(b)(ii) and (7) of Revenue Regulations No. 2-98, as last amended by Revenue Regulations No. 8-2000, is hereby further amended to read as follows: "Section 2.78.1. Withholding of Income Tax on Compensation Income . (A) . . . (1) . . . aDcEIH (3) Facilities and privileges of relatively small value. xxx xxx xxx" The following shall be considered as " de minimis " benefits not subject to income tax as well as withholding tax on compensation income of both managerial and rank and file employees: (a) Monetized unused vacation leave credits of private employees not exceeding ten (10) days during the year; (b) Monetized value of vacation and sick leave credits paid to government officials and employees; xxx xxx xxx (B) Definition of Fringe Benefit xxx xxx xxx (C) Fringe Benefits Not Subject to Fringe Benefit Tax In general, the fringe benefit tax shall not be imposed on the following fringe benefits: xxx xxx xxx The term "DE MINIMIS" benefits which are exempt from the fringe benefit tax, shall, in general be limited to facilities or privileges furnished or offered by an employer to his employees that are of relatively small value and are offered or furnished by the employer merely as a means of promoting the health, goodwill, contentment, or efficiency of his employees. The following are considered as " de minimis " benefits granted to each employee: (a) Monetized unused vacation leave credits of private employees not exceeding ten (10) days during the year; (b) Monetized value of vacation and sick leave credits paid to government officials and employees ; (c) . . . xxx xxx xxx." (Emphasis supplied) CcAIDa From the foregoing, it can be gleaned that with respect to the monetized value of leave credits paid to government officials and employees, the same is considered exempt from income tax. There is even a distinction between the monetized unused vacation leave credits received by private employees and that of the monetized value of vacation and sick leave credits received by government officials and employees. Those received by private employees should not exceed ten (10) days during a calendar year. Consequently, any amount that exceeds ten days worth of leave credits would be added to the gross benefits received by the employee and if the same exceeds thirty thousand pesos (P30,000), the excess will be subject to income tax. On the other hand, there is no limit as to the number of vacation and sick leave credits that can be monetized and paid to a government official or employee within a calendar year. This could only mean that even if the monetized value applied for by a government official or employee exceeds 10 days, it would still be exempt from income, as well as fringe benefits tax. Under the premise that the unutilized vacation and sick leave credits form part or are merely components of terminal leave benefits, it is logical to conclude that the terminal leave pay received by government official or employee who was separated from the service either through retirement, resignation, or separated thru no fault of his own is not subject to income and fringe benefits tax. In the case of Commissioner of Internal Revenue vs. The Court of Appeals and Efren P. Castaeda (G.R. No. 96016, October 17, 1991), the Supreme Court ruled that: "[t]he Court has already ruled that the terminal leave pay received by a government official or employee is not subject to withholding (income) tax. In the recent case of Jesus N. Borromeo vs. The Honorable Civil Service Commission, et al. , G.R. No. 96032, 31 July 1991, the Court explained the rationale behind the employee's entitlement to an exemption from withholding (income) tax on his terminal leave pay as follows: '. . . commutation of leave credits, more commonly known as terminal leave, is applied for by an officer or employee who retires, resigns or is separated from the service through no fault of his own. (Manual on Leave Administration Course for Effectiveness published by the Civil Service Commission, pages 16-17). In the exercise of sound personnel policy, the Government encourages unused leaves to be accumulated. The Government recognizes that for most public servants, retirement pay is always less than generous if not meager and scrimpy. A modest nest egg which the senior citizen may look forward to is thus avoided. Terminal leave payments are given not only at the same time but also for the same policy considerations governing retirement benefits'. CTHDcE In fine, not being part of the gross salary or income of a government official or employee, but a retirement benefit, terminal leave pay is not subject to income tax." Moreover, the Supreme Court in Re: Request of Atty. Bernardo Zialcita for Reconsideration of the Action of the Financial and Budget Office (A.M. No. 90-6-015-SC dated October 18, 1990) rendered the opinion that taxing the terminal leave of a retiring government employee is tantamount to double taxation. The Supreme Court further opined: "(5) Section 284 of the Revised Administrative Code grants to a government employee 15 days vacation leave and 15 days sick leave for every year of service. Hence, even if the government employee absents himself and exhausts his leave credits, he is still deemed to have worked and to have rendered services. His leave benefits are already imputed in, and form part of, his salary which in turn is subjected to withholding tax on income. He is taxed on the entirety of his salaries without any deductions for any leaves not utilized. It follows then that the money values corresponding to these leave benefits both the used and unused have already been taxed during the year that they were earned. To tax them again when the retiring employee receives their money value as a form of government concern and appreciation plainly constitutes an attempt to tax the employee a second time. This is tantamount to double taxation." Accordingly, terminal leave pay of Messrs. Quebral and Obenza which should form part of their tax-exempt separation pay is not subject to withholding tax on income. This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it will be ascertained that the facts are different, then this ruling shall be considered as null and void. Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue