Non-taxability of the Excess of the Appraised Value of the Real Properties Over Net Book Value

October 14, 1959 BIR RULING NO. 519-59 Genato Commercial Corporation P. O. Box 1396 M a n i l a Gentlemen : Reference is made to your letter dated October 9, 1959 stating the following: " F A C T S : The Genato Commercial Corporation is a corporation duly organized in accordance with law since 1928. It is particularly engaged in the importation and distribution of general merchandise. When the import control came into effect, the corporation had to venture into the manufacturing business, in order to save the business of the corporation. The management now feels that in order to make profits, the unit cost must be reduced by increasing production. Due to its limited facilities, increased production in its program of expansion can only be achieved by building a new and modern packing plant. This, of course, requires additional capital and further credit facilities from the banks. To attain this objective, the corporation must have to be re-organized, re-appraised and re-capitalized to at least FIVE MILLION (P5,000,000.00) PESOS. Due to the prevailing inflation, the book value of its real properties and other fixed assets which form part of its original paid-up capital are now far below than the prevailing market value. Consequently, the book paid-up capital of the corporation is very much less than it should be. In view hereof, the present facilities, as well as the rights and privileges enjoyed by the corporation, are very much less in proportion to the real and actual current value of its assets. "The Board of Directors and Stockholders of the corporation desire to engage the services of a competent realtor and/or appraiser to re-appraise the real properties and other fixed assets that the corporation owns in order to correct its understated book value, and whatever resultant increase in book value of its real properties and other fixed assets will be declared as stock dividend to the stockholders." You now ask information as to whether or not the amount corresponding to the excess of the appraised value of your real properties and other fixed assets over their net book value is subject to tax as capital gain and whether or not the stockholders are liable to tax on the stock dividends declared by the corporation. In reply thereto, I have the honor to inform you that the excess of the appraised value of your real properties over their net book value is not subject to income tax because no income is actually realized on account of the appraisal of said properties. A mere advance in the value of the property of a person or corporation in no sense constitutes the "income" specified in the revenue law. Such advances constitute and can be treated merely as an increase of capital. An income means cash received or its equivalent; it does not mean choses in action or unrealized increments in the value of the property. The revenue law with reference to the income tax employs the term "income" in its natural and obvious sense, as importing something distinct from principal or capital. (Fisher vs. Trinidad, 43 Phil. 973) For similar reasons, the stock dividends declared by the corporation as a result of its increased capitalization does not constitute taxable income to the stockholders. It may be stated in this connection, however, that should the reappraised properties be sold, the basis, in determining the gain realized from the disposition, will be the book value before the re-appraisal and not the reappraised value. Very truly yours, (SGD.) MELECIO R. DOMINGO Commissioner of Internal Revenue