Comments on the Proposed Revenue Regulations on "Income Against Which Certain Allowable Deduction May be Charged"

May 24, 1994 BIR RULING [UN-163-94] MEMORANDUM FOR : Deputy Commissioner Beethoven Rualo RE : Comments on the Proposed Revenue Regulations on "Income Against Which Certain Allowable Deduction May be Charged" I. Section 1 of the proposed Revenue Regulations states that SEC. 1. Definition of "Incurred in Profession, Trade or Business " Deductions which must be incurred in the exercise of a profession, trade or business, or connected with the taxpayer's profession, trade or business, to be allowable under Section 29 of the NIRC shall refer only to such deductions which are allocable to the gross income actually declared for the purpose of computing the taxpayer's liability under Sections 21(b) and (f), 24(a), (b) and (c), and 25(a) (1) of the National Internal Revenue Code. cdtech Comments: The proposed regulations cannot apply to the income of non-resident citizens derived from all sources without the Philippines under Section 21(b) of the Tax Code, since they are entitled only to personal exemption. In the case of individuals engaged in business or practice of profession under Section 21(f) of the Tax Code, the law specifically provides that only the following direct costs shall be allowed as deductions: (a) Raw materials, supplies and direct labor; (b) Salaries of employees directly engaged in activities in the course of or pursuant to the business or practice of their profession; (c) Telecommunications, electricity, fuel, light and water; (d) Business rentals; (e) Depreciation (f) Contributions made to the government and accredited relief organizations for the rehabilitation of calamity stricken areas declared by the President; and (g) Interest paid or accrued within a taxable year on loans contracted from accredited financial institutions which must be proven to have been incurred in connection with the conduct of a taxpayer's profession, trade or business. It is to be noted that except for item (f) on contributions, all of the aforementioned items of deductions are allocable to the gross income which an individual taxpayer engaged in business or practice of profession will declare for income tax purposes. However, we cannot disallow the deduction for contributions made only to the government and accredited relief organizations for the rehabilitation of calamity stricken areas declared by the President because it is specifically provided in the law. It is believed that the proposal can be adopted provided we include the deduction for such contributions. Moreover, it is suggested that we have to include in the proposed regulations that "For individuals whose cost of goods sold and direct costs are difficult to determine, a maximum of forty percent (40%) of their gross receipts shall be allowed as deductions to answer for business or professional expenses as the case may be" (Sec. 29, Tax Code as amended by R.A. 7496) On the other hand, under Section 29 of the Tax Code, the following items of deductions i.e. (a) Expenses (b) Interest (c) Taxes (d) Losses (e) Bad Debts and (f) Depreciation must be sustained in the course of trade or business of a corporate taxpayer. Thus, they are actually allocable to the gross income which the corporate taxpayer will declare for income tax purposes except for charitable and other contributions which we cannot disallow because it is likewise clearly provided for in the law as an item of deduction, subject of course to certain statutory limitations. We can therefore adopt the proposed regulations provided we include charitable and other contributions in the item of deductions. II. Section 2. Section 3.1 of the proposed Revenue Regulations states that SEC. 2. Effect of Final Withholding Taxes on Allowable Deductions and Allocable Income " (a) . . . (b) The deductions incurred in generating income subject to final withholding taxes shall not be considered deductions incurred in the exercise of a profession, trade or business or connected with the taxpayer's profession, trade or business for the reason that the generated income is excluded from gross income in computing income tax liability under Sections 21(b) and (f), 24(a), (b) and (c), and Section 25(a) (1) of the National Internal Revenue Code. Comments: The proposed regulations may be adopted since they have basis in law. The income subject to the final withholding tax is excluded from gross income in computing income tax liability under Sections 21(b) and (f), 24(a), (b) and (c) and 25(a)(1) of the NIRC. There is no reason why deductions incurred in generating the income subject to final withholding tax shall be considered incurred in the exercise of a profession, trade or business, or connected with the taxpayer's profession, trade or business. ALICIA P. CLEMENO Acting Assistant Commissioner (Legal Services)