Commissioner of Internal Revenue v. Court of Tax Appeals

FOURTH DIVISION [CA-G.R. SP No. 20513. October 10, 1990.] (C.T.A. Case No. 3458) COMMISSIONER OF INTERNAL REVENUE , petitioner , vs . HON. COURT OF TAX APPEALS and PAPER INDUSTRIES CORPORATION OF THE PHILIPPINES , respondents . D E C I S I O N VICTOR , J p : Appeal from the Decision dated January 29, 1988 of the Court of Tax Appeals in CTA Case No. 3458 captioned "PAPER INDUSTRIES CORPORATION OF THE PHILIPPINES Petitioner, versus COMMISSIONER OF INTERNAL REVENUE, Respondent". The following antecedent facts are not disputed: Petitioner Paper Industries Corporation of the Philippines (PICOP for brevity) is engaged in the business of producing logs and manufacturing wood pulp and paper products, for local and export sales, and in connection therewith, secures its logs from its own forest concessions in Surigao del Sur, augmented by purchase from surrounding tree farms. It appears that after the original investigation conducted by respondent Bureau of Internal Revenue's (BIR for short) examiners on the business tax aspect of petitioner PICOP, they rendered a report showing that petitioner PICOP did not manifest a gross volume of 446,557.14 cubic meters of logs or a net volume of 325.048.94 cubic meters after deducting the 27.21% legal allowance for natural defects of timber. (BIR Records, p. 82). On the basis of these findings, respondent BIR assessed petitioner PICOP for deficiency income tax on the income realized from the sale of said unmanifested logs in the amount of P55,840,151.40. (BIR Records, pp. 103-104). Petitioner PICOP contested the above assessment, and objected to the method by which the examiners computed the unmanifested logs cut, arguing that: (1) for uniformity, the log production of 755,239.81 cubic meters (net) should be taken up at gross, i.e., including the 27.21% allowance for defects provided by the Bureau of Forest Development, since the log inventories were stated at gross; and (2) the 27.21% allowance for defects should be excluded from the gross volume of the alleged unmanifested logs in computing the income on said logs as these defects have no economic value. (BIR Records, p. 119). Conformably, a recomputation was made by respondent BIR: (1) adjusting the net volume of 755,239.81 cubic meters of logs produced/manifested in the original computation to a gross volume of 1,422.411 cubic meters in the revised computation; and (2) deducting the 27.21% allowance for defects from the resultant gross volume of 342,122.25 cubic meters of unmanifested logs, thereby reducing the unmanifested logs to a net volume of 249,030.79 cubic meters. (BIR Records, pp. 130-134). As a result of the revision, the alleged income derived from unmanifested logs was reduced from P55,840,157.40 to P42,780,999.41, the amount involved in the issue. Correspondingly, respondent BIR cancelled the original deficiency income tax assessment and issued a new one for P4,763,750.00. The above revision notwithstanding, petitioner PICOP insisted that the revised computation still contained discrepancies and inaccuracies. It introduced the computation prepared in 1976 by its independent auditors in connection with the audit of its 1975 books of accounts, wherein the logs received/produced in 1975 were all accounted for. (Exh. "H"). This computation of its auditors was supported with the summary of log production and the summary of sales/issues of logs for that year, both of which had been submitted by petitioner PICOP to the Bureau of Forest Development and respondent BIR as required by law. (Exhs. "I" and "J"). Thus, petitioner PICOP filed a Petition for Review with the Court of Tax Appeals against respondent BIR praying that the revised assessment be rejected as illegal and not supported by evidence. After trial, the tax court promulgated its questioned Decision, the decretal portion of which ordains: "WHEREFORE, the decision appealed from is modified. Petitioner Paper Industries Corporation is hereby ordered to pay the respondent Commissioner of Internal Revenue the amount of P246,532.97 as withholding tax at source, plus surcharge and interest on delinquency as provided for by law, without pronouncement as to costs. "SO ORDERED." Aggrieved by the above pronouncement, respondent BIR elevated this case to the Supreme Court by way of Petition for Review. Per its Resolution dated March 21, 1990, (Rollo, p. 124), the High Court referred this case to Us for disposition. Gleaned from the records, the issue being raised by appellant BIR in this case is purely factual, i.e., whether or not appellee PICOP is liable for deficiency income tax on undeclared income of P42,780,999.41 in 1975, based on the net volume of 249,030.79 cubic meters of alleged unmanifested logs. Anent the foregoing issue, appellant BIR assiduously contends that based on its revenue examiners' revised computation of the logs handled and disposed of by appellee PICOP, there was a net volume of 249,030.79 cubic meters of unmanifested logs cut by appellee PICOP from which it derived unreported income in the amount of P42,780.999.41. (BIR Records, p. 130). To enable Us to resolve squarely the above issue, it is relevant to reproduce here the tabular summary of computations prepared by the appellant BIR and appellee PICOP, and cited by the tax court, thus: PICOP Computation BIR prepared Computation Logs in cubic meters by auditors p. 130, (gross) Exhibit "H" BIR records Difference Inventory, beg. 12/31/74 276,370.86 276.370.86 Add: Logs produced/received a. From concessions (net volume 1,033,500.87) 1,300,370.87 b. From tree farms 186,940.71 c. From outside concessions 205.91 Total logs produced/received 1,487,517.49 1,422,411.00 65,106.49 Total logs handled 1,763,888.35 1,698,781.86 Logs sold/disposed of: a. Export sales 717,316.00 716,908.46 407.54 b. Local sales 62,917.00 62,912.06 4.94 c. Company use 2,444.00 2,444.00 d. Transfer to (in process) 1. Veneer plant 57,534.00 2. Plywood plant 72,877.00 3. Lumber mill 74,169.00 4. Plywood plant No. 2 78,922.00 283,572.00 282,862.74 709.26 5. Pulp and paper mill 403,663.00 403,663.00 Total logs sold/disposed of 1,469,912.00 1,062,683.26 Ending balance 12/31/75 293,976.35 636,098.60 Inventory, end 12/31/75 (Exh. "B") 293,976.35 293,976.35 Logs "unaccounted for" gross 342,122.25 Deduct: Allowance for natural defect of logs (27.21%) 93,091.46 Logs"unaccounted for" Net (72.29%) 249,030.79 ========= In the hearing before the tax court, the beginning (276,370.86 cu. ms.) and ending (293,976.35 cu. ms.) inventories of logs in both computations were not disputed. The present controversy lies mainly on: (1) the volume of logs produced/received; and (2) the 403,663 cubic meters of logs processed in the pulp and paper mill in appellee PICOP's computation which was not taken up by appellant BIR. From the above tabular summary of computation, We note the following discrepancies: "A. Total logs handled or produced: PICOP 1,487,517.49 cu. m. gross BIR/revised 1,422,411.00 cu. m. gross 65,106.49 cu. m. gross "B. Export Sales: PICOP 717,316.00 cu. m. gross BIR 716,908.46 cu. m. gross 407.54 cu. m. gross "C. Domestic sales: PICOP 62,917.00 cu. m. gross BIR 62,912.06 cu. m. gross 4.94 cu. m. gross "D. Logs used by: PICOP 2,444.00 cu. m. gross BIR 0" "E. In Process: PICOP 283,572.00 cu. m. gross BIR 282,862.74 cu. m. gross 709.26 cu. m. gross "F. Pulp and Paper Mill: PICOP 403,663.00 cu. m. gross BIR 0" We agree with the submission of appellee PICOP that the method used by appellant BIR examiners in computing the "unaccounted for" logs contained built-in or inherent discrepancies. This is so, for appellee PICOP arrived at the ending inventory by using a beginning inventory and adjusting the same by using its own particular figures. By adopting the beginning and ending inventories used by appellee PICOP, appellant BIR's examiners necessarily must vary their in-between figures from those used by appellee PICOP, thus resulting in the alleged unmanifested logs. By following the standard accounting method of arriving at the ending inventory, but substituting appellant BIR's figures, appellee PICOP arrived at the result shown below, thus: "a. Beginning Inventory 276,370.86 cu.m. b. Add: Logs produced/ received 1,422,411.00 cu.m. Total Handled 1,698.781.86 cu.m. c. Less: Exported 716,908.46 Locally sold 62,912.06 779,820.52 In process 282,862.74 1,062,683.26 cu.m. d. Ending Inventory 636,098.60 cu.m. The appellant BIR's ending inventory, compared with that of appellee PICOP's, as it appears is: "BIR Method 636,098.60 cu.m. PICOP 293,976.35 cu.m. 342,122.25 cu.m. Appellee PICOP explained the difference of 342,122.25 cu. m. in the hearing before the tax court when it presented Exhibit "N" on which its witness testified. In this regard, appellee PICOP made reference to the items it reported to the BFD/BIR but which were completely or partly disregarded by appellant BIR's examiners: "a. 65,106.49 cu.m. part of total logs handled, but not picked up by the BIR examiners. If this 'difference' is added to the discrepancy of 342,122.25 cu. m. between the ending inventories of PICOP and the BIR pointed out above, the total to be explained by PICOP would be 407,228.74 cu. m. "b. Dispositions/sales by PICOP not considered by the BIR examiners: 2,444.00 cu.m. PICOP's own use 407.54 cu.m. Difference in export sales 4.94 cu.m. Difference in local sales 709.26 cu.m. Difference in volume in process 403,663.00 cu.m. Pulp and Paper Mill 407,228.74 cu.m. Thus reconciled, it will be seen that the volume left unaccounted for is "ZERO". In other words, appellee PICOP has succeeded in showing that there is no unmanifested quantity of logs. Since the contested deficiency rests primarily on the existence of "unmanifested" volume of logs of such magnitude as to offset the reported operating loss and instead create taxable income in appellee PICOP's income tax return (Exh. "C"), the deficiency income tax on appellee PICOP is unwarranted. Therefore, there is nothing erroneous in the method used by PICOP in arriving at its ending inventory of 293,976.35 cu. ms., nor with its figures since appellant BIR has conceded the correctness of appellee PICOP's ending inventory as well as its beginning inventory, the inevitable conclusion is that the figures in-between are correct. Nevertheless, even by using appellant BIR's figures and with a different ending inventory, appellee PICOP has satisfactorily reconciled the resulting difference of 407,228.74 cu. m. With regard to the 403,663 cubic meters of logs used by appellee PICOP in 1975 as raw materials in the manufacture of pulp and paper products, appellant BIR contends that these were excluded in its computation because these were defective logs unfit for any commercial use and not subject to forest charges. This contention is not well-founded. It is not altogether correct for appellant BIR to assert that its examiners excluded the 403,663 cubic meters from their computation. While it is true that they excluded this volume from "output" or logs disposed of, they did not exclude it from "input", or the total logs produced/received totalling, per appellant's figure, 1,422,411 cu. ms. In other words, while the total "produced/received" included 403,663 cubic meters, the same was not reflected in appellant BIR's computation as having been used to manufacture pulp and paper. By appellant BIR's method of accounting, the 403,663 cubic meters would therefore remain unaccounted for, hence, subject to the income tax because it is imputed to form part of "unmanifested logs". Note that the tax court did not find any evidence presented by the appellant BIR that the 403,663 cubic meters was excluded from the total log "input" or logs produced/received. On the contrary, it would seem from the figures of appellant BIR and RASAC that the total log "input" included the 403,663 cu.ms. used in the pulp and paper manufacture. If so, it should be accounted for as part of the "output" as computed by appellee PICOP. While it is correct that the BFD/BIR Regulations allow a provision for defects in the logs that are not subject to forest charges (27.21% in the case of appellee PICOP), such exclusion is not relevant for income tax purposes. What is relevant for the latter tax is the actual quantity commercially used. This actual quantity commercially or economically utilized is capable of exact measurement. Thus, as proved during the trial, while appellee PICOP enjoyed a non-taxable allowance of 27.21% for defects not subject to forest charges, by actual measurement for income tax purposes, only 20% was not fit for any economic use and 79% recovered as economically valuable. It was this higher percentage that produced income for income tax purposes. Hence, if this 79% were reflected as part of the "input" reported to the BIR and BFD, all portions of it used in the manufacturing operations must be included in the accounting. Appellant BIR has ignored this logical procedure by including 403,663 cu. ms. in the "input" but excluding it from the "output". Moreover, appellee PICOP's lone witness, Mr. Ramon B. Jamias (Senior Asst. Vice-Pres. and Asst. Treas.), testifying with the use of an illustration of a log (Exh. "L"), justified appellee PICOP's manner of computation, thus: "Q. Mr. witness, in the last hearing you testified on the identified Exhibits "H" and "I". Exhibit "H" is the worksheet of your auditors showing how you computed the beginning and ending inventory; while Exhibit "I" is the report that PICOP filed with the Bureau of Forest Development showing its log production for 1975, January to December. Will you see these documents if they are the ones you testified on? "A. Yes, these are the documents I testified before. "Q. You will note that in Exhibit "H" you showed wood deliveries of 1,300,370.87 cu. m. as gross, and yet in Exhibit "I" you showed a gross of only 1,033,500.87 which was the figure picked up by the BIR examiner. Will you please explain to the Honorable Court if you know of your own personal knowledge why this difference exist? "A. Yes, In the volume presented by the auditors, these includes all the volumes of logs subject to forest charges and those not subject to forest charges, like some firewoods which normally are not subject to forest charges, some of the waste which we bring in to be used as additional raw materials. "Q. At this juncture, could you use in their explanation an illustration or sketch? I ask you to prepare an enlarge portion of Exhibit "L" which is a sketch of the log. "A. Based on the sketch of this log, normally the log around 20 ft. in length is loaded in the truck and to measure it when it arrive at the scaling station, normally the BIR and the Bureau of Forest Development representatives look at the smaller end of the logs. And they measure the small end of the logs by drawing an imaginary straight line through the opposite end; say, this is the diameter of this small end and then they compute the area. Normally, this is the sound log that they arrive at, roughly 72% of the log which has been over the years of our experience and the industry's experience that the logs normally not usable cannot be sold and cannot be turned into lumber. "Q. Will you identify with the figures the sound log you just mentioned? "A. These are figures B, C, F and E. "Q. What are those? "A. These are the portions considered as sound log. B, C, E and F. These form the area of the sound log. "Q. What do these numbers represent, 1, 2, 3 and 4? "A. 1, 2, 3 and 4 represent defects within the sound log. "Q. For purposes of determining the forest charges due from PICOP, how much of B, C, E and F is subject to forest charges? "A. It is subjected only to 72%. "Q. How about the 27.21%? "A. It is an allowance for defects. "Q. Now, in the experience of PICOP . . . Let me withdraw that. You testified before that after the log is measured by the BIR and BFD examiners in the scaling station, PICOP bring the logs to your production pond. What is done there in the pond? "A. The moment it enters the production pond, it is now cut into pieces and segregated into different uses. Some of the good logs end up as exportable logs, a portion of it ended as raw materials for the plywood and sawmill, and some of the logs end up as raw materials for the pulp and paper mill. "Q. In the experience of PICOP this economic recovery that you are mentioning are those taken only from the area B, C, E and F? "A. No, it is taken from A, B, F, E, C and D because these areas can be used for fuel wood. We can recover some woods here. For purposes of forest charges, these areas are normally not subjected. "Q. Suppose there are logs where the defects 1,2,3 and 4 do not exists or if they exist they are less than 27.21%. Do you use those also for economic recovery? "A. Yes, we recover it also. Because the normal defect of a log, this is what you call cannot be used for sound log but it can be used for chips, it can be used for firewood, can be used for some other purposes for manufacturing chipboards. "Q. Now, in 1977 what was the percentage of recovery or for economic use as determined in the production pond that you experienced? "A. The economic recovery for determination is 79%. "Q. In other words, although you paid only 72% of the log for forest charges actually you utilized in 1977 more than 79%? "A. Yes, we were able to recover through getting as much as possible out of the sound logs. "Q. What did your auditors used in determining the ending and beginning inventory as of 1977? "A. It's the gross volume of sound area in the log, A, D, E and F. Q. The 79% or the 72%? "A. The 79%. "Q. So that is your explanation for the difference between Exhibits "H" and "I". "A. Yes, sir. Can I add some more? "Q. Yes, please do. "A. Because the soundness of the logs were actually industry wide practice so the application become very, very favorable for PICOP because we try to recover every sound logs. Unlike in other concessions wherein all they recover were the exportable and sometimes the local logs that could be sold. All other portions of the logs for that purpose are thrown away so the BFD and the BIR feels they should not be taxed for it. But in our case we are using it, we try to recover; that is the reason for the integrated approach of PICOP; so we recover every conceivable, usable raw materials. I think that is the reason also why the Japanese firm who import these logs can now compete with anybody because they use every conceivable portion of the logs rather than throw it away. "Q. For what use do you make out of these defective portions that you said? "A. We chip it into small items and cook it into pulp, use as raw materials for pulp and paper mill. In some cases, if it is so sawn, what you call the "tatal, we burn it into fuel. In some cases what you call the "pinaglagarian" or something, we use it as blockboard. So it's really a total approach concept so that we can utilize the whole material. "Q. Did you take into consideration the consumption in the pulp mill in determining the inventory? "A. Yes, they used transfer to the pulp mill as the whole volume because they have to account for the whole volume that was transferred to them. "Q. In 1977, how much volume was used by the paper mill? "A. In 1977, the pulp and paper mill used 403,663 cu. m. "Q. Now, was that volume taken into account by the BIR examiner when they computed the deficiency assessment? "A. It was not taken into account. "Q. You mean 403,663 cu. m. were totally disregarded by the BIR? "A. Yes, it was totally disregarded by the BIR. (TSN, pp. 2-10, July 22, 1983). It is not disputed that as a general rule, all presumptions are in favor of the correctness of tax assessments and the good faith of tax assessors and the validity of their actions are presumed. This does not preclude, however, a taxpayer (like appellee PICOP) from presenting contrary evidence to refute this rebuttable presumption. In this case, appellee PICOP satisfactorily proved that appellant BIR's tax assessment is not correct. On appellant BIR's part, it failed to adduce supporting evidence to contradict appellee PICOP's refutation. Appellant BIR, for instance, did not present the officers of the RASAC team that initiated and investigated this case; its examiners did not dig for evidence in the field and were not presented as witnesses before the tax court. Without supporting evidence on hand and in the face of substantial evidence presented by appellee PICOP, reliance on the presumption of correctness of tax assessment is inappropriate. Thus considered, We are unable to disagree with the tax court's factual findings that no logs were unmanifested by appellee PICOP for income tax purposes and therefore the contention that appellee PICOP derived undeclared income therefrom in the amount of P42,780,999.41 cannot be sustained. ACCORDINGLY, finding no reversible error in the factual finding of the tax court, the judgment appealed from is hereby AFFIRMED. No costs. SO ORDERED. Mendoza and Chua, JJ., concur.