Picop Trading Corp. v. Court of Tax Appeals

SPECIAL ELEVENTH DIVISION [CA-G.R. SP No. 35152. May 7, 1997.] PICOP TRADING CORPORATION , petitioner , vs . COURT OF TAX APPEALS and THE COMMISSIONER, BIR , respondent . D E C I S I O N SALAS , B. , J p : What we have is an appeal (thru a Petition for Review) from the Decision of the Court of Tax Appeals (CTA), reading . . . (Rollo, p. 45): "A recomputation of the 1985 income tax as well as the deficiency expanded withholding taxes are in order to wit: Recomputation of 1985 deficiency income tax: Net income/loss per return P521,885.00 Add: Unallowable deductions and additional income a. domex price difference P9,863.049.30 b. deferred interest 4,597,716.81 c. representation and entertainment 30,000.00 14,490,766.11 Net income per Court computation 13,968,881.11 Income tax due thereon (Sec. 24) P4,879,108.39 Add: interest on deficiency (Sec. 51(d)) from 4-16-86 to 1-8-88 (4,879,108.39 x 20% x 633/365) 1,692,315.40 TOTAL AMOUNT DUE AND COLLECTIBLE 6,571,423.79 =========== 1985 Deficiency Expanded Withholding Tax Delivery expenses 2,142,457.67 Freight expenses 6,384,252.91 Arrastre & stevedoring 894,643.16 Warehousing and storage 136,915.20 TOTAL 9,558,269.14 ========= 1% Expanded withholding tax due 95,582.69 Less: Amount already paid 13,037.55 Deficiency expanded withholding tax 82,545.14 Add: Surcharge and interest [Sec. 54 (e)] Surcharge (82,545.14 x 25%) 20,636.28 20% interest from 10-31-85 to 1-8-88 [182,545.14 x 20% x 799/365] 36,138.94 P139,320.36 TOTAL DEFICIENCY TAXES DUE AND COLLECTIBLE P6,710,744.15 =========== Corrected by the Court due to error in footing. Wherefore, the decision appealed from is hereby modified. Petitioner PICOP Trading Corporation is held liable for deficiency income and expanded withholding taxes in the amount of P6,571,425.79 and P139,320.36. respectively, or in the aggregate amount of P6,710,744.15 for the year 1985 inclusive of surcharge and interest. With costs. SO ORDERED." Petitioner faulted the court a quo by alleging the following (Ibid. p. 14): "IV. ASSIGNMENT OF ERRORS With due respect. 1. THE COURT OF TAX APPEALS SERIOUSLY ERRED IN DECLARING THAT THE PETITIONER UNDERSTATED ITS 1985 SALES WHEN IT DEDUCTED THE DOMEX PRICE DIFFERENCE FROM ITS GROSS SALES DESPITE PROOF THAT THE DOMEX PRICE DIFFERENCE IS A LEGITIMATE EXPENSE. 2. THE COURT OF TAX APPEALS SERIOUSLY ERRED IN DECLARING THAT THE PETITIONER'S INTEREST INCOME FOR 1985 WAS UNDERSTATED DESPITE PROOF THAT THE INTEREST WAS ALREADY WRITTEN OFF. 3. THE COURT OF TAX APPEALS SERIOUSLY ERRED IN NOT REVERSING THE RULING OF THE RESPONDENT COMMISSIONER." Before the court below, the petitioner alleged (Records, p. 1) that it is the subsidiary of Paper Industries Corporation of the Philippines (PICOP) and is in the business of trading paper products. It (petitioner) distributes on exclusive basis the paper products of PICOP pursuant to a Distributorship Agreement dated May 1, 1982. On January 29, 1988, the petitioner received a letter of demand and assessment notice, both dated January 8, 1988, for deficiency income and expanded withholding taxes for 1985 in the amounts of P6,633,930.00 and P114,534.84, respectively, inclusive of interests. Respondent's assessment was protested by the petitioner on February 29, 1988, in a letter dated August 21, 1989. The respondent Commissioner denied with finality the letter-protest, received by the petitioner on November 3, 1989. The petitioner was assessed deficiency income tax on the basis of erroneous findings and conclusions that: (a) it understated its sales by P9,863,049.30, (b) it understated its interest income by P4,597,716.81, (c) it erroneously claimed deduction expenses, classified as slitting and rewinding in the amount of P120,919.34. Furthermore, petitioner was assessed an expanded withholding tax of P114,534.84, already inclusive of penalties and interest, supposedly because of failure to withhold the expanded withholding tax on income payments to contractors. A reversal of the Decision was precisely petitioned because: (a) there was no understatement of sales. The amount of P9,863,049.30 represented the difference between the local market price and the export market price of kraft paper (referred to as domex price differential) but ruled by the respondent as an understated sales for 1985; (b) there was no understatement either of interest income. The deferred interest income of P4,597,716.81 which respondents wanted to be included as part of petitioner's gross income, was more of an imaginary income than taxable income; and (c) the assessment for deficiency expanded withholding tax is uncalled for considering that the non-withholding of the taxes did not result in any revenue loss of the government. The contractors which received the income payments already reported the income and paid whatever tax was due to the government, otherwise, this will amount to double taxation. On the other hand, the respondents (Records, p. 26) said, petitioner was answerable for the deficiency income and withholding tax; and that the disallowance of petitioner's domex price difference, together with the uncollected interest income, were correct and proper. Also, petitioner failed to withhold the withholding tax on the income payment of P82,535.14. Prayed for, in turn, was the payment of the 1985 deficiency income tax; the deficiency expanded withholding tax of 1985; and the corresponding surcharge for late payment, plus the 20% annual interest from January 8, 1988 up to full payment pursuant to Sections 282 and 283 of the 1986 Tax Code, as amended by P.D. 9094. We rule for the petitioner. It is obvious to Us that the contested Decision modified the ruling of the BIR Commissioner, the latter denying the protest of the petitioner against an assessment for deficiency income tax and withholding tax for 1985 in the amounts of P6,623,970.30 and P114,534.84, respectively. The petitioner insisted that despite the absence of "evidence and memorandum" for the Commissioner, co-respondent court still rendered judgment that was adverse to it. To repeat, on May 1, 1992, petitioner entered into a Distributorship Agreement with PICOP to distribute on exclusive basis, the paper products of PICOP, but the agreement was terminated on November 1, 1985. The demand letter with assessment notice for deficiency income tax and expanded withholding tax for 1985, was received by the petitioner on January 29, 1988, but the original investigation was conducted by a certain Prospero Suna whose September 19, 1987 Report disclosed discrepancies in the accounting records of the petitioner, to wit: (1) the domex price difference was deducted from the sales, by reason of which there appears to be an understatement of sales, (2) the deferred interest income was not included in the gross income, (3) the slitting and rewinding expenses were charged as ordinary expenses, even if incurred after the termination of the Distributorship Agreement, and (4) the alleged failure to withhold the expanded withholding tax on income payments to the contractors, inclusive of penalties and interests. If at all the assessment was protested, it was because from the view point of the petitioner, there was no legal and factual basis. The case was then brought before the Court of Tax Appeals. Before said Court the Commissioner did not present any evidence for the reason that his formal offer of evidence was not submitted within the allotted time, after which the parties were ordered to submit their memoranda. Admittedly there was a Motion for Reconsideration but this was denied on February 11, 1993. The 2nd Motion for Reconsideration was denied on May 19, 1993, thereafter, the case was submitted for resolution. The Commissioner did not submit any memorandum either. We agree with the petitioner that the Court of Tax Appeals erred in declaring that it (petitioner) understated its 1985 sales when it deducted the domex price difference from the gross sales, even if evidence was submitted that the domex price difference was a legitimate expense. For the purpose of encouraging exporters of goods to procure packaging materials from local sources, instead of thru importation and after considering further that the price of imported kraft paper was cheaper than the locally produced materials, what the petitioner did was to adopt an "incentive scheme" if only to eliminate the price difference. This was on the other hand viewed by the respondent Commissioner as an understatement of the 1985 gross sales because it treated the price difference as a legitimate expense. LexLib Submitted by the petitioner as a typical accounting sample was the following entry (Rollo, p. 224): 1. Dr. Accounts Receivables P15,500.00 Cr. Sales P15,500.00 (To record export sales on account at regular local price) 2. Dr. Sales 2,325.00 Cr. Domex Price Difference 2,325.00 (To set up provisions for domex price difference) 3. Dr. Cash 13,175.00 Cr. Accounts Receivable 13,175.00 (To record collection of account) 4. Dr. Domex Price Difference 2,325.00 Cr. Accounts Receivable 2,325.00 (To record credit note for liquidation of Domex Price Difference)" As explained by the witness, Ms. Catapusan, the sales were decreased by the domex price difference since said amount will either be returned or reimbursed to the purchaser upon approval of the export; naturally, the price difference cannot be accepted as part of the gross sales because of the refund to the clients. Aside from that, documentary proofs were submitted by the petitioner that the domex price difference was indeed actually refunded to the purchases, referring to Credit Note No. 1874 dated March 11, 1995, in the amount of P68,588.65, Exh. B; Credit Account No. 1943 dated April 15, 1985 for P73,520.00, Exh. D; Credit Note No. 2238 dated July 24, 1985, for P281,166.65, Exh. D-1; Credit Note No. 2526, dated November 20, 1985, for P1,340,481.34, Exh. D-3; Credit Note No. 2581 dated December 26, 1985 for P748,188.26, Exh. D-4; Credit Note No. 2636 dated March 26, 1985, for P1,900,512.85, Exh. D-5; Credit Note No. 3625 dated March 26, 1986, for P465,617.25, Exh. D-6; Credit Note No. 2644 dated April 23, 1986, for P83,448.90, Exh. D-7; Credit Note No. 2629 dated February 28, 1986 for P104,811.00, No. D-8; Credit Note No. 2663 dated July 29, 1986 for P53,402.15, Exh. D-9; Credit Note No. 2668 dated August 26, 1986 for P7,409,683.35, Exh. D-10; Credit Note No. 2689, dated April 10, 1987 for P1,432,838.10, Exh. D-11; Credit Note No. 2339 dated August 26, 1985, for P36,608.95, Exh. D-12; Credit Note No. 8583 dated December 6, 1985 for P48,096.03, Exh. D-13; Credit Note No. 1873 dated March 11, 1985 for P9,448.80, Exh. D-14; Credit Note No. 2582 dated December 26, 1985, for P60,090.90, Exh. D-15; Credit Note No. 2338 dated August 26, 1985 for P29,943.80, Exh. D-16; and Credit Note No. 2639 dated March 31, 1986 for P454.40, Exh. D-17. cdll It can easily be seen therefore that the domex price difference was a legitimate expense which the respondent Commissioner should have allowed as a deduction, but which incidentally was overlooked by the respondent court. This is not to mention the fact that the Commissioner totally failed to present any evidence that would otherwise refute the expense claim of the petitioner. As shown by the sample transaction, what was credited as a receivable account was only P13,175.00 instead of a total sales of P15,500.00, or a difference of P2,325.00 which was debited as the domex price difference, to be refunded to petitioner's clients. The sale difference certainly cannot be treated as a part of the revenue, but should be classified, on the other hand, as an expense item, considering that this was due and payable to the client. As explained by Miss Catapusan, upon proof that an exportation was made, the sale of kraft paper was treated as a domestic export sale and the price difference was returned to the purchaser as an incentive for buying them from the petitioner, instead of importing, such item. The fact alone that some of the refunds were made in 1985 while others were made in 1987, is not a justification for the price differences to be looked upon as part of the gross sales. As a matter of fact, under Section 29, par. 1 (National Revenue Code) expenses paid or incurred during the taxable year, are allowed as deductions. The court should have accepted the price difference as legitimate expenses since they were actually incurred at the time of the sale in 1985, and eventually paid/returned to the clients. We also agree with the petitioner that the court below erred in declaring that petitioner's interest income in 1985 was understated, even if evidences were submitted that the interests were written off. The court said that income arriving from late payment of accounts "should be recognized" because the earning process had already been completed. With the petitioner adopting an "accrual method of accounting" the interest income is supposedly to be reported during the period earned rather than when the cash remittances were either paid or received. We disagree. What the petitioner actually did was merely to implement its own system of "collection tool," with respect to customers having overdue accounts. It directed payment on a monthly basis of 1% interest and 3% penalty charges, if only to compel the customers to settle their accounts on time. With the interest and penalty impositions, customers with overdue accounts were left with no alternative but to settle their liabilities soonest, but with request for condonation of the interest and penalties. From the version of Miss Catapusan, what the company did was to set up an entry by "debiting accounts receivable" and "crediting deferred interest income." The balance of the deferred interest income is obviously deceiving because there were occasions when interest income were either written off or condoned, or when petitioner has not actually collected any amount. For 1985 for instance, only interests and penalties actually collected were reported as interest income. Interests and penalties condoned, on the other hand, were not taken up as "expenses" but at the end of the year, the balance of the deferred interest income was deducted from the accounts receivable thus reversing the accruals already made. Petitioner's means of income was pure trading, unlike a banking institution that earns an interest income in the ordinary course of business. We agree that the P4,595,716.81 was not a taxable income because there was no actual cash flow at the end of the taxable year. Above all, the interest income sought to be taxed will eventually be reported as income when collected, thus, there is no loss of revenue on the part of the government. We disagree with the court that the deferred interest income should be taken into account because the earning process already started. This should not be because in majority of the cases, the income earned were condoned. Yielding to the opinion of the court would mean that it is requiring the petitioner to pay taxes on income that has never been earned. Otherwise stated, since the petitioner did not complete its earning process, then the deferred interest income should not be included as part of the gross income. On the other hand, we agree with the respondent court that there should be payment of the deficiency expanded withholding tax of P82,545.14, after considering the delivery and freight expenses, arrastre and stevedoring, warehousing and storage. There was indeed failure on the part of the petitioner to withhold the required payment of taxes of the stevedoring, warehouse and transportation operators, as well as of contractors for the carriage of goods. The fact alone that during the hearing, the petitioner manifested willingness to pay the surcharge on interest computation, does not at all justify non-payment. It should instead be held answerable for the deficiency expanded withholding tax and the corresponding surcharges and interests, as provided for in the Tax Code. THE FOREGOING CONSIDERED, the appealed Decision is hereby modified by deleting payment of the 1985 deficiency income tax, but directing the petitioner to pay the Bureau of Internal Revenue (BIR) the deficiency expanded withholding tax of P82,545.14, in addition to imposable surcharges and interests. SO ORDERED. Imperial and Aquino, JJ . , concur.