Guidelines in the Preaudit of 1973 Refundable Income Tax Returns

January 21, 1974 REVENUE MEMORANDUM ORDER NO. 06-74 SUBJECT : Guidelines in the Preaudit of 1973 Refundable Income Tax Returns TO : All Officers, Employees and Others Concerned In order to insure uniformity of action and to guide examiners assigned to preaudit 1973 refundable income tax returns, the following procedure and guidelines are hereby promulgated for compliance by all concerned: 1. Mathematical errors Check mathematical accuracy of figures shown in the return up to "amount of income subject to tax." 2. Exclusions from "gross income" Non-taxable income such as the following should be excluded from gross income: a. Proceeds of life insurance; b. Amounts received by the insured as a return of premium, like dividends on insurance; c. Gifts, bequests or devises; d. Compensation for injuries or sickness; e. Government retirement pay; f. Income exempt under treaty; g. Rewards granted under R.A. 2338; h. Sweepstakes winnings; i. Pensions administered by the U.S. Veterans Administration. 3. Underdeclared income Compare total wages shown in BIR Form W-2 (Withholding Statement) against amount declared in return. Any excess of the former over the latter should be considered underdeclared income and should be added to taxable income. If the amount of income declared in the return is greater, the same shall prevail. cd 4. Non-deductible items . Disallow non-deductible items apparent in the return such as; a. Personal, family and living expenses; b. Life insurance premium; c. Provision for bad debts; d. Income and transfer taxes; e. Contributions to GSIS, SSS and Medicare. 5. Transportation/traveling expenses Disallow when income reported is only from one source except in cases of salesmen, brokers, agents or where the nature of the work requires such expenses. If taxpayer is on salary basis and he receives transportation/traveling allowances, limit the allowable deductions to the extent of the allowance declared in the return. 6. Losses Disallow unless the nature of loss is specified and the same is deductible. Do not allow a capital loss unless a capital gain is reported against which it may be offset. Allow capital loss only to the extent of the capital gain. 7. Representation/Entertainment expenses Disallow if taxpayer is on salary basis only, except when the nature of the work normally requires the incurrence of such expense. If taxpayer receives representation/entertainment allowance, limit the allowable amount to the extent of the allowance declared in the return. If taxpayer is a government employee, disallow the item regardless of the nature of position, unless a corresponding allowance is declared, in which case, the amount of expense allowable should not exceed the amount of allowance. 8. Medical care expenses Allow only to the extent of P500.00 each for the taxpayer, the spouse and each of dependent children defined in Section 23(c) of the Tax Code, but the aggregate amount should not exceed P2,000.00. 9. Basic tuition fees Allow only to the extent of P250.00 for each of the dependent defined in Section 23(c) of the Tax Code, who are of high school age (13-19 years old) but the aggregate amount should not exceed P1,000.00. If not of high school age, allow the deduction only if the taxpayer clearly specifies the same in his return. 10. Contributions Disallow the excess over 6% of the net income (before such deduction). Even if amount claimed is within the 6% limit, disallow such items as contributions to dead relatives, friends, socials and the like. Donations enumerated in Section 30 (h) (1) to (14) should be allowed in full and should not be included in computing the 6% limit. 11. Retirement gratuity exempt under RA-4917 This should be included in taxable income unless evidence is attached to the return showing the following: a. That the retirement benefit plan under which the taxpayer was retired has been adjudged by the BIR to be a reasonable benefit plan as contemplated under RA-4917; b. That the retiree was not less than 50 years old at the time of retirement; c. That the retiree was in the service of the same employer for at least ten (10) years prior to retirement; In cases of amounts received by reason of involuntary separation due to sickness, disability or other causes beyond the taxpayer's control, no other requirement except employer's certification to that effect is needed. 12. Others Disallow if there is no attachment of details which would identify allowable and non-allowable items. 13. Optional standard deduction Compute if the amount claimed is 10% of gross income but not exceeding P5,000.00. Disallow excess. If both itemized and optional standard deductions are claimed, allow the one which is greater in amount. If the taxpayer did not claim any deduction, do not allow any since he is deemed to have elected the itemized deduction. 14. Standard deduction for working wife . This is allowed only if the wife has separate income. Compute if the amount claimed is 10% of the wife's gross income, but not exceeding P500.00. This item is allowable whether optional standard or itemized deductions were used. 15. BOI Investment Allow the actual amount of investment claimed but the same should not exceed 10% of the net income for the current year. This tax allowance is allowable whether the taxpayer elected the itemized or the optional standard deduction. 16. Personal Exemptions : a. Head of the family (1) A taxpayer claiming personal exemption as head of family should indicate the name, relationship and date of birth or age of his dependent. If one or more of these information are not indicated and it is not possible to establish his status as head of family, allow only a personal exemption of P1,800.00. (2) Disallow personal exemption as head of family if dependent is step-brother, step-sister, step-parents or in-laws. (3) If the dependent is a brother or sister, such dependent's year of birth should not be prior to 1952. b. Married (1) If name of spouse is not given, allow a personal exemption of P1,800.00 only, even if dependent children's information are supplied. Allow full exemptions if income of spouse is also declared or it is so indicated that spouse has no income. (2) Even if name of spouse and/or dependents are given but there is an indication that the spouse has separate income but the same is not declared, totally disallow personal exemption meantime that it has not been consolidated with the other spouse's return. (3) If the taxpayer or the spouse died during the year, allow full exemption as if the death occurred at the close of the taxable year. c. Married but legally separated (1) If name of spouse is not given, allow a personal exemption of P1,800.00 only even if there are dependent children since the other spouse may have claimed the same additional exemptions. (2) If name of spouse is given there are no dependent children, allow personal exemption of P1,800.00 only. d. Additional exemption (1) Disallow if: (a) Dependents are not children of the taxpayer. (b) Dependent's year of birth is prior to 1952, meaning that the child is 22 years or over. (c) Age or dates of birth of children are not indicated. (d) Surnames of children differ from that of husband and there is no indication that they are step-children or legally adopted. (e) The person claiming additional exemption is single and there is no indication that the child is a recognized natural or legally adopted child. (2) Allow full exemption for any qualified dependent child of taxpayer who died during the year. (3) If the total additional exemptions exceed 4, disallow the excess born in 1973. 17. Non-resident aliens a. Allow only ordinary and necessary expenses incurred. b. Do not allow optional standard deductions. c. Allow personal exemptions in an amount equal to the exemption allowed by the income tax law in the country of which he is a citizen to citizens of the Philippines not residing in such country, but not to exceed the amount fixed in Section 23 of the Tax Code as exemptions for citizens or residents of the Philippines. 18. Pre-arranged employees Pre-arranged employees are considered non-resident aliens engaged in trade or business. 19. Tax Credits a. Withholding tax on wages Watch out for W-2's attached to the wrong return. Check the data shown on each W-2 against those appearing in the breakdown of income and withholding tax in Sch. 1 of Sec. D of BIR Form 1701 or Sec. B of BIR From 1701A. Check the totals against the total withholding tax credit shown on line 7 a of Section C of the income tax return. If they reconcile, encircle and initial the latter. If there is any discrepancy, observe the following rules: (1) When the amount of withheld tax on W-2 and the income tax return do not reconcile, the former shall prevail. Reflect, encircle and initial the correct amount on line 7 a of the return; (2) When one or more W-2's are missing but withholding tax, employer and income are identified in return, reconstruct the W-2's and allow corresponding tax credit. Encircle and initial the correct amount on line 7 a of the return. Initial also all reconstructed W-2's. It is important that W-2's are complete for purposes of computer processing. (3) When there is no W-2 attached and there is no way of identifying employer/s who withheld the tax, disallow tax credit for tax withheld. This action is justified because the employer's account against which the amount of tax credit will be charged is unidentified. b. Tax paid to foreign countries Disallow if the foreign income tax return and evidence of payment are not attached to return. If they are, the amount of tax credit should be limited to the following ratio: Net foreign income x Philippine income tax total net income c. Other tax credits Disallow if there are no evidences attached to return. 20. Audit Sheet Prepare an audit sheet in triplicate to reflect any change and/or correction of any data shown in the return. Write on both the original and duplicate copies of the income tax return the notation "See audit sheet" for the guidance of subsequent processors of said return. Computations on audit sheet should extend to "Balance of tax due or refundable". Any disallowance of tax credit claimed in return should be reflected in the audit sheet. A brief but easily understandable explanation of the change effected should be written on the audit sheet for the taxpayer's and the subsequent processor's information and guidance. IMPORTANT REMINDER : ANY ERROR IN PREAUDIT WILL DEFINITELY BE DETECTED IN COMPUTER PROCESSING . THIS CERTAINLY ENTAILS A GREAT LOSS AND WASTAGE IN TERMS OF MANUAL AND MACHINE TIME AND EFFORT, SINCE THE DOCUMENT NEED BE RE-ANALYZED AND RE-CYCLED . ERRORS SHOULD THEREFORE BE AVOIDED . ENQUIRE WHEN IN DOUBT . MISAEL P. VERA Commissioner of Internal Revenue