Prescribing Rules for the Accelerated Deductions of Exploration and Development Expenditures

June 18, 1979 REVENUE REGULATIONS NO. 07-79 SUBJECT : Prescribing Rules for the Accelerated Deductions of Exploration and Development Expenditures TO : All Internal Revenue Officers and Others Concerned Pursuant to the provision of Section 326, in relation to Section 4 of the National Internal Revenue Code, as amended, the following regulations are hereby promulgated to govern the implementation of the accelerated deduction of exploration and development expenditures as provided by Presidential Decree No. 1353 and shall be known as Revenue Regulations No. 7-79. SECTION 1. Scope . These regulations shall govern the implementation of the accelerated deductions of exploration and development expenditures in computing taxable income. SECTION 2. Definition of Terms . For purposes of these regulations, the following words and phrases shall mean as follows: (a) The term "exploration expenditures" means expenditures paid or incurred for the purpose of ascertaining the existence, location, extent or quality of any deposit of ore or other mineral, and paid or incurred before the beginning of the development stage of the mine or deposit. Exploration expenditures shall not include expenditures which are reflected in improvements subject to allowance for depreciation. However, allowance for depreciation of such improvements which are used in the exploration of ores or minerals shall form part of exploration expenditures. (b) The term "development expenditures" shall include expenditures paid or incurred during the development stage of the mine or other natural deposits, as well as expenditures incurred in the development of additional ores or minerals in existing mines. The development stage of a mine or other natural deposit shall begin at the time when deposits of ore or other minerals are shown to exist in sufficient quantity and quality to reasonably justify commercial extraction. Development expenditures shall not include expenditures which are reflected in improvement subject to allowance for depreciation. However, allowance for depreciation of such improvements which are used in the development of ores or mineral shall form part of development expenditures. (c) The term "net income from mining operations" means gross income from operation less all allowable deductions which are attributable to mining expenditures but does not include accelerated exploration and development expenditures and benefits of any tax incentives under existing laws. Allowable deductions shall include only mining, milling and marketing expenses, depreciation of properties directly used in mining operation and depletion allowance and ad valorem or royalty taxes. In computing net income from mining operation (1) income not recognized in whole or in part under existing incentive laws shall be included; and (2) non-mining and other extraneous income and deductions shall not be included. aisa dc SECTION 3. Who may avail of the accelerated deductions of exploration and development expenditures . Accelerated deductions of exploration and development expenditures (except those incurred in oil and gas exploration and development) are allowed to all taxpayers engaged in mining activities. SECTION 4. Election to accelerate deduction of exploration and development expenditures . In computing taxable income, the taxpayer may, at any time after the effectivity of the decree, elect to deduct all exploration and development expenditures paid or incurred during the year as well as those accumulated as of January 1, 1978 or as of the first day of the taxable year of election or, in lieu thereof, the taxpayer may continue capitalizing such expenditures as deferred expenses to be deducted ratably as the units of the produced ore or minerals benefited by such expenditures are sold. SECTION 5. Manner of making the election . The election under Section 4 hereon shall be made by a clear indication on the return or a written statement filed with the Commissioner of Internal Revenue not later than the due date for the filing of the return for which the election applies. SECTION 6. Basis of deductions . The basis upon which accelerated deduction is to be allowed shall be the total exploration and development expenditures paid or incurred during the taxable year and exploration and development expenditures accumulated as of January 1, 1978 or as of the first day of the taxable year of election. SECTION 7. Effect of making election . The option to accelerate deduction of exploration and development expenses once exercised, shall be irrevocable and shall be binding in succeeding taxable years. Thus, once a taxpayer elects the accelerated deduction of exploration and development expenses, it shall thereafter apply the same accounting treatment on succeeding years consistently. On the other hand, if a taxpayer does not exercise the option, it may continue capitalizing such exploration and development expenses as deferred charges to be taken into account as deduction in the future in the form of allowances for cost depletion or as a write-off in case of abandonment. SECTION 8. Limitation of accelerated deduction . (a) The allowable accelerated deduction for exploration and development expenditures shall not exceed twenty-five (25%) per cent of the net income from mining operation computed without the benefit of any tax incentives under existing laws including this accelerated deduction. Any amount in excess of the 25% limitation shall be allowed as a deduction in the succeeding years, provided the total of such amount and the exploration and development expenditures incurred during the year does not exceed 25% of the net income from mining operations of that year. In the event the aggregate amount exceeds 25% of the net income during that year, the same shall be allowed as a carry-over until the whole amount is recovered thru the accelerated deduction. (b) The basis shall not apply to expenditures for the acquisition or improvement of property of a character which is subject to the allowance for depreciation. (c) Any amount claimed as a deduction in computing its taxable income during the year shall no longer be taken into consideration in computing the adjusted cost basis for the purpose of computing allowable cost depletion. On the other hand, any amount deferred as capital expenditure shall be added in computing the adjusted cost basis of the property for the purpose of computing the allowable cost depletion under this Section. ILLUSTRATIVE EXAMPLE I. Assumptions A. Election of accelerated deduction on exploration and development expenditures to exercised to be effective as of Jan. 1, 1979. B. Net Income 1979 1980 1981 1) Net income from mining P1,000,000 P1,662,500 P3,187,500 operations 2) Adjustments to net income resulting from tax incentives: a) Accelerated deduction 250,000 587,500 1,062,500 for exploration and development expenses b) Allowance for investment expansion 250,000 100,000 3) Adjusted net income from mining operations [as defined under Sec. 2(d)] P1,500,000 P2,350,000 P4,250,000 4) Less: General and administrative expenses 500,000 1,000,000 2,000,000 5) Net income P1,000,000 P1,350,000 P2,250,000 6) Non-mining and other income and expenses: a) Interest income (net of interest expense) 200,000 250,000 300,000 b) Rental income 300,000 300,000 300,000 Taxable Net Income P1,500,000 P1,900,000 P2,850,000 ====== ======= ======= C. Mine "A" has been in commercial operation since 1976. The relevant data pertaining to the said mine are as follows: 1. Estimated mineral content recoverable as of Jan. 1, 1979 800,000 M.T. 2. Adjusted cost basis as of January 1, 1979 P400,000 3. Allowance for cost depletion claimed from 1976 to 1979 P100,000 4. Amount of minerals recovered 1979 100,000 M.T. 1980 200,000 M.T. 1981 250,000 M.T. 5. Additional development expenses 1979 P100,000 incurred on properties 1980 P150,000 in commercial operation 1981 P250,000 D. Mine "B" as of 1979 is still in the exploration stage. 1. Exploration expenditures incurred in prior years amounted to P200,000. 2. Total exploration and development expenditures: 1979 P100,000 1980 P150,000 1981 P150,000 E. Mine "C" as of 1979 is in the development stage and goes into production in the fourth year (1982). 1. Accumulated exploration and development expenditures incurred in prior years amounted to P600,000. 2. Total development expenditures: 1979 P200,000 1980 P200,000 1981 P100,000 F. Summary 1979 1980 1981 1. Accumulated exploration expenditures. Mine "B" P200,000 P P Mine "C" 600,000 P800,000 ======= 2. Current exploration and development expenditures paid or incurred during the taxable year. Mine "A" P100,000 P150,000 P250,000 Mine "B" 100,000 150,000 150,000 Mine "C" 200,000 300,000 100,000 Total P400,000 P600,000 P500,000 ======= ======= ======= II. Computations A. Cost depletion allowance 1979 1980 1981 1. Adjusted cost basis P400,000 P350,000 P250,000 2. Amount of minerals recoverable in tons 800,000 700,000 500,000 3. Depletion rate per ton (1 + 2) P.50 @ton P.50 @ton P.50 @ton 4. Multiply by the no. of tons mined 100,000 200,000 250,000 5. Cost depletion allowable P50,000 P100,000 P125,000 ======= ======= ======= B. Accelerated Deductions of Exploration and Development Expenditures 1. Limitations 1979 1980 1981 a) Adjusted net income from mining operations (Line 1-B-3) P1,500,000 P2,350,000 P4,250,000 b) Allowable accelerated deduction (25% of adjusted net income from mining operations) P375,000 P587,500 P1,062,500 ======= ======= ======== 2. Computations a) Total allowable deduction exploration and development expenditures 1) Accumulated exploration and development expenditures prior to election (Line I-F-1) P800,000 P P 2) Current exploration and development expenditures for Mines A, B & C (Line I-F-2) 400,000 600,000 500,000 3) Carry-over from previous years (See below) 825,000 837,500 Total P1,200,000 P1,425,000 P1,337,500 b) Maximum allowable accelerated deduction of exploration and development expenditures (subject to limitation) 375,000 587,500 1,062,500 c) Amount carry forward to the succeeding year (See above) P825,000 P837,500 P275,000 ======= ======= ======= C. Summary of Deductions 1. Allowance for cost depletion (Line II-A-5) P50,000 P100,000 P125,000 2. Allowable accelerated deduction of exploration expenditure (Line II-B-2) 375,000 587,500 1,062,500 Total P425,000 P687,500 P1,187,500 ======= ======= ======== SECTION 9. Records to be kept . Every taxpayer claiming and making a deduction for accelerated exploration and development expenditures shall keep a separate account for each and every mining property in its books of accounts in which shall be accurately recorded cost of exploration and development expended thereat. In addition, every taxpayer shall maintain records as well as all supporting data used in computing the accelerated deduction which must be made available at its principal place of business. SECTION 10. Repealing Clause . All existing rules and regulations or part thereof inconsistent with the provisions of these regulations are hereby modified accordingly. cdt CESAR VIRATA Minister of Finance Recommending Approval: EFREN I. PLANA Acting Commissioner