ACYTAXN: Deductions from Gross Income

Deductions

Are the amounts which the law allows to be deducted from gross income in order to arrive at net income.

Exclusions

Are something received or earned by the taxpayer that do not form part of gross income.

Deductions

Are something spent ot paid in earning the gross income.

Deductions

Refer to ordinary and necessary expenses incurred in the conduct of trade or business.

Deductions

Pertain to operating expenses of a business or entity and self-employed individual or professional.

Exclusions

Pertain to the computation of gross income.

Deductions

Pertain to the computation of net income.

Itemized Deductions or Optional Standard Deduction

The two (2) forms of allowable deductions for individual taxpayers deriving income from trade, business, or practice of profession.

Itemized Deductions or Optional Standard Deduction

The two (2) forms of allowable deductions for corporate taxpayers.

True

(True or False) Purely compensation income earners are not entitled to deductions from gross income because they do not incur business or operating expenses.

Non-Deductible Items

a. Bribes, kickbacks and other similar payments.

b. Personal, living or family expenses

c. Any amount paid out for new buildings or for permanent improvements, or betterments made to increase the value of any property or estate.

Non-Deductible Items

d. Any amount expended in restoring property or in making good the exhaustion thereof for which an allowance is or has been made.

e. Premiums paid on any life insurance policy covering the life of any officer or employee, or of any person financially interested in any trade or business carried on by the taxpayer, individual or corporate, when the taxpayer is directly or indirectly a beneficiary under such policy.

Losses from Sales or Exchanges of Property - From Transactions with Related Parties

Non-deductible loss:

a. Between members of a family. (Only brothers or sisters, whether by whole or halfblood, spouse, ancestors, and lineal descendants.

b. Except in the case of distributions in liquidation, between an individual and a corporation more than fifty percent (50%) in value of the outstanding stock of which is-owned, directly or indirectly, by or for such individual.

c. Except in the case of distributions in liquidation, between two corporations more than fifty percent (50%) in value of the outstanding stock of which is owned, directly or indirectly, by or for the same individual if either one of such corporations, with respect to the taxable year of the corporation preceding the date of the sale of exchange was, under the law applicable to such taxable year, a personal holding company or a foreign personal holding company;

Losses from Sales or Exchanges of Property - From Transactions with Related Parties

Non-deductible loss:

d. Between the grantor and a fiduciary of any trust.

e. Between the fiduciary of a trust and the fiduciary of another trust if the same person is a grantor with respect to each trust.

f. Between a fiduciary of a trust and a beneficiary of such trust.

Ordinary and Necessary Trade, Business or Professional Expenses

Deductible expenses that are directly attributable to, the development, management, operation and/or conduct of the trade, business or exercise of a profession.

Salaries and Wages

A deductible expense. A reasonable allowance for salaries, wages, and other forms of compensation for personal services rendered, including the gross-up monetary value of fringe benefit furnished or granted by the employer to the employee: Provided, that the income tax imposed on such salaries and fringe benefits has been paid;

Travel Expenses

A deductible expense. A reasonable allowance for travel expenses, here and abroad, while away from home in the pursuit of trade, business or profession;

Rentals

A deductible expense. A reasonable allowance for, rentals and/or other payments which are required as a condition for the continued use or possession, for purposes of the trade, business or profession, of property to which the taxpayer has not taken or is not taking title or in which he has no equity other than that of a lessee, user or possessor;

Entertainment, Amusement and Recreation Expense

A deductible expense. A reasonable allowance for entertainment, amusement and recreation expenses during the taxable year, that are directly connected to the development, management and operation of the trade, business or profession of the taxpayer, or that are directly related to or in furtherance of the conduct of his or its trade, business or exercise of a profession not to exceed such ceilings as prescribed under RR 10-2002. Provided, that any expense incurred for entertainment, amusement or recreation (EAR) that is contrary to law, morals, public policy or public order shall in no case be allowed as deduction.

Net Sales x 1/2% or 1% or Actual Amount (Whichever is Lower)

The allowable EAR expense for a seller of goods or properties.

Net Revenue x 1% or Actual Amount (Whichever is Lower)

The allowable EAR expense for a seller of services.

Net Sales/Revenue/Total Net Sales/Revenue x Actual Expense

The allowable EAR expense for sellers of both goods or properties and services.

One-Half (1/2) of the Value of Labor Training Expenses

The allowable deduction for labor training expense incurred for skills development of enterprise-based trainees enrolled in public senior high schools, public higher educational institutions, or public technical vocational institutions and duly covered by an apprenticeship agreement. Such deduction shall not exceed ten percent (10%) of direct labor wage.

Repairs that Materially Add to the Value of the Property

Capitalizable as an ordinary repair and maintenance account.

Repairs that Appreciably Prolong the Life of the Property

Capitalizable as an ordinary repair and maintenance account.

Repairs that Keep the Property in its Ordinarily Efficient Operating Condition

Considered as a repair expenditure that is expensed outright.

Private Educational Institution

The only taxpayer that is allowed to:

a. Capitalize and claim depreciation as deduction.

b. Claim as outright expense.

On capital expenditures related to such business.

Interest Expense

An ordinary deduction. The amount of interest paid or incurred within a taxable year on indebtedness in connection with the taxpayer's profesion, trade or business, that shall be allowed as deduction from gross income.

Requisites for Deductibility of Interest Expense

a. Indebtedness must be that of the taxpayer.

b. Indebtedness must have been stipulated in writing.

c. Interest must be legally due.

d. Interest payment arrangement must not be between related taxpayers.

e. Interest must not be incurred to finance petroleum operations.

f. Interest was not treated as a capital expenditure.

Interest Expense

An ordinary deduction that shall be reduced by twenty (20%) of the interest income subjected to final tax.

Tax Arbitrage Rule

The reduction of interest expense by a percentage of income subject to final withholding tax.

Interest Expense

An ordinary deduction that shall be reduced by an amount equivalent to twenty percent (20%) of interest income subjected to final tax.

Micro, Small, and Medium Enterprises

The only domestic corporations that do not essentially need to apply the tax arbitrage rule on the deductibility of interest expense since its income tax rate is only 20%.

True

(True or False) Interest (tax) arbitrage shall apply only to interest expense arising from "borrowings or loans".

True

(True or False) Interest expense arising from "unpaid taxes" or "tax assessment" or interest on tax delinquency or deficiency, provided, the tax is related to trade, business or practice of profession shall not be covered by the tax arbitrage rule.

Deductible Interest Expense

Interest Expense (From Borrowings) - (Int. Income Subject to FWT x 20%)

Optional Treatment of Interest

Interest related to acquisition of property used in trade, business or profession may, at the option of the taxpayer be:

a. Claimed as outright expense

b. Capitalized and claimed as depreciation

Non-Deductible Interest Expense

a. Interest paid to related taxpayers

b. Interest on indebtedness related to finance petroleum explorations.

c. Interest on preferred stock.

Prepaid Interest

For a cash basis taxpayer, this form of interest is deductible in the year that the interest was paid in advance, but in the year that the indebtedness was fully paid. However, if the indebtedness is payable in periodic amortization or paid during the year, shall be allowed as deduction in such taxable year.

Taxes

A ordinary deduction. Means taxes proper and no deductions should be allowed for amounts representing interest, surcharge, or penalties incident to delinquency.

Taxes

Are taxes paid or incurred within the taxable year in connection with the taxpayer's profession, trade or business, shall be allowed as an ordinary deduction.

Income Tax, Income Tax Paid Abroad if Claimed as Tax Credit, Estate Tax, Donor's Tax and Special Assessment

These are the taxes that are not allowed to be claimed as ordinary deductions.

True

(True or False) In the case of a non-resident alien individual engaged in trade or business in the Philippines and a resident foreign corporation, the deductions for taxes shall be allowed only if and to the extent that they are connected with income from sources within the Philippines.

Losses

An ordinary deduction. Pertains to the losses actually sustained during the taxable year and not compensated for by insurance or other forms of indemnity. It must be:

a. Incurred in trade, profession or business.

b. Of property connected with the trade, business or profession, if the loss arises from fires, storms, shipwreck, or other casualties, or from robbery, theft or embezzlement.

Within Forty-Five (45) Days from the Time of Loss

The number of days a taxpayer must report to the BIR sustained loss, in-order for the same to be claimed as an allowable deduction.

Net Operating Loss

Means the excess of allowable deduction over gross income of the business in a taxable year.

Net Operating Loss

Shall be carried over as a deduction from gross income for the next three (3) consecutive taxable years immediately following the year of such loss.

3 Consecutive Years

The number of years NOLCO can be claimed prior to 2020 and 2021.

5 Consecutive Years

The number of years NOLCO can be claimed from years 2020 to 2021.

3 Consecutive Years

The number of years NOLCO can be claimed from 2022 and beyond.

Requisites for NOCLO

a. The time of incurring net loss, the taxpayer must not be exempt from income tax.

b. There is no substantial change in the ownership of the business or enterprise in that:

* Not less than 75% in nominal value of outstanding issued shares, if the business is in the name of a corporation, is held by or on behalf of the same persons.

* Not less than 75% of the paid-up capital of the corporation, if the business is in the name of a corporation, is held by or on behalf of the same persons.

NOLCO for Mines Other than Oil and Gas Wells

NOLCO incurred in any of the first ten (10) years of operation may be carried over for the next five (5) years.

Losses from Wash Sale of Stock or Securities

Any loss claimed to have been sustained from any sale or other disposition of shares of stock or securities shall not be deductible if:

a. The seller is not a dealer in securities.

b. Within a period of 30 days prior the sale ending 30 days after the sale, the seller either:

* Acquired stock or securities identical to the stock or securities sold.

* Has entered into a contract or option to acquire stock or securities identical to the stock or securities sould.

Wagering Losses

Losses from wagering transactions. Shall only be deductible to the extent of gains from such transactions.

Abandonment Losses

All accumulated exploration and development expenditures pertaining to the abandoned or partially abandoned contract area where petroleum operations are undertaken, can be claimed as a deduction.

Abandonment Losses

In case a producing well is subsequently abandoned, the unamortized costs thereof, as well as the undepreciated costs of equipment directly used therein, shall be allowed as deduction.

True

(True or False) If the abandoned well is re-entered and production is resumed or equipment is restored into service, the effects are:

a. The amount previously claimed as deduction shall be recognized as income.

b. Such amount shall also be capitalized and amortized or depreciated, as the case may be.

Requisites for Deductibility of Bad Debts

a. There must be an existing indebtedness due to the taxpayer which must be valid and legally demandable.

b. The same must be connected with the taxpayer's trade, business or practice of profession.

c. The same must not be sustained in a transaction between related taxpayers.

d. The same must be actually charged off in the books of accounts of taxpayer as of the end of the taxable year.

e. The same must be actually ascertained to be worthless and uncollectible.

Requisites for Deductibility of Securities Becoming Worthless

a. Securities are ascertained to be worthless.

b. The same is charged off within the taxable year.

c. It must be a capital asset.

Depreciation

An allowable deduction. There shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear (including reasonable allowance for obsolescence) of property used in the trade or business.

True

(True or False) In the case of property held by one person for life with remainder to another person, the deduction shall be computed as if the life tenant were the absolute owner of the property and shall be allowed to the life tenant.

True

(True or False) In the case of property held in trust, the allowable deduction shall be apportioned between the income beneficiaries and the trustees in accordance with the pertinent provisions of the instrument creating the trust, or in the absence of such provisions, on the basis of the trust income allowable to each.

Requisites for the Deductibility of Depreciationo

a. The property subject to depreciation is used in the trade, business or practice of profession.

b. The allowance for depreciation must be sustained by the person who owns or who has a capital investment in the property.

c. The allowance for depreciation must be reasonable.

d. The allowance for depreciation should not exceed the cost of the property.

e. The schedule of the allowance must be attached to the return.

True

(True or False) In the declining-balance method, the rate should not exceed twice the rate in straight-line method.

10 Years or Useful Life (Whichever is Shorter)

The depreciation period for properties directly related to production in petroleum operations.

5 Years

The depreciation period for properties not directly related to production in petroleum operations.

True

(True or False) In directly related production in petroleum operations. Straight line and declining balance can be used. In activities not directly related to production in petroleum operations, only the straight line method is allowed.

Properties Used in Mining (10 Years or Less Useful Life)

Mining properties to be depreciated over actual usual life.

Properties Used in Mining (More than 10 Years Useful Life)

Mining properties to be depreciated over any number of years between five (5) years and the expected life.

True

(True or False) In the case of non-resident aliens engage in trade or business or resident foreign corporations, depreciation shall be allowed only if the property is located in the Philippines.

True

(True or False) In case of oil and gas wells or mines, capital invested may be amortized using cost-depletion method, provided:

* When allowance for depletion shall equal capital invested, no further allowance shall be granted.

Intangible Exploration and Development Drilling Costs - Non-producing Wells and/or Mines

An intangible exploration and development drilling costs that shall be deductible in the year incurred.

Intangible Exploration and Development Drilling Costs - Procuding Wells and/or Mines

Option (1) - Deductible in full in the year paid or incurred.

Option (2) Capitalized and amortized.

True

(True or False) In the case of non-resident aliens engaged in trade or business or resident foreign corporations, depletion shall be allowed only if the oil and gas wells or mines are located in the Philippines.

Charitable Contributions

An ordinary deduction. Contributions or gifts actually paid or made within the taxable year to, or for the use of the Government of the Philippines or any of its agencies or any political subdivision thereof exclusively for public purposes, or to accredited domestic corporations or associations organized and operated exclusively for religious, charitable, scientific, youth and sports development, cultural or educational purposes or for the rehabilitation of veterans, or to social welfare institutions, or to nongovernment organizations. No part of the net income of which inures to the benefit of any private stockholder or individual.

Fully Deductible Donations

1. Donations to the Government of the Philippines or to any of its agencies or political subdivisions including fully owned government corporations, exclusively to be used in undertaking priority activities in:

a. Education;

b. Health;

c. Youth

d. Sports development;

e. Human settlements;

f. Science and culture;

g. Economic development.

Fully Deductible Donations

2. Donations to foreign institutions or international organizations which are fully deductible in pursuance of:

a. Agreements;

b. Treaties;

c. Commitments; or

d. Special laws

Fully Deductible Donations

3. Donations to Accredited Non-Government Organizations.

a. Organized and operated exclusively for:

i. Scientific;

ii. Research;

iii. Educational;

iv. Character building;

v. Youth and sports development;

vi. Health;

vii. Social welfare;

viii. Cultural;

ix. Charitable purposes; or

x. A combination thereof

b. No part of the net income of which inures to the benefit of any private individual.

c. Not later than 15th day of the third (3) month after the close of the taxable year in which contributions are received, makes utilization.

d. The level of administrative expense of which shall, on an annual basis, in no case to exceed thirty percent (30%) of the total expenses;

e. The assets of which, in the event of dissolution, would be distributed to:

i. Another domestic corporation organized for similar purpose or purposes;

or

ii. The State for public purposes; or

iii. Another organization to be used in such manner as in the judgement of

the court shall best accomplish the general purpose for which the

dissolved organization was organized.

Donations Subject to Limit

a. Donations to the Government of the Philippines or any agencies or any political subdivision thereof exclusively for public purposes.

Donations Subject to Limit

b. Donations to accredited domestic corporations or associations operated exclusively for:

a. Religious;

b. Charitable;

c. Scientific;

d. Youth and sports development;

e. Cultural;

f. Educational

g. Rehabilitation of veterans;

h. Social welfare institutions; or

i. Non-government organization,

5% of Taxable Income Before Charitable Contributions

The donation percentage limit by a corporate taxpayer.

10% of Taxable Income Before Charitable Contributions

The donation percentage limit by an individual taxpayer.

Acquisition Cost

The tax basis for any non-cash property under a charitable contribution transaction.

Research and Development Cost

An ordinary deduction. Research or development expenditures paid or incurred by a taxpayer during the taxable year in connection with trade, business or profession.

R&D Not Chargeable to Capital Account

An R&D expense claimed as an outright expense.

R&D Chargeable to Capital Account but Not Chargeable to Property Subject to Depreciation or Depletion

An R&D expense, at the option of the taxpayer:

a. Claimed as outright expense.

b. Amortize over 60 months.

R&D Chargeable to Property Subject to Depreciation or Depletion

An R&D expense capitalize on the specific property subject to depreciation or depletion.

True

(True or False) Any R&D expenditure for the acquisition or improvement of land, or for the improvement of property to be used in connection with research and development of a character which

is subject to depreciation and depletion; cannot be claimed as an allowable deduction.

True

(True or False) Any R&D expenditure for the purpose of ascertaining the existence, location, extent, or quality of any deposit or ore or other mineral, including oil or gas, cannot be claimed as an allowable deduction.

Deductible Pension Trusts

Actual Contribution to the Extent of Pension Liability + Amortization of Past Service Cost

Pension Liability

Is equivalent to normal cost.

Past Service Cost

Is the excess of actual contributions over the normal cost. It shall be amortized over ten (10) years.

NRA-ETBs, NRA-NETBs, and NRFCs

These are the taxpayers that are not allowed to claim optional standard deduction.

40% of Gross Sales/Gross Receipts

The OSD rate for individuals, estates, trusts.

40% of Gross Income

The OSD rate for corporate taxpayers.

Free Legal Assistance Act of 2010

Aims to provide free legal assistance to the poor in accordance with the State's policy to guarantee free legal assistance to the poor and ensure that every person who cannot afford the services of a counsel is provided with competent and independent counsel preferably of his/her own choice.

Free Legal Assistance Act of 2010

Provides lawyers or professional partnerships a special deduction equivalent to the lower of:

a. The amount that could have been collected for the actual free legal services rendered.

b. 10% of the gross income derived from the actual performance of the legal profession.

True

(True or False) The actual free legal services shall be exclusive of the minimum sixty (60) hour mandatory legal aid services rendered to indigent litigants.

Allowable Deduction on Partial Loss

Allowable Deduction = Lower between remaining book value before the casualty loss and cost to restore, less insurance proceeds.

Allowable Deduction on Total Loss

Allowable Deduction = Remaining book value before the casualty loss less insurance proceeds.