Basic Taxation Law: Gross Income

Chapter 3 

Gross Income

A. General Statutory Definition

• In a narrow sense, gross income means all income derived from whatever source, including but not limited to the following: SBP-IRRD-PPP
1. Compensation for services in whatever form paid including but not limited to fees, salaries, wages, commissions and similar items;
2. Gross income derived from the conduct of trade or business or the exercise of profession;
3. Gains derived from dealings in property;
4. Interests;
5. Rents;
6. Royalties;
7. Dividends;
8. Prizes and winnings;
9. Pensions; and
10. Partner's distributive share from the net income of the general professional partnership.

B. Broad Definition

• In a broad sense, gross income means income less income which by statutory definition or otherwise, is exempt from the tax imposed by law. 
• Stated otherwise, gross income means all items of income less exclusions.

C. Jurisprudential Definition

• Gross income means total income from all sources before deductions, exemptions or other tax reductions.

E. Formula

• Gross Income
• = All income ㅡ Exclusions
• = AI ㅡ E

• Net or Taxable Income 
• = Gross income ㅡ Allowable Deductions
• = GIㅡ AD

• Income Tax Due
• = Taxable or net income × income tax rate
• = T NI × ITR

• Income Tax Payable
• = Income Tax due ㅡ creditable withholding tax or tax credit
• = ITD ㅡ CWT TC

F. Distinctions

• Gross Income
• Allows no deductions
• Grants no exemptions
• Tax base: Gross income 

• Net or Taxable Income 
• Deductions are allowed
• Exemptions are granted
• Tax base: Net income 

G. Advantages

• Gross Income SWC
• Simplifies the income tax system
• Does away with wastage of manpower and supplies
• Substantial reduction in corruption and tax evasion — exercise of discretion to allow or disallow deductions dispensed with

• Net or Taxable Income  FFR
• Fair and just due to grant of deductions
• Tax audit minimizes fraud
• Provides equitable reliefs in the form of deductions, exemptions and tax credits

G. Disadvantage

• Gross Income DFL
• No deductions and exemptions allowed
• Susceptible of fraud in the absence of general audit
• Taxpayers lose interest to earn more thereby lessening their purchasing capacity

• Net or Taxable Income  CCC
• Vulnerable to corruption on account of margin of discretion in the grant of deductions 
• Confusing and complex process of filing income tax return
• Difficult/costly to administer

Exclusion from Gross Income

A. Reasons for Exclusion D-P

1. The item of receipt does not fall within the definition of income for income tax purposes. LABLA
1. Damages recovered in libel and slander suits
2. Damages recovered for alienation of affection
3. Damages recovered for breach of promise to marry
4. Damages recovered for loss of life of spouse 
5. Damages recovered in annulment of marriage
2. A provision of the Tax Code or special law exempts it from income tax.

B. Exclusions from Gross Income LRG-ITRM

1. Proceeds of life insurance 
2. Amount received as return of premium
3. Gifts, bequests and devises
4. Compensation for injuries or sickness
5. Income exempt under treaty
6. Retirement benefits, pensions, gratuities, etc.
7. Miscellaneous items

1. Proceeds of life insurance 

• received in a single sum or installments — not taxable
• Reason: 
• Indemnity rather than as gain or profit. 
• Insurance contract is a contract of indemnity. 
• Exception:
• Interest payments shall be included in gross income if such amount is held by the insurer under the agreement to pay interest thereon. 
• However, proceeds of life insurance where the beneficiary is revocable is subject to estate tax. 
• The exclusion from income taxation applies regardless of who the beneficiary is whether a:
• family member, or 
• other individual, 
• corporation, or
• partnership. 
• Exclusion applies to:
• group insurance,
• death benefits under the Workmen's Compensation Insurance or 
• under health or accident insurance contract having the characteristics of life insurance proceeds by reason of death.
• Transfer of insurance contract
• amount excludible should only be the amount or value of actual consideration paid and the premiums paid later by the transferee. 
• Where the consideration and premiums paid exceed the proceeds, no amount is includible in the gross income of the transferee.
• Other tax implications of life insurance proceeds:
1. Included in the gross estate:
• Third person is revocably designated as beneficiary; 
• Estate, executor or administrator is designated as beneficiary, revocable or irrevocable.
2. Excluded from the gross estate:
• Third person is irrevocably designated as beneficiary; 
•  Proceeds of group insurance.

2. Amount received as return of premium 

• Under life insurance, endowment or annuity contracts, either during the term or at the maturity of the contract.
• Cash surrender value of the policy is also non taxable. 
• Return of premium means a repayment of a part or the whole of the premiums paid. 
• Reason for the exclusion: 
• Return of capital
• Amount other than amount paid by reason of death. 
• Excess of the amounts received over the aggregate premiums or consideration paid is taxable. 
• Hence, if a taxpayer took out a P100,000.00 endowment policy in which he paid P80,000.00 as aggregate premiums and upon maturity he received P100,000.00, only P20,000.00 is taxable.

3. Gifts, bequests and devises

• Reason: 
• Not a product of capital nor industry. 
• Gifts are subject to donor's tax,
• Quests and devises are subject to estate tax. 
• But the income from such property is taxable.
• If the taxpayer inherits securities, the value of such securities does not constitute income but the dividends and interest paid on such securities are taxable. 
• Principal paid under a marriage settlement and alimony or allowance based on separation agreement are considered as gifts.
• Remuneratory donations are subject to income tax.

 4. Compensation for injuries or sickness

• Reason: 
• Compensatory; not gain/profit; adds nothing to the individual.

1. Through accident or health insurance; 
2. Workmen's Compensation;  
3. Damages received whether by suit or agreement on account of such injuries or sickness;  

• Damages recovered are taxable if the amount represents loss of anticipated profits; 
• It is not taxable if it represents a return of capital or investment.
• If the recovery represents damages for lost profits, it is taxable as ordinary income. 
• Disability benefits paid under life insurance are also excluded although the law refers to accidents and health insurance.  

5. Income exempt under treaty.

• This is premised on our adherence to the generally accepted principles of international law. 
• In this category, the following items of income are tax-exempt: 
• Income derived by the US Consular officials in the Philippines in connection with such consular service 
• Income exempt under tax treaty with foreign countries.

6. Retirement benefits, pensions, gratuities, etc.

• Retirement benefits received by officials and employees of private firms, individuals or corporations. 
• Requisites for exclusions: 
• Reasonable private plan maintained by the employer duly approved by the BIR for exclusive benefit of the members employees; 
• Retiring official or employee who has rendered at least 10 years of service; 
• At least 50 years of age at the time of the retirement; 
• The benefit of exclusion shall be availed of only once. 
• Even if the member has attained 50 years of age with at least 10 years of service, if the employee-member is still on active employment with the company, any and all amounts distributed from the fund to the private member over and above his personal contributions shall be taxable to the said employee recipient as wages were received before his retirement from the service of his employer. 
• An agreement to pay the taxes on the retirement benefits as an incentive to prospective retirees and for them to avail of the optional retirement scheme is not contrary to law or public morals. 
• Retirement benefits paid to employees who have reached the age of 60 or more but not beyond 65 years with at least five years of credited service.
• The age and service requirements imposed under the Tax Code are deemed as minimum requirements for retirement benefits to qualify for income tax exemption.
• Separation benefits due to death, sickness or other physical disability or for any cause beyond the control of the said official or employee.
• Any amount received from an employer as a result of separation from service due to sickness is exempt from all taxes
• Separation benefits paid to retrenched employees as a consequence of either the sale of the entire business to another corporation or the cessation of the employer's business are exempt from income tax.
• Benefits received as a result of voluntary resignation are taxable. 
• Reason: 
• It is a cause within the control of the said official or employee.
• The exemption holds regardless of the employee's age and length of service.
• The law does not require that the exclusion be enjoyed once. 
• Separation of employee due to dissolution of a law firm is a cause beyond the control of said employee.
• Compulsory retirement cause beyond the control of the employee. 
• Terminal leave pay is excluded from gross income. 
• Compulsory retirement may be considered as a cause beyond the control of the said official or employee. 
• Consequently, the amount received by way of commutation of his accumulated leave credits as a result thereof falls within the enumerated exclusion from gross income. 
• It is not considered compensation for services rendered. 
• Reason:
• It is paid when the employer has already severed his connection with his employees and who is no longer working. 
• Social Security benefits, retirement gratuities received by resident or non-resident citizens or resident aliens from foreign government agencies and other private or public institutions. 
•  Pensions received by retirees from foreign sources. 
• Benefits received from US Veterans Administration by veterans residing in the Philippines. 
• Payment of benefits under the Social Security System in accordance with the provisions of RA. No. 8282.
• Benefits received from the GSIS under R.A. No. 8291 including retirement gratuity.

7. Miscellaneous Items

• Income received by foreign governments from their investments in the Philippines. 
• Reason: 
• To lessen the burden of foreign loans inasmuch as the interest of these loans are, by contractual arrangement, borne by the domestic borrowers. 
• Foreign governments include financing institutions owned, controlled and financed by them and international or regional financing institutions established by governments.
• To be exempt, the creditor must be the foreign government or financing institutions owned, controlled, and established by it.
• Com. v. Mitsubishi Metal Corp., 181 SCRA 214:
• Mitsubishi Metal Corporation, a Japanese Corporation, borrowed $20 million from the Import-Export Bank of Japan (Eximbank), owned, controlled and financed by the Japanese government through a consortium of Japanese banks. Mitsubishi used the same amount in extending  loan to Atlas which agreed to sell copper  concentrates to the former.
• Mitsubishi, not Eximbank, is the sole creditor of Atlas in the contract of loan, hence, the interest income of Mitsubishi is subject to income tax. Eximbank (not party in interest) had nothing to do with the sale of the copper concentrates. When Mitsubishi obtained the loan of $20 million from Eximbank of Japan, said amount ceased to be the property of the bank and became the property of Mitsubishi. Tax exemptions are construed strictissimi juris.
• Income of foreign government from operation in the Philippines of vessels owned or chartered by it is taxable.
• Income derived by the Government of the Philippines or any political subdivision from any public utility or from the exercise of any essential governmental function (e.g., income derived by a municipality from the operation of a market or an electric power plant)
• This is in recognition of the principle of exemption from taxation of government agencies or entities.
• Prizes and awards under the following conditions:
1. Received in recognition of religious, charitable, scientific, educational, artistic, literary or civic achievement;
2. Recipient was selected without any action on his part to enter the contest or proceeding; 
3. Recipient is not required to render substantial future services as a condition to receiving the prize or award.
• Prizes and awards in sports competition granted to athletes whether held in the Philippines or abroad and sanctioned by their national sports associations.
• National sports associations must be accredited by the Philippine Olympic Committee (POC).
• 13th-month pay and other benefits: 
• Other benefits cover productivity incentives and Christmas bonus;
• Total exclusion shall not exceed P90,000.
• GSIS, SSS, Medicare and other contributions;
• Gains from the sale or exchange of retirement of bonds, debentures, or other certificate of indebtedness with a maturity of more than five years;
• Gains from redemption of shares in Mutual Fund Company.

Tax-exempt income under special laws/agreements.

1. Winnings from the Philippine Charity Sweepstakes Office and Lotto not exceeding P10,000. 
2. Salaries and stipend in dollars received by non-Filipino citizens serving as staff of: 
• International Rice Research Institute
• Ford Foundation Grants
• Agricultural Department of the Southeast Asian Fisheries Development Center (SEAFOEC)
• Population Council of New York
3. Income from bonds and securities:
• For sale in the international market 
• Issued by EPZA
4. Income derived from the installment sales of houses to their employees and workers or to low-income groups in housing projects or income derived from rentals thereof (Housing Program of the Government).
5. Officers and staff of Asian Development Bank (ADB), experts and consultants performing missions for the Bank shall be exempt from Philippine income tax.
6. Awards given by the Ramon Magsaysay Award Foundation (RMAF) are exempt from the payment of income tax. 
7. Holiday pay, overtime pay, night shift differential pay and hazard pay received by minimum wage earners shall be exempt from income tax.