ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
CHAPTER 8 DEDUCTIONS FROM GROSS INCOME
Problem 8 1 DEDUCTIBLE OR NONDEDUCTIBLE FROM GROSS INCOME 1. Nondeductible 2. Deductible 3. Deductible 4. Deductible 5. Nondeductible 6. Nondeductible 7. Nondeductible 8. Deductible 9. Deductible 10. Deductible 11. Nondeductible 12. Nondeductible 13. Deductible, in lieu of tax credit (Sec. 34C3, NIRC) 14. Deductible 15. Deductible 16. Nondeductible 17. Nondeductible 18. Deductible 19. Deductible 20. Nondeductible
Problem 8 2 TRUE OR FALSE 1. False Some business expenses are nondeductible; some are subject to limit. 2. True 3. False Compensation income is not subject to OSD. 4. False NOLCO is not an itemized deduction. 5. True Amortized over the term of the lease 6. False of 1% 7. False 33% 8. False Double declining method 9. True 10. True 11. False Income outside the Philippines by a NRC is not taxable in the Philippines, hence, no allowable deduction is allowed. 12. True 13. True 14. True 15. False Business expenses related to business income outside the Philippines is deductible also by domestic corporations and resident Filipino.
2 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
16. False Business expense is deductible from gross income. 17. True 18. False 40% based on sales or gross receipts.
Problem 8 3 Problem 8 4 Problem 8 5 Problem 8 6 1. C 1. D 1. A 1. C 2. C 2. B 2. C 2. C 3. A 3. B 3. C 3. B 4. D 4. C 4. A 4. C 5. A 5. A 5. D 5. C 6. B 6. D 6. C 6. D 7. A 7. C 7. A 7. D 8. C 8. C 8. B 8. A 9. C 9. A 9. A 9. C 10. D 10. A 10. C 10. C
Problem 8 7 C Expensed Capitalized Change of motor of air condition P60,000 Expansion of store 50,000 Damages paid due to workers injury P20,000 Repainting of building 10,000 Cleaning of computers 9,000 Repair of furniture 1,000 . Totals P40,000 P110,000
Problem 8 8 C Identifiable operating expenses Philippines P400,000 Add: Allocated operating expenses within (P200,000 x P1M/P5M) 40,000 Operating expenses Philippines P440,000
Problem 8 9 D Police protection P20,000 Interest expense paid to his father 10,000 Gifts made to employees during birthday 5,000 Capital loss 4,000 Amount of nondeductible expenses and losses P39,000
Problem 8 10 D Depreciation expense (P1,000,000 x 40%)/25 P16,000
3 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Loss of business equipment
38,000
Deductible expense P54,000 Problem 8 11 D 1. Letter A No personal or business expense is deductible.
2. Letter B Depreciation (P20,000 x 10%) P 2,000 Repair (P100,000 x 10%) 10,000 Office supplies 6,000 Total deduction P18,000 Problem 8 12 B Tax laws GAAP Salary expense (P180,000 + P20,000) P200,000 P200,000 Estimated uncollectible accounts 10,000 Compromise penalty 50,000 Depreciation expense 30,000 30,000 Miscellaneous expense . 5,000 Deductible from earnings P230,000 P295,000
Note: For tax purposes, the miscellaneous expense is not deductible because it was not reported last year. For accounting purposes, the miscellaneous expense can be deducted as prior period adjustment from retained earnings.
Problem 8 13 A Sales P300,00 0 Multiplied by OSD rate 40% Optional standard deduction P120,00 0
The compensation income is not included in determining OSD. The OSD (40% of gross sales or gross receipts) is only allowed as deduction from income derived from business. If an individual opted to use OSD, he is no longer allowed to deduct cost of sales. [Sec. 34(L), NIRC; Sec. 3, Rev. Regs. No. 16-2008]
4 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Problem 8 14 B Gross receipts from profession P100,000 Rent income (P475,000/95%) 500,000 Total gross income P600,000 Multiplied by percent of OSD 4 0% Optional standard deduction P240,000 Problem 8 15 D Since there are no official receipts and documents to support the operating expenses, the reported operating expenses are not deductible (Sec. 34(A)(b), NIRC). The OSD is not allowed for nonresident aliens (Sec. 34(L), NIRC). No personal exemption will be granted to a nonresident alien with business in the Philippines if his country does not have an exemption reciprocity law favoring a Filipino citizen. (Sec.
9, Rev. Regs. No. 2)
Problem 8 16 A Sole Proprietor Corporatio
n
Sales P1,000,00 P1,000,00
Less: Cost of sales 0 0
. 300,000
Basis of OSD P1,000,00 P
Multiplied by OSD rate 0 700,000
40% 40%
Optional standard deduction P P
400,000 280,000
RA 9504 is specific as to the basis of OSD. For individuals, the basis of the 40% OSD shall be the gross sales or gross receipts. In the case of corporate taxpayers subject to tax under Sections 27(A) and 28(A)(1) of the Tax Code, as amended, the basis of the 40% OSD shall be the gross income.
5 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Problem 8 17 B Operating expense before representation expense (P2,000,000 P300,000) P1,700,000 Representation expense Actual P300,000 - Limit (P20,000,000 x 0.005) 100,000 - Lower 100,000 Allowable itemized deductions P1,800,000
Problem 8 18 B Salary expense P120,000 Rent expense 24,000 Advertising expense 6,000 Depreciation expense 5,000 Interest expense 60,000 Tax differential on interest income (P30,000 x 33%) ( 9,900) Total itemized deductions P205,100 NOLCO is not an itemized deduction. Problem 8 19 D Using OSD Using Itemized Sales P1,200,000 P1,200,000 Cost of sales - 0 700,000 - Gross income P1,200,000 P 500,000 Less: OSD or Itemized deductions (P1,200,000 x 40%) - 0 - 480,000 Net income before personal exemption P P 500,000 720,000 Allowed deduction using OSD (P1,200,000 x 40%) P 480,000 Less: Cost of sales 700,000 Net disadvantage using OSD (P220,000)
No itemized deduction is allowed if no official receipts, records or other pertinent papers can be used to support it (CIR vs. Isabela Cultural Corporation, G.R. No. 172231, Feb. 12, 2007).
In case of individual taxpayer, the cost of sales or the cost of services are not allowed to be deducted for purposes of determining the basis of OSD inasmuch as the law (RA 9504) is specific as to the basis thereof which states that for individuals, the basis of the 40% shall be the gross
6 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
sales or gross receipts and not the gross income. (Sec. 3, Rev. Regs. No. 16-2008)
Problem 8 20 A Gross salaries of employees P6,000,000 Grossed-up monetary value of fringe benefits 1,000,000 Deductible salaries and fringe benefits expenses P7,000,000
Problem 8 21 C Assume bonus is computed after tax but before bonus. The answer is letter D = P8,143, computed as follows:
Net income before charitable contribution (P75,000 + P5,000) P 80,000 Less: Deductible contribution (P80,000 x 5%) lower of actual 4,000 Net income before income tax and bonus P 76,000 B = 15% (76,000 T) T = 30% (76,000 B) B = 15% [76,000 30% (76,000 B)] B = 15% (76,000 24,320 + 30%B) B = 11,400 3,420 +0.045B B 0.045B = 7,980 0.955B = 7,980/0.955 B = 8,356 Proof:
Income before bonus and tax P76,000 Less: Income tax (P76,000 P8,382) x 30% 20,285 Income after tax but before bonus P55,715 Multiplied by rate of bonus 15% Bonus P 8,356 Problem 8 22 B Monthly salary P 5,000 Death benefits 50,000 Terminal pay 25,000 Continuous compensation after the burial for three months 15,000 Total deductible expenses P95,000
Note: Donation for coffin and other wake expenses is not business or compensation related and, hence, not deductible. (Sec. 72, Rev. Regs. 2)
Problem 8 23 C
7 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Increased in inventory . ( 3,000) Problem 8 24 D P320,000 P37,000
Traveling expenses (P50,000 + P200,000) P250,000 Fringe benefit expense (P68,000/68%) 100,000 Transportation expense messenger 40,000 Total allowable expense P390,000 Problem 8 25 B
Monthly rent (P20,000 x 60%) x 2 mos from Oct. 31 to Dec. 31 P24,000 Insurance premium (P3,000 x 60%) x 2/12 300 Real property tax (P1,500 x 60%) x 2/12 150 Deductible rent expense P24,450 Note: The city services is not a rent expense.
Problem 8 26
1. Letter B
Rent for 6 months based on usage (P20,000 x 6) x 80% P96,000 2. Letter D
Actual cash collection for rent P150,000 Problem 8 27 D
Monthly rental expense P2,000 Monthly depreciation (P600,000/8)/ 12 6,250 Monthly deductible expense P8,250 Problem 8 28 C
Rent expense (P5,000 x 12) P 60,000
Add: Depreciation expense [(P950,000/9.5) x 11/12] 91,667
Deductible expense in 200y P151,667
At the start of the used of the building, the remaining period for the contract of lease is 9.5 years. The salvage value is ignored in the computation of the depreciation because T Foods could no longer benefit on it since the improvement on the land will be owned by the lessor at the end of the 10-year contract of lease.
Problem 8 29 1. Letter B Trading - Limit lower (P5,000,000 x .005) P25,000
8 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
2. Letter C
Servicing actual lower P30,000
Problem 8 30 B
Actual representation expense P10,000
Multiplied by percent of representation expense
for sales [P700,000/(P700,000 +
P300,000)] 70%
Apportioned representation expense for sales P
Limit (P700,000 x 0.005), lower 7,000 P3,500
Actual representation expense P10,000
Multiplied by percent of representation expense
for revenue [P300,000/(P700,000 +
P300,000)] 30%
Apportioned representation expense for sales P
3,000
Limit (P300,000 x 0.01) 3,000
Deductible representation expense P6,500
Problem 8 31 A
Interest expense P40,000
Tax differential (P50,000 x 33%) (16,500)
Deductible interest expense P23,500
Problem 8 32 B
Breast-feeding assistance to the needy additional P200,000
Salary of senior citizens additional (P100,000 x 15%) 15,000
Seniors citizen discount (P300,000 x 20%) 60,000
Total special itemized deduction P275,000
Problem 8 33 B
Deductible Nondeductible
Interest paid in advanced P 20,000
Interest paid to a brother 12,000
9 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Interest paid on delinquency taxes P 8,000
Interest on borrowings to finance his family home 30,000
Interest paid to finance petroleum exploration . 100,000
Total P 8,000 P162,000
Problem 8 34 B
Interest expense on unpaid salaries P
Add: Nondeductible tax differential (P40,000/80%) x 33% 60,000
16,500
Nondeductible interest expense P
76,500
Salary expense P600,00
0
Rent expense 200,000
Deductible interest expense bank loan (P40,000 P16,500) 23,500
Total itemized deductions P823,500
The salaries of direct workers should be classified as deductible cost of service and not to be classified as part of itemized deductions (Rev. Regs. No.16-2008). Interest expense on unpaid salaries is not deductible. (Kuenzel & Streiff, Inc. vs. Collector of Internal Revenue, 106 Phil. 355)
Problem 8 35 D Tax savings from interest expense (P100,000 x 30%) P30,000 Final tax on interest income (P1,000,000 x 12%) x 20% (24,000) Actual net tax savings P 6,000
Problem 8 36 A Documentary stamp taxes P 1,000 Local tax (P6,000 P800 P200) 5,000 Municipal tax 2,000 Community tax 1,500 Deductible taxes P9,500
Note: The fringe benefit income taxes to key officers and rank-in-file employees are to be classified as deductible fringe benefit expense and not tax expense.
10 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Problem 8 37 C Business taxes P 20,000 Documentary stamp taxes 1,000 Automobile registration fees 3,000 Postage stamp taxes 500 Import duty taxes 50,000 Total deductible taxes P 74,500 Problem 8 38 D Unadjusted net income (P520,000 P200,000) P320,000 Add back: Income tax foreign country 10,000 Adjusted net income P330,000 Personal exemption (50,000) Net taxable income P280,000 Note: The P10,000 income tax paid to foreign country is better to be treated as tax credit rather than as operating expense. Problem 8 39 A Asset of Oliva P 60,000 Payment to government (P200,000 x 50%) (100,000) Balance (P40,000) Deductible bad debts is the entire amount of collectibles
P100,000 Problem 8 40 B Bad debts from business actual written off (P100,000 x 40%) P40,000 Bad debts from profession actual written off 50,000 Deductible bad debts expense P90,000 Problem 8 41 D Annual depreciation expense (P50,000 P5,000)/5 P9,000 Multiplied by ratio of months used during the year (from June 30 to Dec. 31) 6/12 Depreciation expense 200B P4,500 Problem 8 42 A Annual depreciation (P2,300,000/11.5 years) P200,000 Multiplied by ratio of months used in 200B (July 1 to Dec.) 6/12 Depreciation expense P100,000 Problem 8 43 D Oil drilling machine (P800,000 x 90%)/8 years P 90,000 Oil extracting machine (P900,000 x 90%)/10 years limit 81,000 Computers (P100,000 x 90%)/4 years 22,500
11 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Delivery truck (P200,000 x 90%)/5 years limit
36,000
Annual depreciation expense P229,500 The useful life of properties used in or related to production of petroleum shall be ten (10) years or such shorter life as may be permitted by the BIR Commissioner. Properties not used directly in the production of petroleum shall be depreciated under the straight-line method on the basis of an estimated useful life of five (5) years. (Sec. 34(F)(4), NIRC)
Problem 8 44 C Depletion base (P6,000,000 P1,000,000 + P300,000) P5,300,000 Divided by number of extractible estimated tons 5,000,000 Depletion per ton P 1.06 Multiplied by number of tons extracted during the year 800,000 Depletion expense P 848,000 Problem 8 45 1. Letter D Depletable costs, January 1, 200x P12,500,000 Exploration costs 1,000,000 Intangible development costs 1,500,000 Total P15,000,000 Less: Depletion expense (P15,000,000/7,500,000) x 1,200,000 2,400,000 Adjusted basis P 1,260,000 Divided by remaining reserves (5,000,000 + 2,500,000 1,200,000) 6,300,000 New depletion rate/ unit P 2.00
2. Letter A Depletion cost 2007 (P2 x 1,200,000 units) P2,400,000 3. Letter B Value of production (P12 x 1,200,000 units) P14,400,000 Less: Production and selling costs: Mining costs P2,000,000 Milling costs 3,000,000 Marketing expenses 1,500,000 Depreciation expense 1,000,000 7,500,000 Net income from operation P 6,900,000 Multiplied by limit percentage 25% Deductible amount fro exploration and development cost P 1,725,000 4. Letter B
12 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Current exploration and development cost (P1,500,000 + P1,000,000) P2,500,000 Less: Deductible amount of exploration and development cost (see 3) 1,725,000 Exploration and development cost chargeable to succeeding years P 775,000 Problem 8 46 B Deductible expense: Capitalized Outright expense Depreciation expense (P10,000,000 x 90%)/50 P180,000 Capital outlay P10,000,000 Problem 8 47 1 Letter B 200A 200B 200C Lower of actual contribution or normal valuation 800,000 800,000 500,000 Add: Amortization of excess 200A (P200,000/10) 20,000 20,000 20,000 200B (P100,000/10) . 10,000 10,000 Deductible retirement expense 820,000 830,000 530,000 2. Letter A 200A
200B
200C
Actual retirement payments 0 400,000 300,000 Problem 8 48 A Year X Year Y Actual contribution or normal valuation, lower 700,000 600,000 Add: Amortization (P100,000/10) 10,000 10,000 Deductible retirement expense 710,000 610,000
Note: Only the excess of the actual contribution over the normal valuation is to be amortized over 10 years.
Problem 8 48 B Allowed deductible contribution (P200,000 x 5%) P10,000 Problem 8 49 B Allowed deductible contribution (P200,000 x 5%) P10,000 Problem 8 50 D Allowed deductible contribution [(P60,000 + P5,000) x 10%] P6,500 Problem 8 51 B Income before charitable contribution (P500,000 P130,000) P370,000 Multiplied by percent of limit 5% Allowed deductible contribution - lower P 18,500 Problem 8 52 A PPHHI per month P200 Problem 8 53 D
13 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Not allowed to deduct PPHHI because family income exceeded P250,000 per year. Problem 8 54 C Actual value of donation priority program P1,000,000 Adopt a school program incentive (P1,000,000 x 50%) 500,000 Deductible donation P1,500,000 Problem 8 55 1. Operating expenses (1,000,000 x 30%) P50,000 P250,000 Interest expense (P50,000 (P40,000/80%) x 33%] 33,500 Total itemized deductions P283,500 Add: NOLCO 500,000 Total deductible expenses P783,500 Note: NOLCO is not an itemized deduction but part of deductible expenses. 2. Gross income (P5,000,000 P2,000,000)
P3,000,000 Multiplied by OSD rate 40% OSD P1,200,000 Note: NOLCO is not allowed to be deducted if the taxpayer uses OSD. 3. Gross income P3,000,000 Less: OSD 1,200,000 Net taxable income P1,800,000
Problem 8 56 Salaries of assistants P 96,000 Traveling expenses 11,000 Light and water office 7,890 Stationeries and supplies 1,960 Office rent 60,000 Total operating expenses before contribution P176,850 Add: Contribution subject to limit (P500,000 P176,850) x 10%) 32,315 Allowable itemized deductions P209,165
Problem 8 57
14 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Sole Proprietorship Corporation Partnership Bad debts written-off (P35,000 P30,000) P 5,000 P 5,000 P 5,000 Depreciation expense (P140,000 P100,000) 40,000 40,000 40,000 Donation to the government priority program 50,000 50,000 50,000 Donations subject to limit: Lower of actual, P170,000 or (P2,500,000 x 10%) 170,000 (P2,500,000 x 5%) 125,000 125,000 Total allowable deductions . P 220,000 P 220,000 P 265,000
The research and development cost is to be treated as a deferred expense, hence, its amortization shall be made in the succeeding five years when the taxpayer realizes benefits from such expenditures (Sec. 341, NIRC).
Problem 8 58 1. 200A 200B Actual contribution or normal valuation, lower 1,000,000 900,000 Add: Amortization - 200A (P250,000/10) 25,000 25,000 Deductible retirement expense 1,025,000 925,000 2. Financial net income 50,000,000
60,000,000 Add: Retirement benefit expense accounting 1,100,000 1,200,000 Total 51,100,000 61,200,000 Less: Deductible retirement expense taxation 1,025,000 925,000 Net income for tax purposes 50,075,000 60,275,000 Problem 8 59 Corporation Individual Salary expenses 500,000 500,000 Retirement (P250,000 + P50,000/10) 255,000 255,000 Representation expense (P10,000,000 x .005) 50,000 50,000 Interest expense paid to the BIR - full 20,000 20,000 Interest expense limit: (P100,000 (P96,000/80%) x 33%) 60,400 60,400 Depreciation expense 40,000 40,000 Rent expense 250,000 250,000 Group insurance expense 50,000 50,000 Bad debts expense (P100,000 x 20%) 20,000 20,000 Contribution expenses: TESDA priority project (500,000 x 1.5) 750,000 750,000 Local government limit (lower is actual) 100,000 100,000 Total itemized deductions 2,095,400 2,095,400
Note: NOLCO is an allowable special deduction but not an itemized deduction.
15 INCOME TAXATION 6TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income
Problem 8 60 1. Individual Corporation Salaries expense (P680,000 P100,000) 580,000 580,000 Bad debts expense (P370,000 P270,000) 100,000 100,000 Retirement expense (P1,000,000 P380,000) 620,000 620,000 Representation expense (P39,000,000 x 0.005) 195,000 195,000 Rent expenses (P200,000 P20,000) 180,000 180,000 Taxes expense (P300,000 P270,000) 30,000 30,000 Life insurance expense (P150,000 P100,000) 50,000 50,000 Interest expense [(P200,000 (50,000 x 33%) + P20,000] 203,500 203,500 Total itemized deduction before contributions 1,958,500 1,958,500 Contribution expenses: Donation to TESDA priority project (P500,000 x 150%) 750,000 750,000 Donations for Rooming-in and Breast-feeding (200k x 2) 400,000 400,000 Donations NGOs (35% for admin.) 100,000 100,000 Ind: (P39,460,000 P30,000,000 P1,958,500) x 10%=750,150 Corp: (P39,460,000 P30,000,000 P1,958,500) x 5%=375,075 . . Total allowable deductions 3,208,500 3,208,500 Computation of sales:
Financial income P 5,000,000 Cost of sales 30,000,000 Operating expenses deducted (P680,000 + P370,000 + P1,000,000 + P800,000 + P200,000 + P300,000 + P150,000 + P160,000 + P800,000) 4,460,000 Total sales P39,460,000 2.
Individual
Corporation Gross income (P39,460,000 P30,000,000) P9,460,000 P9,460,000 Less: Total allowable deductions 3,208,500 3,208,500 Net taxable income P6,251,500 P6,251,500