UNIVERSITY OF SOUTHERN PHILIPPINES FOUNDATION

COLLEGE OF ACCOUNTANCY

TAXATION
DEDUCTIONS FROM GROSS INCOME

1) Net operating loss
a) Meaning of net operating loss - Excess of allowable deduction over gross income of
the business in a taxable year.
b) Net operating loss carry over - Pertains to net operating loss of the business or
enterprise for any taxable year immediately preceding the current taxable year.
c) Requisites for deductibility of NOLCO
(1) The operating loss had not been previously offset as deduction from gross income;
(2) There has been no substantial change in the ownership of the business or enterprise
in that:
(a) 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;
(b) 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.
d) Carry over period - The net operating loss shall be carried over as a deduction from
gross income for the next 3 succeeding taxable years immediately following the year
of such loss.
e) Net operating loss for mines other than oil and gas wells
(1) For mines other than oil and gas wells, a net operating loss incurred in any of the
first 10 years of operation may be carried over as a deduction from the taxable
income for the next 5 years immediately following the year of such loss.
(2) The entire amount of the loss shall be carried over to the first 5 taxable years
following the loss, and any portion of such loss which exceeds the taxable income of
such first year shall be deducted in like manner from the taxable income of the next
remaining 4 years.

Exercise

1)The net operating loss reported in the GAAP income statement is P50,000 after operating expenses. Part of the
operating expense is a P10,000 bad debts based on estimate. How much NOLCO would be deductible from the
succeeding years income?
2) The previous years operating loss amounted to P50,000. How much would be the NOLCO that could be deducted from
current years income of business opting for optional standard deduction?
2) Senior Citizens' Salaries Private establishments employing Senior Citizens shall be entitled to additional
and Discounts deduction from their gross income equivalent to fifteen percent (15%) of the
total amount paid as salaries and wages to Senior Citizens provided the
following conditions are met:

1. The employment shall have to continue for a period of at leas six (6)
months; and

2. The annual taxable income of the Senior Citizen does not exceed the
poverty level. (Senior citizens are covered with the minimum wage law.)
(Sec. 12, Rev. Regs. No. 7-2010)

T h e di s c o u n t s g r a n t e d by t h e se l l e r o f qu a l i f i e d go o d s a n d services
exclusively for the use of senior citizens as provided by R.A. 9257 are classified
as special itemized deductions (New BIR Form 1701). The statutory rates of senior
citizen's discounts are enumerated as follows:

1. For goods and services, 20% discount;

2. For water and electricity consumption registered in the name of senior

citizen, 5% discount if the water and electricity consumptions do not
exceed thirty cubic meters and one hundred kilowatt hours, respectively;
and
3. F o r e l ec t r i c i t y , w a t er an d t el eph o n e c o n su m pt i o n , 5 0 % discount if
consumed by a Senior Citizen Center administered ' by the Government or
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domestic NGOs.

Exercises
1. Pedro Corporation employs senior citizens at minimum wage showing the following rep orts during the year:
Gross sales P5,000,000
Cost of sales 3,000,000
Salaries expense paid to senior ci tizens 500,000
Salaries expense paid to other workers 200,000
Senior citizens discount 10,000
The special itemized deduction?
3. Free Legal Assistance
A lawyer or professional partnerships rendering actual free legal services, as
defined by the Supreme Court, shall be entitled to an a l l o W a b l e d e d u c t i o n
f r o m t h e g r o s s i n c o m e, t h e a m o u n t t h a t c o u l d h a v e b e e n c o l l e c t e d f o r
t h e a c t u a l f r e e l e g a l s e r v i c e s rendered or up to ten percent (10%) of the
gross income derived from the actual performance of the legal profession,
whichever is lower.

T h e a c t u a l f r e e l e g a l s e r v i c e s h e r e i n c o n t e m p l a t e d s h a l l b e exclusive of
the minimum si xty (60) -hour mandatory legal aid services rendered to
indigent litigants as required under the Rule on Mandatory. Legal Aid
Services for Practicing Lawyers, under BAR Matter No. 2012, issued by the
Supreme Court. (R.A. 9999).

Exercise

A t t y . A b o G a d o , a p r a c t i c i n g l a w y e r , r e n d e r e d a 3 0 0 h o u r s rendering free legal assistance to indigent

litigants. Atty. Gado's legal fee per hour is P5,000. If his actual professional fee during t h e y e a r
a m o u n t e d t o P 1 0 , 0 0 0 , 0 0 0 , h o w m u c h i s t h e s p e c i a l deduction allowed to be deduct ed from hi s gross
profe ssion al income?

Optional Standard Deductions (OSD) (RR No. 16-2008 as amended by RR No. 2-2010)
1) Persons covered The following may be allowed to claim OSD in lieu of the itemized deductions (i.e. items of
ordinary and necessary expenses allowed under Section 34 (A) to (J) and (M), Section 37,
other special laws, if applicable):
a) Individuals b) Corporations
(1) Resident citizen (1) Domestic corporation
(2) Non-resident citizen (2) Resident foreign corporation
(3) Resident alien
(4) Taxable estates and trusts
2) Determination of the a) The OSD allowed to individual taxpayers shall be a maximum of forty percent (40%) of
amount of OSD for gross sales (if on accrual basis) or gross receipts (if on cash basis) during the taxable year.
individuals b) The cost of sales in case of individual seller of goods, or the cost of services in the case
of individual seller of services, are not allowed to be deducted for purposes of determining
the basis of the OSD
c) For other individual taxpayers allowed by law to report their income and deductions under a
different method of accounting (e.g. percentage of completion basis, etc.) other than cash
and accrual method of accounting, the gross sales or gross receipts shall be determined
in accordance with said acceptable method.

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3) Determination of the
amount of OSD for
corporations
4) Determination of the
OSD for general
professional partnerships
(GPP) and partners of GPP
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a) In the case of corporate taxpayers, the OSD allowed shall be in an amount not exceeding
forty percent (40%) of their gross income.
b) Gross income shall mean the gross sales less sales returns, discounts and allowances
and cost of goods sold.
c) Gross sales shall include only sales contributory to income taxable under Section 27(A) of
the Tax Code.
d) Cost of goods sold shall include the purchase price or cost to produce the merchandise
and all expenses directly incurred in bringing them to their present location and use.
e) In the case of sellers of services, the term gross income means gross receipts less sales
returns, allowances, discounts and cost of services.
f) Cost of services means all direct costs and expenses necessarily incurred to provide the
services required by the customers and clients such as:
(1) Salaries and employee benefits of personnel, consultants and specialists directly
rendering the services, and
(2) Cost of facilities directly utilized in providing the service such as depreciation or rental
of equipment used and cost of supplies.
g) Cost of services shall not include interest expense except in the case of banks and other
financial institutions.
h) Gross receipts means amounts actually or constructively received during the taxable year.
i) For taxpayers engaged as sellers of services but employing the accrual basis of accounting
for their income, the term gross receipts shall mean amounts earned as gross revenue
during the taxable year.
j) The items of gross income under Section 32 (A) of the Tax Code, as amended, which are
required to be declared in the income tax return of the taxpayer for the taxable year are
part of the gross income against which the OSD may be deducted in arriving at taxable
income. Passive income which have been subjected to a final tax at source shall not form
part of the gross income for purposes of computing the forty percent (40%) optional
standard deduction.
a) Since the taxable income is in the hands of the partner, as a rule apart from the expenses
claimed by GPP in determining its net income, the individual partner can still claim
deductions incurred or paid by him that contributed to the earning of the income taxable to
him.
b) If the GPP availed of the itemized deductions in computing its net income, the partners may
still claim itemized deductions from said share, provided, that, in claiming itemized
deductions, the partner is precluded from claiming the same expenses already claimed by
the GPP.
c) If the GPP availed of itemized deductions, the partners are not allowed to claim the OSD
from their shares in the net income because OSD is a proxy for all the items of deduction
allowed in arriving taxable income. This means that the OSD is in lieu of the items of
deductions claimed by the GPP and the items of deductions claimed by the partners.
d) If the GPP avails of OSD in computing its net income, the partners comprising it can no
longer claim further deductions from their share in the said net income for the following
reasons:
1) The partners distributive share in the GPP is treated as his gross income not his gross
sales/receipts and the 40% OSD allowed to individuals is specifically mandated to be
deducted not from his gross income but from his gross sales/receipts, and,
2) The OSD being in lieu of the itemized deductions allowed in computing taxable income,
it will answer for both the items of deductions allowed to the GPP and its partners.
e) Since one-layer of income tax is imposed on the income of the GPP and the individual
partners when the law placed the statutory incidence of the tax in the hands of the latter,
the type of deduction chosen by the GPP must be the same type of deduction that can be
availed of by the partners.
f) If the partner also derives other gross income from trade, business or practice of profession
apart from and distinct from his share in the net income of the GPP, the deduction that he
can claim from his other gross income would follow the same deductions availed of from
his partnership income.
g) If the GPP opts for the OSD, the individual partner may still claim 40% of its gross income
from trade, business or practice of profession but not to include his share from the net
income of the GPP.
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Summary of important points in OSD

Corporation General Prof. Partnership Individuals

1) Basis Gross income Gross income Gross sales/Gross receipts
2) Rate 40% 40% 40%
3) Cost of sales/Cost of
services Deducted Deducted Not deducted
4) Choice of OSD
(irrevocable) To be signified in the return To be signified in the return To be signified in the return
5) Submission of
financial statements Required Required Not required
6) Keeping of records Required pertaining to gross Required pertaining to gross Required pertaining to gross
income income sales/receipts
7) Hybrid method
(partly itemized
deductions partly
OSD) Not allowed Not allowed Not allowed
8) Computation of GS/GR xxx GS/GR xxx GS/GR xxx
taxable net income Less: Ret and allow xxx Less: Ret and allow xxx Less: Ret and allow xxx
using OSD Discounts xxx xxx Discounts xxx xxx Discounts xxx xxx
Net sales xxx Net sales xxx Net sales xxx
Less: COS xxx Less: COS xxx Other income xxx
Gross income xxx Gross income xxx Total xxx
Other income xxx Other income xxx Less: OSD xxx
Total xxx Total xxx BPE xxx
Less: OSD xxx Less: OSD xxx AE xxx xxx
Taxable net income xxx Taxable net income xxx Taxable net income xxx

Exercises
1. Miss Dianne Torres showed the following income and expenses during the year:
Compensation income as a teacher P250,000
Sales of wagwag business 300,000
Cost of sales 80,000
Operating expenses (without documentations) 50,000
How much is the deductible cost of sale and operating expense if Dianne opted to deduct OSD?
2. Mr. Lito Pusalang provides the following data:
Gross receipts from profession P100,000
Rent income, net of withholding tax of 5% Interest
income from Metro Bank 475,000
Dividend income from San Miguel Corporation 10,000
Operating expenses without receipts 40,000
Compensation income 300,000
How much is the optional standard deduction?

3. Teno Lang, a nonresident Chinese national engaged in business in the and expenses Philippines, reported the following
Philippine income during the year:

Sales P 1,000,000
Cost of sales 300,000
Gross income P 700,000
Less: Operating expenses 500,000
Net income P 200,000

There are no official receipts and documents to support his operating expenses. There is no reciprocity law in his country to
provide tax exemption to Filipino citizen. How much is the amount of allowable deduction from the gross income of Teno Lang if
he opted to deduct OSD because he cannot substantiate with receipts his operating expenses?

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