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1950 and House Bill No. 3555, show that it is the legislative intent that PAGCOR be subject to the payment of corporate income tax. Theexpress mention of the GOCCs exempted from payment of corporate income tax excludes all others. Not being excepted, PAGCORmust be regarded as coming within the purview of the general rule that GOCCs shall pay corporate income tax, expressed in themaxim- exceptio firmat regulam in casibus non exceptis . PAGCOR cannot find support in the equal protection clause of the Constitution, asthe legislative records of the Bicameral Conference Meeting dated October 27, 1997, of the Committee on Ways and Means, show thatPAGCORs previous exemption from payment of corporate income tax was not made pursuant to a valid classification based onsubstantial distinctions and the other requirements of a reasonable classification by legislative bodies, so that the law may operate onlyon some, and not all, without violating the equal protection clause but was made upon PAGCORs own request to be exempted.Philippine Amusement and Gaming Corporation (PAGCOR) vs The Bureau of Internal Revenue,G.R. No. 172087, March 15, 2011.

National Internal Revenue Code; withdrawal of PAGCOR income tax exemption; non-impairment of contracts.PAGCOR contends that

Section 1 (c) of Republic Act (RA) No. 9337 is null and void ab initiofor violating the non-impairment clause of the Constitution.PAGCOR avers that laws form part of, and is read into, the contract even without the parties expressly saying so. PAGCOR states thatthe private parties/investors transacting with it considered the tax exemptions, which inure to their benefit, as the main considerationand indumenta for their decision to transact or invest with it. PAGCOR argues that the withdrawal of its exemption from corporateincome tax by RA No. 9337 has the effect of changing the main consideration and inducement for the transactions of private partieswith it and thus violative of the non-impairment clause. This contention lacks merit. The non-impairment clause, which provides thatno law impairing the obligations of contracts shall be passed, is limited in application to laws that derogate from prior acts or contractsby enlarging, abridging or in any manner changing the intention of the parties. There is impairment of a subsequent law changes theterms of a contract between the parties, imposes new conditions, dispenses with those agreed upon or withdraws remedies for theenforcement of the rights of the parties. As regards franchises, Section 11, Article XII of the Constitution provides that no franchise orright shall be granted except under the condition that it shall be subject to amendment, alteration or repeal by the Congress when thecommon good so requires. In the case of Manila Electric Company vs Province of Laguna, the Court held that a franchise partakes thenature of a grant, which is beyond the purview of the non-impairment clause of the Constitution. In this case, PAGCOR was granted afranchise to operate and maintain gambling casinos, clubs and other recreation or amusement places, sports, gaming pools, i.e.,basketball, football, lotteries, etc., whether on land or sea, within the territorial jurisdiction of the Republic of the Philippines. UnderSection 11, Article XII of the Constitution, PAGCORs franchise is subjectto amendment, alteration or repeal by Congress such as theamendment under Section 1 of RA No. 9377. Hence, the provision in said section withdrawing the exemption of PAGCOR fromcorporate income tax, which may affect any benefits to PAGCORs transactions with private parties, is not violative of the non-impairment clause of the Constitution. Philippine Amusement and Gaming Corporation (PAGCOR) vs The Bureau of Internal Revenue, ,G.R.No. 172087, March 15, 2011.National Internal Revenue Code; PAGCOR value added tax exemption; Revenue Regulation No. 16-2005. The provision in Revenue

Regulation (RR) No. 16-2005 subjecting PAGCOR to 10% value-added tax (VAT) is invalid for being contrary to Republic Act (RA) No.9337. Nowhere in RA No. 9337 is it provided that PAGCOR can be subjected to VAT. RA No. 9337 is clear only as to the removal ofPAGCORs exemption from the payment of corporate income tax. RA No. 9337 itself exempts PAGCOR from VAT pursuant to Section7 (k) thereof which provides among the transaction exempt from VAT, transactions which are exempt under special laws. PAGCOR scharter, Presidential Decree No. 1869, is a special law that grants it exemption from taxes. Mor eover, PAGCORs exemption from VATis supported by Section 6 of RA No. 9337, which retained Section 108 (B)(3) of RA No. 8424. Under this Section 108 (B)(3), among

transactions subject to zero percent (0%) rate are services rendered to persons or entities whose exemption under special lawseffectively subject the supply of such services of zero percent (0%) rate. PAGCORs exemption from VAT has been discussed in the caseof Commissioner of Internal Revenue vs Acesite (Philippines) Hotel Corporation, where the Court held that Section 13 of PAGCORs charterclearly gives PAGCOR a blanket exemption to taxes with no distinction on whether the taxes are direct or indirect. Philippine

Amusement and Gaming Corporation (PAGCOR) vs The Bureau of Internal Revenue,G.R. No. 172087, March 15, 2011.

(Sec. 4) CIR vs. CA , G.R. No. 95022 207 Scra 487Petitioner, seeks a reversal of the Decision of respondent CA, dated Aug. 27, 1990, in CA-G.R. SP No. 20426, entitled "Commissioner ofInternal Revenue vs. GCL Retirement Plan, represented by its Trustee-Director and the Court of Tax Appeals," which affirmed theDecision of the latter Court, dated 15 December 1986, in Case No. 3888, ordering a refund, in the sum of P11,302.19, to the GCLRetirement Plan representing the withholding tax on income from money market placements and purchase of treasury bills, imposedpursuant to Presidential Decree No. 1959.There is no dispute with respect to the facts. Private Respondent, GCL Retirement Plan (GCL, for brevity) is an employees' trust

maintained by the employer, GCL Inc., to provide retirement, pension, disability and death benefits to its employees. The Plan assubmitted was approved and qualified as exempt from income tax by Petitioner Commissioner of Internal Revenue in accordance withRep. Act No. 4917.

ISSUE: Are schools retained earnings tax-exempt?RULING:Yes. GCL Plan was qualified as exempt from income tax by the CIR in accordance with Rep. Act. 4917. The tax-exemption privilege ofemployees' trusts, as distinguished from any other kind of property held in trust, springs from Section 56(b) (now 53[b]) of the TaxCode, The tax imposed by this Title shall not apply to employee's trust wh ich forms part of a pension, stock bonus or profit-sharingplan of an employer for the benefit of some or all of his employees . . . And rightly so, by virtue of the raison de'etre be hind thecreation of employees' trusts. Employees' trusts or benefit plans normally provide economic assistance to employees upon theoccurrence of certain contingencies, particularly, old age retirement, death, sickness, or disability. It provides security against certainhazards to which members of the Plan may be exposed. It is an independent and additional source of protection for the working group.What is more, it is established for their exclusive benefit and for no other purpose.It is evident that tax-exemption is likewise to be enjoyed by the income of the pension trust. Otherwise, taxation of those earningswould result in a diminution accumulated income and reduce whatever the trust beneficiaries would receive out of the trust fund. Thiswould run afoul of the very intendment of the law. There can be no denying either that the final withholding tax is collected fromincome in respect of which employees' trusts are declared exempt (Sec. 56 [b], now 53 [b], Tax Code). The application of thewithholdings system to interest on bank deposits or yield from deposit substitutes is essentially to maximize and expedite thecollection of income taxes by requiring its payment at the source. If an employees' trust like the GCL enjoys a tax-exempt status fromincome, we see no logic in withholding a certain percentage of that income which it is not supposed to pay in the first place.http://karissafaye.blogspot.com/2010/05/sec.html

SECOND DIVISION

G.R. No. 195909 September 26, 2012
http://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://karissafaye.blogspot.com/2010/05/sec.htmlhttp://karissafaye.blogspot.com/2010/05/sec.htmlhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htmhttp://sc.judiciary.gov.ph/jurisprudence/2011/march2011/172087.htm


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COMMISSIONER OF INTERNAL REVENUE,PETITIONER,vs.ST. LUKE'S MEDICAL CENTER, INC.,RESPONDENT.x - - - - - - - - - - - - - - - - - - - - - - - xG.R. No. 195960ST. LUKE'S MEDICAL CENTER, INC.,PETITIONER,vs.COMMISSIONER OF INTERNAL REVENUE,RESPONDENT.D E C I S I O NCARPIO,J.:

The CaseThese are consolidated1petitions for review on certiorari under Rule 45 of the Rules of Court assailing the Decision of 19 November2010 of the Court of Tax Appeals (CTA) En Banc and its Resolution2of 1 March 2011 in CTA Case No. 6746. This Court resolves thiscase on a pure question of law, which involves the interpretation of Section 27(B) vis--vis Section 30(E) and (G) of the National InternalRevenue Code of the Philippines (NIRC), on the income tax treatment of proprietary non-profit hospitals.The FactsSt. Luke's Medical Center, Inc. (St. Luke's) is a hospital organized as a non-stock and non-profit corporation. Under its articles ofincorporation, among its corporate purposes are:

(a) To establish, equip, operate and maintain a non-stock, non-profit Christian, benevolent, charitable and scientific hospitalwhich shall give curative, rehabilitative and spiritual care to the sick, diseased and disabled persons; provided that purelymedical and surgical services shall be performed by duly licensed physicians and surgeons who may be freely andindividually contracted by patients;(b) To provide a career of health science education and provide medical services to the community through organized clinicsin such specialties as the facilities and resources of the corporation make possible;(c) To carry on educational activities related to the maintenance and promotion of health as well as provide facilities forscientific and medical researches which, in the opinion of the Board of Trustees, may be justified by the facilities, personnel,funds, or other requirements that are available;(d) To cooperate with organized medical societies, agencies of both government and private sector; establish rules andregulations consistent with the highest professional ethics;x x x x3

On 16 December 2002, the Bureau of Internal Revenue (BIR) assessed St. Luke's deficiency taxes amounting toP76,063,116.06 for 1998,

comprised of deficiency income tax, value-added tax, withholding tax on compensation and expanded withholding tax. The BIRreduced the amount to P63,935,351.57 during trial in the First Division of the CTA. 4

On 14 January 2003, St. Luke's filed an administrative protest with the BIR against the deficiency tax assessments. The BIR did not acton the protest within the 180-day period under Section 228 of the NIRC. Thus, St. Luke's appealed to the CTA.The BIR argued before the CTA that Section 27(B) of the NIRC, which imposes a 10% preferential tax rate on the income of proprietarynon-profit hospitals, should be applicable to St. Luke's. According to the BIR, Section 27(B), introduced in 1997, "is a new provision

intended to amend the exemption on non-profit hospitals that were previously categorized as non-stock, non-profit corporations underSection 26 of the 1997 Tax Code x x x."5It is a specific provision which prevails over the general exemption on income tax grantedunder Section 30(E) and (G) for non-stock, non-profit charitable institutions and civic organizations promoting social welfare.6The BIR claimed that St. Luke's was actually operating for profit in 1998 because only 13% of its revenues came from charitablepurposes. Moreover, the hospital's board of trustees, officers and employees directly benefit from its profits and assets. St. Luke's hadtotal revenues of P1,730,367,965 or approximately P1.73 billion from patient services in 1998.7

St. Luke's contended that the BIR should not consider its total revenues, because its free services to patients wasP218,187,498 or 65.20%

of its 1998 operating income (i.e., total revenues less operating expenses) ofP334,642,615.8St. Luke's also claimed that its income does

not inure to the benefit of any individual.St. Luke's maintained that it is a non-stock and non-profit institution for charitable and social welfare purposes under Section 30(E) and(G) of the NIRC. It argued that the making of profit per se does not destroy its income tax exemption.The petition of the BIR before this Court in G.R. No. 195909 reiterates its arguments before the CTA that Section 27(B) applies to St.Luke's. The petition raises the sole issue of whether the enactment of Section 27(B) takes proprietary non-profit hospitals out of theincome tax exemption under Section 30 of the NIRC and instead, imposes a preferential rate of 10% on their taxable income. The BIR

prays that St. Luke's be ordered to payP57,659,981.19 as deficiency income and expanded withholding tax for 1998 with surcharges and

interest for late payment.The petition of St. Luke's in G.R. No. 195960 raises factual matters on the treatment and withholding of a part of its income, 9as well asthe payment of surcharge and delinquency interest. There is no ground for this Court to undertake such a factual review. Under theConstitution10and the Rules of Court,11this Court's review power is generally limited to "cases in which only an error or question oflaw is involved."12This Court cannot depart from this limitation if a party fails to invoke a recognized exception.The Ruling of the Court of Tax AppealsThe CTA En Banc Decision on 19 November 2010 affirmed in toto the CTA First Division Decision dated 23 February 2009 which held:WHEREFORE, the Amended Petition for Review [by St. Luke's] is hereby PARTIALLY GRANTED. Accordingly, the 1998 deficiencyVAT assessment issued by respondent against petitioner in the amount of P110,000.00 is hereby CANCELLED and WITHDRAWN.

However, petitioner is hereby ORDERED to PAY deficiency income tax and deficiency expanded withholding tax for the taxable year1998 in the respective amounts of P5,496,963.54 andP778,406.84 or in the sum of P6,275,370.38, x x x.

x x x xIn addition, petitioner is hereby ORDERED to PAY twenty percent (20%) delinquency interest on the total amount of P6,275,370.38

counted from October 15, 2003 until full payment thereof, pursuant to Section 249(C)(3) of the NIRC of 1997.SO ORDERED.13The deficiency income tax of P5,496,963.54, ordered by the CTA En Banc to be paid, arose from the failure of St. Luke's to prove that

part of its income in 1998 (declared as "Other Income-Net")14came from charitable activities. The CTA cancelled the remainder ofthe P63,113,952.79 deficiency assessed by the BIR based on the 10% tax rate under Section 27(B) of the NIRC, which the CTA En Banc

held was not applicable to St. Luke's.15The CTA ruled that St. Luke's is a non-stock and non-profit charitable institution covered by Section 30(E) and (G) of the NIRC. Thisruling would exempt all income derived by St. Luke's from services to its patients, whether paying or non-paying. The CTA reiteratedits earlier decision in St. Luke's Medical Center, Inc. v. Commissioner of Internal Revenue,16which examined the primary purposes ofSt. Luke's under its articles of incorporation and various documents17identifying St. Luke's as a charitable institution.
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The CTA adopted the test in Hospital de San Juan de Dios, Inc. v. Pasay City,18which states that "a charitable institution does not loseits charitable character and its consequent exemption from taxation merely because recipients of its benefits who are able to pay arerequired to do so, where funds derived in this manner are devoted to the charitable purposes of the institution x x x."19The generationof income from paying patients does not per se destroy the charitable nature of St. Luke's.Hospital de San Juan cited Jesus Sacred Heart College v. Collector of Internal Revenue,20which ruled that the old NIRC(Commonwealth Act No. 466, as amended)21"positively exempts from taxation those corporations or associations which, otherwise,would be subject thereto, because of the existence of x x x net income." 22The NIRC of 1997 substantially reproduces the provision oncharitable institutions of the old NIRC. Thus, in rejecting the argument that tax exemption is lost whenever there is net income, theCourt in Jesus Sacred Heart College declared: "[E]very responsible organization must be run to at least insure its existence, by operatingwithin the limits of its own resources, especially its regular income. In other words, it should always strive, whenever possible, to have

a surplus."23The CTA held that Section 27(B) of the present NIRC does not apply to St. Luke's. 24The CTA explained that to apply the 10%preferential rate, Section 27(B) requires a hospital to be "non-profit." On the other hand, Congress specifically used the word "non-stock" to qualify a charitable "corporation or association" in Section 30(E) of the NIRC. According to the CTA, this is unique in thepresent tax code, indicating an intent to exempt this type of charitable organization from income tax. Section 27(B) does not require thatthe hospital be "non-stock." The CTA stated, "it is clear that non-stock, non-profit hospitals operated exclusively for charitable purposeare exempt from income tax on income received by them as such, applying the provision of Section 30(E) of the NIRC of 1997, asamended."25The IssueThe sole issue is whether St. Luke's is liable for deficiency income tax in 1998 under Section 27(B) of the NIRC, which imposes apreferential tax rate of 10% on the income of proprietary non-profit hospitals.The Ruling of the CourtSt. Luke's Petition in G.R. No. 195960As a preliminary matter, this Court denies the petition of St. Luke's in G.R. No. 195960 because the petition raises factual issues. UnderSection 1, Rule 45 of the Rules of Court, "[t]he petition shall raise only questions of law which must be distinctly set forth." St. Luke'scites Martinez v. Court of Appeals26which permits factual review "when the Court of Appeals [in this case, the CTA] manifestlyoverlooked certain relevant facts not disputed by the parties and which, if properly considered, would justify a different conclusion."27This Court does not see how the CTA overlooked relevant facts. St. Luke's itself stated that the CTA "disregarded the testimony of [its]witness, Romeo B. Mary, being allegedly self-serving, to show the nature of the 'Other Income-Net' x x x."28This is not a case ofoverlooking or failing to consider relevant evidence. The CTA obviously considered the evidence and concluded that it is self -serving.The CTA declared that it has "gone through the records of this case and found no other evidence aside from the self-serving affidavitexecuted by [the] witnesses [of St. Luke's] x x x."29The deficiency tax on "Other Income-Net" stands. Thus, St. Luke's is liable to pay the 25% surcharge under Section 248(A)(3) of theNIRC. There is "[f]ailure to pay the deficiency tax within the time prescribed for its payment in the notice of assessment[.]"30St. Luke'sis also liable to pay 20% delinquency interest under Section 249(C)(3) of the NIRC. 31As explained by the CTA En Banc, the amountof P6,275,370.38 in the dispositive portion of the CTA First Division Decision includes only deficiency interest under Section 249(A) and

(B) of the NIRC and not delinquency interest.32

The Main IssueThe issue raised by the BIR is a purely legal one. It involves the effect of the introduction of Section 27(B) in the NIRC of 1997 vis--visSection 30(E) and (G) on the income tax exemption of charitable and social welfare institutions. The 10% income tax rate under Section27(B) specifically pertains to proprietary educational institutions and proprietary non-profit hospitals. The BIR argues that Congressintended to remove the exemption that non-profit hospitals previously enjoyed under Section 27(E) of the NIRC of 1977, which is nowsubstantially reproduced in Section 30(E) of the NIRC of 1997.33Section 27(B) of the present NIRC provides:SEC. 27. Rates of Income Tax on Domestic Corporations. -x x x x(B) Proprietary Educational Institutions and Hospitals. - Proprietary educational institutions and hospitals which are non-profit shallpay a tax of ten percent (10%) on their taxable income except those covered by Subsection (D) hereof: Provided, That if the gross incomefrom unrelated trade, business or other activity exceeds fifty percent (50%) of the total gross income derived by such educationalinstitutions or hospitals from all sources, the tax prescribed in Subsection (A) hereof shall be imposed on the entire taxable income. Forpurposes of this Subsection, the term 'unrelated trade, business or other activity' means any trade, business or other activity, theconduct of which is not substantially related to the exercise or performance by such educational institution or hospital of its primary

purpose or function. A 'proprietary educational institution' is any private school maintained and administered by private individualsor groups with an issued permit to operate from the Department of Education, Culture and Sports (DECS), or the Commission onHigher Education (CHED), or the Technical Education and Skills Development Authority (TESDA), as the case may be, in accordancewith existing laws and regulations. (Emphasis supplied)St. Luke's claims tax exemption under Section 30(E) and (G) of the NIRC. It contends that it is a charitable institution and anorganization promoting social welfare. The arguments of St. Luke's focus on the wording of Section 30(E) exempting from income taxnon-stock, non-profit charitable institutions.34St. Luke's asserts that the legislative intent of introducing Section 27(B) was only toremove the exemption for "proprietary non-profit" hospitals.35The relevant provisions of Section 30 state:SEC. 30. Exemptions from Tax on Corporations. - The following organizations shall not be taxed under this Title in respect to incomereceived by them as such:x x x x(E) Nonstock corporation or association organized and operated exclusively for religious, charitable, scientific, athletic, or culturalpurposes, or for the rehabilitation of veterans, no part of its net income or asset shall belong to or inure to the benefit of any member,organizer, officer or any specific person;x x x x(G) Civic league or organization not organized for profit but operated exclusively for the promotion of social welfare;x x x xNotwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizationsfrom any of their properties, real or personal, or from any of their activities conducted for profit regardless of the disposition made ofsuch income, shall be subject to tax imposed under this Code. (Emphasis supplied)The Court partly grants the petition of the BIR but on a different ground. We hold that Section 27(B) of the NIRC does not remove theincome tax exemption of proprietary non-profit hospitals under Section 30(E) and (G). Section 27(B) on one hand, and Section 30(E) and(G) on the other hand, can be construed together without the removal of such tax exemption. The effect of the introduction of Section27(B) is to subject the taxable income of two specific institutions, namely, proprietary non-profit educational institutions 36and
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proprietary non-profit hospitals, among the institutions covered by Section 30, to the 10% preferential rate under Section 27(B) insteadof the ordinary 30% corporate rate under the last paragraph of Section 30 in relation to Section 27(A)(1).Section 27(B) of the NIRC imposes a 10% preferential tax rate on the income of (1) proprietary non-profit educational institutions and(2) proprietary non-profit hospitals. The only qualifications for hospitals are that they must be proprietary and non-profit. "Proprietary"means private, following the definition of a "proprietary educational institution" as "any private school maintained and administeredby private individuals or groups" with a government permit. "Non-profit" means no net income or asset accrues to or benefits anymember or specific person, with all the net income or asset devoted to the institution's purposes and all its activities conducted not forprofit."Non-profit" does not necessarily mean "charitable." In Collector of Internal Revenue v. Club Filipino Inc. de Cebu,37this Courtconsidered as non-profit a sports club organized for recreation and entertainment of its stockholders and members. The club was

primarily funded by membership fees and dues. If it had profits, they were used for overhead expenses and improving its golfcourse.38The club was non-profit because of its purpose and there was no evidence that it was engaged in a profit-makingenterprise.39The sports club in Club Filipino Inc. de Cebu may be non-profit, but it was not charitable. The Court defined "charity" in Lung Centerof the Philippines v. Quezon City40as "a gift, to be applied consistently with existing laws, for the benefit of an indefinite number ofpersons, either by bringing their minds and hearts under the influence of education or religion, by assisting them to establishthemselves in life or [by] otherwise lessening the burden of government."41A non-profit club for the benefit of its members fails thistest. An organization may be considered as non-profit if it does not distribute any part of its income to stockholders or members.However, despite its being a tax exempt institution, any income such institution earns from activities conducted for profit is taxable, asexpressly provided in the last paragraph of Section 30.To be a charitable institution, however, an organization must meet the substantive test of charity in Lung Center. The issue in LungCenter concerns exemption from real property tax and not income tax. However, it provides for the test of charity in our jurisdiction.Charity is essentially a gift to an indefinite number of persons which lessens the burden of government. In other words, charitableinstitutions provide for free goods and services to the public which would otherwise fall on the shoulders of government. Thus, as amatter of efficiency, the government forgoes taxes which should have been spent to address public needs, because certain privateentities already assume a part of the burden. This is the rationale for the tax exemption of charitable institutions. The loss of taxes bythe government is compensated by its relief from doing public works which would have been funded by appropriations from theTreasury.42Charitable institutions, however, are not ipso facto entitled to a tax exemption. The requirements for a tax exemption are specified bythe law granting it. The power of Congress to tax implies the power to exempt from tax. Congress can create tax exemptions, subject tothe constitutional provision that "[n]o law granting any tax exemption shall be passed without the concurrence of a majority of all theMembers of Congress."43The requirements for a tax exemption are strictly construed against the taxpayer44because an exemptionrestricts the collection of taxes necessary for the existence of the government.The Court in Lung Center declared that the Lung Center of the Philippines is a charitable institution for the purpose of exemption fromreal property taxes. This ruling uses the same premise as Hospital de San Juan 45and Jesus Sacred Heart College46which says thatreceiving income from paying patients does not destroy the charitable nature of a hospital.As a general principle, a charitable institution does not lose its character as such and its exemption from taxes simply because it derives

income from paying patients, whether out-patient, or confined in the hospital, or receives subsidies from the government, so long asthe money received is devoted or used altogether to the charitable object which it is intended to achieve; and no money inures to theprivate benefit of the persons managing or operating the institution.47For real property taxes, the incidental generation of income is permissible because the test of exemption is the use of the property. TheConstitution provides that "[c]haritable institutions, churches and personages or convents appurtenant thereto, mosques, non-profitcemeteries, and all lands, buildings, and improvements, actually, directly, and exclusively used for religious, charitable, or educationalpurposes shall be exempt from taxation."48The test of exemption is not strictly a requirement on the intrinsic nature or character of theinstitution. The test requires that the institution use the property in a certain way, i.e. for a charitable purpose. Thus, the Court held thatthe Lung Center of the Philippines did not lose its charitable character when it used a portion of its lot for commercial purposes. Theeffect of failing to meet the use requirement is simply to remove from the tax exemption that portion of the property not devoted tocharity.The Constitution exempts charitable institutions only from real property taxes. In the NIRC, Congress decided to extend the exemptionto income taxes. However, the way Congress crafted Section 30(E) of the NIRC is materially different from Section 28(3), Article VI ofthe Constitution. Section 30(E) of the NIRC defines the corporation or association that is exempt from income tax. On the other hand,

Section 28(3), Article VI of the Constitution does not define a charitable institution, but requires that the institution "actually, directlyand exclusively" use the property for a charitable purpose.Section 30(E) of the NIRC provides that a charitable institution must be:

(1) A non-stock corporation or association;(2) Organized exclusively for charitable purposes;(3) Operated exclusively for charitable purposes; and(4) No part of its net income or asset shall belong to or inure to the benefit of any member, organizer, officer or any specificperson.

Thus, both the organization and operations of the charitable institution must be devoted "exclusively" for charitable purposes. Theorganization of the institution refers to its corporate form, as shown by its articles of incorporation, by-laws and other constitutivedocuments. Section 30(E) of the NIRC specifically requires that the corporation or association be non-stock, which is defined by theCorporation Code as "one where no part of its income is distributable as dividends to its members, trustees, or officers"49and that anyprofit "obtain[ed] as an incident to its operations shall, whenever necessary or proper, be used for the furtherance of the purpose orpurposes for which the corporation was organized."50However, under Lung Center, any profit by a charitable institution must notonly be plowed back "whenever necessary or proper," but must be "devoted or used altogether to the charitable object which it isintended to achieve."51The operations of the charitable institution generally refer to its regular activities. Section 30(E) of the NIRC requires that theseoperations be exclusive to charity. There is also a specific requirement that "no part of [the] net income or asset shall belong to or inureto the benefit of any member, organizer, officer or any specific person." The use of lands, buildings and improvements of the institutionis but a part of its operations.There is no dispute that St. Luke's is organized as a non-stock and non-profit charitable institution. However, this does notautomatically exempt St. Luke's from paying taxes. This only refers to the organization of St. Luke's. Even if St. Luke's meets the test ofcharity, a charitable institution is not ipso facto tax exempt. To be exempt from real property taxes, Section 28(3), Article VI of theConstitution requires that a charitable institution use the property "actually, directly and exclusively" for charitable purposes. To beexempt from income taxes, Section 30(E) of the NIRC requires that a charitable institution must be "organized and operated
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exclusively" for charitable purposes. Likewise, to be exempt from income taxes, Section 30(G) of the NIRC requires that the institutionbe "operated exclusively" for social welfare.However, the last paragraph of Section 30 of the NIRC qualifies the words "organized and operated exclusively" by providing that:Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizationsfrom any of their properties, real or personal, or from any of their activities conducted for profit regardless of the disposition made ofsuch income, shall be subject to tax imposed under this Code. (Emphasis supplied)In short, the last paragraph of Section 30 provides that if a tax exempt charitable institution conducts "any" activity for profit, suchactivity is not tax exempt even as its not-for-profit activities remain tax exempt. This paragraph qualifies the requirements in Section30(E) that the "[n]on-stock corporation or association [must be] organized and operated exclusively for x x x charitable x x x purposes xx x." It likewise qualifies the requirement in Section 30(G) that the civic organization must be "operated exclusively" for the promotion

of social welfare.Thus, even if the charitable institution must be "organized and operated exclusively" for charitable purposes, it is nevertheless allowedto engage in "activities conducted for profit" without losing its tax exempt status for its not-for-profit activities. The only consequence isthat the "income of whatever kind and character" of a charitable institution "from any of its activities conducted for profit, regardless ofthe disposition made of such income, shall be subject to tax." Prior to the introduction of Section 27(B), the tax rate on such income fromfor-profit activities was the ordinary corporate rate under Section 27(A). With the introduction of Section 27(B), the tax rate is now 10%.In 1998, St. Luke's had total revenues of P1,730,367,965 from services to paying patients. It cannot be disputed that a hospital which

receives approximately P1.73 billion from paying patients is not an institution "operated exclusively" for charitable purposes. Clearly,

revenues from paying patients are income received from "activities conducted for profit."52Indeed, St. Luke's admits that it derivedprofits from its paying patients. St. Luke's declared P1,730,367,965 as "Revenues from Services to Patients" in contrast to its "Free

Services" expenditure ofP218,187,498. In its Comment in G.R. No. 195909, St. Luke's showed the following "calculation" to support its

claim that 65.20% of its "income after expenses was allocated to free or charitable services" in 1998.53

REVENUES FROM SERVICES TO PATIENTS P1,730,367,965.00

OPERATING EXPENSES

Professional care of patients P1,016,608,394.00

Administrative 287,319,334.00

Household and Property 91,797,622.00

P1,395,725,350.00

INCOME FROM OPERATIONS P334,642,615.00

100%

Free Services -218,187,498.00 -65.20%

INCOME FROM OPERATIONS, Net of FREE SERVICES P116,455,117.00

34.80%

OTHER INCOME 17,482,304.00

EXCESS OF REVENUES OVER EXPENSES P133,937,421.00

In Lung Center, this Court declared:"[e]xclusive" is defined as possessed and enjoyed to the exclusion of others; debarred from participation or enjoyment; and"exclusively" is defined, "in a manner to exclude; as enjoying a privilege exclusively." x x x The words "dominant use" or "principal use"cannot be substituted for the words "used exclusively" without doing violence to the Constitution and the law. Solely is synonymouswith exclusively.54

The Court cannot expand the meaning of the words "operated exclusively" without violating the NIRC. Services to paying patients areactivities conducted for profit. They cannot be considered any other way. There is a "purpose to make profit over and above the cost" ofservices.55The P1.73 billion total revenues from paying patients is not even incidental to St. Luke's charity expenditure of P218,187,498

for non-paying patients.St. Luke's claims that its charity expenditure of P218,187,498 is 65.20% of its operating income in 1998. However, if a part of the

remaining 34.80% of the operating income is reinvested in property, equipment or facilities used for services to paying and non-payingpatients, then it cannot be said that the income is "devoted or used altogether to the charitable object which it is intended toachieve."56The income is plowed back to the corporation not entirely for charitable purposes, but for profit as well. In any case, the lastparagraph of Section 30 of the NIRC expressly qualifies that income from activities for profit is taxable "regardless of the dispositionmade of such income."

Jesus Sacred Heart College declared that there is no official legislative record explaining the phrase "any activity conducted for profit."However, it quoted a deposition of Senator Mariano Jesus Cuenco, who was a member of the Committee of Conference for the Senate,which introduced the phrase "or from any activity conducted for profit."

P. Cuando ha hablado de la Universidad de Santo Toms que tiene un hospital, no cree Vd. que es una actividad esencial dicho hospitalpara el funcionamiento del colegio de medicina de dicha universidad?x x x xR. Si el hospital se limita a recibir enformos pobres, mi contestacin seria afirmativa; pero considerando que el hospital tiene cuartos depago, y a los mismos generalmente van enfermos de buena posicin social econmica, lo que se paga por estos enfermos debe estarsujeto a 'income tax', y es una de las razones que hemos tenido para insertar las palabras o frase 'or from any activity conducted forprofit.'57The question was whether having a hospital is essential to an educational institution like the College of Medicine of the University ofSanto Tomas. Senator Cuenco answered that if the hospital has paid rooms generally occupied by people of good economic standing,then it should be subject to income tax. He said that this was one of the reasons Congress inserted the phrase "or any activity conductedfor profit."
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The question in Jesus Sacred Heart College involves an educational institution.58However, it is applicable to charitable institutionsbecause Senator Cuenco's response shows an intent to focus on the activities of charitable institutions. Activities for profit should notescape the reach of taxation. Being a non-stock and non-profit corporation does not, by this reason alone, completely exempt aninstitution from tax. An institution cannot use its corporate form to prevent its profitable activities from being taxed.The Court finds that St. Luke's is a corporation that is not "operated exclusively" for charitable or social welfare purposes insofar as itsrevenues from paying patients are concerned. This ruling is based not only on a strict interpretation of a provision granting taxexemption, but also on the clear and plain text of Section 30(E) and (G). Section 30(E) and (G) of the NIRC requires that an institution be"operated exclusively" for charitable or social welfare purposes to be completely exempt from income tax. An institution under Section30(E) or (G) does not lose its tax exemption if it earns income from its for-profit activities. Such income from for-profit activities, underthe last paragraph of Section 30, is merely subject to income tax, previously at the ordinary corporate rate but now at the preferential

10% rate pursuant to Section 27(B).A tax exemption is effectively a social subsidy granted by the State because an exempt institution is spared from sharing in theexpenses of government and yet benefits from them. Tax exemptions for charitable institutions should therefore be limited toinstitutions beneficial to the public and those which improve social welfare. A profit-making entity should not be allowed to exploitthis subsidy to the detriment of the government and other taxpayers.1wphi1St. Luke's fails to meet the requirements under Section 30(E) and (G) of the NIRC to be completely tax exempt from all its income.However, it remains a proprietary non-profit hospital under Section 27(B) of the NIRC as long as it does not distribute any of its profitsto its members and such profits are reinvested pursuant to its corporate purposes. St. Luke's, as a proprietary non-profit hospital, isentitled to the preferential tax rate of 10% on its net income from its for-profit activities.St. Luke's is therefore liable for deficiency income tax in 1998 under Section 27(B) of the NIRC. However, St. Luke's has good reasons torely on the letter dated 6 June 1990 by the BIR, which opined that St. Luke's is "a corporation for purely charitable and social welfarepurposes"59 and thus exempt from income tax.60In Michael J. Lhuillier, Inc. v. Commissioner of Internal Revenue,61the Court saidthat "good faith and honest belief that one is not subject to tax on the basis of previous interpretation of government agencies tasked toimplement the tax law, are sufficient justification to delete the imposition of surcharges and interest."62WHEREFORE, the petition of the Commissioner of Internal Revenue in G.R. No. 195909 is PARTLY GRANTED. The Decision of theCourt of Tax Appeals En Banc dated 19 November 2010 and its Resolution dated 1 March 2011 in CTA Case No. 6746 are MODIFIED.St. Luke's Medical Center, Inc. is ORDERED TO PAY the deficiency income tax in 1998 based on the 10% preferential income tax rateunder Section 27(B) of the National Internal Revenue Code. However, it is not liable for surcharges and interest on such deficiencyincome tax under Sections 248 and 249 of the National Internal Revenue Code. All other parts of the Decision and Resolution of theCourt of Tax Appeals are AFFIRMED.The petition of St. Luke's Medical Center, Inc. in G.R. No. 195960 is DENIED for violating Section 1, Rule 45 of the Rules of Court.SO ORDERED.Leonardo-De Castro*, Brion, Perez, and Perlas-Bernabe, JJ., concur.

Minimum corporate income tax. Under its charter, Philippine Airlines is exempt from the minimum corporate income tax. Commissioner

of Internal Revenue vs.. Philippine Airlines, Inc.,G.R. No. 180066, July 7, 2009.THIRD DIVISION

COMMISSIONER OF INTERNAL REVENUE,Petitioner,

- versus -

PHILIPPINE AIRLINES, INC.,

Respondent.

G.R. No. 180066

Present:

YNARES-SANTIAGO,J.,Chairperson,

CHICO-NAZARIO,VELASCO, JR.,NACHURA, andPERALTA,JJ.

Promulgated:

_____________________

x- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -x

D E C I S I O N

CHICO-NAZARIO,J.:

Before this Court is a Petition for Review on Certiorari, under Rule 45 of the Revised Rules of Court, seeking the reversal andsetting aside of the Decision[1]dated 9 August 2007 and Resolution[2]dated 11 October 2007 of the Court of Tax Appeals (CTA) enbancin CTA E.B. No. 246. The CTA en bancaffirmed the Decision[3]dated 31 July 2006 of the CTA Second Division in C.T.A. Case No.7010, ordering the cancellation and withdrawal of Preliminary Assessment Notice (PAN) No. INC FY-3-31-01-000094 dated 3September 2003 and Formal Letter of Demand dated 12 January 2004, issued by the Bureau of Internal Revenue (BIR) againstrespondent Philippine Airlines, Inc. (PAL), for the payment of Minimum Corporate Income Tax (MCIT) in the amountof P272,421,886.58.
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There is no dispute as to the antecedent facts of this case.

PAL is a domestic corporation organized under the corporate laws of the Republic of the Philippines; declared the national flagcarrier of the country; and the grantee under Presidential Decree No. 1590[4]of a franchise to establish, operate, and maintain transportservices for the carriage of passengers, mail, and property by air, in and between any and all points and places throughout thePhilippines, and between the Philippines and other countries.[5]

For its fiscal year ending 31 March 2001 (FY 2000-2001), PAL allegedly incurred zero taxable income ,[6]which left it withunapplied creditable withholding tax[7]in the amount of P2,334,377.95. PAL did not pay any MCIT for the period.

In a letter dated 12 July 2002, addressed to petitioner Commissioner of Internal Revenue (CIR), PAL requested for the refund of itsunapplied creditable withholding tax for FY 2000-2001. PAL attached to its letter the following: (1) Schedule of Creditable TaxWithheld at Source for FY 2000-2001; (2) Certificates of Creditable Taxes Withheld; and (3) Audited Financial Statements.

Acting on the aforementioned letter of PAL, the Large Taxpayers Audit and Investigation Division 1 (LTAID 1) of the BIRLarge Taxpayers Service (LTS), issued on 16 August 2002, Tax Verification Notice No. 00201448, authorizing Revenue Officer JacintoCueto, Jr. (Cueto) to verify the supporting documents and pertinent records relative to the claim of PAL for refund of its unappliedcreditable withholding tax for FY 2000-20001. In a letter dated 19 August 2003, LTAID 1 Chief Armit S. Linsangan invited PAL to aninformal conference at the BIR National Office in Diliman, Quezon City, on 27 August 2003, at 10:00 a.m., to discuss the results of theinvestigation conducted by Revenue Officer Cueto, supervised by Revenue Officer Madelyn T. Sacluti.

BIR officers and PAL representatives attended the scheduled informal conference, during which the former relayed to thelatter that the BIR was denying the claim for refund of PAL and, instead, was assessing PAL for deficiency MCIT for FY 2000-2001. ThePAL representatives argued that PAL was not liable for MCIT under its franchise. The BIR officers then informed the PALrepresentatives that the matter would be referred to the BIR Legal Service for opinion.

The LTAID 1 issued, on 3 September 2003, PAN No. INC FY-3-31-01-000094, which was received by PAL on 23 October2003. LTAID 1 assessed PAL for P262,474,732.54, representing deficiency MCIT for FY 2000-2001, plus interest and compromisepenalty, computed as follows:

Sales/Revenues from Operation P 38,798,721,685.00Less: Cost of Services 30,316,679,013.00

Gross Income from Operation 8,482,042,672.00Add: Non-operating income 465,111,368.00

Total Gross Income for MCIT purposes 9,947,154,040.00[8]Rate of Tax 2%Tax Due 178,943,080.80

Add: 20% interest (8-16-00 to 10-31-03) 83,506,651.74Compromise Penalty 25,000.00

Total Amount Due P 262,474,732.54[9]

PAL protested PAN No. INC FY-3-31-01-000094 through a letter dated 4 November 2003 to the BIR LTS.

On 12 January 2004, the LTAID 1 sent PAL a Formal Letter of Demand for deficiency MCIT for FY 2000-2001 in the amountofP271,421,88658, based on the following calculation:

Sales/Revenues from Operation P 38,798,721,685.00Less: Cost of Services

Direct Costs - P 30,749,761,017.00Less: Non-deductible

interest expense 433,082,004.00 30,316,679,013.00

Gross Income from Operation P 8,482,042,672.00Add: Non-operating Income 465,111,368.00

Total Gross Income for MCIT purposes P 9,947,154,040.00

MCIT tax due P 178,943,080.80Interest 20% per annum 7/16/01 to 02/15/04 92,453,805.78Compromise Penalty 25,000.00

Total MCIT due and demandable P 271,421,886.58[10]

PAL received the foregoing Formal Letter of Demand on 12 February 2004, prompting it to file with the BIR LTS a formalwritten protest dated 13 February 2004.

The BIR LTS rendered on 7 May 2004 its Final Decision on Disputed Assessment, which was received by PAL on 26 May2004. Invoking Revenue Memorandum Circular (RMC) No. 66-2003, the BIR LTS denied with finality the protest of PAL and reiteratedthe request that PAL immediately pay its deficiency MCIT for FY 2000-2001, inclusive of penalties incident to delinquency.

PAL filed a Petition for Review with the CTA, which was docketed as C.T.A. Case No. 7010 and raffled to the CTA SecondDivision. The CTA Second Division promulgated its Decision on 31 July 2006, ruling in favor of PAL. The dispositive portion of the

judgment of the CTA Second Division reads:

WHEREFORE, premises considered, the instant Petition for Review is hereby GRANTED. Accordingly,Assessment Notice No. INC FY-3-31-01-000094 and Formal Letter of Demand for the payment of deficiencyMinimum Corporate Income Tax in the amount of P272,421,886.58 are herebyCANCELLEDandWITHDRAWN.[11]
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(b) To carry overas a deduction from taxable income any net loss incurred in any year up to five yearsfollowing the year of such loss.

Section 14.The grantee shall pay either the franchise tax or the basic corporate income tax on quarterly basisto the Commissioner of Internal Revenue. Within sixty (60) days after the end of each of the first three quarters of thetaxable calendar or fiscal year, the quarterly franchise or income-tax return shall be filed and payment of either thefranchise or income tax shall be made by the grantee.

A final or an adjustment return covering the operation of the grantee for the preceding calendar or fiscal

year shall be filed on or before the fifteenth day of the fourth month following the close of the calendar or fiscal year.The amount of the final franchise or income tax to be paid by the grantee shall be the balance of the total franchise orincome tax shown in the final or adjustment return after deducting therefrom the total quarterly franchise or incometaxes already paid during the preceding first three quarters of the same taxable year.

Any excess of the total quarterly payments over the actual annual franchise of income tax due as shown inthe final or adjustment franchise or income-tax return shall either be refunded to the grantee or credited against thegrantee's quarterly franchise or income-tax liability for the succeeding taxable year or years at the option of thegrantee.

The term "gross revenues" is herein defined as the total gross income earned by the grantee from; (a)transport, nontransport, and other services; (b) earnings realized from investments in money-market placements,bank deposits, investments in shares of stock and other securities, and other investments; (c) total gains net of totallosses realized from the disposition of assets and foreign-exchange transactions; and (d) gross income from othersources. (Emphases ours.)

According to the afore-quoted provisions, the taxation of PAL, during the lifetime of its franchise, shall be governed by twofundamental rules, particularly: (1) PAL shall pay the Government either basic corporate income tax or franchise tax, whichever islower; and (2) the tax paid by PAL, under either of these alternatives, shall be in lieu of all other taxes, duties, royalties, registration,license, and other fees and charges, except only real property tax.

The basic corporate income tax of PAL shall be based on its annual net taxable income, computed in accordance with theNational Internal Revenue Code (NIRC). Presidential Decree No. 1590 also explicitly authorizes PAL, in the computation of its basiccorporate income tax, to (1) depreciate its assets twice as fast the normal rate of depreciation;[14]and (2) carry over as a deduction fromtaxable income any net loss incurred in any year up to five years following the year of such loss .[15]

Franchise tax, on the other hand, shall be two per cent (2%) of the gross revenues derived by PAL from all sources, whethertransport or nontransport operations. However, with respect to international air-transport service, the franchise tax shall only beimposed on the gross passenger, mail, and freight revenues of PAL from its outgoing flights.

In its income tax return for FY 2000-2001, filed with the BIR, PAL reported no net taxable income for the period, resulting in zerobasic corporate income tax, which would necessarily be lower than any franchise tax due from PAL for the same period.

The CIR, though, assessed PAL for MCIT for FY 2000-2001. It is the position of the CIR that the MCIT is income tax for whichPAL is liable. The CIR reasons that Section 13(a) of Presidential Decree No. 1590 provides that the corporate income tax of PAL shall becomputed in accordance with the NIRC. And, since the NIRC of 1997 imposes MCIT, and PAL has not applied for relief from the saidtax, then PAL is subject to the same.

The Court is not persuaded. The arguments of the CIR are contrary to the plain meaning and obvious intent of PresidentialDecree No. 1590, the franchise of PAL.

Income tax on domestic corporations is covered by Section 27 of the NIRC of 1997,[16]pertinent provisions of which arereproduced below for easy reference:

SEC. 27. Rates of Income Tax on Domestic Corporations.

(A) In GeneralExcept as otherwise provided in this Code, an income tax of thirty-five percent (35%)ishereby imposed upon the taxable incomederived during each taxable year from all sources within and without thePhilippines by every corporation, as defined in Section 22(B) of this Code and taxable under this Title as acorporation, organized in, or existing under the laws of the Philippines: Provided, That effective January 1, 1998, therate of income tax shall be thirty-four percent (34%); effective January 1, 1999, the rate shall be thirty-three percent(33%); and effective January 1, 2000 and thereafter, the rate shall be thirty-two percent (32%).

x x x x

(E) Minimum Corporate Income Tax on Domestic Corporations.

(1) Imposition of Tax.A minimum corporate income tax of two percent (2%) of the gross incomeas of theend of the taxable year, as defined herein, is hereby imposed on a corporation taxable under this Title, beginning onthe fourth taxable year immediately following the year in which such corporation commenced its businessoperations, when the minimum income tax is greater than the tax computed under Subsection (A) of this Section forthe taxable year.
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Hence, a domestic corporation must pay whichever is higher of: (1) the income tax under Section 27(A) of the NIRC of 1997,computed by applying the tax rate therein to the taxable income of the corporation; or (2) the MCIT under Section 27(E), also of theNIRC of 1997, equivalent to 2% of the gross income of the corporation. Although this may be the general rule in determining theincome tax due from a domestic corporation under the NIRC of 1997, it can only be applied to PAL to the extent allowed by theprovisions in the franchise of PAL specifically governing its taxation.

After a conscientious study of Section 13 of Presidential Decree No. 1590, in relation to Sections 27(A) and 27(E) of the NIRC of1997, the Court, like the CTA en bancand Second Division, concludes that PAL cannot be subjected to MCIT for FY 2000-2001.

First, Section 13(a) of Presidential Decree No. 1590 refers to basic corporate income tax.In Commissioner of Internal Revenue v.

Philippine Airlines, Inc.,[17]the Court already settled that the basic corporate income tax, under Section 13(a) of Presidential Decree No.1590, relates to the general rate of 35% (reduced to 32% by the year 2000) as stipulated in Section 27(A) of the NIRC of 1997.

Section 13(a) of Presidential Decree No. 1590 requires that the basic corporate income tax be computed in accordance with theNIRC. This means that PAL shall compute its basic corporate income tax using the rate and basis prescribed by the NIRC of 1997 forthe said tax. There is nothing in Section 13(a) of Presidential Decree No. 1590 to support the contention of the CIR that PAL is subject tothe entire Title II of the NIRC of 1997, entitled Tax on Income.

Second, Section 13(a) of Presidential Decree No. 1590 further provides that the basic corporate income tax of PAL shall be based onits annual net taxable income. This is consistent with Section 27(A) of the NIRC of 1997, which provides that the rate of basic corporateincome tax, which is 32% beginning 1 January 2000, shall be imposed on the taxable incomeof the domestic corporation.

Taxable income is defined under Section 31 of the NIRC of 1997 as the pertinent items of gross income specified in the saidCode, less the deductions and/or personal and additional exemptions, if any, authorized for such types of income by the same Codeor other special laws.The gross income, referred to in Section 31, is described in Section 32 of the NIRC of 1997 as income fromwhatever source, including compensation for services; the conduct of trade or business or the exercise of profession; dealings inproperty; interests; rents; royalties; dividends; annuities; prizes and winnings; pensions; and a partners distributive shar e in the netincome of a general professional partnership.

Pursuant to the NIRC of 1997, the taxable income of a domestic corporation may be arrived at by subtracting from gross incomedeductions authorized, not just by the NIRC of 1997,[18]but also by special laws. Presidential Decree No. 1590 may be considered asone of such special laws authorizing PAL, in computing its annual net taxable income, on which its basic corporate income tax shall bebased, to deduct from its gross income the following: (1) depreciation of assets at twice the normal rate; and (2) net loss carry-over up tofive years following the year of such loss.

In comparison, the 2% MCIT under Section 27(E) of the NIRC of 1997 shall be based on the gross income of the domesticcorporation. The Court notes that gross income, as the basis for MCIT, is given a special definition under Section 27(E)(4) of the NIRC

of 1997, different from the general one under Section 34 of the same Code.

According to the last paragraph of Section 27(E)(4) of the NIRC of 1997, gross income of a domestic corporation engaged in thesale of service means gross receipts, less sales returns, allowances, discounts and cost of services . Cost of services refers toall direct costs and expensesnecessarily incurred to provide the services required by the customers and clients including (a) salariesand employee benefits of personnel, consultants, and specialists directly rendering the service; and (b) cost of facilities directly utilizedin providing the service, such as depreciation or rental of equipment used and cost of supplies.[19] Noticeably, inclusions in andexclusions/deductions from gross income for MCIT purposes are limited to those directly arising from the conduct of the taxpayersbusiness. It is, thus, more limited than the gross income used in the computation of basic corporate income tax.

In light of the foregoing, there is an apparent distinction under the NIRC of 1997 between taxable income, which is the basis forbasic corporate income tax under Section 27(A); and gross income, which is the basis for the MCIT under Section 27(E). The two termshave their respective technical meanings, and cannot be used interchangeably. The same reasons prevent this Court from declaringthat the basic corporate income tax, for which PAL is liable under Section 13(a) of Presidential Decree No. 1590, also covers MCIT under

Section 27(E) of the NIRC of 1997, since the basis for the first is the annual net taxable income, while the basis for the second is grossincome.

Third, even if the basic corporate income tax and the MCIT are both income taxes under Section 27 of the NIRC of 1997, and one ispaid in place of the other, the two are distinct and separate taxes.

The Court again cites Commissioner of Internal Revenue v. Philippine Airlines, Inc. ,[20]wherein it held that income tax on the passiveincome[21]of a domestic corporation, under Section 27(D) of the NIRC of 1997, is different from the basic corporate income tax on thetaxable income of a domestic corporation, imposed by Section 27(A), also of the NIRC of 1997. Section 13 of Presidential Decree No.1590 gives PAL the option to pay basic corporate income tax or franchise tax, whichever is lower; and the tax so paid shall be in lieu ofall other taxes, except real property tax. The income tax on the passive income of PAL falls within the category of all other taxes fromwhich PAL is exempted, and which, if already collected, should be refunded to PAL.

The Court herein treats MCIT in much the same way. Although both are income taxes, the MCIT is different from the basiccorporate income tax, not just in the rates, but also in the bases for their computation. Not being covered by Section 13(a) ofPresidential Decree No. 1590, which makes PAL liable only for basic corporate income tax, then MCIT is included in all othertaxesfrom which PAL is exempted.

That, under general circumstances, the MCIT is paid in place of the basic corporate income tax, when the former is higher thanthe latter, does not mean that these two income taxes are one and the same. The said taxes are merely paid in the alternative, giving theGovernment the opportunity to collect the higher amount between the two. The situation is not much different from Section 13 ofPresidential Decree No. 1590, which reversely allows PAL to pay, whichever is lower of the basic corporate income tax or the franchisetax. It does not make the basic corporate income tax indistinguishable from the franchise tax.
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Given the fundamental differences between the basic corporate income tax and the MCIT, presented in the preceding discussion,it is not baseless for this Court to rule that, pursuant to the franchise of PAL, said corporation is subject to the first tax, yet exemptedfrom the second.

Fourth, the evident intent of Section 13 of Presidential Decree No. 1520 is to extend to PAL tax concessions not ordinarily availableto other domestic corporations. Section 13 of Presidential Decree No. 1520 permits PAL to pay whichever is lower of the basiccorporate income tax or the franchise tax; and the tax so paid shall be in lieu of all other taxes, except only real property tax. Hence,under its franchise, PAL is to pay the least amount of tax possible.

Section 13 of Presidential Decree No. 1520 is not unusual. A public utility is granted special tax treatment (including tax

exceptions/exemptions) under its franchise, as an inducement for the acceptance of the franchise and the rendition of public service bythe said public utility.[22] In this case, in addition to being a public utility providing air-transport service, PAL is also the official flagcarrier of the country.

The imposition of MCIT on PAL, as the CIR insists, would result in a situation that contravenes the objective of Section 13 ofPresidential Decree No. 1590. In effect, PAL would not just have two, but three tax alternatives, namely, the basic corporate income tax,MCIT, or franchise tax. More troublesome is the fact that, as between the basic corporate income tax and the MCIT, PAL shall be madeto pay whichever is higher, irrefragably, in violation of the avowed intention of Section 13 of Presidential Decree No. 1590 to makePAL pay for the lower amount of tax.

Fifth, the CIR posits that PAL may not invoke in the instant case the in lieu of all other taxes clause in Section 13 of PresidentialDecree No. 1520, if it did not pay anything at all as basic corporate income tax or franchise tax. As a result, PAL should be made liablefor other taxes such as MCIT. This line of reasoning has been dubbed as the Substitution Theory, and this is not the first time the CIRraised the same. The Court already rejected the Substitution Theory in Commissioner of Internal Revenue v. Philippine Airlines, Inc. ,[23]towit:

Substitution Theoryof the CIR Untenable

A careful reading of Section 13 rebuts the argument of the CIR that the in lieu of all other taxes provisois a mere incentive that applies only when PAL actually pays something. It is clear that PD 1590 intended to giverespondent the option to avail itself of Subsection (a) or (b) as consideration for its franchise. Either option excludesthe payment of other taxes and dues imposed or collected by the national or the local government. PAL has theoption to choose the alternative that results in lower taxes. It is not the fact of tax payment that exempts it, but theexercise of its option.

Under Subsection (a), the basis for the tax rate is respondents annual net taxable income,

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