CTA Case No. 4703 (Decision)

') � . REPUBLI C OF THE PHILIPPINE S COURT OF TAX APPEALS QUEZON CITY STANDARD CHARTERED BANK ~ Petitioner~ - versus - C_T_A _CASE NO_4703 THE COMMISSIONER OF yf;J Promulgated : INTERNAL REVENUE, OCT 20 1994 Respondent_ X- - - - - - - - - - - - - - - - - - - - ~ - - - - - - - - - - - X DECISION This is an appeal interposed by petitioner from a decision of respondent finding t11e former liable for �deficiency income taxes in the amounts of P-2,626,335.60 for the year 1932 and P-2,099,025.60 for the year 1933. There is no dispute as to the facts, Uw case having been - .,_. submitt.ecl for decision by r~pondent on t11e basis of tile pleadings and tlH~ records of t11e Bureau of Internal Revenue. Petitioner is a r~sident foreign bank, cluly organized and eXisting under t11e lav..rs of the State of California, U.S.A., and is autlwriz~Kl to engage in l)usiness as a branch in the Philippines.

DF.CJSION- C.T.A. CASE NO. 4703 - Page2- Petitioner received on November 17, 1987 Assessment Notices for Deficiency Income Tax for 198.2 in the amount of I P2,626, ~)85.60, inclusive of interest, and Deficienq� Documentary Stamp Tax for 1982 in the amount of P4,427)09.60, inclusive of compromise penalty. On November 24, 1987, petitioner filed a written protest -.;Arit11 the respondent and requested for reconsideration and reinvestigation. Then on February 1 1988, petitioner received another. assessment-demand letter, dated January 29, 1988, from _ respondent this time for deficiency income tax amounting to P2/)99,025.00, inclusive of interest, and deficiency documentary stamp t3.x in the amount of P6,453,�~5 1.72, including compromise penalty, both for the year 19a} A formal protest vras filed by petitioner on February 10, 198�~ - On April 15, 19(18, petitioner . filed a supplemental protest, dated April 12, 1988, consolidating -- the reasons V�Thy the 1952 and 1983 Deficiency Income and Documentary Stamp Tax Assessments should be cancelled. In tv.,ro letters. both dated August 20, 1991, received by petition_er through its auditors on December 20, 199 C respondent . informed petitioner that the Deficiency Documentary Stamp Tax Assessments issued for the years 1982 and 1983 �were considered closed and terminated by reason of the Compromise - Agreement entered into l)etween the Bureau of Internal Revenue ,_ and the Bankers Asociation of the Philippines (BAP) on April 4, 1988 where the tax liability had been settled and paid by virtue of said Agreement. However, with respect to the Deficiency Income Tax Assessments for the years 198~ and 1981

DF.CJSION- C.TA. CASE NO. t703 - Pa~J- respondent denied petitioner's request for canceUation tl1ereof instead she reiterated payment of the income taxes due stating further that this is her final decision on the matter. An appeal 'V'lith this Court was filed on January 17, 1992. Petitioner contends that its alleged liability to pay deficiency income taxes for the years 1982 and 1933 in the amounts of P2,62 6,385.60 and P2,899,02 5.60, respectively, had been extinguished upon payment of the compromise amount of P302,776.93. The payment of P302,776.93 represented its final and full settlement of actual and subsisting assessments relative to the issue of disallo~Ned interest e�.'Pense allocable to non- taxable revenues and including assessable amounts for open and u.nassessed years up to and including the calendar year 1933 pursuant to the BIR-BAP Compromise Agreement which v.ras accepted by then Commissioner Ruben B. Ancheta on Ocb.)ber 31, 1984. The BIR issued the corresponding Authority to Issue Revenue Tax Receipt, covering the periods 1974 and 1978 up to 1933, in tl1e sum of P302,776.93. Petitioner paid the Bureau P302,776.93, on September 20, 1984, as evidenced by BIR Payment Order No. B3& 19935 and CB Confirmation Receipt No. B4512030. Petitioner further invokes Section 30 (now 29) of the Tax Code V�.rhere the law allovvs as a deduction from gross income . .... ordinary and necessary business expense paid and incurred during the taxable year in order to carry on its trade or business. Thus, the expenses claimed as a deduction should be allowed as long as they qualify under Section 30 of said Code.

DF.CISION- C.TA. CASE NO. 4703 - Page4 - Respr~ndent alleged that the disallo-vvance of that portion corresponding to interest expense allocable to tax-exempt revenue realized by petitioner ~Nas proper in the light of BIR Ruling, dated August 6.. 1986, issued by then Commissioner P.ienvenido A. Tan, Jr., to Orient Pacific Capital Corporation, quoted as follows : "In other V�.rords, only deductions which produced the taxable income can be claimed for income tax purposes. Consequently_, deductions which proclucecl the non-taxable income cannot be claimed as against taxable income, as in the instant case of your client." The issue is ':Nhether or not petitioner is liable to pay the alleged defic:iency income taxes for the years 19<32 and 1983 by' reason of the disallo\�v-ra.nce of that portion of interest expense allocable to non -taxable revenues even if the same fall part of the subject of t.lle compromise agreement entered into by both parties. We anSv\rer in the negative. Indeed t.llere was a Compromise Agreement executed .on July 17, 1984 by and between petitioner, a member of the Bankers Association of the Philippines, and tlle BIR 'Y'>lhich ,,.~s ' accepted by then Corpmissioner Ruben B. Ancheta, which reads at t11e time as follO\�VS : (pp. 29 1-2g5, BIR records) "COlv1PROMI SE AGREEMENT The Chartered Bank. hereinafter referred to as "the Ban~:", member of the Bankers Association of the

DECISION- C.T.A. CASE NO. ~703 - Page5- Philippines, through its duly authorised representative. hereby offers to compromise its income tax liabilities relating to disallowed interest expense, under the folloTv'ling terms and conditions: 1. The Bank agrees to pay TEN PERCENTUM ( 10%) of basic deficiency income tax liabilities arising from, or to the extent attributable to, disallovv-ance of interest pertaining to obligations considered by the Bureau of Internal Rev�enue as incurred or continued to purchase or carry securities, the income of which is exempt from income tax. The term "income tax" as used in this agreement shall include the applicable corporate development tax. 2. The income tax liabilities abovementioned contemplate and include: a) Actual and subsisting assessments, insofar as and/or to the extent that the same involve the issue of disallovved interest abo'ile-mentioned~ b) Assessable amounts for open and unassessed years up to and including tJ1e calendar year 1983. 3. Existing deficiency assessments shall be recomputecl_. and assessable amounts shall l)e computed, on the basis of the folloTv\ling two-step formula : STEP 1 Average of interest-beariqg Average obligations (exclucling foreign investment currency obligations) X in securities =Product A-.;,rerage of total liabilities exempt from and equity (excluding tot3.l income tax foreign currency obligations) �

DF.CISlON- C.TA. CASE NO. 4703 - Pa~6- STEP 2 interest Disallowed Product of Step 1 X expense for =interest Average of interest-bearing tlle year expense obligations (excluding (excluding foreign currency obligations) interest paid or accrued on foreign currency obligations) 4. The compromise amount. determined in accordance with Conditions 1, 2 and 3 above shall be payable in installments in accordance with the attached shchedule of payments; Provided however, that if any installment is not paid on the due date thereof, 10% surcharge and interest at tJ1irty-six percentum (36%) per annum shall be imposed on such delinquent installment from date due .until full payment thereof. ' I 5. The Bank shall be responsible for sul)mitting its recompu.t3.tions of actual and subsisting assessments, and computations for amounts assessable for open and u.nassessed years, pursuant to Condition No. 1 as well as the particular schedule of payments applicable thereto, basecl on the schedule established in t11e attached schedule of payments, and shall be likewise be responsible for substantiating the figures used in such computations. 6. Otl1er issues raised in the income tax assessrnents or which may be raised in income t1.x assessments for open and unassessed years not � .... involving disallowed interest on indebtedness incurred or continued to purchase or carry tax-exempt ser: 1.rit.ies are not included in, nor affected by, this �~�--.. 1p �) n ise; Provided, ho~.~.(->~rf? -, that in assessments . x ye.\r wllere the taxpaye~� stioT"''ed a net loss per tE->turn, and "other items of disall \.l.ran --e (or ad(litional it1C<;m E>) ~xh;t together with t11re- issue of disallowed int9r ~ c.;t. (;Ol templat.ed in thL ~Ot 1promise agreement,

.... - DFlJSION- C.T.A. CASE NO. 4703 - Page7- such net loss per return shall be pro-rated between the disallowed interest subject of this compromise agreement and the items attributable to other issues. The compromise shall be final regardless of the final outcome of the assessment T..qith respect to the other issues. 7. In case a net loss per return is reported in an open or unassessed year, t.lle compromise amount shall be determined as folloV�lS: a) If the disallowed interest contemplated in this compromise agreement exceeds the loss per return, the compromise amount shall provisionally be based upon such excess subject to readjustment in accordance ~Nitll Condition No. 6 of this agreement upon the termination of the regular exa.mination by the BIR.: and b) If the disallowed interest contemplated in this cot:npromise agreement is not sufficient 1J.) cover the loss per return, the determination of tlle compromise amount shall be held in abeyance until after the termination of the regular examination by the BIR. o. The early determination of the compromise amount based on recomputations submitted by the Bank involving Conditions Nos. C 2 and 3 of this agreement shall not �preclude tlle BIR from imposing an additional amount upon the verification of book entries and other documents in support of such recomputation which verification shall, hov-.Tever, not exceed a period of one ( 1) year from the date of the signing of this agre~ment in the case of actual and subsisting assessments or until such . ... time as ~e regular exnminations, -vvhic11 may be concluct.e�::l ~t a later date, is officially terminated or is barred by the statute of limitations, V�.r.ith respect to ()Den or u -asse:-sed years 9 Fos: years a~: eady ass~�s sed where .:he issuE~ ~)f disaliov"--: d intero,~ nad not t:>een raised, no omp .wticn or compromt::.\~ ,aymer.L need be made,

DF.CISION - C.T.A. CASE NO. 4703 -PageS- and no revision of the assessment to include this issue shall be made_ 10. Upon the execution of the agreement, cases pending before the Court of Tax Appeals involving solely the issue subject of this agreement shall be vvithdrav.rn by the parties, provided that the petitioner shall execute and submit a v.raiver suspending the prescriptive period for collection of the pertinent tax liability of the Bank, pending compliance with the terms of this agreement and the Schedule of Pa>;l!nents annexed hereto_ ' 11. A IHR ruling shall be issued to the effect that, beginning vvith calendar year 1954, the exception under Section 30(b) of the National Internal Revenue Code regarding deductibility of interest on obligations incurred or continued to purchase or carry securities the income from vvhich is exempt from income ta2<:ation_. shall not be applicable to commercial banks, vv-110 are signatories to this agreement Done in h�fanila_ 17th day of Julv. 1984. The Chartered Bank (Bank) By: (SGDJ R. 0 _YOUNG TAN 010 1-25<3-2 ACCEPTED: - ...... (SGD J RUBEN B. ANCHETA �-:o unissioner of Inter al Revet ue TAN: A5239 -J 1139- ' -0 Dilima 1, Quezon City ~--ct:)ber .31__, 1934."

DECISION - C.T.A.CASHNO. 4703 - P~9- This brings us to the definition of the term "compromise". Article 202 8 of the Civil Code of the Philippines provides: "A compromise is a contract wtlereby the parties, by making reciprocal concessions, avoid a litigation or put an end to one already commenced... From said definition, it is obvious that the "Compromise Agreement" elated July 17, 1984 entered into by the parties to this action -.;,qherein the signature of petitioner's representative and that of the Commissioner of Internal Revenue appear, partoot of the nature of a compromise. The payment of the amount of P302,776.93 extinguishes petitioner's liability to pay deficiency income taxes for the years 1974, 1978 up to 1983. Section 295 (now 204) of the Tax Code allo~Ns the Commissioner of Internal Revenue to compromise the payment of any internal revenue tax 'Y'-lhen a reasonable doubt as to the validity of the clai~ against the ta1s.-payer exists or 1..vhen the financial position of the t.a.xpayer demonstrates a clear inability to pay the assessed tax. Thus, having exercised the po\.\Ter to compromise, the Commissioner by accepting said compromise agreement and issuing the Authority To Issue Revenue Tax Receipt and having received the compromise amount of.�-� P302,776.93 clearly indicated tespondent's \Alillingness to put an end to petitioner's obligations arising from any deficiency income tax assessments on account of the disallo~mnce of interest pertaining to obligations incurred to purchase or carry securities the income of vv1lich is exempt from the income tax up to the year

Dh..1. SION- C.T.A. CASE NO. 4703 �- Page10 - 1qa3. Hence, for all intent:J and purposes, the parties maybe copsidered to have entered into a compromise agreement to put an end to this appeal ~llru the rendition of a judgment as prayed for bv ~. 1e :r. inct �no '=l.t'no: sl:�~l l:'f!rr.::.~r�lert or stipulatr ' (See- r"eln b. Garay~ L-� J 141 6.. ' December 31" 1965~ 15 SCRA 695; ANSCOR ContainEtr ' I ' . Corporation v . Commissioner of Internal Revenue.. CTA ca$e No. 3444, ~ay .jo. t935J In viev,T of the foregoing discussion we find it unnecessary ' ' .' j ' to clelve on tlle issue of the correctness of the disallowa.n(~e of that por~~on pertaini~g to deductions of int-erest corresponding _to non- tm:able revenues. Wf: find t~1e same ~aving become moot by reason of U1e (~ornpromise agreement ent.e'f~' d into by both : !. parties. WHEREFOIU!, We find tt~e petition for re\Tiew meri~orious anct the same is flereoby G~ANTED.� Respondent's decisio~l date~ : �4 � ' ' 2 o.. , ts J . a,n�q ~~et August 199l reversed a$ide . Tlle DeficietK)7 ! i. . � . py Income Tax Asse8srp.~nts i.ssu. eq respondent against petftioner ' ~ ; '. ~ for the years 1982 and l ~H33 are consk1ered <.-ance11ed. No cost:; . '. I' of suits. SO ORDI!RUD, / ~U �L K. GRUBA �Associate JUdge

Da.J..SION - C.T.A. CASE NO. 471J3 - Pa~11 - WE C<?NCU~ : I Q~,~ ER ESTO D. ACQSTA l I hereby certify that tllis decision ms reached after due consultation a.inong the tlle~bers ot the Court. of Tax Appeals in accordance v.nth Section �13, Artic~e VU I of the ConstitutiQn. . . . : ' .... .- . l' .' � '. . e~ Q.~ ERNESTO D. ACOSTA .: ��PrestQing Judge Court of Tax Appeals