FORTUNE TOBACCO CORPORATION v. COMMISSIONER OF INTERNAL REVENUE

- REPUBL I C OF THE PHI LI PP I NES COUR T OF TAX APP EALS QUE ZON CIT Y FOR TUN E TOBA CCO CORPORAT IO N, Petitioner, -vers us - C.T . A. CASE NO . 4587 COMM IS SIONER OF INTERNAL REV ENU E , Respondent. X- - - - DEcI sI 0 N _) This is a petition contesting a defici~ncy specific tax assessment on the importation of stemmed-leaf tobacco in the amount of P28,9 3 8 ,4 46.25 covering the period from January 1, 1986 to June 30, 1989. Petitioner, Fortune Tobacco Corporation, is a dome st ic corporation engaged in the manufacture of cigarettes. On September 22, 1980 , a s an off s hoot of the inve st igation conducted by the Bureau of Internal' Revenue to determine whether or not stemmed - leaf tobacco is s ubject to a s pecific tax of P0 . 75/kg . under Section 141 of the Tax Code, petitioner , through counsel, s ubmitted a po s ition paper

DECISION CTA CASE NO . 4587 - 2- regarding the non -t axability of ste mmed - leaf tobacco it u se d in the manufacture of cigarettes. On January 16, 1990, petitioner received from respondent, a letter dated November 2 4 � 1989, rejecting petitioner' s argument of its position t h at s t e mm e d�- 1 e a f tobacco is not s ubje ct to the P 0 . 7 5 I kg . tax levied under Section 141 of the Tax Code and demanding payment of the amount of P28,939,446.25 as d eficie n c y excise tax on the importation of tobacco strips from January 1, 1986 to June 30, 1989. In answer to this de.mand 1 e tte r, pe tirti one r, . on January 25, 1989 , disputed the points raised in respondent's letter dated November 24, 1989 and reque ste d reconsideration and withdrawal of the demand for payment. On August 31, 1990 , respondent stood pat on hi s deci s ion on t h e taxability of partially manufactured t o b a c c o , mo r e p a r t i c u 1 a r 1 y .~...!;. ~..!!1.!!:1.~...9.. . . J. ~. 9....f......!;...9. \?...9..S..~. .9. � Hen ce, this appeal. In his An swer to the Petition, respondent con~idered ste mmed leaf tobacco, su bject of the qeficiency tax assessment, as "partially manufa cture d or prepa re d tobacco" as provided for in Rev e nu e Regulations 17-67 [Section 1(1)]. Thus, it

DECISION CTA CASE NO. 4587 - 3- is subject to a tax of P0.75 for each kilogram (Section 141, NIRC). He further averred that Sectio n 137 of the Tax Code pertains to the tran sfe r of stemmed leaf tobacco as raw materials from one manufacturer of tobacco products (L-7) to another manu facturer of tobacco products ( L- 7) . Revenue Regulation No. V- 39, Sec. 20 thereof, refers explicitly to transfer from one L- 7 directly to another L- 7, but not from L-6 ( str ipper or thresher) to L-7. While imported leaf tobacco has never been � s ubject to tax, partially manufactured io"bacco is subject to the s pecific tax of P0.75/kg .. Finally, that the assessment �in qu estio n was issued in accordance with law and r even ue regulations and all presumptions are in favor of the correct~ess of the assessment. When this case was called for hearing on October 25, 1991, petitioner su bmitted as its evidence, the following do c uments duly marked during the previous hearing, to wit: The letter of respondent dated November 24, 1989 demanding from petitioner the payment of P28,928,446.25 as deficiency excise tax on the importation of tobacco strips (partially manufactured tobacco) c o v e r i n g t h e p e r i o d f r om J a n u a �r y 1 , 1 9 8 6 to June 30, 1989, exclusive of interest (Exh. "A");

DECISION CTA CASE NO. 4587 - 4- The letter of Atty. Abraham C. La Vina, addressed to the Commissioner of Internal Revenue, dated January 25, 1990 requesting the reconsideration and withdrawal of the demand for payment made in respondent's letter dated November � 24, 1989 (Exh. "B"); The letter of t" espondent dated August 31, 1990, rejecting petitioner's arguments contained in the letter dated January 25, 1990 and categorically stating that "this is our final stand on the matter and we may not consider any more further request for reconsideration" (Exh. "C"). All these exhibits were admitted by the Court without objection on the part of respondent. No testimonial or other evidence was offered by petitioner. Respondent in turn s ubmitted and formally offered as its evidence the following documents which form part of the BIR records: Work s heet of petitioner's Imported Partially Manufactured Tobacco and Computation of Specific Tax per Sec. 141(A), NIRC, prepared by Rufo Gauna, Norvin A. Oilao, Oario B. Roxas and Enrique Z. Bueno, Revenue Enforcement Officials, covering the period from January 1 , 1986 to June 30, 1989 (Exh. "1"); Heport of Investigation by the same Revenue Enforcement Officials (Exh. "2"); Memorandum Report on investigat- cigarettes ion/stocktaking of cigar and purposes for excise tax/inspection (Exh . "3"); ~

DECIS I ON CTA CAS E NO . 458 7 .- 5 - Letter of respondent dated November 24, 1989 , maintaining that stemmed leaf tobacco is subject to the specific tax of P0.75/kg. under Section 141(b) of the Tax Code and demanding that ~etitioner pay P28,938,4 46.25 as deficiency excise tax for the years in question exclusive of interest and surcharge (Exh. 11 4 11 ); Letter of respondent dated August 31, 1990 holding steadfast to his decision that stemmed leaf tobacco is subject to specific tax (Exh. 11 5 11 ); Letter of respondent dated October 17, 1990, addressed t o petitioner de manding payment of P28,938,446.25 representing deficiency specific tax, exclusive of increments for the period i n question (Exh. 11 6 11 ); Stamp Received portion of Exh. 11611 (Exh. 11 6-a 11 ); Letter of respondent addressed to petitioner ' s counsel reiterating the demand for pdyment of deficie n cy tax including interest (Exh. 7 II II ) � Said exhibits were likewise admitted by the Court. Upon r� espondent's motion, however, Exh. 11 7 11 which had earlier been admitted was stricken from t h e records of the case on the ground that said exhibit refer s , not to the present co n troversy but to C.T.A. Case No. 4616. Respondent filed his memorandum on January 29, 1992 where he further �challenged the Court's'

DECISION CTA CASE NO . 4587 - 6- jurisdiction over the case. Petitioner filed its memorandum on February 10, 1992. On January 29, 1993 the court mo t:u propi o promulgat e d a resolution ordering the reopening of the case, for the partie s to disclose "more facts and data necessary to the final disposition of the issues", s uch as: a) the circ umstance s s urrounding the purchase of imported leaf tobacco b) the so urce or from where and whom it was purchased from, whether it was purchased directly from a manufacturer of tobacco products (L-7) or from a manufacturer or wholesale leaf tobacc o dealer also known as stripper (l-6). On March. 5, 1993, respondent filed with the Court a consoli dated supplemental memorandum. On March 15, 1993, hearing of this case for reception of additional evidence was consolidated with that of C.T.A. Case No. 4616 involving the same parties and presumably involving si milar issues, pursuant to the resolution of ?anuary 29, 1993 . The Court was informed of the death of Atty . Abraham C. LaVina , petitioner's counsel of record, with no one to represent for the petitioner in said hearing . Respondent presented one Enrique z . Bueno,

DEC ISI ON CTA CA S E NO . 4587 - 7- Assi sta nt Chief of the Tobacco Tax Division of BIR. He testi �fied that in 1989 he was assigned to the Field Operations Division which was in charge of investigation relative to the payments of excise taxes and inspection of manufacturer of exciseable products. The witness further stated that he was one of the Revenue Officers who was assigned to conduct the stock-taking in � the factory of the petitioner. The team submitted a Memorandum Report, dated November 21, 1989. As part of their stock-taking procedure, the tE)am went over the books of t h e petitioner first. There is a L-7-1 / 2 official register book where all t h e tobacco raw materials purchased are entered. The L- 7 book records all raw material and finished products. Both i mp orte d and locally grown tobacco are first recorded in t h e L-7-1/2 record book. In the memorandum r��e port which witness Bueno stated his team submitted to the Chief of the Field Operations Division, t h ey found and ascertained a total of 38,58 4 ,595 kilogra ms of imported tobacco which was taken from the L-7 - 1/2 official register. I n the same register are also recorded locally grown tobacco, an d even such c ate g ories as Virgi n ia,

DECISION CTA CASE NO. 4587 - 8- Burley, so me turkeys (sic) grown in San Jose, Mindoro. This witness concluded his testimony by stating that ste mmed leaf tobacco, where the midrib s are removed eit her by stri pping or by u se of threshing machine is partially manufactured tobacco having been done abroad or from where it came from. Atty. Rustus Raymundo e ntered his appearance for petitioner on April 30, 1993. During the hearing set anew by the Court on July 15 , 1993 for the continuation of reception of "additional evidence", petitioner's new cou nsel did not appear. The Court granted r�es pondent' s oral motion that petitioner was deemed to have waived its right to cross-examine r�es pondent' s witness who testified on March 15 , 1993. Again, another development transpired. Atty. Raymundo withdrew as counsel for petitioner on July 16, 1993 and Atty. Alfon so M. Cruz entered hi s appearance fo r� petitioner on August 16. 1993. During the hearing set on September 10, 1993 for the same purpo se, petitioner's counsel's earlier motion to po st pone said hearing was denied and petitioner's right to present additional evidence, .if any, was considered waived. � petitioner did not s ubmit

DECISI ON CTA CA SE NO . 458 7 - 9- s upplemental memorandum in s pit e of the order of the Court on Se ptemb e r 23, 199 3. The case was then considered submitted for d ec i s ion on November 24, 1993 after petitioner �failed to file its s uppl e mental memorandum . Considering that re s pondent in his memorandum assailed the juri s diction of thi s Court , which may be r�� aise d at any s tag e of the proceeding s, we s hall first tackle said issue. In this connection, respondent contended that petitioner failed to file a protest, as prescribed under Section 229 of the Tax Code and such failure, renders the assessment final , executory and demandable and the taxpayer is fore ve r barred from di s puting the a ss essment. The argument i s not impressed With merit. I t cannot b e gainsaid that respondent on November 2 4, 1989, imperatively demanded payment of the amount o f P28,938,446. 25 as deficiency excise tax on petitioner' s alleged importation of tobacco strips (part ia lly m~nufactured tobacco) covering the per io d from January 1 , 1986 to June 30, 1987 (Exh. "A") . . Thi s i s definitely a prote sta ble assessment. Thu s, the demand for pay~ent was disputed by petitioner in a l ett er d ated January 25, 1990 alleging a mong o th ers , th a 'i:: - fTl or t ed ste mm e d l eaf toba cco is not

DECISION CTA CASE NO. 4587 - 10 - su bj ect to the PO. 75/kg. tax levied under Section 141 of the Tax Code considering that pursuant to the provi sio n of Section 137 of the same Code, stem med leaf tobacco "m ay be sold in bulk as raw material by one manufacturer to another, without payment o �f the tax", thus r� e q u e s t i n g the reconsideration and withdrawal of t he demand for payment (Exh. "B"). If this is not deemed a prot est against the asse ss ment we wonder wl"tat is. Evid e nce will s how that respondent held steadfast on his decision on the taxability of ste mmed leaf tobacco when he advised pet.ltioner that "thi s i s our final stand on the matter and we may not consider any more further r�e quest for reconsideration (Exh. "C"). The bottom line here is, that the avenue for a d mi n i s t r a t i v e r e 1 i e f h a s b e e n s h,JJ t o f f . l�ience, this Court has jurisdiction over the petition for review which assigned several errors committed by respondent in t he deci sion. We now co me to the merits of the controversy . Despite the d eart h of evid~nce on record, this case can be resolved on the interpretation of existi n g law as to the nature of stemmed leaf tobacco and whether or not it is subject to excise tax.

DECISION CT A CASE NO. 4587 - 11 - The issue is not new. The question ha s already been passed upon in C. T . A. Case No. 4616, promulgated October 6 ' 1994, involving the sa me parties herein and the analogous i �s ue, where this Court set aside r� espondent ' s assessment of deficiency excise tax on stemmed leaf tobacco principally because under Secti on 1-b of Republic Act No. 690 entitled "An Act to limit the Importation of Foreign Leaf Tobacco" . as amended by R� A� 1194, ste mmed leaf tobacco is specifically excluded from the definition of processed tobacco. In the absence of a statutory definition of what is the meaning of "tobacco prepared or partially . prepared" we may adopt the definition of law on "processed tobacco" because its definition clearly refers to tobacco being prepared for manuf acturing purposes which for ready reference is being quoted belo w: "Section 1- b. By processed tobacco is meant leaf tobacco which is either blended, cased, flavored, ready - cut or cut fillers ready for manufacturing purpo ses and shal l not include tobacco leaf only the stem of which is removed. xxx" In accordance with the above definition, "processed tobacco" cannot possibly refer to

DECISIO N CTA CASE NO. 4587 - 12 - finished tobacco products but to tobacco leaf being prepared so that � it will be ready for manufacturing purpo ses similar to "prepared or partially prepared tobacco". In fact, under Section 2(m) . of Hevenue Regulation No. 17-67 defining what is partially manuf~otured tobacco, "ready - cut or cut fillers" included in the phrase "processed tobacco" is also specifically enumerated, among others, a s one type of partially manufactured tobacc o . However, the sa,me revenue 1� egulation likewise included "ste mmed leaf tobacco" as a type of partially manufactured tobacco which by definition of law is specifically excluded. In case of this conflict, the rule in statutor�y construction is very clear that said provision of the i mp lementing regulation whic h is contrary to law is considered null and void and of no effect. This construction is es pecially true in the case of tax stat u tes becau se sta .tutes imposing tax are strictly construed a gal n s t the state and liberally in favor of the taxpayer. Th is is because tax laws operate to impo se tax burdens on the public o r to restri ct th e m i n t h e enjoy ment of their p r op er t y and th e p u r s u i t 4 t ~ eir occupati on . Thu s,

DECISION CTA CASE NO. 4587 - 13 - in the interpretation of such statutes it is the established r ule not to extend their provisions by implication, beyond the clear import of the language employed, or to enlarge their scope as to include matters not s pecifically pointed out. In case of doubt , they are construed most strongly against the government. (Gould vs. Gould, 62 L. ed. p. 211, cited in the Handbook on Statutory Construction by Ruperta Martin, 1972 e d. p � 19 3. ) Thi s s trict interpretation is especially true in the case of s pecifi c taxes becau s e these taxes are those imposed on , specified articles, s uch as the taxes on articles mentioned in Sec tions 123 to 148 of the National Internal Revenue Code (now Sections 126 to 151) (Shell Co. vs. Vano, 94 Phil 389). Concerning the argument of the respondent that unlike in Sect ion 137 of the Tax Code, stemmed leaf tobacco is not s pecifically mentioned in the penultimate paragraph of Section 141 as among those not subject to specific tax when used in t he manufacture of other tobacco products on which the excise ta x will eventually be paid on the finished product and therefore subject to specific tax. This court believes that the legislature has to provide

DECISIO N CTA CASE NO. 4587 - 14 the said exemptio n in Section 141 because the same section imposes s pecific tax on those s pecified items under s ubletter(c), namely: fine - cut s horts and refuse, scra p, clippings, cuttings, ste ms and sweepings of tobacco. St emmed leaf tobacco is not included because in the first place, it is not being taxed s pecifically under sai d secti on. Re spo ndent / merely expanded the meaning. of "partially manufactured tobacco" to include within the scope of stemmed leaf tobacco by implication c ontrary to the aforementioned rule on statutory construction. On the other hand, Section 137 of the Tax Code mentions stemmed leaf tobacco among those not subject to s pecific tax when , sold by one manufacturer directly to another manufacturer. Does it mean when those items mentioned are not sold � by one manufacturer to another, these items are already taxable? If our answer is yes, why then are imported leaf tobacco not taxable? Maybe your answer would be becau se no provision in the Tax Code imposes specific tax on leaf tobacco. And further because it is being used as raw materials in the manufacture of other tobacco products on which the excise tax will eventually be paid. But is it not a

DECISION CTA CASE NO. 4587 - 15 - fact that s temmed leaf tobac c o like leaf tobacco is not also taxable under any provision of the Tax Code and likewise being used as raw materials in the manufacture of other tobacco products on which the excise tax will eventually be paid. Why then will there be a different tax treatment just because one provision of the Tax Code exempts stemme d leaf toba c co from s pecific tax under certain conditions . Following, the strict rule against taxation as explained above, we cannot imply that stemmed leaf tobacco will be taxable if it failed to meet the cot:~dition set forth under said section in the absence of a clear provision taxing the s ame. The obviou s int e ntion of Sections 137 and the penultimate paragraph of Section 141 is not to tax the arti c les e numerated therein but to exe mp t them from being taxed when those articles will be utilized in the manufacture of finished tobacco product s on whi c h the s pecific tax will eventually be paid, otherwise, it will lead to double taxation. Although double taxation i s not prohibited in this juri s diction, the same i s however being di s couraged becau s e of it s di s incentive effect. In accordance with the cardinal rule on s tatutory construction,

DECISI ON CTA CAS E NO . 4587 16 legislative intent mu s t be ascertained from a consideration of the statute as a wh ole and not of an isolated part or - a particular pr.ovision above (Aboitiz Shipping Corporation, et al. vs. The City o f C e b u , e t a 1 � , G � R � N o . L - 1 4 5 2 6 , Ma �r c h 3 1 , 1 9 6 5 , cited in the Handbook on Statutory Construction by Ruperto Martin, pp. 42 .:.. 43). The rule has been to exempt raw materials or even semi - finished products from taxes if it will be utilized in the manufacture of a rticles subject to sp e cific tax . So that under Section 103(e) sale or importation of raw materials to be used by the buyer or importer himself in the manufacture of petroleum products (except lubricating oil and grease) s ubject to excise tax is not subject to value added tax. Even finished products such as wines and distilled spirits for treatment of tobacco leaf to be used in the manufacture of cigars and cigarettes may be withdrawn from bond free of excise tax pursuant to Section 130 of the Tax Code . Removal of spirits for rectification need not pay excise tax under Section 134 of the same Code and under Section 145(1) & (13) , tax credit i s granted on feedstock utilized in the manufacture of exciseable articles and naptha

DECISION CTA CASE NO. 4587 - 17 - shall be s ubject to zero rating if utilized as raw material in the production of petrochemical products, respectively. Similarly, ste mmed leaf tobacco which is basically a raw material in the manufacture of other tobacco products such as cigars and cigarettes on which the s pecific tax will eventually be paid will hav e to be exempted also from specific tax. The construction is done pursuant to the spirit of the law or the reason for it . The spirit or intention of the law prevails over the letter thereof. (U.S. vs. Yee Ngee, How, D.~. Cal 105, F. s~:~pp. 577, Martin, op cit, p. 64). Granting for purpo s es of argument that the term "partially manu fac tu red tobacco" includes "stemmed leaf tobacco", the Bureau of Internal Revenue itself pursuant to Section 43(a) of Revenue Regulation No. 17-67, tobacco product regulation, which provide s: " S e c t i o n 4 3 � .I..c?.. t.?...~..C?...9.. 9...........~.~. ~-(!)..P.!:. ~. 9...... ..f..r...<?...~ .�..!?...~. 9.. tf. t9...........!:. ~. ~..:.. - .N. 9............~. P...E?....9....t .f...!. .9..........t..~.~-.. ..~. h. ~..LL. ...!?...~ .9.. 9..J..!. ~. 9.. :!;..~. 9..... 9...'J. t h e �f o 11 o wi n g : (a) Le a f t o b a c c o a n d J?..~. !::.!:.!.~.!..~.Y. .~.~.D..':!.f.. ~. 9..! .':!. t . ~. 9......~.9...~...~...9.. !:... 9....9....?............~..~..~..~..P.. ..A.(!).P..9...!::.!:. ~. 9......! . ~. ~..f.. .!:. 9.. t.?...~..9.. . 9...9....?....................~::~..r.:t..!.~ �..� t.. ..................~...Q... r..E?.... .E?....9.. . . . . . . .J. n. .. . . . . . . t.. ~. ~. . .. . .... .~.::::...?.. .9...f.. f..A.9..!. ~J.....r.:. ~. 9..~..~...!. ~. .r..... t.?...9.. 9.. k. � XXX XXX XXX

DECISI ON CTA CAS E NO . 458 7 - 18 - (Underscoring supplied, See Revenue Regulations Updated by Prof. Eustaquio 0. Ordono, p . 801). Pursuant to said provision, partially manufactured tobacco including local and imported leaf tobacco shall not be subject to specific tax if entered in the L- 7 official register book. This is the book of manufacturer of tobacco. There is no showing that the provisions of Section 43(a) has been superseded by any other regulation. The respondent has no right to rule otherwise because the t� evenue regulation issued pursuant to law has the force and effect of law unless found to be contrary to law . Furthermore, when a particular construction has been operative over a long period and has acquired the sanction of usage, it is entitled to "respectful consideration" especially if rights have been adjusted and determined by it for many years, as a change may result in inequitable treatment of similarly situated taxpayers and may occur after many persons have acted upon the faith of the Regulation. The rule is also, perhaps, particularly applicable where a change in the administrative construction would produce great administrative

DECISION CTA CASE NO. 4587 - 19 - incon ve ni e nce or inequality. (Law of Federal Income Taxation , Mertens Vol . 1, 1978, Sec. 3.20, p. 40). Long and continuous construction given by government officials entitled to consideration (Phil. Sugar Central vs. Collector , 51 Phil 131). This provision in the regulation may have been the reason why for a long time the BIR has not been collecting specific tax on stemmed leaf tobacco and other partially manufactured tob .acco if these articles will be utilized in the manufacture of other tobacco products on whic h the corresponding specific tax wi+l eventually be paid. Similar appeals from other cigarette manufacturers were filed before thi s Court involving similar issues. WHEREFORE. in view of all the foregoing. judgment is here.by rendered setting aside respondent's decision demanding paymen t of P28.938.446.25 as deficiency excise tax from petitioner. Without pronouncement as to costs. SO ORDERED. <e~CQ,~ ERNESTO D. ACOSTA Presiding Judge

- DECISION - 20 - CTA CASE NO. 4587 WE CONCUR: I / CERTIFICATION I hereby certify t h at this decision was reached after due consultation among the members of t h e Co u rt of Tax Appeals in accordance with Section 13, Article VIII of t h e Constitution. ~ . :;;:.-,Q ~~ ERNESTO D. ACOSTA Presidi n g Judge Court of Tax Appeals