COMMISSIONER OF INTERNAL REVENUE v. INTERNATIONAL PHARMACEUTICALS, INC.

Republic of the Philippines COURT OF TAX APPEALS Quezon City En Bane COMMISSIONER OF INTERNAL CTA EB Case No. 764 REVENUE, (CTA Case No. 7752) Petitioner, Members : ACOSTA, P.J. , CASTANEDA, JR. , BAUTISTA, - versus - UY, CASANOVA, PALANCA-ENRIQUEZ FABON -VICTORINO , MINDARO-GRULLA, and COTANGCO-MANALASTAS, J.J. INTERNATIONAL ~e-s~o~~~n_t._ _M~~ ~ ~ _1~~ PHARMACEUTICALS, INC., Promulgated : x- - - - - - - - - - - - - ---------- x DECISION CASANOVA, J.: Before Us is a Petition for Review1 filed by petitioner-Commissioner of Interna l Revenue, praying that the Decision2 dated December 21, 2010 (the " Assa iled Decision") and the Resolution3 dated April 8, 2011 (the "Assailed Resolution '') of the Court of Tax Appeals (CTA) First Division be reversed and set aside and a new one be rendered ordering respondent to pay the deficiency excise t ax assessments for taxable years 2000 to 2002 in the amount of P4,708,99 1.94, including surcharge, deficiency and delinquency interest pe~ 1 En Bane Rollo, pp . 7-27 2 Division Docket, pp . 260-280 3 Ibid, pp. 301-306

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) annum until full payment thereof, pursuant to Sections 248 and 249 of the NIRC, as amended. The facts of the case, as found by the CTA First Division and narrated in the Assailed Decision, are as follows: "Petitioner International Pharmaceuticals, Inc. avers that it is a bona fide distiller with plant located at Brgy. Purisima, Manapla, Negros Oriental. It denatures ethyl alcohol using formulations approved by the Bureau of Internal Revenue (BIR). It has been issued permits as manufacturer, dealer, and re-packer of denatured alcohol which it sells to end-users who directly utilize the same as solvent or ingredient for the manufacture of small-scale cosmetic products. Respondent, on the other hand, is duly authorized to assess and collect internal reven ue taxes, as well as to decide assessments, with office at the 5th Floor, BIR National Office Building, Agham Road, Diliman, Quezon City. On October 13, 2005, respondent issued a Preliminary Assessment Notice (PAN), assessing petitioner of excise tax deficiencies allegedly incurred from December 12, 2000 to August 6, 2003, in the total amount of P3,426,341.19, itemized as follows: 1. Deficiency excise tax due on discrepancies p 71,954.27 of crude spirits for the production of denatured alcohol per book versus per count 2. Deficiency excise tax on tax-exempt 3,288,234 .38 alcohol delivered to non-permitees. 3. Deficiency excise tax of unaccounted 66,152.54 volume of denatured alcohol per Annual Inventory Lists TOTAL DEFICIENCY EXCISE TAX DUE p 3,426,341.19 The deficiency assessment for deliveries of denatured alcohol to consignees not qualified to purchase tax exempt denatured alcohol was based on Section 44 (a) of Rules and Regulations No. 3 and Section 136 of the NIRC of 1997. ,._

DECISION CTA E. B. Case No. 764 (CTA Case No. 7752) On January 28, 2004, respondent issued a Final Assessment Notice (FAN) over the alleged excise tax deficiencies for t he same period in the modified amount of P3,562,682.50, computed as follows: 1. Deficiency excise tax due on discrepancies p 71,954.27 of crude spirits for the production of 3,424,575.69 denatured alcohol per book versus per count (Schedules 'A & B') 66,152.54 2. Deficiency excise tax on tax-exempt p 3,562,682.50 alcohol delivered to non-permitees. (Schedule 'C') 3. Deficiency excise tax on unaccounted volume of denatured alcohol per Annual Inventory Lists (Schedule 'D') TOTAL DE FICIENCY EXCISE TAX DUE On April 5, 2005, petitioner filed a formal protest impugning the validity of th e foregoing FAN received on March 9, 2005. On January 25, 2008, respondent issued the assailed FDDA canceling the amount of P71,954.27, representing the deficiency excise tax due on discrepancies of crude spirits for the production of denatured alcohol per book versus count. The assessment on excise tax deficiencies of Php4,708,991.94, inclusive of increments, pursuant to Section 47 of RR No. 3 and Sections 136 and 141(a) of the NIRC of 1997 computed up to January 31, 2008, was maintained as follows: 1. Deficiency excise tax on denatured P4,642,839.40 alcohol delivered to non-permitees 66,152.54 2. Deficiency excise tax on unaccounted P4, 708,991.944 volume of denatured alcohol TOTAL DEFICI ENCY EXCIS ETAX DUE 4 Exhibit E, Divisio n Docket , p. 4 3.

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) It was stressed further that petitioner could not invoke prescription as a defense considering that it failed to file excise tax returns for the period covered by the assessment. On April 8, 2008, petitioner filed the instant Petition for Review challenging respondent's ruling in the FDDA. On June 10, 2008, respondent filed Answer to the Petition interposing the following counter-arguments: '5. The assessment for the period 12 December 2000 to 6 August 2003 in the amount of P4,708,991.94 was issued in accordance with law and regulations. The factual and legal bases of the subject assessment are contained in the Final Assessment Notice; 6. More particularly, Section 47 of Revenue Regulations No. 3 and Section 136 of the 1997 NIRC, as amended, provides that in case of sale or deliveries of denatured alcohol to non- permitees, the buyer/user of denatured alcohol must be a holder of an approved formula and a valid permit. Verifications of petitioner's books of accounts and other accounting records by the Revenue Officers revealed that there were deliveries of 122,460 g.l. or 231,449.40 p.l. denatured alcohol to various consignees who are not qualified to purchase tax-exempt denatured alcohol. Thus, said removals without payment of required excise taxes, were in direct violation of Revenue Regulations No. 3 and Section 136 of the 1997 NIRC, as amended; 7. Further, the reconciliation of stocks per Annual Inventory List submitted by petitioner versus the Transcript of Official Register Book showed that there were discrepancies in the volume of denatured alcohol on hand as of the end of the years 2000 and 2002. Since no gain or loss was taken up in the books of petitioner, any unaccounted volume shall be subject to excis~ 5 Ibid, pp. 67-73

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) tax pursuant to the provisions of Section 136 and 141 (a) of the 1997 NIRC, as amended; 8. The assessment was issued within the prescriptive period allowed by law. Section 222 (a) of the 1997 NIRC, as amended, provides: Section 222. Exceptions as to Period of Limitation of Assessment and Collection of Taxes.- (a) In the case of false or fraudulent return intent to evade tax or of failure to file a return, the tax may be assessed, or a proceeding in court for the collection of such tax may be filed without assessment, at any time within ten (10) years after the discovery of the falsi~ fraud or omission: Provided, That in a fraud assessment which has become final and executory, the fact of fraud shall be judicially taken cognizance of in the civil or criminal action for the collection thereof.' (italics supplied) It is very clear from the above-cited provision of law that in case the taxpayer failed to file a return, the tax may be assessed any time within ten (10) years after the discovery of the omission to file a return. In the instant case, petitioner failed to file excise tax returns before removal of the subject denatured alcohol from the place of production for the period 12 December 2000 to 6 August 2003. Hence, the ten-year period under Section 222 (a) of the 1997 NIRC, as amended, applies; 9. Well -settled is the rule that tax assessments are entitled to the presumption of correctness and made in good faith . The taxpayer has the duty to prove otherwise. In the absence of proof of any irregularities in the performance of duties, an assessment duly made by a Bureau of Internal Revenue examiner and approved by his superior officers will not be disturbed. All presumptions are in favor of the correctness o~

DECISION CTA E. B. Case No. 764 (CTA Case No. 7752) tax assessments (Sy Po vs. Court of Tax Appeals, 164 SCRA 524).' After the parties filed their respective Pre-Trial Brief on July 01, 2008 and July 08, 2008, they submitted their Joint Stipulation of Facts and Issues (JSFI) on July 30, 2008, which the Court approved on August 01, 2008 . Trial ensued during which petitioner presented its evidence. Respondent, however, opted not to present any. On January 20, 2010, the Court deemed the instant petition submitted for decision after petitioner filed its Memorandum on December 7, 2009, and respondent, on December 8, 2009. THE ISSUES The parties limited the issues for resolution as follows: ' 1. Whether or not petitioner's sale of denatured alcohol to its buyers is exempt from payment of excise tax under Section 141 (a) of the NIRC of 1997. 2. Whether or not, under the facts and the law, petitioner is liable for deficiency excise tax for the period 12 December 2000 to 6 August 2003.' " On December 21, 2010, the Assailed Decision was promulgated by the CTA First Division, the dispositive portion of which reads: "WHEREFORE, finding merit, the instant Petition for Review is hereby GRANTED. The Final Decision on Disputed Assessment dated January 25, 2008, is hereby declared NULL and VOID. Accordingly, the assessment for deficiencies excise tax in the total amount of P4,708,991.94 for the period December 12, 2000 to August 6, 2003 is hereby CANCELLED and SET ASIDE. SO ORDERED .'~

DECISION CTA E. B. Case No. 764 (CTA Case No. 7752) Not satisfied with the Decision, petitioner filed a Motion for Reconsideration6 of the Assailed Decision which Motion was subsequently denied in the Assailed Resolution promulgated on April 8, 2011. Hence, the instant Petition for Review where the petitioner raised the following assigned error: "THE HONORABLE FIRST DIVISION ERRED IN GRANTING RESPONDENT'S PETITION FOR REVIEW BY DECLARING NULL AND VOID HER FDDA AND CANCELLING AND SETTING ASIDE HER ASSESSMENT FOR DEFICIENCY EXCISE TAXES IN THE TOTAL AMOUNT OF P4,708,991.94 FOR THE PERIOD DECEMBER 12, 2000 TO AUGUST 6, 2003. " Petitioner argues that the CTA First Division erred in ruling that petitioner's inventory verification did not lawfully give rise to a valid assessment as petitioner failed to observe the requirements set forth in paragraph 2 on the item " Policies" of Revenue Memorandum Order (RMO) No. 3-2003 . Petitioner further argues that the Inter-Office Memorandum (IOM) dated March 11, 2000, issued by former Commissioner Guillermo L. Parayno, is considered a Mission Order authorizing his revenue officers to conduct an actual physical count and reconciliation on respondent's inventories and need not comply with the requirements of paragraph 2 of RMO 3-2003. ~ 6 ld ., pp . 281-289 7 Petiti on f o r Review, par. 2, p . 7, En Bane Roll o, p. 14

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) It is, likewise, petitioner's position that the CTA first Division erred in ruling that there was no basis for the deficiency excise tax assessment against respondent when it sold its domestic denatured alcohol to non-permittees. Petitioner submits "that in order for domestic alcohol to be exempt from excise tax prescribed in Section 141 of NIRC of 1997, as amended, it must fundamentally comply with the literal meaning of Section 134 of the same Code". Respondent, on the other hand, counters that the findings of facts of the Court declaring t he nullity of the assessment had already become final and can no longer be disturbed since petitioner limited its Motion for Reconsideration to the timeliness of the Petition for Review it filed before this Court in Division; that, pursuant to the provisions of Sections 6 and 13 of the 1997 NIRC, the examination of books and inventory taking must have been done upon a duly issued Letter of Authority or Mission Order, the absence of which renders the examination null and void pursuant to the ruling of the Supreme Court in the case of Commissioner of Internal Revenue vs. Sony Philippines, Inc. 8; that, the IOM cannot qualify as a Mission Order as it is not in the standard form for a Mission Order (BIR form 0422), nor was it recorded in the Mission Order Register and bears no Mission Order number. Nor was it served on the taxpayer through a letter expressly referring to the numbered Mission Order; that, the ..,_ IOM, even if it can qualify as a Mission Order, cannot legitimize the inventory 8 G.R. No. 178697, November 17, 2010

DECISION CTA E.B. Case No. 764 (CTA Case No . 7752) and inspection of books as the revenue officers who conducted the same were not among those authorized in the IOM to conduct the verification; and, finally, that the First Division correctly ruled that, under the 1997 NIRC, as long as a domestic denatured alcohol is unfit for human intake, it is exempt from the excise tax. After a careful and thorough evaluation and consideration of the records and arguments of both parties, as well as the jurisprudence on the matter, the CTA En Bane finds no merit in the Petition. Petitioner's arguments relative to the validity of the inventory verifications and, subsequently, the assessment made by her revenue officers had already been fully and exhaustively resolved by the CTA First Division in this wise: "It bears stressing that an audit and examination of books to be lawful, must be based on a valid LoA empowering the assigned revenue officer to examine and scrutinize a taxpayer's books of accounts and other records to determine the tax liabilities. An LoA is issued by respondent or the Regional Director, if the taxpayer is under the jurisdiction of a Regional Office. It must be served on the subject taxpayer within thirty (30) days from date of issue lest the authority becomes null and void. The revenue officer, on the other hand, has 120 days from receipt of the LoA by the subject taxpayer, to conduct the examination and inspection. Paragraph 2 on the item ' Policies' of Revenue Memorandum Order No. 3-2003, specifically provides that inventory verification shall be authorized through: 1) Mission Order; and 2) letter to the subject ta xpayer. Both the Mission Order and the letter to the taxpayer must be duly signed by the Assistant Commissioner, Large Taxpayers Service (ACIR, LTS)/concern ed Regional Director. The provision reads as follows:~

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) 2. Inventory verification shall be authorized through a Mission Order (MO) (BIR Form 0422) (Annex 'A') and a letter to the taxpayer (Annex 'B') duly signed by the Assistant Commissioner, Large Taxpayers Service (ACIR, LTS)/concerned Regional Director. Clearly, an inventory verification cannot be deemed lawful absent any of the foregoing requirements, the concurrence of which gives birth to a valid assessment. Significantly, Revenue Officer Maria Anita Andres categorically testified that no Letter of Authority or Mission Order was issued to her and co-revenue officer Cecilia Refuerzo for the inventory stocktaking and examination of petitioner's books and records. On hand was only an Inter-office Memorandum authorizing the conduct of actual physical count and reconciliation of inventories of petitioner. Moreover, they were not among those officially authorized to conduct the examination. They only acted upon the instruction of their team leader who was then conducting inventory stocktaking in another place in Bacolod City. The relevant portion of the testimony of Revenue Officer Maria Anita Andres is enlightening, thus: Atty. Espina: Q. Madam Witness, among the records in the BIR, it appears that on August 6, 2003, you and certain Cecilia Refurzo (sic) signed a stocktaking report. Do you have a copy of the letter authorizing to proceed with the premises of the petitioner and to examine the goods of the petitioner and to conduct the inventory and stocktaking? Ms. Andres: A. Yes, your Honors. Atty. Espina: Q. May we have a copy of that? Ms. Andres: A. I have here with me a duplicate copy, your Honors.~

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) Justice Bautista: Is that the duplicate original or just a Xerox copy? Ms. Andres: A. It's a duplicate of the original. Atty. Espina: Q. You are referring to this Memorandum dated March 11, 2003 signed by then Commissioner Guillermo R. Parayno, Jr.? Ms. Anders: A. Yes, your Honors. Atty. Espina: Q. Could you please point out to us, Madam Witness, your name and Refuerzo in that Memorandum? Ms. Andres: A. Actually, we are not here included in the Memorandum (sic) but I was one of the members of the stocktaking team. That time, we are conducting a simultaneous inventory stocktaking in Bacolod City, then our team head instructed me represent by herself (sic) to conduct at IPI Distillery Manapla, Bacolod. Clearly, Revenue Officer Maria Anita Andres and Cecilia Refuerzo were not duly authorized to conduct inventory stocktaking at petitioner's premises. Neither were they empowered by any document to act in representation of their team leader who at that time was in another place conducting a like procedure against another taxpayer. Also, the failure to serve a Letter of Authority or Mission Order to petitioner before the intended conduct of examination was a significant deviation from the requirements of paragraph 2 on the item 'Policies' of Revenue Memorandum Order No. 3-2003, rendering the result of such examination infirmed to substantiate an assessment.'~

DECISION CfA E.B. Case No. 764 (CfA Case No. 7752) On petitioner's argument that the Inter-Office Memorandum dated March 11, 2000, can be considered as a Mission Order, We quote with approval, the following excerpts from the Assailed Decision to wit: " Even granting that the Inter-office Memorandum would suffice for the purpose, it does not appear that it was served upon petitioner within 30 days from date of issue and that the inventory verification or inspection was conducted by the authorized revenue officer within 120 days from receipt of the Inter-Office Memorandum pursuant to the provision of the law. Such inventory verification can only be deemed valid if the requirements of the relevant rules are complied with, to wit: 1) informing petitioner (through a letter) of the intended stocktaking prior to the actual procedure; and 2) issuance of a LoA or Mission Order in favor of the specifically assigned revenue officer. Non-compliance of the foregoing requirem ents as in the instant case is fatal that it could render the result thereof inoperative." And, lastly, on petitioner's contention "that in order for domestic alcohol to be exempt from excise tax prescribed in Section 141 of NIRC of 1997, as amended, it must fundamentally comply with the literal meaning of Section 134 of the same Code", again, We quote the following excerpts from the Assailed Decision, to which We fully agree, to wit: " Respond ent insists that in the sale/delivery of denatured alcohol to non-permitee, the buyer/user must be a holder of an approved formula and a valid permit issued by the BIR. This condition sine qua non, according to respondent, is expressly mandated in Section 47 of RR No. 3 and Section 136 of the NIRC of 1997, which read as follows: 'Sec. 47. Denatured alcohol not to be stored on certain premises and not to be used for certain purposes. - Neither completely nor specially denatured alcohol shall be kept or stored on the premises of the following person, to wit: Dealers of wines, fermented liquors or distilled spirits; rectifiers (except such denatured alcohol as is manufactured themselves) and mixers of spirits; manufacturers of vinegar by the vaporizing process and~

DECISION erA E.B. Case No. 764 (GA Case No. 7752) the use of a still and mash, wort or wash; and any person who, in the course of business, has or keeps distilled spirits, wines, malt liquors, or other beverages on his premises: Provided, That druggists or grocers may be issued permits to deal in denatured alcohol, or to use denatured alcohol in manufacturing processes, as authorized by law or regulations, where, upon careful inquiry being made, it shall satisfactorily appear that the applicant is entitled to the full confidence of the Collector of Internal Revenue and that the sale of such beverages, spirits, wines, or liquor is and will be incidental only to the business carried on by the applicant, and that such wines or liquors are not drunk on the premises of the dealer: And provided further, That denatured alcohol intended solely for fuel, light, or other domestic uses and not for sale may be stored on the same premises with other distilled spirits, wines, or liquors if kept in a room separate from that wherein such spirits, wines, or liquors are stored. Where more than 15 gauge liters of denatured alcohol are stored on such premises at any one time, the same must be kept in a tank or room securely locked, but the privilege herein granted will in no case apply to premises where the business of rectifying, purifying, or compounding distilled spirits, wi nes or other liquors is carried on.' (emphasis supplied) 'SEC. 136. Denaturation, Withdrawal and Use of Denatured Alcohol. - Any person who produces, withdraws, sells, transports or knowingly uses, or is in possessi on of denatured alcohol, or articles containing denatured alcohol in violation of laws or regulations now or hereafter in force pertaining thereto shall be required to pay the corresponding tax, in addition to the penalties provided under Title X of this Code.' But Section 134 of the NIRC of 1997 explicitly provides that domestic alcohol of not less than one hundred eighty (180) degrees proof shall be exempt from the excise tax prescribed under Section 141, provided that such domestic alcohol is suitably denatured and rendered unfit for oral intake. The only condition in Section 141 that will render the domestic denatured alcohol subject to excise tax is when the said denatured alcohol is subsequently rendered fit for oral intake or consumption after a re-process through fermentation, dilution, purification, mixt ure or any other similar process. Under the sai~

DECISION CfA E.B. Case No. 764 {CfA Case No. 7752) circumstance, the tax shall be paid by the person in possession of the re- processed spirits. In other words, domestic denatured alcohol shall be subject to excise tax only when it is re-processed by means of fermentation, dilution, purification, mixture or any other similar process in order to make it fit for oral intake or human consumption. In the instant case, there is no allegation or even insinuation that the domestic denatured alcohol, which was rendered unfit for oral intake sold by petitioner to its buyers, underwent re-processing enumerated under Section 141 to make it fit for oral intake or human consumption. No iota of evidence was presented to convince the Court that the domestic denatured alcohol sold by petitioner went through reprocessing to change its constitution making it fit for oral intake. It is clear from the record that the denatured alcohol sold by petitioner to its buyers remained to be unfit for oral intake or consumption. Significantly, respondent failed to controvert petitioner's contention that it sold denatured alcohol to end-users who directly utilize the same as solvent or ingredient for small-scale production of cosmetic products. All told, petitioner's sale of denatured alcohol specifically to small-scale manufacturer of cosmetic products is tax-exempt pursuant to Section 134 of the 1997 NIRC." FOREGOING CONSIDERED, the instant Petition for Review is hereby DISMISSED for lack of merit. Accordingly, the Decision dated December 21, 2010 and the Resolution dated April 8, 2011, of the CTA First Division are hereby AFFIRMED. SO ORDERED. WE CONCUR: CAESAR A. CASANOVA Associate Justice ~' ~ 0-.l....__ ERNESTO D. ACOSTA Presiding Justice

DECISION CTA E.B. Case No. 764 (CTA Case No. 7752) .J<tfALNI~TO~C.cC.A~ ST~ AN~ ED~ A, f~R. ufiSTA Associate Justice ~?th ~ ~ EA:~~o.~sUtiYce OLGA PALANCA-ENRIQUEZ Associate Justice kiut; N.M~.. G~ CIELITO N. MINDARO-GRULLA Associate Justice ~/ =4J/-- AMELIA R. COTANGCO-MANALASTAS Associate Justice CERTIFICATION Pursuant to Article VIII, Section 13 of the Constitution, it is hereby certified that the above Decision has been reached in consultation with the members of the Court en bane before the case was assigned to the writer of the opinion of the Court. E~NESi-/ii>.~~ Presiding Justice