CTA Case No. 6253 (Decision)

REPUBLIC OF THE PHILIPPINES COURT OF TAX APPEALS QUEZON CITY FIRST NATIONWIDE ASSURANCE CORPORATION, Petitioner, - versus- C.T.A. CASE NO . 6253 COMMISSIONER OF INTERNAL Promul gated : REVENUE, Respondent. X ----------------------------------------------------------- X DECISION This is a petition for review seeking for the refund or issuance of tax credit certificate in the amount ofP477,150.00, allegedly representing income taxes erroneously withheld from the interest income of petitioner's fi xed rate treasury notes (FXTNs). Petitioner FNAC is a corporation organized and existing under and by virtue of the laws of the Philippines, with principal office at Yuchengco Tower, 500 Q. Paredes St. , Binondo Manila (Stipulated Fact, Item No . 1, CTA docket p.40). Records show that in 1996, 1998 and 1999, petitioner purchased treasury notes issued by the Bureau of Treasury with the following details: Treasury ISIN# Issue Maturity Principal Semi- Note Date Date Interest annual FXTN 7-5 PIBD073G051 25-Jul-9 25-Jui-03P 4 ,000 ,000 Rate Interest FXTN 10-1 PIBD10061010 26-Sep-9 25-Sep-03 5,000 ,000 Payment FXTN 10-4 PIBD1007K042 27-Nov-9 27-Nov-07 3,000 ,000 FXTN 7-9 PIBD704J092 30-0ct-9 30-0ct-04 2 ,800 ,000 15.750%P 315,000 16.000% 400,000 22 .875% 343,125 20.875% 292 ,250

DECISION- CTA CASE NO. 6253 PAGE2 For the period covering March 26, 1999 to November 29, 1999, the Bureau of Treasury paid interest for the said treasury notes to peti~ioner, and withheld tax on said interest at the rate of20% ofthe interest income: Treasury Interest Total 20% Net Amount Interest Withholding Paid to Note Payment Pa:table FNAC Tax 252 ,000 .00 Date 315,000.00 p 63 ,000 .00 p 320,000 .00 400,000 .00 80,000 .00 320,000 .00 FXTN 7-5 25-Jul-99 P 400 ,000 .00 80,000 .00 274,500 .00 343 ,125.00 68 ,625 .00 274,500 .00 FXTN 10-1 26-Mar-99 343 ,125.00 68 ,625 .00 233 ,800 .00 292 ,250.00 58 ,450.00 233 ,800 .00 26-Sep-99 292 ,250.00 58 ,450 .00 2,385 ,750.00 p 1,908,600 .00 FXTN 10-4 27-May-99 477 ,150.00 29 - Nov-99 FXTN 7-9 30-Apr-99 30-0ct-99 p On October 25 , 1999, the BIR issued BIR Ruling No. 166-99, providing that the interest income, yield or gain derived from bonds, debentures or certificates of indebtedness which are ordinarily subj ect to 20% final tax under Section 27 (D)(l) of the National Internal Revenue Code, should be excluded from the gross income if the bonds, debentures or the certificates of indebtedness have maturities of more than five (5) years . On January 7, 2000, BIR Ruling No. 016-00 was issued, with the BIR reiterating its stand that "if the maturity period of the bonds issued through the Bureau of Treasury will be more than five (5) years, the gains that may be derived therefrom by the bondholders shall accordingly be exempt from the 20% final withholding tax." According to the said BIR ruling, "(s)ince the law speaks of the exclusion from gross income of all gains derived from long-term investments, it follows that embraced thereunder are income, yield or interest, which are all synonymous with gains, whether discounted or at premium. Thus, the exemption applies to interest/coupon or profit from

DECISION- CTA CASE NO. 6253 PAGE3 the principal of such long-term regular of SDT bonds complying with the statutory period." Relying mainly on Section 32(B)(7)(g) of the 1997 Tax Code and on the aforesaid rulings, petitioner filed on March 19, 2001 a formal claim addressed to the respondent requesting that a refund or a tax credit in the amount of Four Hundred Seventy-Seven Thousand One hundred Fifty Pesos (P477,150.00) corresponding to the tax withheld by the Bureau of Treasury on the said treasury notes be issued by the respondent in favor of petitioner (Stipulated Fact, Item No.4, CTA docket, p.41). As there was no immediate action on the part of the respondent, petitioner filed the instant petition for review on March 23, 2001 in order to toll the running of the two- year prescriptive period provided by law. Respondent, on his part, filed his Answer to the instant petition on May 7, 2001 , and raised therein the following special and affirmative defenses: 1. Petitioner' s alleged claim for refund is still subject to administrative investigation/ examinatiun by the Bureau of Internal Revenue; 2. Petitioner failed to prove that the subject of the case at bar comes within the scope of claims for refund pursuant to Section 204 of the National Internal Revenue Code. The said section of the Tax Code explicitly enumerates the grounds upon which a taxpayer is allowed to claim for refund, to wit: (a) erroneously or illegally received or collected internal revenue taxes ; (b) penalties imposed without authority. The above-mentioned grounds are exclusive. 3. Claims for refund are construed strictly against the claimant as they partake the nature of an exemption from tax and it is incumbent upon petitioner to prove that it is entitled thereto under the law. Failure to prove the same is fatal to its claim for tax refund. Exemptions from taxation are highly disfavored in law and he who claims exemption must be abte to justify his claim by the clearest grant of organic or statutory law. An exemption from

DECISION- CTA CASE NO. 6253 PAGE4 common burden cannot be permitted to exist upon the vague implications . 4. More so, it is incumbent upon petltwner to prove that it has complied with the governing rules relative to tax recovery or refund as provided for under Sections 204 and 229 of the National Internal Revenue Code; 5. Finally, following the well entrenched principle that tax refunds are in the nature of tax exemptions, they are regarded as derogation of sovereign authority and are to be construed in strictissimi juris against the person or entity claiming the exemption. As jointly stipulated by the parties, the issues to be resolved in this case are as follows: 1. Whether or not interest income derived from treasury notes which have a maturity in excess of five years is exempt from the 20% withholding tax ; 2. Whether or not the treasury notes purchased by petitioner from the Bureau of Treasury can be considered as bonds, debentures or certificates of indebtedness under the Tax Code; 3. Whether or not the claim for refund/ tax credit of petitioner in the amount of P477,150.00 is properly substantiated by documentary evidence. The legal issue besetting the case at bar is not one of first impression. As a matter of fact, this court had already settled the issue and made a pronouncement on the matter. Thus, the law in point is Section 32(B)(7)(g) of the Tax Reform Act of 1997, which is hereby reproduced as follows: "Section 32. Gross Income. XXX XXX XXX

DECISION- CTA CASE NO. 6253 PAGES "(B) Exclusions from Gross Income. - The following items shall not be included in gross income and shall be exempt from taxation under this Title: XXX XXX XXX "(7) Miscellaneous Items. - XXX XXX XXX "(g) Gains from the Sale of Bonds, Debentures or other Certificate of Indebtedness. Gains realized from the sale or exchange or retirement of bonds, debentures or other certificate of indebtedness with a maturity of more thar. five (5) years." Petitioner's main argument basically hinges on its interpretation of the term "gains" under the foregoing section, as broad enough to include interest income from FXTNs. Petitioner is of the opinion that the treasury notes it purchased from the Bureau of Treasury with a maturity in excess of five years are considered bonds, debentures or certificate of indebtedness and are exempt from the 20% withholding tax. To further buttress its view that interest from the FXTNs is exempt from tax, petitioner cites respondent's own rulings, namely, BIR Ruling No. 166-99 dated October 25 , 1999, BIR Ruling No. 016-2000 dated Jc:..nuary 7, 2000, and BIR Ruling No. DA-022-01-11-00. In BIR Ruling No. 166-99, issued on October 25 , 1999 and addressed to Aegon Life Insurance (Philippines), Inc., respondent ruled that interest income or yields or gain from the sale of bonds, debentures and certificates of indebtedness with maturities of more than five (5) years are excluded from gross income in accordance with Section 32(B)(7)(g) of the 1997 Tax Code and therefore exempt from the 20% final withholding tax on deposit substitutes. BIR Ruling No. 166-99 states in pertinent part:

DECISION- CTA CASE NO. 6253 PAGE6 "B. As a general rule, the interest income on currency bank deposit and yield or other monetary benefit from these "deposit substitutes" and similar arrangement derived by banks and non-bank financial intermediaries are being taxed at the final rate of 20% under Section 27(D)(1) of the 1997 Tax Code. However, Section 32(B)(7)(g) of the 1997 Tax Code, provides an exception, thus: X X X X X X The idea therefore, is to still treat bonds, debentures or other certificates of indebtedness as "deposit substitutes" the interest income, yield or gain derived therefrom subject to the 20% final tax under Section 27(D)(l) of the 1997 Tax Code, but exclude said interest income, yield or gain from the gross income if the bonds, debentures or the certificate of indebtedness have maturities of more than five (5) years. Conversely, only the income derived on these debt instruments with maturity of more than five (5) years shall be excluded from the gross income. Furthermore, the term sale is not limited to the subsequent transfer of the instrument but to its origination and issuance, as well. Thus, from the time of its issuance, we should consider the "income" which is actually the amount coming to a person within a specified time, whether as payment for the services, interest, or profit from investment. Its usual synonyms being "gain" , "profit", "revenue" . (Trefry v. Putnam, 116 N.E. 904, 907 227 Mass. 522, L.R.A. 1917F, 806." (Words & Phrases, Gain, page 11 , Permanent Edition 18) (BIR Ruling No . 166-99) Notwithstanding the abovementioned rulings, this court 1s not m accord with petitioner' s contention that interest income on its long-term investments in FXTNs should be considered as ' gains ' exempt from income tax pursuant to Section 32(B)(7)(g) of the 1997 Tax Code. While it is true that rulings issued by the Commissioner of Internal Revenue command respect and weight, such rulings are not conclusive upon the courts and will be ignored if found to be erroneous (Philippine Bank of Communications vs. Commissioner of Internal Revenue, G.R. No. 112024, January 28, 1999). A judicious look on the aforesaid rulings would show that the conclusion reached by the BIR is actually based on its mistaken belief that the term "gainr" as used in Section 32(B)(7)(g) of the 1997 Tax Code includes interest It is a well-settled rule of statutory construction

DECISION- CTA CASE NO. 6253 PAGE7 that tax exemptions are strictly construed against the taxpayer. Consequently, where Section 32(B)(7)(g) of the 1997 Tax Code, which grants tax exemption, is susceptible of a restrictive interpretation, such interpretation must be adopted (Nippon Life Insurance Company of the Philippines, Inc. vs. Commissioner of Internal Revenue, CTA Case No. 6142, February 4, 2002). Thus, in the Nippon Life case, supra, this court had the occasion to make a notable distinction between the concept of gains which, in general, is synonymous to income and the gains from the sale of bonds, debentures and other certificates of indebtedness, thus : "We take the view that "gains" as the term is used therein in Section 32(B)(7)(g) of the Tax Code cannot include interest since it clearly refers to gains from the sale of bonds, debentures and other certificates of indebtedness. Initially, it must be pointed out that whereas the term "gains" includes "interest" as a general rule, this rule caru;.ot be applied to Section 32(B)(7)(g) of the 1997 Tax Code which particularly refers to "Gains from the Sale ofBonds, Debentures or other Certificate ofIndebtedness " in its title and "Gains realized from the sale or exchange or retirement of bonds, debentures and other certificate of indebtedness with a maturity of more than five (5) years" in its body. Stated otherwise, Section 32(B)(7)(g) of the Tax Code specifically refers to gains from the sale of bonds, debentures and other certificates of indebtedness as contradistinguished from the term "gains" in its general sense, which is synonymous to income. In this regard, Section 32 (A) of the 1997 Tax Code defines "gross income" as fo llows: SEC. 32. Gross Income. - (A) General Definition. - Except when otherwise provided in this Title, gross income means all income derived from whatever source, including (but not limited to) the following items: (1) Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions and similar items:

DECISION- CTA CASE NO. 6253 PAGES (2) Gross income derived from the conduct of trade or business or the exercise of profession; (3) Gains derived from dealings in property; (4) Interests; (5) Rents ; (6) Royalties; (7) Dividends; (8) Annuities; (9) Prizes and winnings ; (10) Pensions; and (11) Partner's distributive share from the net mcome of the general professional partnership. From the afore-quoted Section 32 (A) of the Tax Code, it is clear that there is a distinction between "gains derived from dealings in property" and "interests", which are separately classified as items of gross income. "Gains realized from the sale or exchange or retirement of bonds, debentures and other certificate of indebtedness" would fall under the category of "gains derived from dealings in property". On the other hand, "interests" would include interest from bonds, debentures and other certificate of indebtedness. Gain realized from the sale or exchange or retirement of bonds, debentures and other certificate of indebtedness and interest from bonds, debentures and other certificate of indebtedness fall under separate and distinct income categories." A similar ruling was promulgated by this court last July 24, 2002 in CTA Case No. 6252 entitled Malayan Reinsurance Corporation (formerly Eastern General Reinsurance Corporation) vs. Commissioner of Internal Revenue. Like in the Nippon Life case, we emphasized that under Sections 24, 25 , 27 and 28 of the Tax Code, in relation to Sections 31 and 32 of the Tax Code, there is no sweeping exemption from income tax of interest from bonds, debentures or other certificates of indebtedness with a maturity of more than five (5) years, thus: "Moreover, Section 24 of the 1997 Tax Code governs the taxation of interest, including interest from deposits and yield from deposit substitutes and trust funds and similar arrangements, realized by citizens and resident aliens, which provides in pertinent part:

DECISION- CTA CASE NO. 6253 PAGE9 SEC. 24. Income Tax Rates. - (A) Rates of Income Tax on Individual Citizen and Individual Resident Alien ofthe Philippines. - ( 1) An income tax is hereby imposed: (a) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (B), (C) and (D) of this Section, derived for each taxable year from all sources within and without the Philippines by every individual citizen of the Philippines residing therein; (b) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (B), (C) and (D) of this Section, derived for each taxable year from all sources within the Philippines by an individual citizen of the Philippines who is residing out of the Philippines, including overseas contract workers referred to in Subsection (C) of Section 23 hereof; and (c) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (B), (C) and (D) of this Section, derived for each taxable year from all sources within the Philippines by an individual alien who is a resident of the Philippines The tax shall be computed in accordance with and at the rates established in the following schedule: XXX (B) Rate ofTax on Certain Passive Income. - (1) Interests, Royalties, Prizes, and Other Winnings. - A final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest from any currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust fund and similar arrangements; x x x: Provided, however, That interest income received by an individual taxpayer (except a nonresident individual) from a depository bank under the expanded foreign currency deposit system shall be subject to a final income tax at the rate of seven and one-half percent (7%) of such interest income: Provided, furth er, That interest income from long-term deposit or investment in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments evidenced by certificates in such form prescribed by the Bangko Sentral ng Pilipinas (BSP) shall be exempt from the tax imposed by this Subsection: Provided, finally, That should the

DECISION- CTA CASE NO. 6253 PAGE 10 holder of the certificate preterminate the deposit or investment before the fifth (5th) year, a final tax shall be imposed on the entire income and shall be deducted and withheld uy the depository bank from the proceeds of the long-term deposit or investment certificate based on the remaining maturity thereof: Four (4) years to less than five years - 5% Three (3) years to less than four years - 12% Less than three (3) years - 20% XXX XXX XXX On the other hand, Section 25(A)(l) and (2) of the 1997 Tax Code taxes nonresident alien individuals engaged in trade or business within the Philippines on interest realized from Philippine sources in the same manner as citizens and resident alien individuals taxed under the aforequoted Section 24(A) and 24(B)(l), to wit: SEC. 25. Tax on Nonresident Alien Individual. - (A) Nonresident Alien Engaged in Trade or Business Within the Philippines - (1) In General. - A nonresident alien individual engaged in trade or business in the Philippines shall be subject to an income tax in the same manner as an individual citizen and a resident alien individual, on taxable income received from all sources within the Philippines. A nonresident alien individual who shall come to the Philippines and stay therein for an aggregate period of more than one hundred eighty (180) days during any calendar year shall be deemed a 'nonresident alien doing business in the Philippines. ' Section 22(G) of this Code notwithstanding. (2) Cash and/or Property Dividends from a Domestic Corporation or Joint Stock Company, or Insurance or Mutual Fund Company or Regional Operating Headquarter of Multinational Company, or Share in the Distributable Net Income of a Partnership (Except a General Professional Partnership), Joint Venture Taxable as a Corporation or Association, Interests, Royalties, Prizes, and other Winnings. - Cash and/or property dividends from a domestic corporation, or from a joint stock company, or from an insurance or mutual fund company or from a regional operating headquarter of multinational company, or the share of a nonresident alien individual in the distributable net income after tax of a partnership (except a general professional partnership) of which he is a partner, or the share of a nonresident

DECISION- CTA CASE NO. 6253 PAGE 11 alien individual in the net income after tax of an association, a joint account, or a joint venture taxable as a corporation of which he is a member or a co-owner; interests; royalties (in any form); and prizes (except prizes amounting to Ten thousand pesos [PlO,OOO] or less which shall be subject to tax under Subsection [B][l] of section 24); and other winnings (except Philippine Charity Sweepstakes and Lotto winnings), shall be subject to an income tax of twenty percent (20%) on the total amount thereof: Provided, however, That cinematographic films and similar works shall be subject to the tax provided under Section 28 of this Code: Provided, furthermore , That interest income from long-term deposit or investment in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments evidenced by certificates in such form prescribed by the Bangko Sentral ng Pilipinas (BSP) shall be exempt from the tax imposed under this Subsection: Provided, finally, That should the holder of the certificate pre-terminate the deposit or investment before the fifth (5th) year, a final tax shall be imposed on the entire income and shall be deducted and withheld by the depository bank from the proceeds of the long- term deposit or investment certificate based on the remaining maturity thereof: xxx However, Section 25(B) of the 1997 Tax Code taxes nonresident alien individuals not engaged in trade or business within the Philippines on their interest realized from Philippine sources. For easy reference, pertinent portions of Section 25(B) of the 1997 Tax Code is hereby quoted as follows: SEC. 25. Tax on Nonresident Alien Individual. - XXX (B) Nonresident Alien Individual Not Engaged in Trade or Business Within the Philippines. - There shall be levied, collected and paid for each taxable year upon the entire income received from all sources within the Philippines by every nonresident alien individual not engaged in trade or business within the Philippines as interest x x x, or other fixed or determinable annual or periodic or casual gains, profits, and income, and capital gains, a tax equal to twenty-five (25%) of such income. x x x It should be noted that both Sections 24(L)(1) and 25(A)(2) of the 1997 Tax Code expressly exempt interest derived from certain long-term deposit or investment (covered by Bangko Sentral ng Pilipinas (BSP) certificates and with maturity of five years or more) by citizens, resident aliens and nonresident aliens engaged in trade or business within the

DECISION- CTA CASE NO. 6253 PAGE 12 Philippines from income tax. However, as in the case of nonresident alien individuals not engaged in trade or business in the Philippines, there is no similar exemption from income tax on such interest for corporations, domestic or foreign, under Sections 27 and 28 of the 1997 Tax Code, to wit. SEC. 27. Rates ofIncome Tax on Domestic Corporations.- (A) In General. - Except as otherwise provided in this Code, an income tax of thirty-five percent (35%) is hereby imposed upon the taxable income derived during each taxable year from all sources within and without the Philippines by every corporation, as defined in Section 22(B) of this Code and taxable under this Title as a corporation, organized in, or existing under the laws of the Philippines: Provided, That effective January 1, 1998, the rate 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%). XXX XXX XXX (D) Rates ofTax on Certain Passive Incomes. - (1) Interest from Deposits and Yield or any Monetary Benefit from Deposit Substitutes and from Trust Funds and Similar Arrangements, and Royalties. - A final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest on currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust funds and similar arrangements received by domestic corporations, and royalties, derived from sources within the Philippines: Provided, however, That interest income derived from a depository bank under the expanded foreign currency deposit system shall be subject to a final income tax at the rate of seven and one-half percent (7%) of such interest income. XXX XXX XXX SEC. 28 . Rates ofIncome Tax on Foreign Corporations. - (A) Tax on Resident Foreign Corporations. - (1) In General. - Except as otherwise provided in this Code, a corporation organized, authorized, or existing under the laws of any foreign country, engaged in trade or business within the Philippines, shall be subject to an income tax equivalent to thirty-five percent

DECISION- CTA CASE NO. 6253 PAGE 13 (35%) of the taxable income derived in the preceding taxable year from all sources within the Philippines: xxx XXX XXX XXX (7) Tax on Certain Incomes Received by a Resident Foreign Corporation. - (a) Interest from Deposits and Yield or any other Monetary Benefit from Deposit Substitutes, Trust Funds and Similar Arrangements and Royalties. - Interest from any currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust funds and similar arrangements and royalties derived from sources within the Philippines shall be subject to a final income tax at the rate of twenty percent (20%) of such interest: Provided, however, That interest income derived by a resident foreign corporation from a depository bank under the expanded foreign currency deposit system shall be subject to a final income tax at the rate of seven and one-half percent (7~%) of such interest income. (B) Tax on Nonresident Foreign Corporation. - (1) In General. - Except as otherwise provided in this Code, a foreign corporation not engaged in trade or business in the Philippines shall pay a tax equal to thirty-five percent (35%) of the gross income received during each taxable year from all sources within the Philippines, such as interests, dividends, rents, royalties, salaries, premiums (except reinsurance premiums), annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits and income, and capital gains, except capital gains subject to tax under subparagraphs 5\..c) and (d): Provided, That effective January 1, 1998, the rate of income tax be thirty-four percent (34%); effective January 1, 1999, the rate shall be thirty- three (33%); and, effective January 1, 2000 and thereafter, the rate shall be thirty-two percent (32%) XXX XXX XXX (Underscoring supplied) Under Section 28(A) of the 1997 Tax Code, resident foreign corporations are subject to the same tax imposed on interest income realized from Philippine sources as domestic corporations. On the other hand, under Section 28(B) of the 1997 Tax Code, nonresident foreign corporations are generally subject to 32% tax based on gross income, including interest, effective January 1, 2000. However, on interest income derived from

DECISION- CTA CASE NO. 6253 PAGE 14 foreign loans contracted on or after August 1, 1986, a final withholding tax rate of 20% is imposed pursuant to Section 28(B)(5)(a) of the 1997 Tax Code. XXX XXX XXX There is a clear distinction between interest from bonds and gain from the sale of bonds. It is only the "Gains realized from the sale or exchange or retirement of bonds, debentures or other certificate of indebtedness with a maturity of more than five (.)) years" that is excluded from gross income and thus exempt from income tax under Section 32(B)(7)(g) of the 1997 Tax Code. Such gains from sale or exchange or retirement of bonds, debentures or other certificate of indebtedness fall within the general category of "Gains derived from dealings in property," as distinguished from interest from bonds, debentures or other certificate of indebtedness, which fall within the general category of "Interests" under Section 32(A) of the 1997 Tax Code. If this is not so, then there will be no need to specifically exempt interest under the provisions of Sections 24(B)(l) and 25(A) because Section 32 pertains to exclusions from gross income which generally applies to all persons subject to income tax, whether individual or corporate. As previously noted, only citizens, resident aliens and nonresident aliens engaged in trade or business are exempt from income tax on interest from long-term (with a maturity of five years or more) deposit or investment in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments evidenced by certificates in such form prescribed by the Bangko Sentral ng Pilipinas (BSP) pursuant to Sections 24(B)(1) and 25(A)(2) of the 1997 Tax Code. On the other hand, domestic and resident foreign corporations are subject to a 20% final tax on such interest pursuant to Sections 27(D)(l) and 28(A) of the 1997 Tax Code. We believe that if Congress intended to exempt interest from bonds, debentures and other certificates of indebtedness under Section 32 (B)(7)(g) of the Tax Code, it would have done so in clear and specific terms. The fact that it used the term "Gains from sale" in the aforementioned section, knowing fully well of the reference to interest under Sections 24, 25 27 and 28 of the Tax Code shows that id did not intend to ex.empt such interest under the aforementioned Section 32 (B)(7) (g) ofthe Tax Code. Parenthetically, in the United States, where it is the interest on certain state and local bonds that is exempt whereas gain from the sale thereof is taxable, there is a clear distinction between interest and gain from sale.

DECISION- CTA CASE NO. 6253 PAGElS Hence, Section 8.07 ofMertens, Law of Federal Income Taxation, provides in pertinent part: 8.07 Interest. The interest exclusion on state and local bonds is limited to interest income relating to tax-exempt bonds. It does not include gain on the sale or exchange of obligations. Discount The word "interest" in the Code included "discount." When state or municipal securities are issued at a discount, amounts representing the discount received by the holder either upon the redemption of sale of the securities are tax exempt as being equivalent to interest. As between successive holders of tax-exempt is apportioned on the basis of the time each of the holders held the bond. The remainder of the proceeds is treated as the amount realized on the redemption or sale for purpose of determining gain or loss. Market Discount When the dealer resells bonds at a discount which purchased at par or above, the discount is commonly referred to as "market" discount in contrast to the "issue" discount. If the bonds are capital assets in the hands of the purchaser from the dealer, then the market discount when subsequently realized would give rise to a capital gain. Certain insurance companies, however would be required to accrue this market discount each taxable year as investment income and would adjust the basis of the bonds were held to maturity. The distinction must be noted between accrued interest and discount received upon redemption of state or local obligations prior to maturity and any premium paid on such redemption. It has been ruled that while the accrued interest and discount constitute interest and are, thus, tax-exempt, any premium received upon redemption is taxable income. (Mertens, The Law ofFederal Income Taxation, Section 8.07, Vol. !, Chap 8, pp. 22-24). (Underscoring supplied) From the foregoing discussion, this court concludes that only the gain from sale (as distinguished from interest) of bonds, debentures or other certificate of indebtedness

DECISION- CTA CASE NO. 6253 PAGE 16 with maturity of more than five years shall be exempt from income tax . Since the present appeal involves claim for refund of 20% final withholding tax on interest income earned from long-term investment in Fixed Rate Treasury Notes, the same has no basis in law. Having settled the legal issue in the negative, this court finds it unnecessary to further deal with the other issues regarding substantiation requirements. WHEREFORE, in the light of the foregoing, the instant Petition for Review is hereby DENIED for lack of merit. SO ORDERED. L-\&. c~ ERNESTO D. ACOSTA Presiding Judge I CONCUR: <k~C2.~,C2. t:fU' ANITO C. CASTANEDA,~R_ Associate Judge CERTIFICATION I hereby certify that the above decision was reached after due consultation with the members of the Court of Tax Appeals in accordance with Section 13, Article VIII of the Constitution. ~~-~' ERNESTO D. ACOSTA Presiding Judge