Summary Notes on Tax Schemes, Periods, and Methods and Reporting

INCOME TAX SCHEMES

There are three income taxation schemes under the NIRC:
a. Final income taxation
b. Capital gains taxation
c. Regular income taxation

An item of gross income is taxable in any of these tax schemes.

Mutually exclusive coverage

An item of gross income that is subject to tax in one scheme will not be taxed by the
other schemes. Similarly, items of income that are exempted in one scheme are not taxable by
the other schemes.

CLASSIFICATION OF ITEMS OF GROSS INCOME

1. Gross income subject to final tax
2. Gross income subject to capital gains tax
3. Gross income subject to regular tax

FINAL INCOME TAXATION is characterized by final taxes wherein full taxes are withheld
by the income payor at source. The recipient income taxpayer receives the income net of taxes.
This is applicable only on certain passive income listed by law.

Passive income vs. Active income

Passive incomes are earned with very minimal or even without active involvement of the
taxpayer in the earning process. Examples are interest income from banks, dividends from
domestic corporations, and royalties.

Active or regular income arises from transactions requiring a considerable degree of effort or
undertaking from the taxpayer. Examples are compensation income, business income, and
professional income.

CAPITAL GAINS TAXATION is imposed on the capital gain on sale, exchange, and other
disposition of certain capital assets. Capital assets are assets not used in business, trade, or
profession. It is the opposite of ordinary assets, which are asset used in business, trade, or
profession such as inventory, supplies, or PPE. Also, not all capital gains are subject to capital
gains tax. Most of them are subject to regular income tax.
REGULAR INCOME TAXATION is the general rule in income tax and covers all other
income such as:
1. Active income
2. Other income
a. Gains from dealings in properties, not subject to capital gains tax
b. Other passive income not subject to final tax

ACCOUNTING PERIOD is the length of time over which income is measured and reported.

Types of Accounting Periods

1. Regular accounting period – 12 months in length
a. Calendar – period starts from January 1 and ends December 31. This accounting
period is available to both corporate taxpayers and individual taxpayers.
b. Fiscal – is any 12-month period that ends on any day other than December 31. The
fiscal accounting period is available only to corporate income taxpayers and is not
allowed to individual income taxpayers.

2. Short accounting period – less than 12 months

Instances on Short Accounting Period

1. Newly commenced business – covers the date of the start of the business until the
designated year-end of the business.
2. Dissolution of business – The accounting period covers the start of the current year to the
date of dissolution of the business.
3. Change of accounting period by corporate taxpayers – covers the start of the previous
accounting period up to the designated year-end of the new accounting period. BIR
approval is required in changing an accounting period. It is not automatic.
4. Death of the taxpayer – The accounting period covers the start of the calendar year until
the death of the taxpayer.
5. Termination of the accounting period of the taxpayer by the Commissioner of Internal
Revenue – covers the start of the current year until the date of the termination of the
accounting period.

Deadline on Filing the Income Tax Return (ITR)

Under the NIRC, the return is due for filing on the 15th day of the 4th month following the
close of the taxable year of the taxpayer. The regular tax due is payable upon filing of the ITR.
ACCOUNTING METHODS are accounting techniques used to measure income.

Types of Accounting Methods

1. The general methods
a. Accrual basis – Income is recognized when earned regardless of when received.
Expense is recognized when incurred regardless of when paid.

Tax accrual basis income is determined as

follows: Cash income ₱ xxx,xxx
Accrued (uncollected) income xxx,xxx
Advanced income xxx,xxx
Gross income ₱ xxx,xxx

Tax accrual basis expense is determined as

follows: Cash expenses ₱ xxx,xxx
Accrued (unpaid) expense xxx,xxx
Amortization of prepayments and depreciation of
capital expenditures xxx,xxx
Deductions ₱ xxx,xxx

b. Cash basis – income is recognized when received. Expense is recognized when paid.

Cash Basis Income:

Cash income ₱ xxx,xxx
Advanced income xxx,xxx
Gross income ₱ xxx,xxx

Cash Basis Expense:

Cash expenses ₱ xxx,xxx
Amortization of prepayments and depreciation of
capital expenditures xxx,xxx
Deductions ₱ xxx,xxx

• Hybrid basis – any combination of accrual basis, cash basis, and/or other methods of
accounting. It is used when the taxpayer has several businesses which employ
different accounting methods.

2. Installment and deferred payment method

• Installment method – gross income is recognized and reported in proportion to the
collection from the installment sales. This is available to the following taxpayers:
1. Dealers of personal property on the sale of properties they regularly sell
 2. Dealers of real properties, only if their initial payment does not exceed 25% of
the selling price
3. Casual sale of non-dealers in property, real or personal, when their selling price
exceeds P1,000 and their initial payment does not exceed 25% of the selling
price.

Initial payment means total payments by the buyer, in cash or property, in the taxable
year the sale was made.

Selling price means the entire amount for which the buyer is obliged to the seller.

Contract price is the amount receivable in cash or other property from the buyer.

• Deferred payment method is a variant of the accrual basis, and is used in reporting
income when a non-interest bearing note is received as consideration in sale. Gross
income is computed based on the present value (discounted value) of a note receivable
from the contract. The discount interest on the note is amortized (i.e., spread) as interest
income over the installment term.

3. Percentage of completion method (PCM) for construction contracts – The estimated

gross income from construction is reported based on the percentage of completion of the
construction project.

4. Outright and spread-out method

Income from Leasehold Improvements – Leasehold improvements are tangible
improvements made by the lessee to the property of the lessor. Improvements will benefit
the lessor when their useful life extends beyond the lease term. This benefit is referred to
as income from leasehold improvement.

The income from leasehold improvements can be reported using either of the following
methods at the option of the taxpayer:
• Outright Method – The lessor may report as income the fair market value of such
buildings or improvements subject to the lease at the time when such buildings or
improvements are completed.
• Spread-Out Method – The lessor may spread over the life of the lease the estimated
depreciated value of such buildings or improvements at the termination of the lease and
report as income for each year of the lease an aliquot part thereof.

5. Crop year basis

Farming Income is commonly recognized using the cash basis or accrual basis.
However, long-term crops or those that take more than one year to harvest may be
accounted for under the crop year basis.
 • Crop year basis – Under the crop year basis, farming income is recognized as the
difference between the proceeds of harvest and expenses of the particular crop harvested.
The expenses of each crop are accumulated and deducted upon the harvest of the crop.
Note that crop year basis is an accounting method and is not an accounting period.

Use of different accounting methods

Taxpayers with more than one type of business using different accounting methods can
consolidate the income reported using the different methods. However, the methods applied to
each business should be applied consistently from period to period.

Change in Accounting Methods and Accounting Periods

Under the NIRC, the change in accounting methods by any taxpayer and the change in
accounting periods by any corporate taxpayers require prior BIR notice.

TAX REPORTING
Types of Returns to the Government
1. Income tax returns – provides details of the taxpayer’s income, expense, tax due, tax
credit, and tax still due to the government.
2. Withholding tax returns – provides reports of income payments subjected to withholding
tax by the taxpayer-withholding agent
3. Information returns – do not involve any payment or withholding of tax but are essential
to the government in its tax napping efforts and in its evaluation of tax compliance.

• The non-filing of any of the above returns is subject to penalties, fines, and/or
imprisonment.

MODE OF FILING INCOME TAX RETURNS

1. Manual Filing System
2. e-BIR Forms
3. Electronic Filing and Payment System (eFPS)

PAYMENT OF INCOME TAXES

The general rule is “pay as you file”. The CGT and RIT are paid as the taxpayer files his
return. Installment payment of income tax is allowed on certain conditions.

PENALTIES FOR LATE FILING OR PAYMENT OF TAX

1. Surcharge
a. 25% of the basic tax for failure to file or pay deficiency tax on time (simple neglect or
late filling)
b. 50% for willful neglect to file and pay taxes (non-filling)- taxpayer received a notice
from the BIR to file return
2. Interest – Double of the legal interest rate for loans or forbearance of any money in the
absence of any express stipulation. Since the legal interest is currently set at 6%, the
interest penalty is therefore 12% per annum effective January 1, 2018. The interest period
shall be computed based on actual days divided by 365 days. The additional day in
February during a leap year will be counted.

3. Compromise Penalty – is an amount paid in lieu of criminal prosecution over a tax

violation. (Search for the schedules of compromise penalty related to income taxes.)