Module 05 Final Income Taxation PDF

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COURSE CODE AND TITLE:BCARINCOME TAXATIONLESSON NUMBER:TOPIC :Final Income TaxationLEARNING OBJECTIVESAt the end of this lesson, the student should be able to:1. Define the characteristics of final income taxation;2. Differentiate passive and active income;3. Explain the coverage of final taxes on i...

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COURSE CODE AND TITLE:

BCAR5 INCOME TAXATION LESSON NUMBER:5 TOPIC : Final Income Taxation

LEARNING OBJECTIVES

At the end of this lesson, the student should be able to: 1. Define the characteristics of final income taxation; 2. Differentiate passive and active income; 3. Explain the coverage of final taxes on income of non-residents;

PRE-ASSESSMENT MULTIPLE CHOICE Choose the best answer from the choices provided. 1. Who is subject to final tax on royalties earned, whether active of passive? a. Resident citizen b. Resident Alien c. Non-resident citizen d. Non-resident alien not engaged in trade or business 2. Which is the following recipients is exempt from final tax on dividends? a. Resident Alien b. Resident Citizen c. Resident Corporation d. Resident Foreigner

3. Which of the following is not subject to final tax? a. Prizes exceeding P10,000 b. Prizes not exceeding P10,000 c. Winnings exceeding P10,000 d. Winnings not exceeding P10,000

4. Which is not subject to 10% final tax? a. Royalties from a business trademark b. Royalties from literary works c. Dividends from a domestic corporation d. Share in the net income of a business partnership

LESSON PRESENTATION

DEFINITION Final Withholding Tax is a kind of withholding tax which is prescribed only for certain payors and is not creditable against the income tax due of the payee for the taxable year. Income Tax withheld constitutes the full and final payment of the Income Tax due from the payee on the said income. Final Income Taxation is characterized by final taxes where taxes are withheld or deducted at source. The taxpayer receives the income, net of tax. The payor of income remits the tax to the government. Final taxation is applicable only on certain passive income. Not all passive income is subject to final

tax. Passive Income vs. Active Income Passive incomes are earned with very minimal or even without active involvement of the taxpayer in the earning process and are generally irregular in timing and amount, whilst, active income arises from transactions requiring a considerable degree of effort or undertaking from the taxpayer.

The final withholding tax is built upon the taxpayer and government convenience. It relieves the taxpayer of the obligation to file an income tax return. This is very convenient for taxpayers who are limited by distance, time and cost to comply. For the government, the final withholding tax system is the most convenient and effective system in collecting taxes on income where there is no risk of non-compliance or tax evasion.

FEATURES The final tax scheme has the following features: 1. Full and final payment 2. Tax withholding at source 3. Territorial imposition 4. Imposed on certain passive income and persons not engaged in

business in the Philippines 5. No filing of income tax return by the payee

GENERAL COVERAGE Unless otherwise indicated, the final tax rates shall apply to all taxpayers, except for non- resident aliens not engaged in trade or business who are taxed at 25% and nonresident foreign corporations which are taxed at 30%. Individuals in this discussion would involve: Resident Citizens, Non-Resident Citizens, Resident Aliens and Non-Resident Aliens engaged in trade or business, whereas, corporation would include: Domestic Corporations and Resident Foreign Corporations.

INTEREST INCOME ON SHORT-TERM PESO DEPOSITS

There shall be a final tax at the rate of 20% imposed on the interest income or yield from the following sources: Illustration 5.1 Banco del Oro incurs the following interest in its deposit accounts from depositors: Non-resident Citizens

600,000

Resident Aliens Non-resident Corporation

100,000 200,000

The total final tax withheld would be: Non-resident Citizens Resident Aliens Non-resident Corporation TOTAL

600,000 x 20% =120,000 100,000 x 20% = 20,000 200,000 x 30% = 60,000 200,000

The depositors would only receive the following amounts: Non-resident Citizens Resident Aliens

480,000 80,000

Non-resident Corporation

140,000

TOTAL

700,000

INTEREST INCOME ON LONG-TERM PESO DEPOSITS There shall be a final tax at the rate of 20% imposed on the interest income or yield from long- term deposits and deposit substitutes earned by corporations. Interest income earned by individuals on the same financial products are exempt from this final tax. What constitutes long-term? In the context of this final tax, a deposit/deposit substitute is considered long-term if the holding period is at least five years.

Since individual taxpayers are exempt if the deposit is long-term, most would just open a long- term one and then preterminate such to avoid the final tax. As such, if the deposit or investment placement of individual taxpayers is preterminated before five years, any previously untaxed or exempted interest income will be subjected to the following final taxes upon pretermination depending on the length of the holding period.

Illustration 5.2 On January 1, 2018, AMC invested P2,000,000 in a 5-year bank deposit with an interest of 5% annually. AMC preterminated the deposit on July 1. 2021. •

If AMC is a corporation. Interest Income (2,000,000 x 5% x 3.5) Multiply: Final Tax Rate Final Tax

•

If AMC is a resident citizen. Untaxed Interest Income (2,000,000 x 5% x 3.5)

350,000 20% 70,000

Multiply: Final Tax Rate

350,000 12%

Final Tax on Pre-termination

42,000

INTEREST INCOME FROM FOREIGN CURRENCY DEPOSITS AND LOANS Interest income derived from the following sources shall be imposed with the respective rates of final tax:

Offshore Banking Unit" or "OBU" shall refer to a branch, subsidiary or affiliate of a foreign banking corporation which is duly authorized by the Central Bank of the Philippines to conduct of banking transactions in foreign currencies involving the receipt of from external sources and utilization of such funds.

"Foreign currency deposit unit" or "FCDU" shall refer to that unit of a local bank or of a local branch of a foreign bank authorized by the Central Bank to engage in foreign currencydenominated transactions.

AMOUNTS WITHDRAWN FROM DECEDENT'S DEPOSIT ACCOUNT If a bank has knowledge of the death of a person, who maintained a bank deposit account alone, or jointly with another, it shall allow the withdrawal from the said deposit account, subject to a final withholding tax of six percent (6%) of the amount to be withdrawn, provided that the withdrawal shall only be made within one year from the date of the decedent. Such withheld tax shall not be creditable to the estate tax in relation to the death of the decedent.

Illustration 5.3 Going back to question number 4 in the pre-activity, suppose there is a P1,000,000 deposited in the bank account of your grandfather and the rest of his estate consists of several parcels of land readily divided for the legitime of the mandatory heirs, including the free portion that you can get. The titles of the lands cannot be transferred if the Estate Tax of P940,000 cannot be paid with the BIR. You may withdraw the full amount of the bank deposit but it will be subject to 6% final tax amounting to P60,000. The net proceeds of P940,000 can be used to pay the estate tax to BIR. Once paid, you can already be issued the electronic Certificate of Authority to Register and transfer the titles to the heirs and yours.

TAX-FREE COVENANT BONDS Interest income or other payments of any individual taxpayer, including NRA-NETB, from tax- free covenant bonds, mortgages, deeds of trust or other obligations of domestic and resident foreign corporations shall be subject to final withholding tax of 30%.

Illustration 5.4 Juana del Cruz, a resident entered into a tax-free covenant bond agreement with Salakot Corporation, a domestic corporation. The bonds carried a 10% interest for the principal amount of P7,000,000. The interest received will be assumed as net of tax.

Principal Multiply: Rate of interest

7,000,000 10%

Interest Income, net Divide by to Gross-up Interest Income, gross (Tax Base) Multiply: Final Tax Rate Final Tax Withheld

700,000 70% 1,000,000 30% 300,000

CASH AND PROPERTY DIVIDENDS

Dividends received by the following taxpayers, whether in cash or in kind, shall be subject to the following final tax rates depending on the payor.

The tax sparing rule shall apply to an NRFC which is a resident or is domiciled in a country which: (1) has no effective tax treaty with the Philippines; (2) has a worldwide system of taxation; and (3) allows a tax credit against the tax due from the NRFC dividend taxes deemed to have been paid in the Philippines equivalent to 15%.

A real estate investment trust (REIT) is a corporation whose primary business is owning, developing, and managing real estate properties, such as apartment buildings, office buildings, hotels, warehouses, health care facilities, shopping malls or golf courses.

SHARE IN NET INCOME IN A TAXABLE PARTNERSHIP, ASSOCIATION, JOINT ACCOUNT, JOINT VENTURE OR CONSORTIUM The share in the net income of the following taxpayers shall be subject to the respective final tax rates as summarized below:

It is to be noted that this is only applicable to taxable partnerships. Notice that the rates are similar to that of the final taxes with dividends. In essence, shares of partners in the net income of a partnership are dividends available for withdrawal. Also notice that there are no rates for corporations since partnerships can only be formed by natural persons. Illustration 5.5 Paul, Lee and Kath formed a partnership engaged in a merchandising business in Batangas. The three personally manages the business. Paul and Kath are Filipinos. Lee’s Chinese citizenship adds effectiveness in managing the business. During the year, they reported net income of P600,000 which they divide equally among themselves. The three partners will have a share of P200,000 each. They are, however, subject to 10% final tax, therefore, each will only receive P180,000.

PASSIVE ROYALTIES Passive royalties received by a taxpayer shall be subject to the following final tax rates:

Illustration 5.6 Michael Angan is an author of an accounting book. He earned a 10% royalty for every P500 copy of his book sold. During the month, his book sold 900 copies. Michael will receive the following amount: Copies Sold Multiply: Sales Price

900 500

Sales

450,000

Rate

10%

Royalties earned Less: Final Tax (45,000 x 10%) Amount Received

45,000 4,500 40,500

Illustration 4.6 Film-ipino Inc. received a check for P640,000 from FilmWorld Corp. as royalties for its Net Amount 640,000 cinematographic works. Divide by to Gross-up 80% Royalties The final tax to be remitted to BIR is: Rate Final Tax

800,000 20% 160,000

PRIZES AND WINNINGS OF INDIVIDUALS Prizes and winnings of individuals obtained from local sources shall be taxed at the following final rates:

It should be noted that the P10,000 threshold is not an exemption threshold rather it only determines whether the income is included in final tax or regular income tax. As such, prizes at most P10,000 is still taxable under regular taxation and those above P10,000 is fully taxable under final taxation. Prizes and winnings of corporate taxpayers are subject to regular income tax. Prizes and winnings not subjected to final tax are reportable under regular income taxation. E xempt Prizes The following are exempt prizes: 1. Prizes received by a recipient without any effort on his part to join a contest.

Examples include prizes from awards like Nobel Prize, Most Outstanding Citizen, etc. 2. Prizes from sports competitions that are sanctioned by their respective national sport organizations R equisite for Exemption Exempt prizes mentioned above should meet the following requisites: 1. The recipient was selected without any action on his part to enter the contest. 2. The recipient is not required to render substantial future services as a

condition to receiving the price or award. Prize vs. Winning A prize is a reward for a contest or competition. In other words, a prize represents a remuneration for an effort reflecting one’s superiority. A winning, in contrary, is a reward for an event that depends on chance such as winnings from gambling, lottery or raffle ticket.

Illustration 5.7 Lucky Manzañas won in a raffle promo and took home P9,000 cash. Two days after, he played in “Bawal Judgemental”, earning a prize of P35,000 since he got three wrong answers. Compute the final taxes withheld from him. The P9,000 cash winnings from the raffle promo was subjected to final tax regardless of the amount. This amount is already the net receipts. The grossed-up amount of P11,250 is multiplied by 20% to get the final tax of P2,250. As for the prize, the gross amount of P35,000 is multiplied by 20% since it exceeds P10,000. The final tax on such is P7,000.

INFORMER’S CASH REWARD A 10% final tax shall be imposed on rewards received from informing on violations of NIRC and discovery and seizure of smuggled goods which were deemed legitimate and collectible against the violator. It should be noted, however, that the amount of reward is 10% of the collection from the information or P1,000,000, whichever is lower.

Illustration 5.8 Wiz L. Blue shared two pieces of information with the BIR that allegedly proves two tax evading companies. Company A was then assessed and was forced to pay P500,000 of deficiency taxes. Company B was also assessed and was liable to deficiency taxes of P12,000,000. Wiz will be earning 10% of P500,000 as reward related to Company A’s violation. The P50,000 reward will be subject to 10% final tax, reducing the cash receipt to P40,000. For the information provided anent to Company B, the 10% of P12,000,000 exceeds the maximum reward of P1,000,000, therefore, the basis of the 10% final tax is P1,000,000.

OTHER ITEMS OF INCOME SUBJECT TO FINAL TAX The following are other items of passive income specifically subject to final tax.

ACCOUNTING FOR FINAL TAXES To illustrate the journal entries for the recording of final taxes, let us journalize some of the illustrations given. Illustration 5.1 Books of Payor Interest Expense

Books of Payee

900,000

Final Tax Withholdings

200,000

Payables 700,000 200,000

Payables Cash

700,000

Income Tax Expense

200,000

Interest Income

Cash Final Tax Withholdings

Cash in Bank

200,000

900,000

Illustration 5.6 Books of Payor Royalty Expense

Books of Payee

800,000

Final Withholding Taxes

160,000

Payable

Cash

640,000

Income Tax Expense

160,000

Royalty Income

Cash

800,000

640,000

Final Withholding Taxes

160,000

Payable Cash

160,000

FILING AND PAYMENT OF FINAL TAXES Every withholding agent (WA)/payor required to deduct and withhold taxes on income payments subject to Final Withholding Taxes shall file the following within the specified deadlines: [You may click the form codes to access the link to the pdf file of said form.] Form

Name

Manual Filing

Deadline eFPS Filing

Monthly Remittance Form of

tenth (10th) day

11th-15th day

Final Income Taxes Withheld

following the month

following

in which

withholding month

withholding was

depending on the

made

taxpayer’s line of

0619F

business

1602Q

Quarterly Remittance Return of

last day of the

Final Taxes Withheld on

month following the

Interest Paid on Deposits and

close of the quarter

Deposit

during which

Substitutes/Trusts/Etc.

withholding was

Not yet available

made 1601FQ

Quarterly Remittance Return of

last day of the month following the close of

Final Income Taxes Withheld

the quarter during which withholding was made

2306

Certificate of Final Income Tax

on or before January 31 of the year

Withheld

following the year in which income payment was made

1604F

Annual Information Return on

on or before January 31 of the year

Final Income Taxes Withheld

following the calendar year in which the

(with Annual Alphabetical List

income payments subject to final

of Payees)

withholding taxes were paid or accrued

ACTIVITY/EVALUATION Problem 1

PASSIVE ROYALTIES

Dina Amon, a resident citizen, earned the following royalties from her intellectual works: Cook Books 45,000 Musical Compositions 80,000 Other Passive Royalties 120,000 How much is the withheld final tax of Dina?

Problem 2

PASSIVE ROYALTIES

Jack Amon, a resident alien, received the following royalties during the taxable year: Hairy Cutter Novel Books 450,000 Patents 120,000 Other Passive Royalties 224,000 How much is the final tax of Jack?

Problem 3 INTEREST INCOME Hannah Caiat, a non-resident citizen, was credited with the following interest income from her bank deposits: Banco de Oro (net of tax) 1,600 Bank of the Philippine Islands (gross of tax) 5,000 Metro Bank (net of tax) 8,000 Citi Bank (gross of tax) 9,600 How much is the final tax on interest income on bank deposits of Hannah?

Problem 4 DIVIDENDS Mary Ribook, received the following dividends in Philippine pesos, gross of tax. San Miguel Corporation 25,0 00 Apple Corporation 50,000 Ayala Land Corporation 30,000 Google Corporation 10,000 How much is the final tax from the said dividends?

Problem 5

PRIZES AND WINNINGS

Nash E. Mulan wants to experience placing a bet in the PCSO Ultra Lotto and tries to bet on the combination 06-19-23-39-41-50. Knowing the minimal chance of winning, he did not watch the telecast of the draw. Getting the newspapers on the next day, it revealed the following winning numbers 41-23-19-51-06-39. The prizes are as follows: 6 digits – P55,000,000, 5 digits – P300,000, 4 digits – P4,000 and 3 digits – P20. How much is the final tax of Nash?

Problem 6 PRIZES AND WINNINGS Nash, from the previous problem, was not satisfied of winning once and places again the same combination on the next draw of 6/58. Winning numbers were 06-56-47-41-50-23. How much is the final tax of Nash?

Problem 7

PRIZES AND WINNINGS

Nash, again from the previous problem, having been obsessed with lottery adapts the same combination as being his lucky numbers and places a bet on the Mexican Lottery. He won the jackpot prize of P960,000,000 during the draw. How much is the final tax of Nash?

Problem 8

PRIZES AND WINNINGS

Venti Lador, obtained the following winnings (gross of tax) during the taxable year. January 21 60,000 March 16 14,000 September 18 86,000 How much is the total final tax from the winnings?

Problem 9 TAX INFORMER’S REWARD L...