Module-1 -Introduction-to-Transfer-Taxation accounting materials to read when you are bored. PDF

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Module No. 1 – Introduction to Transfer TaxationLearning Outcome/s:Understand the concept of transfer taxation and the different types of transfer taxesCore Values/Biblical Principles:Competency is defined as the quality or state of having sufficient knowledge, skill or strength. A lack of competenc...

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Module No. 1 – Introduction to Transfer Taxation

Learning Outcome/s: Understand the concept of transfer taxation and the different types of transfer taxes Core Values/Biblical Principles: Competency is defined as the quality or state of having sufficient knowledge, skill or strength. A lack of competency can cause problems within the work environment and can lead to poor quality work. This could lead to fatalities or rework which may cost the company money and possibly their reputation.

Transfers refer to any transmission of property from one person to another. TYPES OF TRANSFERS Bilateral Transfers Bilateral transfers involve transmission of property for a consideration. They are referred to as onerous transactions or exchanges. The realized gains on bilateral transfers or exchanges are subject to income taxation. Unilateral Transfers Unilateral transfers involve the transmission of property by a person without consideration. They are commonly referred to as gratuitous transactions. The right of privilege to transfer properties is subject to “transfer taxes”. Types of Unilateral Transfers 1.

Donation – is the gratuitous transfer of property from living donor to a done. Since it is made between living persons, it is called donation inter-vivos.

2.

Succession – is the gratuitous transfer of property from a deceased person upon death to his heirs. It is a form of donation effected by death; hence, it is called donation mortis causa.

Complex transfers Complex transfers are transfers for less than full and adequate consideration. These are sales made at prices which are significantly lower than the fair value of the property sold.

The transfer portion representing a gratuity is an indirect donation subject to transfer tax. The onerous portion representing a realized gain is subject to income tax. Illustration: A property with a fair value of P40,000 and tax basis of P25,000 was sold for P30,000. Fair market value

P40,000 P10,000 – transfer element

Selling price

30,000 P5,000 – exchange element

Cost or tax basis

25,000

The transfer element (gratuity) is classified as either mortis causa or inter-vivos depending on the intent of the indirect donation.

TYPES OF TRANSFER TAXES 1. Donor’s Tax – imposed on donation inter-vivos 2. Estate tax – imposed on donation mortis causa

RATIONALE OF TRANSFER TAXATION 1. Tax evasion or minimization theory – exchanges may be structured in such a way to defeat income taxation especially when the seller and the buyer are related taxpayers. 2. Tax recoupment theory – even without a deliberate intent to evade income tax, transfers have a natural effect of decreasing future income tax collections of the government. 3. Benefit received theory – when a person transfers property by donation or succession, the government is a party in the orderly transfer of the property to the done or heir. Exercising this special privilege to transfer property is a benefit to the transferor. 4. State partnership theory – the state ensures a civilized and orderly society where commercial undertaking and wealth accumulation flourish. The government therefore is an indirect partner behind all forms of wealth accumulation by any person within the state.

5. Wealth redistribution theory – taxation is a common tool in redistributing wealth to society. When one transfers his wealth, the transfer should be taxed so that part of the wealth will be redistributed to benefit society. 6. Ability to pay theory - the ability to transfer property is an indication of an ability to pay tax.

NATURE OF TRANSFER TAXES 1. 2. 3. 4. 5. 6.

Privilege Tax Ad valorem Proportional Tax National Tax Direct Tax Fiscal Tax

CLASSIFICATION OF TRANSFER TAXPAYERS 1. Resident or Citizens a. Resident citizen b. Resident alien c. Non-resident citizen 2. Non-resident aliens For purposes of donor's tax, juridical persons such as corporations and partnerships which donate properties are classified as citizens or aliens and residents or non-residents depending on their place of incorporation or operations. General rule in Transfer Taxation 1. Residents or citizens are subject to tax on all transfers of properties regardless of their location. 2. Non-resident aliens are taxable only on properties transferred which are located in the Philippines at the date of transfer. Situs of Properties The following properties are considered located in the Philippines: 1. Franchise exercisable in the Philippines 2. Shares, obligations, or bonds issued by any corporation or sociedad anonima organized or constituted in the Philippines in accordance with its laws 3. Shares, obligations, or bonds issued by any foreign corporation 85% of the business of which is located in the Philippines

4. Shares, obligations, or bonds issued by any foreign corporation if such shares, obligations, or bonds have acquired business situs in the Philippines 5. Shares, rights in any partnership, business or industry established in the Philippines 6. Any personal property, whether tangible or intangible, located in the Philippines Reciprocity rule on non-resident aliens The intangible personal properties of non-resident aliens are exempt from Philippine transfer tax provided that the country in which such alien is a citizen also exempts the intangible personal properties of Filipino non-residents therein from transfer taxes. Examples of Intangible Properties: 1. Financial assets a. Cash b. Receivables or credit c. Investment in bonds d. Shares of stock of a corporation e. Interest in a partnership

2. Accounting intangible assets a. Patent b. Franchise c. Leasehold right d. Copyright e. Trademark

Timing of Valuation of Transfers 1. Donation inter-vivos are valued at the date of completion or perfection of the donation 2. Donation mortis causa are valued at the date of death NON-TAXABLE TRANSFERS 1. Void transfers - those that are prohibited by law or those that do not conform to legal requirements for their validity. Examples: 1. Transfer of property not owned 2. Donation between spouse 3. Donations which do not manifest all essential requisites to validity such as donations refused by the donee. 4. Donations that do not conform to formal requirements such as oral donation of real properties.

Illustration 1 Tired of feeding Zeus’ derby roosters, Raymund donated them to Andrix, his best friend tupada master. Since Raymund does not have ownership over the thing donated, the donation is void. There is no valid donation to speak of; hence, no transfer tax is imposable. Illustration 2 In an overnight drinking spree, Zeus orally donated his seven-hectare agricultural land to Raymund. Oral donation of real property is legally void. There is no imposable transfer tax since there is no donation to be taxed. Quasi-transfers There are transmissions of property which do not involve transfer of ownership. For the purpose of our discussion, let us refer to these transmissions as “quasi-transfers”. Quasi-transfers are not subject to transfer taxes Examples: 1. Transmission of property by a person with a right of usufruct over the property to the owners of the naked title. 2. Transmission of property by a trustee to the real owner. 3. Transmission of property from the first heir to a second heir in accordance with the desire of a predecessor. The transmission of the property from B, a mere trustee-heir, to C, the real heir, shall not be subject to transfer tax since there is no transmission of legal ownership over the property. Note: If the usufruct in the first illustration and the fiduciary relationship in the second illustration is pre-terminated by the death of the usufructuary or fiduciary heir, the transfer of the property to the real owner is likewise not subject to estate tax for the same reason - no transfer of ownership.

Incomplete Transfers Incomplete transfers involve the transmission or delivery of properties from one person to another but ownership is not transferred at the point of delivery. The actual transfer of ownership will take effect in the future upon the happening of certain future events or conditions. Initially, incomplete transfers are not subject to transfer taxes upon delivery but they are subject to transfer tax in the future when the transfer is completed upon the happening of the event or upon fulfillment of the specified condition. Types of incomplete transfers: 1. Conditional transfers 2. Revocable transfers 3. Transfer in contemplation of death 4. Transfers with reservation of title to property until death Timing of taxation of transfers Donations are taxable only once they are completed and perfected. Incomplete transfers may be completed inter-vivos or mortis causa. Note that donation mortis causa are perfected at the point of death while donations inter-vivos are normally completed upon delivery of the property and are perfected upon acceptance by the donee. How incomplete transfers are completed? 1. Conditional transfers are completed inter-vivos upon the happening of the following during the lifetime of the donor: a. fulfillment of the condition by the transferee or b. waiver of the same by the transferor 2. Revocable transfers are completed inter-vivos upon: a. waiver by the transferor to exercise his right of revocation or b. the lapse of his reserved right to revoke 3. Transfers in contemplation of death and transfers with reservation of title to property until death are completed by the death of the decedent. Timing of Taxation of Incomplete Transfers Revocable and conditional transfers that are completed during the lifetime of the transferor constitute donation inter-vivos subject to donor’s tax at the fair value of the property at the date of their completion or perfection. Revocable transfers and conditional transfers that are pre-terminated by the death of the transferor shall be subject to estate tax at the point of death of the transferor.

COMPLEX INCOMPLETE TRANSFERS Incomplete transfers are sometimes made for less than full and adequate consideration. Similar to complex transfers, the gratuity component of the complex transfers is determined and is subject to the appropriate type of transfer tax. Valuation Rules: Complex Incomplete Transfers 1. Donation inter-vivos = fair value at the date of completion of transfer less the consideration given 2. Donation mortis causa = fair value at the date of death less consideration given at the date of transfer Test of Taxability of Incomplete Complex Transfers The following must be established before a complex incomplete is taxable: 1. The incomplete transfer must have been paid for less than full and adequate consideration at the date of delivery of the property. 2. The property must not have a decrease in value less than the consideration paid at the completion of the transfer.

THE CONCEPT OF SUCCESSION & ESTATE TAX Succession is a mode of acquisition by virtue of which the property, rights and obligations to the extent of the value of the inheritance of a person are transmitted through his death to another or others either by his will or by operation of law. Types of Succession 1. Testamentary Succession - which results from the designation of an heir, made in a will executed in the form prescribed by law. A person can specify the recipient of his properties upon death. This designation must be made through a written document called “last will and testament”. The person who died with a will is said to be “testate”. 2. Intestate Succession - when a decedent dies without a will or with an invalid one, the distribution of the estate shall be in accordance with the default provision of the Civil Code on succession. 3. Mixed Succession - transmission of the decedent properties shall be partly by virtue of a written will and partly by operation of law. Will is an act whereby a person is permitted, with the formalities prescribed by law, to control to a certain degree the disposition of his estate, to take effect after his death.

The making of a will is a strictly personal act; it cannot be left in whole or in part to the discretion of the third person, or accomplished through the instrumentality of an agent or attorney. Types of Will 1. Holographic will - entirely written, dated, and signed by the hand of the testator himself 2. Notarial will - a notarized will signed by the decedent and witnesses 3. Codicil - a supplement or addition to a will, made after the execution of a will and annexed to be taken as a part thereof, by which disposition made in the original will is explained, added to, or altered. Succession involves only the net properties of the decedent. The heirs will inherit what remains of the decedent property after satisfying the decedent’s indebtedness and obligations including the estate tax. Elements of Succession 1. Decedent - general term applied to person whose property is transmitted through succession 2. Estate - property, rights and obligations of the decedent not extinguished by his death. Also referred to as the “inheritance” of the decedent. 3. Heirs - a person called to the succession either by the provision of a will or by operation of law. Legitime is the part of the testator’s property which he cannot dispose of because the law has reserved it for certain heirs who are, therefore, called compulsory heirs. Types of Compulsory Heirs 1. Primary heirs: Legitimate children and their direct descendants 2. Secondary heirs: Legitimate/illegitimate parents and ascendants 3. Concurring heirs: The surviving spouse and illegitimate descendants Definition of terms 1. Legitimate children are those born out of a legal marriage 2. Direct descendants refer to children or in their absence, grandchildren 3. Legitimate parents refer to biological parents 4. Illegitimate parents are adopting parents to an adopted child 5. Surviving spouse is the widow or widower of the decedent 6. Illegitimate descendants are illegitimate children

Normally, only the primary heirs and concurring heirs share in the hereditary estate. In the absence of primary heirs, the secondary heirs and concurring heirs shall share in the hereditary estate.

In testamentary disposition, the decedent can name a person as an heir whether related or not to him as long as he does not violate his legitime. In intestate disposition, the heirs shall be determined based on the provision of the Civil Code. Other persons in succession 1. Legatee - a person whom gifts of personal property is given by virtue of a will 2. Devisee - a person whom gifts of real property is given by virtue of a will 3. Executors - a person named by the decedent who shall carry out the provisions of his will 4. Administrators - a person appointed by the court to manage the distribution of the estate of the decedent ESTATE TAXATION Estate taxation pertains to the taxation of the gratuitous transfer of properties of the decedent to the heirs upon his death. Estate taxation is governed by the law in force at the time of the decedent’s death and the accrual of the tax is distinct from the obligation to pay the same. Upon the death of the decedent, succession takes place and the right of the State to tax the privilege to transmit the estate vests instantly upon death. NATURE OF EXCISE TAX 1. Excise tax - estate tax is not a tax on the property but on the privilege to transfer property through death 2. Revenue or general tax - estate tax is intended as a revenue or fiscal measure 3. Ad valorem tax - estate tax is dependent upon the value of the estate 4. National tax - estate tax is imposed by the national government 5. Progressive tax - estate tax is determined based on a tax table of progressive rates Classifications of Decedents for Taxation Purposes 1. Resident or Citizen Decedents - taxable on properties located within or outside the Philippines 2. Non-resident Alien Decedents - taxable only on properties located in the Philippines, except intangible personal property when the reciprocity rule applies THE ESTATE TAX MODEL Gross Estate Less: Deductions from gross estate Net taxable estate

P P

xxx,xxx xxx,xxx xxx,xxx

Gross estate pertains to the totality of the properties owned by the decedent at the point of his death.

There are two concepts to be discussed under gross estate: a. Exclusions in gross estate - those properties or transfers excluded by law from excise taxation b. Inclusions in gross estate - those properties which are to be included as part of the taxable gross estate

Deductions generally pertain to reduction in the inheritance of the heirs such as expenses of the death, obligations of the decedent, losses of property since the decedent’s death but they also includes exemptions from the estate tax under the law. Net taxable estate is the net properties of the decedent after all pertinent deductions allowable by law. This is the amount subject to estate tax. Note that the next taxable estate is not equivalent to the hereditary estate before estate tax because of exclusions or exemptions rules and deductions limits imposed by law....