Case Summary (G.R. No. 163653)
Cash Advances and Joint Venture Transaction
During 1996–1997, FDC extended interest-free advances totaling ₱2.557 billion (1996) and ₱3.361 billion (1997) to affiliates FAI, FLI, Davao Sugar Central Corp. (DSCC), Filinvest Capital, Inc. (FCI), evidenced only by internal letters, cash vouchers, and journal entries. On November 15, 1996, FDC entered a shareholders’ agreement with RHPL to form Singapore-based Filinvest Asia Corp. (FAC), subscribing ₱500.7 million of share capital by assigning project interests; FAI and RHPL subscribed ₱433.8 million. FDC reported a net loss of ₱190.7 million for 1996.
BIR Rulings and Assessments
– February 3, 1997: Ruling No. S-34-046-97 confirmed tax-free treatment of property-for-shares exchange under old NIRC Sec. 34(c)(2).
– July 30, 1998: Ruling No. 116-98 held inter-office memos not subject to documentary stamp tax.
– July 15, 1999: Ruling No. 108-99 reversed Ruling No. 116-98, treating inter-office memos as promissory-note equivalents.
– January 3, 2000: BIR issued Formal Notices of Demand assessing:
• Deficiency income tax (₱150.07 million) and documentary stamp tax (₱10.43 million) against FDC for 1996;
• Deficiency income tax (₱5.72 million) and documentary stamp tax (₱5.80 million) against FDC for 1997;
• Deficiency income tax (₱1,477.49 million) against FAI for 1997.
CTA Proceedings
FDC and FAI timely protested. When the CIR failed to resolve within 180 days, they petitioned the CTA under NIRC Sec. 228. In CTA Case No. 6182, CTA:
– Canceled all assessments except the deficiency income tax on imputed interest from the 1997 advances (₱5.691 million plus interest).
– Held property-for-shares gain tax-exempt since FDC+FAI controlled FLI post-exchange; joint venture gain unrealized absent sale; inter-office memos not promissory notes; but CIR could impute theoretical interest under Sec. 43.
CA Proceedings
– CA-G.R. SP No. 72992 (Special Fifth Division): Reversed CTA’s imputation of interest, annulled 1997 income-tax Assessment Notice on imputed interest.
– CA-G.R. SP No. 74510 (Fourteenth Division): Dismissed CIR’s appeal on other assessments, upholding tax-free exchange, exempting inter-office memos from DST (citing non-retroactivity of Ruling No. 108-99), and denying tax on FAC dilution gain.
Issues on Review
- Whether theoretical interest may be imputed on interest-free advances among related corporations under NIRC Sec. 43.
- Whether the property-for-shares exchange met the nonrecognition requirements of Sec. 34(c)(2).
- Whether inter-office memos and cash vouchers evidencing advances are subject to documentary stamp tax under Sec. 180.
- Whether dilution-based gain in FAC share value is taxable absent realization.
Supreme Court Ruling
G.R. No. 163653 (interest issue): Petition denied; CA’s reversal of interest imputation affirmed.
G.R. No. 167689 (other assessments): Petition partially granted; CA’s cancellation of income-tax assessments on exchange gain and FAC dilution gain upheld; CA’s annulment of DST assessments reversed—those remain valid.
Rationale
Imputed Interest under Sec. 43
– Sec. 43 authorizes allocation of gross income or deductions among controlled entities to reflect arm’s-length dealings.
– Gross income requires actual or probable receipt (“cash or equivalent”); no evidence FDC’s advances generated interest income.
– Advances sourced from rights offering and asset sales, not bank borrowings.
– Civil Code Article 1956 requires express written stipulation for interest; Sec. 43 cannot override this principle by implication.
– Tax statutes strictly construed; CIR may not impute theoretical interest without statutory or contractual basis.
Nonrecognition of Exchange Gain under Sec. 34(c)(2)
– Statutory conditions satisfied: FDC and FAI, together not exceeding four persons, transferred property to FLI and acquired over 51% control (61.03% + 9.96% = 70.99%).
– CIR’s focus on FDC’s individual dilution misreads the “together with others” provision.
– Combined control triggers tax-free treatment; CIR must recognize statutory
Case Syllabus (G.R. No. 163653)
Procedural History
- Two petitions for review on certiorari filed under Rule 45, 1997 Rules of Civil Procedure:
• G.R. No. 163653 (16 December 2003 CA decision in CA-G.R. SP No. 72992)
• G.R. No. 167689 (26 January 2005 CA decision in CA-G.R. SP No. 74510) - Originating CTA petition (CTA Case No. 6182) filed October 17, 2000 after BIR’s failure to resolve protests within 180 days
- CTA Decision dated 10 September 2002: partly granted petition, cancelled most assessments but upheld deficiency income tax on imputed interest
- CA Special Fifth Division (Dec. 16, 2003): reversed CTA’s imputed-interest assessment on FDC advances
- CA Fourteenth Division (Jan. 26, 2005): upheld CTA’s rulings on tax-free exchange and on unrealized gain, denied BIR DST claims based on inter-office memos
- Supreme Court consolidated both petitions by Third Division resolution (1 March 2006)
Facts
- Filinvest Development Corporation (FDC) is a holding company owning 80% of Filinvest Alabang, Inc. (FAI) and 67.42% of Filinvest Land, Inc. (FLI)
- On 29 November 1996, FDC and FAI conveyed parcels of land (appraised at ₱4.306 billion) to FLI in exchange for 463,094,301 new FLI shares
• Result – FDC held 61.03%, FAI 9.96%, Others 29.01% of FLI post-exchange - BIR Ruling No. S-34-046-97 (3 February 1997): exchange qualifies as tax-free under old NIRC Sec. 34(c)(2) (no gain recognized when transferors, alone or with ≤4 persons, gain control)
- FDC extended interest-free advances to affiliates (FAI, FLI, Davao Sugar Central Corp., Filinvest Capital Inc.):
• ₱2.557 billion in 1996; ₱3.361 billion in 1997, evidenced by letters, cash and journal vouchers - 15 November 1996 Shareholders’ Agreement between FDC and Reco Herrera PTE Ltd. (RHPL) established Filinvest Asia Corporation (FAC) in Singapore
• FDC subscribed ₱500.7 million; RHPL ₱433.8 million; FDC reported net loss of ₱190.695 million in 1996 - 3 January 2000: BIR issued Formal Notices of Demand for deficiency income a