Chapter 13-A - Ordinary Allowable Itemized Deductions

• Itemized deductions


  Deductions that can be claimed individually by a taxpayer
• Items of deduction


  • Interest
  • Taxes
  • Losses
  • Bad debts
  • Depreciation
  • Depletion
  • Charitable and other contributions
  • Contributions to pension and trusts
  • Research and development costs
  • Other ordinary and necessary trade, business, or professional expenses
• Interest deduction


  • There should be a valid indebtedness
  • There must be legal liability to pay interest
  • The indebtedness must have been incurred in connection with the taxpayer's trade, profession or business
  • For interest incurred abroad, the indebtedness must have been actually incurred to provide funds for use in connection with the conduct or operation of trade or business in the Philippines
  • The deductible amount of interest shall be reduced by an amount equal 33% of interest income
• Non-deductible interest: Interest paid in advance through discount on indebtedness incurred by an individual taxpayer reporting income under the cash basis
• If the borrower is a corporation, pre-deducted interest could be claimed as deduction in the year of granting of the loan
• Non-deductible interest: Interest payments with related parties
• Non-deductible interest: If the indebtedness is incurred to finance petroleum operations
• Capitalization of interest


  At the option of the taxpayer, interest incurred to acquire property used in trade, business or profession may be allowed as a capital expenditure
• The capitalization of borrowing cost under PAS 23 is not followed for taxation purpose. The interest expense up to repayment of the debt may be capitalized
• Interest on preferred stock


  These are dividends; hence, not deductible on interest
• Interest on scrip dividends

  Since there is an evidence of indebtedness, these are deductible interest
• Taxes deductible


  • Generally, taxes paid or accrued within the taxable year in connection with the taxpayer's trade or business or exercise of a profession, are deductible from gross income
  • The deductible tax includes local taxes and some national taxes, however, the deductible tax component is the tax proper only
  • Interest on delinquent taxes are deductible from gross income but as "interest expense" not taxes
• No deduction is allowed for surcharges or penalties on delinquent taxes. Interest on tax delinquency is deductible as interest expense
• Requisites for taxes to be deductible

  • Must be paid or accrued within the taxable year
  • Must be incurred in connection with the taxpayer's trade, professional or business
• Non-deductible taxes


  • Philippine income tax, except fringe benefit tax
  • Estate or donor's tax
  • Special assessment
  • Income tax imposed by a foreign country if the taxpayer opted to claim them as deduction rather than as tax credit
  • Stock transaction tax
  • Value-added tax on business
• Tax credit for foreign income tax paid


  • Can be claimed only by those taxable on world income such as resident citizen and domestic corporations
  • Taxpayer has the option to claim the foreign income tax either as tax credit or deduction from income
• Limit of tax credit

  • 1st Limitation: Per Country Evaluation - whichever is lower of the actual amount of foreign tax paid and the amount which reflects the ratio which the gross income from the foreign country bears with the total world taxable income to the Philippine income tax
  • 2nd Limitation: Total Foreign Country Evaluation: whichever is lower of the aggregate lower values of the per-country evaluation and the amount which reflects the ratio of the taxable income from all foreign countries bears with the total world taxable income to the Philippine tax
• Rules on income taxes paid


  • Taxpayers taxable on world income: Foreign taxes paid are deductible/creditable, Philippine taxes paid are non-deductible
  • Taxpayers taxable on Philippine income only: Foreign income tax paid are non-deductible/non-creditable, Philippine taxes paid are deductible
• Refund of a deductible tax is taxable if it created a tax benefit in the year it is deducted
• Requisites for ordinary loss to be deductible

  • Loss must be actually sustained during the taxable year
  • Not compensated for by insurance or other forms of indemnity
  • It must be sustained in a close and completed transaction
  • The loss must be that of the taxpayer
  • The loss must be reported to the BIR within 45 days from the date of loss or discovery
  • Not claimed as a deduction in the estate tax return for individual income tax payer only
• Deductible losses

  • Loss incurred in trade, profession or business
  • Loss due to fire, storm, shipwreck or other casualty of property connected with trade, profession or business
  • Loss due to theft, robbery, or embezzlement if the property is connected with trade, profession or business
• Measure of the loss

  • Total Loss – book value of the property
  • Partial Loss – replacement cost of the damaged portion of the asset or the book value thereof at the time of loss, whichever is lower
• The asset must be written-off before a loss can be claimed as a deduction
• Abandonment losses


  • Petroleum operation – all accumulated exploration and development expenditures pertaining to partially or wholly abandoned of contract area shall be allowed as a deduction, provided notice of abandonment shall be filed with the Commissioner of Internal Revenue
  • Producing wells – the unamortized costs thereof, as well as the undepreciated costs of equipment directly used therein, shall be allowed as a deduction in the year such well, equipment or facility is abandoned by the contractor
• If the abandoned well is re-entered and production is resumed, or if such equipment is restored into use, the same cost claimed as deduction shall be reverted back into gross income subject to the income tax benefit rule
• Special cases for losses

  • If there is a pending proceeding in which the loss can be recovered, deduction for the loss is delayed until recovery becomes impossible
  • Loss of income – cannot be deducted unless the related income has already been included in gross income
  • Losses on sale or exchanges of property with related parties – not deductible
• Net Operating Loss Carry Over (NOLCO)

  Any excess of allowable deductions over gross income of a business in a taxable year immediately preceding the current taxable year shall be carried over as a deduction from gross income for the next consecutive taxable years immediately following the year of such loss provided there is no substantial change in the ownership of the business
• Capital loss

  Capital losses are deductible only to the extent of capital gains. But a net capital loss carry-over can be deducted in the following year it arose for non-corporate taxpayers
• Requisites for bad debts to be deductible

  • There must be valid and subsisting debt due to the taxpayer
  • It must be connected with the taxpayer's trade, profession or business
  • The debt is actually ascertained to be worthless
  • It must be charged-off within the taxable years
• Recovery of bad debts

  • Taxpayers under cash basis – Taxable but subject to Income Tax Benefit Rule
  • Taxpayers under accrual basis – Always taxable
• Non-deductible bad debts

  • Those incurred under cash basis of reporting gross income
  • Those sustained in a transaction entered into by related parties
  • For taxpayers not taxable on world income, those that represents loss of foreign income
• The rules on bad debts may be applicable to debt securities becoming worthless for dealers in securities only such as domestic banks and trusts companies whose major part of business are dealing with securities. For other taxpayers where such security is a capital asset, the rules on capital loss apply and are deductible subject to limit
• Receivables assigned without recourse

  Only the difference of amount paid and amount recovered is allowed as deduction
• Requisites for depreciation to be deductible

  • The property must be used in trade, profession or business
  • The property must have a limited useful life
  • The provision must be charged off during the taxable year
  • The provision must be reasonable
• Special option with depreciation for proprietary or private educational institution

  May either choose to: charged off as capital outlays of depreciable asset in the year of acquisition; or deduct allowance for depreciation
• Basis of depreciation

  • The fair market value at the time of acquisition
  • The taxpayer and the Commissioner of Internal Revenue shall agree in writing about the useful life and rate of depreciation. Such agreement shall be binding upon the taxpayer and the National Government in the absence of circumstances not taken into consideration during the adoption of the agreement
  • Any change in the agreed rate and useful life shall operate prospectively
  • In default of such agreement, the adoption of the taxpayer of useful life and depreciation rate for depreciable assets without the objection of the Commissioner or his duly authorized representative shall be considered binding
• Methods of depreciation

  • Straight line
  • Declining balance
  • Sum of the years
  • Other methods which may be prescribed by the Secretary of Finance upon recommendation of the Commissioner of Internal Revenue
• Depreciation for petroleum operation

  • The taxpayer may choose either declining-balance method or straight line method at the option of the contractor
  • Useful life of depreciable asset used in or related to the production of petroleum – 10 years or shorter as may be permitted by the Commissioner of Internal Revenue
  • Useful life of depreciable asset not used in or not related to the production of petroleum – 5 years under straight line method
• Depreciation for mining operations

  • For all properties used in mining operations, other than petroleum operation: 10 year useful life or less – At normal rate of depreciation; More than 10 years useful life – depreciated over any number of years between 5 and the expected life, provided the taxpayer notifies the CIR at the beginning of the deprecation period of the rate to be used
• Depletion (cost depletion)

  Available only for oil and gas wells and mines