Commissioner of Internal Revenue vs. Japan Air Lines, Inc.

Proceeds from sales of international airline tickets in the Philippines through a local agent are income from sources within the Philippines, and a foreign airline making such continuous sales is a resident foreign corporation engaged in trade or business and taxable on its total net income.

Respondent Japan Air Lines, Inc. is a foreign corporation engaged in international air carriage. From 1959 to 1963, JAL did not have planes that lifted or landed passengers and cargo in the Philippines because it had not been granted by the Civil Aeronautics Board a certificate of public convenience and necessity to operate here. Since mid-July, 1957, however, JAL had maintained an office at the Filipinas Hotel, Roxas Boulevard, Manila, which did not sell tickets but was maintained merely for promotion of public relations and to hand out brochures, literature and other information on Japan as a tourist spot and services in JAL planes.

On July 17, 1957, JAL constituted Philippine Air Lines as its general sales agent in the Philippines. As agent, PAL sold for and in behalf of JAL plane tickets and reservations for cargo spaces which were used by passengers or customers on the facilities of JAL. Thereafter, on June 2, 1972, JAL received deficiency income tax assessment notices and a demand letter from the Commissioner, all dated February 28, 1972, for a total amount of P2,099,687.52 inclusive of 50% surcharge and interest for years 1959 through 1963, plus P1,500.00 compromise penalty for violation of bookkeeping regulations. The net income per investigation was P472,025.16 for 1959, P476,671.48 for 1960, P734,812.77 for 1961, P1,065,641.63 for 1962, and P1,550,230.48 for 1963.

Because of the assessments, JAL protested on June 19, 1972 alleging that as a non-resident foreign corporation it was taxable only on income from Philippine sources as determined under Section 37 of the Tax Code and there was no such income during the period, so it was not liable. The Commissioner resolved otherwise and in a letter-decision dated December 21, 1972 denied JAL's request for cancellation of the assessment. JAL therefore elevated the case to the CTA, which reversed the Commissioner and thereafter denied the Commissioner's motion for reconsideration, leading to the present petition.

• Residence and Source: Respondent countered that as a non-resident foreign corporation, it was taxable only on income from Philippine sources as determined under Section 37 of the Tax Code, and there being no such income during the period in question, it was not liable for the deficiency income tax liabilities assessed.

• Source of Income: Whether proceeds from sales of Japan Air Lines tickets sold in the Philippines are taxable as income from sources within the Philippines.
• Trade or Business: Whether Japan Air Lines is a foreign corporation engaged in trade or business in the Philippines.
• Fraud Surcharge: Whether the 50% surcharge for willful neglect or fraud was properly imposed on JAL.
• Deficiency Interest: Whether 1/2% interest per month on the deficiency was properly imposed.
• Compromise Penalty: Whether the P1,500.00 compromise penalty for violation of bookkeeping regulations was properly imposed.
• Res Judicata: Whether the dismissal in JAL vs. Commissioner of Internal Revenue, G.R. No. L-30041, is res judicata to the present case.

• Source of Income: Yes. Ticket sales in the Philippines produce Philippine-source income because the sale activity, payment situs, and flow of wealth occurred within Philippine territory.
• Trade or Business: Yes. JAL is a resident foreign corporation engaged in trade or business, having appointed PAL as local agent and continuously sold tickets, the lifeblood of the airline business.
• Fraud Surcharge: No. The 50% fraud surcharge was improper for lack of proof of willful neglect or intentional fraud, so only the 25% surcharge applies.
• Deficiency Interest: Yes. The 6% per annum, or 1/2% per month, deficiency interest for a maximum of three years under Section 51(d) was correctly computed.
• Compromise Penalty: No. The P1,500.00 compromise penalty was improperly imposed without specification of the regulation violated and without basis in the bookkeeping regulations.
• Res Judicata: No. G.R. No. L-30041 concerned common carrier's tax, an excise tax, while the present case concerns income tax, a direct tax, so there is no identity of subject matter.

• Source of Income: The SC applied Section 29(3) on gross income from any source whatever and the rule that the source is the property, activity or service that produced the income. In JAL's case, the sale of tickets in the Philippines through PAL is the activity that produces the income, tickets exchanged hands here, payments were made here in Philippine currency, and the flow of wealth proceeded from and occurred within Philippine territory enjoying government protection. Section 37(a) does not render ticket sales less Philippine-source income because its enumeration is not exclusive and merely directs listed types to be treated as within-source income, following British Traders Insurance Co., Ltd. vs. Commissioner of Internal Revenue. The absence of flight operations is not determinative, following Commissioner of Internal Revenue vs. British Overseas Airways Corporation, Commissioner of Internal Revenue vs. Air India, and Commissioner of Internal Revenue vs. American Airlines, Inc.
• Trade or Business: The SC applied Section 20(h) and (i) of the 1977 Tax Code and Section 84(g) of the 1939 Code defining resident foreign corporation as one engaged in trade or business within the Philippines or having an office or place of business therein. There is no specific criterion for doing business and each case is judged on its circumstances, requiring continuity of commercial dealings and performance of acts normally incident to commercial gain, such as appointment of a local agent, following The Mentholatum Co., Inc. vs. Mangaliman and Pacific Micronesian Line, Inc. vs. Del Rosario. There being no dispute JAL constituted PAL as local agent to sell airline tickets, the generation of sales being the paramount objective and lifeblood of the airline business, JAL is a resident foreign corporation doing business in the Philippines and taxable at 30% on total net income exceeding P100,000 under Section 24 of Commonwealth Act No. 466.
• Fraud Surcharge: The SC applied Section 72 of the National Internal Revenue Code imposing 50% surcharge only on a delinquent taxpayer who willfully neglects to file the required return or willfully files a false or fraudulent return, with 25% if failure is not due to willful neglect. Nowhere in the records was it shown JAL deliberately failed to file returns for the covered years, and petitioner merely cited the provision without explaining applicability or proving willful neglect or fraudulent intent. Fraud must be actual, intentional deception to induce giving up a legal right and cannot be presumed, and negligence is not equivalent, following CIR vs. Air India and Aznar vs. Court of Tax Appeals. JAL believed in good faith it had no taxable income, so fraud is lacking and at most negligence may be imputed, warranting only 25% surcharge.
• Deficiency Interest: The SC applied Section 51(d) of the Tax Code then in force providing interest on deficiency assessed at the same time as deficiency at 6% per annum from date prescribed for payment, with maximum corresponding to three years. The 6% per annum is the same as 1/2% per month, and petitioner correctly computed such interest equivalent to three years, the maximum set by law.
• Compromise Penalty: The SC found the P1,500.00 compromise penalty for violation of bookkeeping regulations without support because the particular provision allegedly violated was not even specified. The term compromise penalty itself is not found among penal provisions of the Bookkeeping Regulations, Revenue Regulations No. V-1, as amended.
• Res Judicata: The SC held the dismissal of JAL vs. Commissioner of Internal Revenue, G.R. No. L-30041, on February 3, 1969 is not res judicata because the Tax Court there ruled mere sale of tickets unaccompanied by physical carriage does not subject taxpayer to common carrier's tax. Common carrier's tax is an excise tax on transporting, conveying or removing passengers and cargo, leviable only when acts are done within Philippine jurisdiction. The present case concerns income tax, a direct tax on income of whatever kind and in whatever form derived from any source, so the two cases treat different subject matter.

• Source of income — Source is the property, activity or service that produced the income; for income to be from the Philippines it suffices that it is derived from activity within the Philippines. The SC applied it to hold ticket sales here, with exchange of tickets and payment in Philippine currency, are Philippine-source income despite absence of flights.
• Exclusiveness of Section 37 enumeration — Section 37(a) listing interest, dividends, service, rentals and royalties, sale of real property, and sale of personal property as within-source income is not exclusive. The SC applied it to hold unlisted income like ticket sales may still be Philippine-source income.
• Resident vs. non-resident foreign corporation — Under Section 20, resident foreign corporation means engaged in trade or business within the Philippines or having an office or place of business therein; non-resident means neither engaged nor having office. The SC applied it to classify JAL as resident because it maintained an office and sold through PAL.
• Doing business test — There is no specific criterion; each case turns on continuity of commercial dealings and performance of acts normally incident to commercial gain, including appointment of a local agent, not temporary conduct. The SC applied it to find continuity through PAL ticket sales, the lifeblood of airline business.
• BOAC doctrine — Foreign airlines selling tickets in the Philippines through local agents, whether called liaison offices, agencies or branches, are resident foreign corporations engaged in trade or business, and revenue therefrom is taxable income regardless of absence of flight operations. The SC adopted it en toto from Commissioner of Internal Revenue vs. British Overseas Airways Corporation, Commissioner of Internal Revenue vs. Air India, and Commissioner of Internal Revenue vs. American Airlines, Inc.
• Fraud surcharge vs. negligence — 50% surcharge requires willful neglect to file or willful false or fraudulent return; 25% applies if failure is not willful; fraud must be intentional wrongdoing to evade tax and cannot be presumed, while slight or gross negligence is not equivalent. The SC applied it to reduce JAL's surcharge to 25% for good-faith belief and mere negligence.
• Deficiency interest — Interest on deficiency is assessed with deficiency at 6% per annum, equivalent to 1/2% per month, capped at three years. The SC sustained the three-year computation under Section 51(d).
• Excise tax vs. income tax — Common carrier's tax is an excise tax on the business of transportation, while income tax is a direct tax on flow of wealth from any source. The SC applied the distinction to reject res judicata based on the prior common carrier's tax case.

• "The source of an income is the property, activity or service that produced the income." — States the controlling source test the SC used to locate ticket-sale income in the Philippines.
• "The absence of flight operations to and from the Philippines is not determinative of the source of income or the situs of income taxation." — Rejects JAL's defense that lack of CAB authority and flights negates taxability.
• "There is no specific criterion as to what constitutes doing' orengaging in' or `transacting' business." — Introduces the case-by-case continuity test the SC used to find JAL doing business through PAL.
• "Negligence, whether slight or gross, is not equivalent to the fraud with intent to evade the tax contemplated by the law." — States the canonical limit on fraud penalty that reduced JAL's surcharge from 50% to 25%.

• Commissioner of Internal Revenue vs. British Overseas Airways Corporation, G.R. No. L-65773-74, April 30, 1987, 149 SCRA 395 — Controlling landmark precedent adopted en toto on source of ticket-sale income and resident status.
• Commissioner of Internal Revenue vs. Air India, G.R. No. L-72443, January 29, 1988, 157 SCRA 648 — Followed on taxability of ticket sales through PAL and on 50% vs. 25% surcharge rule.
• Commissioner of Internal Revenue vs. American Airlines, Inc., G.R. No. 67938, December 19, 1989, 180 SCRA 274 — Followed on sufficiency of in-country activity and on local-agent sales showing continuity of business.
• British Traders Insurance Co., Ltd. vs. Commissioner of Internal Revenue, 13 SCRA 719 [1965] — Followed to hold Section 37 enumeration is not all-inclusive.
• Howden & Co., Ltd. vs. Collector of Internal Revenue, 13 SCRA 601 [1965] — Followed for test that taxability turns on source activity which produced income.
• Manila Gas Corporation vs. Collector of Internal Revenue, 62 Phil. 895 [1935] — Followed for meaning of source as origin of income.
• The Mentholatum Co., Inc. vs. Mangaliman, 72 Phil. 524 (1941) — Followed for definition of doing or engaging in business as continuity of commercial dealings.
• Aznar vs. Court of Tax Appeals, G.R. No. L-20569, August 23, 1974, 58 SCRA 519 — Followed for rule that fraud requires intentional wrongdoing to evade tax.

• Section 29(3), Tax Code — Defines gross income broadly to include income derived from any source whatever; applied to include proceeds from sales of transport documents as taxable income.
• Section 37(a), Tax Code — Enumerates items of gross income from sources within the Philippines; applied as non-exclusive, so ticket sales not listed may still be within-source income.
• Section 20(h) and (i), 1977 Tax Code; Section 84(g), National Internal Revenue Code of 1939 — Define resident foreign corporation as engaged in trade or business or having office in the Philippines, and non-resident as neither; applied to classify JAL as resident.
• Section 24, Commonwealth Act No. 466 (National Internal Revenue Code of 1939) — Taxes resident foreign corporations 30% upon total net income exceeding P100,000; applied as correct tax base for 1959-1963 instead of unspecified rate used in assessment.
• Section 72, National Internal Revenue Code of 1939 — Imposes 50% surcharge for willful neglect or fraudulent return and 25% if failure not willful; applied to impose only 25% for JAL's negligent but non-fraudulent failure.
• Section 51(d), Tax Code — Imposes 6% per annum deficiency interest capped at three years; applied to sustain 1/2% per month interest for three years as part of tax.