Commissioner of Internal Revenue vs. Ludo and Luym Corporation

D ECISI O N

CASTANEDA, JR., J.:

This Petition for Review filed by petitioner Commissioner of Internal Revenue, seeks to reconsider and modify the Court of Tax Appeals (CT A) 3 rd Division's Decision dated August 8, 2016 1 and Resolution dated November 10, 2016,2 respectively.

For easy reference, the dispositive portion of the assailed Decision dated August 8, 2016 reads: rz-

"WHEREFORE, premises considered, the instant

Petition

for

Review

is hereby GRANTED.

Audit

Result/Assessment Notice under Assessment No. VT-123-LA 707 4-07-13-07 issued by respondent against petitioner for deficiency VAT for CY 2007 and Audit Result/ Assessment Notice under Assessment No. IT-123-LA 7074-07-13-06 issued by respondent against petitioner for deficiency income tax for CY 2007 are hereby CANCELLED and WITHDRAWN.

THE FACTS

The following are the facts as found by the CT A 3 rd Division: "On July 1, 2008, the Large Taxpayers District Office - Cebu ('LTDO'), Cebu Office of the BIR issued Letter of Authority No. 00007074 for the examination of petitioner's [now respondent] books of accounts for CY 2007 covering all internal revenue taxes, which petitioner received on July 16, 2008.

On September 23, 2010, petitioner received a letter from the Large Taxpayer Service ('LTS') dated September 22, 2010, informing the former of the results of the investigation, and inviting petitioner to an informal conference on September 29, 2010. On March 16, 2011, the L TS issued a Preliminary Assessment Notice ('PAN') informing petitioner of its assessment for deficiency income tax, VAT, and expanded withholding tax ('EWT') for CY 2007 in the aggregate amount ofPhp194,543,838.71. Under the PAN, petitioner was given a period of fifteen ( 15) days within which to reply. Petitioner received the PAN on March 17, 2011. rr-

On April 1l, 2011, the L TS issued a Final Assessment Notice ('FAN') informing petitioner of its assessment for deficiency income tax, VAT, and EWT for CY 2007 in the aggregate amount of Php195,542,828.83, which petitioner received on even date. Under the FAN, respondent found the following discrepancies:

Income Tax

a) Additional Gross Income [Php]22,333.52 for purchases from POM' s Ventures b) Alleged fictitious expenses arising from alleged bank overdrafts or negative balance in the amount of [Php] 154,964,207.83 which it added to the taxable income of petitioner for CY 2007 c) Disallowance of Interest Expense in the amount of [Php ]223, 794,203.46 d) Disallowed Bad Debts in the amount of [Php]2,665,255.75 e) Disallowed Miscellaneous Expense in the amount of [Php ]2, 104,216.7 4 f) Disallowed Other Expenses not subject to Expanded Withholding Tax in the amount of[Php]167,609,715.92 g) CWT Disallowance in the amount of [Php ]762.64 h) Compromise Penalty for failure to submit audited financial statement

Value-Added Tax

i) Additional

Taxable

Sales

m the amount of [Php] 1 ,540,088l.OO] j) Disallowance on Input - expenses with no corresponding documents ([Php] 18,848,21 0.95)

Withholding Tax - Expanded

k) Deficiency Expanded Withholding Tax [Php]5,290,293.41. On December 21, 2011, L TS issued a Final Decision on Disputed Assessment ( 'FDDA') stating that it has reconsidered the assessment against petitioner. Petitioner received the FDDA on January 3, 2012. The FDDA stated:

Income Tax

a) Additional Gross Income [Php]22,333.52 for purchases from POM' s Ventures ~ b) Alleged fictitious expenses ansmg from alleged bank overdrafts in the amount of [Php]80,425,042.37 which it added to the taxable income of petitioner for [CY] 2007 c) Disallowance of Interest Expense in the amount of [Php ]223, 794,203.46 d) Disallowed Bad Debts in the amount of [Php]2,665,255.76 e) Disallowed Miscellaneous Expense in the amount of [Php ]982, 771.79 f) Additional Gross Income on Unrecorded Purchases in the amount of [Php]l80,250.45 g) CWT Disallowance in the amount of [Php ]762.64 h) Compromise Penalty for failure to submit audited financial statement

Value-Added Tax

i) Additional

Taxable

Sales

m the amount of [Php] 1 ,540,088[.00] j) Disallowance on Input Tax allegedly claimed on fictitious expenses ([Php] 154,964,207.83 and Miscellaneous Expenses ([Php ]2, 1 04,216.74).

On January 30, 2012, petitioner filed with the Commissioner of Internal Revenue ('CIR') a motion for reconsideration against the FDDA.

On February 1, 2012 and February 23, 2012, petitioner filed a Supplement to the Motion for Reconsideration and a Second Supplement to the Motion for Reconsideration, respectively. On January 2 9, 2013, petitioner received the letter issued by the CIR (the 'CIR's Decision') with attached Audit Result/ Assessment Notice under Assessment Nos. IT-123-LA 7074-07-13-06 and VT- 123-LA 7074-07-13-07. The CIR's Decision denied petitioner's motion for reconsideration. The CIR found that the tax liability of petitioner is, as follows:

Tax Type

I.

Income Tax

II.

VAT

Total

Basic Tax

Php 12,134,027.21 II, 196,276.32 Php 23,330,303.53

Increment

Php 17,702,382.17 16,831,224.16 Php 34,533,606.33

Total

Php 29,836,409.38 28,027,500.48 Php 57,863,909.86 Within thirty (30) days from receipt of the CIR's Decision, or on February 27, 2013, petitioner filed the instant Petition for Review. Jc_

On June 11, 2013, respondent filed his Answer interposing his Special and Affirmative Defenses.

Respondent [now petitioner] and petitioner [now respondent] filed their Pre-Trial Briefs on January 13, 2014 and February 14, 2014, respectively. On March 17, 2014, the parties filed their Joint Stipulation of Facts and Issues (' JSFI'). Accordingly, a Pre-Trial Order was issued by this Court on March 24, 2014. On June 26, 2014, petitioner filed its Formal Offer of Evidence ('FOE') XXX.

On April 6, 2015, respondent filed his FOE xxx. In a Resolution promulgated on June 30, 2015, the Court admitted all respondent's exhibits.

In compliance with this Court's Resolution dated June 30, 2015, which ordered the parties to file their respective memoranda within thirty (30) days from receipt thereof, petitioner filed its Memorandum on September 3, 2015. Respondent, on the other hand, filed a Manifestation on September 10, 2015 stating that he will be adopting his arguments raised in his Answer dated June 11, 2013 as his memorandum.

On September 15, 2015, this Court promulgated a Resolution submitting the case for decision; hence, this Decision." On August 8, 2016 and November 10, 2016, the CTA 3rd Division promulgated the assailed Decision and Resolution, respectively. In the assailed Decision, the Court in Division affirmed petitioner's assessments, as follows: ( 1) fictitious expenses arising from bank overdrafts with Eastwest Banking Corporation and International Exchange Bank; (2) disallowed bad debts; and (3) disallowed miscellaneous expense. However, the Court in Division cancelled the assessments in relation to: ( 1) disallowance of interest expense; (2) additional gross income on unrecorded purchases. Further, it held that petitioner's VAT assessment had already prescribed.

On December 15, 2016, petitioner filed the instant Petition for Review. On March 15, 2017, the Court required the parties to submit their memoranda. On April 20, 2017, respondent filed its Memorandum5 through,_-

registered mail. On the other hand, petitioner failed to file his Memorandum.6 On July 19, 2017, the case was submitted for decision. Hence, this Decision.

THE ISSUES

The issues to be resolved by this Court are: (¹) Whether respondent is liable for deficiency income tax and Value-Added Tax for taxable year 2007 in the total amount of P57,863,909.86; and (²) Whether the VAT assessment is already barred by prescription.

THE RULING

The Court En Bane denies the Petition.

Alleged fictitious expenses ansmg from bank overdrafts As discussed in the assailed Decision, 7 petitioner added to taxable income per investigation as fictitious expenses pursuant to Revenue Audit Memorandum Order (RAMO) No. 01-00, the following bank accounts with negative balances:

Ch ina bank r-----LB p r----- ·twest

Eas

r---- iB a f------ nk Tot al

L__ _ _

P(³ 05,5 87.3 6) (11,775,609.37) (39,713,919.87) (28,629 ,925. 77) P(80,425,042.37) On the other hand, respondent argues that the assessment is based on mere analysis, allegations, and assumptions. It also asserts that the negative balances resulted from non-posting or erroneous posting of deposits and fund transfers in its books.

•

Chinabank

As explained in the assailed Decision, respondent submitted bank reconciliation with supporting documents8 to prove that the bank overdraft was a result of non-posting of transactions in its books. Further, it submitted a bank statement showing a zero ending balance as of January 13, 2006. fo-

However, the Court in Division was not convinced that the bank statement showing zero ending balance of the account proved the closure of the said account.

The Court in Division explained that based on respondent's trial balance, there was no transaction in either of the two Chinabank accounts for CY 2007 and the net negative amount of P305,587.36 was the carried over balance from the end of CY 2006.

The trial balance of respondent, from which petitiOner based its audit/assessment, corroborates the zero ending balance of the account. Thus, the Court in Division ruled that there was no bank overdraft. •

Land Bank of the Philippines

Respondent presented a bank statement9 for the period covering November 30, 2007 to December 31, 2007, which showed an ending balance of P166,230.78. Thus, the Court in Division ruled that there was no bank overdraft.

•

EastWest Bank

Based on the Court-commissioned Independent CPA (ICPA)

findings 10, respondent's account with EastWest Bank has a positive balance ofP7,831,550.01 (US$ 144,524.25) as ofDecember 31,2007. However, the Court in Division noted that the documents submitted by and used the by the ICP A were not pre-marked or offered as evidence. Thus, they were not admitted by the Court as forming part of the records of the case.

11 For failure to substantiate the positive balance in its account with EastWest Bank, respondent likewise failed to disprove petitioner's disallowance of fictitious expense.

• iBank Respondent asserts that its iBank accounts were closed in 2006, as shown in its Bank Statements and Bank Certifications12 issued by iBank (now Union Bank of the Philippines). ~

However, the Court in Division found that the documents submitted failed to prove that the iBank accounts were closed. Further, the accounts to which the bank statements and certifications pertain cannot be ascertained because petitioner failed to provide the details of each account. Consequently, the Court in Division sustained the disallowance of fictitious expenses pertaining to the bank overdrafts in East West and iBank accounts in the aggregate amount ofP68,343,845.64. 13 As a general rule, tax assessments by tax examiners are presumed correct and made in good faith. All presumptions are in favor of the correctness of a tax assessment. 14 Thus, the burden of proof is on respondent to prove that the bank overdrafts were inexistent. Here, respondent admitted that the negative balances resulted from non-posting or erroneous postings of deposits and fund transfers from one bank to another. What was involved was administrative inefficiency and lack of coordination. 15 Furthermore, the financial statements 16 presented were not audited and certified by an Independent Certified Public Accountant. While petitioner adduced documents such as bank reconciliations with attachments, 17 bank statements, 18 and bank certifications, 19 these pieces of evidence do not fully substantiate its assertion that there was no bank overdraft in EastWest Bank and that its iBank accounts were closed. Additionally, as noted by the Court in Division, the documents20 submitted by respondent and used by the ICP A were not pre-marked or offered as evidence. lienee, they were not admitted as forming part of the records of the case.

Thus, the Court in Division aptly ruled that the disallowance of the fictitious expenses arising from bank overdrafts in East West and iBank accounts is valid.

Disallowed Interest Expense ~

As discussed in the assailed Decision, BSP Circular No. 202, series of 1999 is not applicable vis-a-vis the deductibility of respondent's interest expense.

According to the Court in Division, the BSP exercises supervisory and regulatory powers over banks and quasi-banks. Further, the Court in Division explained that respondent is engaged in the business of processing and selling coconut oil and other products, which does not fall within the jurisdiction of the BSP.21 Thus, the Court in Division cancelled the disallowance of interest expense in the amount ofP223,794,203.46. Meanwhile, petitioner asserts that the principal basis for the disallowance of interest expense is anchored on Revenue Regulations No. (RR) 13-2000, and not on BSP Circular No. 202. 22 In this regard, Section 3 of RR 13-2000, implementing Section 34(B) of the National Internal Revenue Code (NIRC) of 1997, as amended, provides the requirements for deductibility of interest expense, to wit: "SECTION 3. Requisites for Deductibility of Interest Expense. - In general, subject to certain limitations, the following are the requisites for the deductibility of interest expense from gross income, viz:

(a) There must be an indebtedness;

(b) There should be an interest expense paid or incurred upon such indebtedness;

(c) The indebtedness must be that of the taxpayer, (d) The indebtedness must be connected with the taxpayer's trade, business or exercise of profession; (e) The interest expense must have been paid or incurred during the taxable year;

(f) The interest must have been stipulated in writing; (g) The interest must be legally due;

(h) The interest payment arrangement must not be between related taxpayers as mandated in Sec. 34(B)(2)(b ), in relation to Sec. 36(B), both of the Tax Code of 1997;

(i) The interest must not be incurred to finance petroleum operations; and (j) In case of interest incurred to acquire property used in trade, business or exercise of profession, the same was not treated as a capital expenditure."

There should be an interest expense ~

paid or incurred indebtedness upon such Petitioner posits that respondent had a total of P1.995 billion loans from various banks with no corresponding payments. Petitioner further posits that the disallowance was already understandable because no evidence was submitted by respondent to prove that the interest expense was paid or incurred upon its indebtedness.”

As examined by the ICPA, respondent’s outstanding loans amounted to P1,992,563,685.51. The analysis and the findings of the ICPA™ are presented below:

3 Petition for Review, Court En Banc Docket, p. 12.

*4 Exhibit “P-I8", Docket, Vol. 1, p. 402.

Outstanding Interest Interest Expense Interest Expense

Lender Rate

Balance (%) per Ludo Books as Recomputed

o

a. BPI- 109,750,355.00 8.19 10,123,823 .07 8,988,379.57

FCDU

b. BPI-PESO 138,500,000.00 16.50 17,504,861.09 22,852,500.00

c. FEBTC- 57,629,715.00 12.86 7,274,528.23 7,409,049.05

FCDU

d. FEBTC- 96,864,635.64 17.25 14,691,136.43 16,709,149.65

PESO

e. PCIB- 360,726,567.97 11.00 36,473,464.08 39,679,922.48

PESO

f. MBTC- 847,195,911.90 12.00 85,660,919.97 101,663,509.43

PESO

g. PNB- 186,829,500.00 7.20 22,365,577.09 13,451,724.00

FCDU

h. UBP- 67,067,000.00 11.50 7,814,570.87 7,712,705 .00

FCDU

i. UBP- 21,000,000.00 18.50 4,034,333.31 3,940,000.00

PESO

_j._ UCPB-SA 72,000,000.00 16.52 12,376,000.00 11,893 ,192.67

k. UCPB- 35,000,000.00 14.31 5,474,989 .32 5,008,500.00

TRUST

TOTAL P1,992,563,685.51 P223,794,203.46 £239,308,631.85

The Court in Division explained that respondent is legally bound to pay its loan obligations, including interests due thereon, by virtue of the loan

I

.

25 .

d.

26 agreement promissory notes It entere mto. As discussed in the assailed Decision27, respondent uses the accrual method of accounting. In other words, respondent accrues interest expense as incurred, although not yet paid.

The Court in Division explained that the accrual of income and expense is permitted when the all-events test, i.e., the right to income or liability should be fixed and that the amount of such income or liability be determined with reasonable accuracy, is met. 28 It held that the accrual method relies upon the taxpayer's right to receive amounts or its obligation to pay them, in opposition to actual receipt or payment, which characterizes the cash method of accounting. Amounts of income accrue where the right to receive them become fixed or where there is created an enforceable liability. Similarly, liabilities are accrued when fixed and determinable in amount, without regard to the indeterminacy merely of the time of payment. 29 Under the accrual method of accounting, respondent recorded its interest expense in the total amount of P223, 794,203.46 on the date of their occurrence, and not on the date in which they were actually paid for. Thus, petitioner-appellee complied with the requirement that there should be an interest expense paid or incurred upon its indebtedness. The interest must be legally due Petitioner asserts that the loans were already contingent liabilities, and there was no reasonable expectation that the amount will be paid in due course.30 He cites Sections 1 and 4 ofBSP Circular No. 202 Series of 1999, to wit:

"SECTION 1. Non-performing loans - Definition.

Non-performing loans shall, as a general rule, refer to loan accounts whose principal and/or interest is unpaid for thirty

(30) days or more after due date or after they have become past due in accordance with existing rules and regulations. This shall apply to loans payable in lump sum and loans payable in quarterly, semi-annual or annual installments, in 9-z--

which case, the total outstanding balance thereof shall be considered non-performing.

In the case of loans payable in monthly installments, the total outstanding balance thereof shall be considered non- performing when three (3) or more installments are in arrears.

Restructured loans which do not meet the requirements to be treated as a performing loan under Section 2 of this Circular shall be considered non-performing. All items in litigation as defined in the Manual of Accounts for Banks shall be considered non-performing loans. "SECTION 4. Accrual of Interest Earned on Loans. No accrual of interest income is allowed if a loan has become non-performing as defined under this circular. Interest on non-performing loans shall be taken up as income only when actual payments thereon are received."

Based on the above cited provision, petitioner contends, by analogy, that since banks are not allowed to recognize interest receivable/income on non-performing loans, the corresponding interest expense of respondent is not legally due and demandable. 31 To reiterate, BSP Circular No. 202 Series of 1999 pertains to reporting of interest receivable/income on non-performing loans which applies to banks only. Respondent's line of business simply does not fall within the jurisdiction of the BSP.

Meanwhile, the Court in Division noted that respondent is already in default in the payments, and some of its loans are already subjects of litigation. Thus, it ruled that its indebtedness were already due and demandable.32 On this score, the Court En Bane agrees with the Court in Division.

The indebtedness must be connected with the taxpayer's trade, business or exercise of profession ~

A review of the records shows that the taxable year of the unaudited financial statements33 and the date of the promissory notes34 supporting the loans obtained were different. Further, the unaudited financial statements do not provide adequate disclosures. Hence, they cannot be used as tools to determine if the loans were used in its trade or business. At any rate, respondent proffered its Memorandum of Agreemene5 and Promissory Notes.36 Upon closer scrutiny, some of the said promissory notes revealed that some of the loans were working capital loans.37However, the other promissory notes presented do not indicate the purposes of the loans, as shown below:

Date of

Maturity

Bank

PNNo.

Amount

Rate

Purpose

Exhibit

Loan

Date

(%) p.a.

No.

6/22/1998 7/2211998

BPI

01008321.08 Phpl39,000,000.00 16.5%.

-

"P-11-C"

9/24/1999 3/22/2000 PC !Bank 3660003899 USD 275,000.00 11.0%

Working

"P-11-D'"

Capital

9/2711999 3/24/2000 PC !Bank 3660003999 USD 298,000.00 11.0%

Working

"P-Il-E"

Capital

4/14/1999

I 0/11/1999

PC !Bank 3660001499 USDI92,000.00 11.0%

Working

"P-11-F"

Capital

4/20/1999

I 0/15/1999

PC !Bank 3660001599 USD 902,000.00 11.0%

Working

"P-11-G"

Capital

4/21/1999

I 0118/1999

PC !Bank 3660001699 USD 719,000.00 11.0%

Working

"P-11-H"

Capital

5/5/1999 10/2911999 PC !Bank 3660001799 USD 331,000.00 11.0%

Working

"P-Il-I"

Capital

5/7/1999 11/311999 PC !Bank 3660001899 USD 490,000.00 11.0%

Working

"P-11-J"

Capital

6/411999 12/1/1999 PC !Bank 3660002299 USD 384,000.00 11.0%

Working

"P-11-K"'

Capital

6/11/1999 12/8/1999 PC !Bank 3660002399 USD 150,000.00 11.0%

Working

"P-11-L'"

Capital

7/2/1999 12/17/1999 PC !Bank 3660003499 USD 222,000.00 11.0%

Working

"P-11-M"

Capital

7/21/1999 1/17/2000 PC !Bank 3660003599 USD 328,500.00 11.0%

Working

"P-11-N"

Capital

7/2311999 1/19/2000 PC !Bank 3660003399 USD 194,000.00 11.0%

Working

"P-11-0"

Capital

8/4/1999 1/3112000 PC !Bank 3660003299 USD 123,000.00 11.0%

Working

"P-11-P'"

Cajlital

9/151199 3/13/2000 PC !Bank 3660003799 USD 307,000.00 11.0%

Working

"P-11-Q"

Capital

7/28/1999 1/24/2000 PC !Bank 3660003199 USD 120,000.00 11.0%

Working

"P-11-R"

Capital

8/16/1999 2/11/2000 PC !Bank 3660003699 USD 338,000.000 11.0%

Working

"P-11-S"

Ca)Jital

6/10/1999 6/5/2000

Metrobank

317047.10123.000.99 USD 250,000.000 10.0% -

"P-11-T"

6/14/1999 6/8/2000

Metrobank

317047.10166.000.99 USD 500,00.00 10.0% -

"P-11-U"

6/17/1999 6/9/2000

Metrobank

317047.10174.000.99 USD 1,000,000.00 10.0% -

"P-11-V'"

6/24/1999 6/16/2000

Metrobank

317047.10352.000.99 USD 875,000.00 10.0% -

"P-11-W'"

6/28/1999 6/22/2000

Metrobank

317047.10395.000.99 USD 560,000.00 10.0% - "P-11-X"" 7/1/1999 6/23/2000 Metro bank 317047.10425.000.99 USD 325,000.00 10.0% -

"P-11-Y'"

711511999 7/7/2000 Metro bank 317047.10697.000.99 USD 205,000.00 9.5% "'P-11- -

AA"

7/19/1999 7/13/2000 Metro bank 317047.10743.000.99 USD 585,000.00 9.5% "P-11- -

BB"

7/26/1999 7/20/2000

Metrobank

317047.10867.000.99 USD 100,000.00 9.5% "P-11- -

CC"

7/30/1999 7/24/2000 Metro bank 317047.10948.000.99 USD 685,000.00 9.5% "P-11- -

DO"

9/30/1999 9/22/2000

Metrobank

317047.12355.000.99 USD 596,000.00 9.75% "P-11- -

EE"

I 0/1/1999

9/25/2000 10/7/1999 9/29/2000 10/11/1999

NONE

10/14/1999

NONE

10/27/1999

NONE

912711999 3/24/2000 7/19/1999 7/13/2000 8/6/1999 2/2/2000 5/17/1999 5/1112000 10/1111999 4/7/2000

I 0/2711999

4/24/2000 Metro bank 317047.12444.000.99

Metrobank

317047.12525.000.99

Metrobank

NONE

Metrobank

NONE

Metro bank

NONE

Unionbank

87/99/309

Unionbank

87/99/241

Unionbank

87/99/262

Unionbank

87/99/161

Unionbank

87/99/320 Union bank 87/99/341 USD 190,000.00 9.75% "P-11- -

FF"

USD 114,000.00 9.75% "P-11- -

GG"

USD 179,000.00 9.75% "P-11- -

HH"

USD 271,000.00 9.75% -

"P-11-11"

USD 3,947,000.00 10.25%

"P-11-JJ"

Php 16,000,000.00 19.0%

Working

"P-11-

Capital

00" USD 30,000.00 11.5%

Working

"P-11-

Capital

MM"

USD 248,000.00 11.5%

Working

"P-11-

Capital

NN"

USD 866,000.00 11.5%

Working

"P-11-

Capital

LL"

Php 5,000,000.00 18.0%

Working

"P-11-

Capital

PP"

USD 256,000.00 11.5%

Working

"P-11-

Capital

QQ"

Notwithstanding the presentation of the above stated promissory notes, the same cannot be reconciled with the schedule of bank loans presented by respondent. 38 Thus, it cannot be ascertained which of the following bank loans pertain to loans with working capital purpose. According to the respondent's Vice President for Finance and Administration, Mr. Cyril 0. Borja, respondent was affected by the 1997 financial crisis.39 He pertinently states in his Judicial Affidavit that: "5. QUESTION: Can you tell the court what happened to LuDo & Luym Corporation starting in 1997? ANSWER: Ludo was hit hard by the 1997 financial crisis. It was saddled by huge loans which by now amounted to P1.995 billion. Its operations had to be downscaled to the barest minimum. Prior to the 1997 financial crisis, it had employed around 800 employees. Now, it is operating with only 69 employees." However, no evidence was presented to corroborate the contention that respondent does not have adequate cash on hand or asset liquidity to cover the daily operational expenses. Additionally, loans were obtained in the year 1999, two (2) years after the 1997 financial crisis. Based on Section 3 of Revenue Regulations No. 13-2000, respondent failed to comply with the 4th requisite for the deductibility of interest expense. In other words, respondent failed to prove that the indebtedness is connected with its trade or business. ?v

Even so, respondent will still not be liable for any deficiency income tax for CY 2007, computed as follows:

MCIT

Normal

Total Gross Income per ITR

P28,503,578.44 P28,503,578.44

Less: Deductions

301,675,214.99

Taxable Income per ITR

(273,171,636.55)

Add: Disallowed Expenses

Fictitious Expenses -arising from bank overdrafts 68,343,845.64

Interest Expense

223,794,203.46

Bad Debts

2,665,255.75

Miscellaneous

982,771.79 Taxable Income per investigation P28,503,578.44 P22,614,440.09 Tax Due (P22,614,440.09 x 35%) P7,915,054.03

Less: Payments/Credits

Prior Year's Excess Credit

10,493,516.00

Creditable Tax Withheld for the First

Three Quarters

1 ,030, 788.20

Creditable Tax Withheld for the First

Three Quarters

400,444.69

Tax Overpayment

P( 4,009,694.86) Considering the foregoing, the Court En Bane rules that the findings of the Court in Division with respect to the alleged fictitious expenses arising from bank overdrafts should be upheld. On the other hand, the above interest expense should be added to respondent's taxable income as disallowed expense. At any rate, even if the said amount of interest expense is added to respondent's taxable income, petitioner is still not liable for any deficiency income, as shown above.

The VAT assessment had already prescribed Finally, petitiOner asserts that his right to assess respondent's deficiency VAT has not yet prescribed because respondent filed false or fraudulent return. Thus, the tax may be assessed within ten (1 0) years after the discovery of the falsity. According to petitioner, this is evident from the final decision signed by former Commissioner Kim Jacinto Henares where she imposed a fifty percent (50%) surcharge against petitioner. The Court En Bane finds petitioner's assertion untenable. p-

In Commissioner of Internal Revenue v. Asalus Corporation,40 the Supreme Court explained the doctrine on the presumption of falsity of returns, as follows:

" Under Section 248(B) of the NIRC, there is a prima facie evidence of a false return if there is a substantial underdeclaration of taxable sales, receipt or income. The failure to report sales, receipts or income in an amount exceeding 30% what is declared in the returns constitute substantial underdeclaration. A prima facie evidence is one which that will establish a fact or sustain a judgment unless contradictory evidence is produced.

In other words, when there is a showing that a taxpayer has substantially underdeclared its sales, receipt or income, there is a presumption that it has filed a false return. As such, the CIR need not immediately present evidence to support the falsity of the return, unless the taxpayer fails to overcome the presumption against it.

Applied in this case, the audit investigation revealed that there were undeclared VATable sales more than 30% of that declared in Asalus' VAT returns. Moreover, Asalus' lone witness testified that not all membership fees, particularly those pertaining to medical practitioners and hospitals, were reported in Asalus' VAT returns. The testimony of its witness, in trying to justify why not all of its sales were included in the gross receipts reflected in the VAT returns, supported the presumption that the return filed was indeed false precisely because not all the sales of Asalus were included in the VAT returns.

Hence, the CIR need not present further evidence as the presumption of falsity of the returns was not overcome. Asalus was bound to refute the presumption of the falsity of the return and to prove that it had filed accurate returns. Its failure to overcome the same warranted the application of the ten (1 0)- year prescriptive period for assessment under Section 222 of the NIRC. To require the CIR to present additional evidence in spite of the presumption provided in Section 248(B) of the NIRC would render the said provision inutile.'' Under Asalus, the presumption of falsity arises when there is a showing that a taxpayer has substantially underdeclared its sales, receipt or income.~

Page 17 ofl8 In the instant case, there is no showing that respondent has substantially underdeclared its sales, receipt or income. Meanwhile, the presumption of falsity of returns cannot arise by mere assertion that the former commissioner imposed surcharge against respondent. Hence, in the absence of proof of substantially underdeclared sales, receipt or income, the presumption of falsity of returns cannot be applied. Therefore, respondent had only three (3) years to assess respondent's deficiency VAT under Section 203 of the NIRC of 1997, as amended. Considering the foregoing, the Court En Bane sees no cogent reason to disturb the Court in Division's conclusion that petitioner's right to assess respondent's deficiency VAT had already prescribed. To conclude, aside from the interest expense that should be added to respondent's taxable income as disallowed expense, the conclusions reached by the Court in Division in the assailed Decision is in order. Meanwhile, with respect to the said interest expense, considering that even if the same is disallowed, the overall effect would still be in favor of respondent, as it may either result to a net loss if the normal income tax is applied, or to a tax overpayment if the Minimum Corporate Income Tax is applied, as discussed above.

WHEREFORE, the instant Petition for Review is DENIED, for lack of merit. Accordingly, the Decision of the CTA 3rd Division in CTA Case No. 8613 is AFFIRMED.

WE CONCUR:

LOVELN BAUTISTA

Associate Justice

~ CAESAR A. CASANOVA

Associate Justice

~~ c.GY--~~~~ ~AN ITO C. CAST AN EDt, JR.

Associate Justice

E~.UY

Associate Justice

Page 18 ofl8

r. ~ l.=i-: ~ JV\~~ ~ c ~ ~0 ~. MINDARO-GRULLA

Associate Justice

(On L.eave) MA. BELEN M. RINGPIS-LIBAN

Associate Justice

~·7.~ewr~ CATHERINE T. MANAHAN

Associate Justice

CERTIFICATION

Pursuant to Article VIII, Section 13 of the Constitution, it is hereby certified that the conclusions in the above Decision were reached in consultation before the case was assigned to the writer of the opinion of the Court.

Presiding Justice