Naked Assessments

By Jaffy Azarraga, 8 August 2013

When asked what the Bureau of Internal Revenue (BIR) would do in the face of an alleged billion-peso pork barrel scam involving several prominent politicians and ranking officials, the BIR forthrightly replied that it will conduct investigations and file tax evasion charges, if warranted. This laudable initiative of prosecuting tax evaders not only seeks to alleviate the nation’s burden of paying the P1.25-trillion tax collection target set this year by Congress, but also sends a strong and clear message against corruption.

Such bold pronouncements, however, must come with untiring efforts to review evidence with a keen eye and to skillfully use tax laws with mastery. The BIR is well reminded that mistakes or errors, no matter how trifling, can translate to critical loss of opportunities in revenue collection. As in one recent case decided by the Court of Tax Appeals (CTA) in CTA Case No. 8345, dated May 29, 2013, the legal gaffe came in the form of a speculative assessment on under-declared income.
In that case, a domestic corporation was assessed for deficiency income tax and VAT on assumed income based on the BIR’s findings that it had underdeclared purchases or unaccounted expenses. The sole basis for the BIR’s tax assessments is the finding of underdeclaration of purchases based on Third Party Information (TPI) matching programs. The TPI program involves correlation of information provided by the taxpayer with those gathered from third parties, i.e., Reconciliation of Listing for Enforcement System (RELIEF), Tax Reconciliation System (TRS) and Third Party Matching-Bureau of Customs (TPM-BOC) Data Program. Of particular interest in this case is that no evidence was submitted showing that income resulted from the unaccounted purchases/expenses and that income was actually received by the corporation.
The CTA considered the BIR assessment wanting in legal and factual basis. The court explained that the tax finding was presumptive in nature, the BIR having assumed that the alleged undeclared purchases are unaccounted expenses which would translate into income. Here lies the misplaced notion that hidden or undeclared purchases are analogous to hidden income.
A taxpayer is free to claim or not to claim deductions from gross income. That is a taxpayer’s prerogative. Instead, what is prohibited by the law is to claim a deduction beyond the authorized amount. Accordingly, an underdeclaration of purchases or unaccounted expenses is not prohibited by law.

For a tax assessment to be valid and binding, there must be clear proof of realized income, and such income was received by the taxpayer. An assessment based on mere presumption of income from underdeclared purchases/unaccounted expenses is flawed and ineffective. Such speculation runs afoul of the well-established elements for the imposition of income tax, namely (a) that there must clear proof of gain or profit, (b) that such gain or profit was received by the taxpayer, actually or constructively, and (c) that it is not exempted by law or treaty from income tax. In the same vein, VAT can be imposed only if the taxpayer received an amount of money from the sale or exchange of services -- not when there are under-declared purchases.It may be further noted that, generally, under Section 6 (B) of the Tax Code, the Commissioner is empowered to assess proper tax on the best evidence obtainable and thus make estimations. In the words of the Supreme Court in Commission of Internal Revenue vs. Hantex Trading Co., Inc., G.R. No. 136975, dated March 31, 2005:

“The petitioner is not required to compute such tax liabilities with mathematical exactness. Approximation in the calculation of the taxes due is justified. To hold otherwise would be tantamount to holding that skillful concealment is an invincible barrier to proof.”

However, in the same case, the Supreme Court decisively struck down the assessment for not being based on actual facts, but on mere presumptions. Thus, “Where the BIR has come out with a ‘naked assessment,’ i.e., without any foundation character, the determination of the tax due is without rational basis.”

Verily, a “naked assessment,” or one lacking factual basis, is a clear contravention of the law, more specifically Republic Act (RA) 8424 (otherwise known as the Tax Reform Act of 1997), which amended provisions of the Tax Code on protesting assessments. Prior to the amendment, the Commissioner was only obliged to notify the taxpayer of its findings. Now, under RA 8424, the BIR is required not only to state the applicable law, but also the facts upon which the assessment is based; otherwise, such assessment is void.Here is a case where the law tilts the balance in favor of the taxpayers, offering protection and consolation to taxpayers who may otherwise be at the mercy of tax revenue officers under pressure to meet their target revenue collection. Left unbridled, the authority to assess and impose taxes may result in abuse or error.It may be noted that in commonplace practice, more often than not, the BIR merely informs the taxpayer of the details of discrepancies, demands payment of tax deficiencies, and then waits for the taxpayer to prove that the assessment is incorrect. In short, during assessments, the revenue officers normally rely on preset presumptions that must be disputed by the taxpayer. The burden lies with the taxpayer to prove otherwise.

It would seem that this practice may be partly explained, if not exacerbated, by the ever-increasing burden on the part of the BIR to speed up the tax assessment process in order to meet ever-growing collection targets. As a result, the BIR places increasing reliance on its TPI matching program to facilitate tax administration and collection. Under this program, the BIR collates the information from taxpayers’ submissions and matches the same to third party information. Should there be any discrepancies, the BIR would then assess the tax due.
While the TPI matching program, in an ideal scenario, may promise an efficient tax system, its downside impact cannot be discounted. As seen in this tax court case, improper reliance and application of the program could spur the cycle of abuse and inefficiencies in tax administration, such as in the case of issuances of naked or unfounded assessments. Apart from the TPI, the BIR would do well to institute more thorough validating measures that would provide an inclusive substantiation of assessments based on evidentiary factual findings. In this way, both the BIR and the taxpayers would be spared from the distress and time wasted in pursuing and defending against unfounded or naked assessments.

However, Congress’ role cannot be downplayed. In the light of the recent pork barrel scam, the House must auspiciously appropriate taxpayers’ money for good use, keeping in mind the way by which hard-earned contributions to state funds come to be. As the budget and goal-setting body, Congress must step up to identify other revenue-generating undertakings, such as state-run businesses, that would unburden taxpayers from a lifetime obligation of tax payments and afford the BIR some breathing space in the relentless pursuit of tax collections. Simply, the challenge is for Congress to realize and put to heart that its mandate emanates from the taxpayers -- the same constituents to whom they are ultimately held accountable

The author is a senior manager at the Tax Services Department of Isla Lipana & Co., the Philippine member firm of the PwC network. 

Views or opinions presented in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The firm will not accept any liability arising from such article; the author will be personally liable for any consequent damages or other liabilities.