51 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income CHAPTER DEDUCTIONS FROM GROSS INCOME Problem – DEDUCTIBLE OR NONDEDUCTIBLE FROM GROSS INCOME Deductible Nondeductible Nondeductible Deductible, in lieu of tax credit (Sec 34C3, NIRC) Deductible Nondeductible Nondeductible Deductible Deductible 10 Nondeductible 11 12 13 14 15 16 17 18 19 20 Nondeductible Deductible Deductible Deductible Nondeductible Nondeductible Nondeductible Deductible Deductible Deductible Problem – TRUE OR FALSE True True False – Business expenses related to business income outside the Philippines is deductible also False – Business expense is deductible from gross income True True True – Once OSD is opted, no capital loss could be deducted from capital gain False – Some business expenses are nondeductible or subject to limit False – Income outside the Philippines by a NRC is not taxable in the Philippines, hence, no allowable deduction is allowed 10 True 11 False – Compensation income is not subject to OSD 12 False – NOLCO is not an itemized deduction 13 True – Amortized over the term of the lease 14 False – ½ of 1% 15 False – 33% 16 False – Double –declining method 17 True 18 True Problem – B No choice, OSD=40% D D D C B D B 10 C 11 C 12 D 13 C Problem – Problem – C A Problem – A A Problem – A C D A B B A A D 10 A C C A D C A B 10 C A C C C B C C 10 C 11 D 12 B C Expensed Capitalized 52 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Change of motor of air condition Repainting of building Expansion of store Cleaning of computers Repair of furniture Problem – Salaries net of tax Withholding tax Deductible business expense P60,000 P10,000 50,000 9,000 1,000 P20,000 P110,000 A P100,000 5,000 P105,000 Problem – A General rule: No personal or business expense is deductible from compensation income Problem – 10 D Depreciation expense (P1,000,000 x 40%)/25 Loss of business equipment Deductible expense P16,000 38,000 P54,000 Problem – 11 D A No personal or business expense is deductible B Depreciation (P20,000 x 10%) Repair (P100,000 x 10%) Office supplies Total deduction Problem – 12 P 2,000 10,000 6,000 P18,000 B Tax laws GAAP Salary expense (P180,000 + P20,000) P200,000 P200,000 Estimated uncollectible accounts 10,000 Compromise penalty 50,000 Depreciation expense 30,000 30,000 Miscellaneous expense 5,000 Deductible from earnings P230,000 P295,000 Note: For tax purposes, the miscellaneous expense is not deductible because it was not reported last year For accounting purposes, the miscellaneous expense can be deducted as prior period adjustment from retained earnings Problem – 13 C Gross income (P300,000 + P20,000 + P180,000) Multiplied by OSD rate Optional standard deduction P500,000 40% P200,000 Problem – 14 B Gross income (P870,000 – P10,000 – P380,000)) Add: Gains from sale of capital asset Total Multiplied by OSD rate Optional standard deduction P480,000 40,000 P520,000 40% P208,000 B OSD Less: Operating expense P208,000 20,000 53 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Amount of income enjoying tax savings P188,000 Problem – 15 D Gross receipts from profession Rent income Total gross income Multiplied by percent of OSD Optional standard deduction Problem – 16 C Operating expense before representation expense (P2,000,000 – P300,000) Representation expense – Actual - Limit (P20,000,000 x 0.005) - Lower Allowable itemized deductions Problem – 17 B Salary expense Rent expense Advertising expense Depreciation expense Interest expense Tax differential on interest income (P30,000 x 33%) Total itemized deductions Problem – 18 A Gross salaries of employees Grossed-up monetary value of fringe benefits Deductible salaries and fringe benefits expenses Problem – 19 D Allowable deduction – fringe benefit expense (P102,000/68%) P100,000 450,000 P550,000 40% P220,000 P1,700,000 P300,000 100,000 100,000 P1,800,000 P120,000 24,000 6,000 5,000 60,000 ( 9,900) P205,100 P6,000,000 1,000,000 P7,000,000 P150,000 Problem – 20 D Assume bonus is computed after tax but before bonus The answer is letter D = P8,143, computed as follows: Net income before charitable contribution (P75,000 + P5,000) Less: Deductible contribution (P80,000 x 5%) – lower of actual Net income before income tax and bonus B T = = 15% (76,000 – T) 30% (76,000 – B) B B B = = = 15% [76,000 – 30% (76,000 – B)] 15% (76,000 – 24,320 + 30%B) 11,400 – 3,420 +0.045B B – 0.045B 0.952B B = = = 7,980 7,980/0.955 8,356 P 80,000 4,000 P 76,000 54 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Proof: Income before bonus and tax Less: Income tax (P76,000 – P8,356) x 30% Income after tax but before bonus Multiplied by rate of bonus Bonus P76,000 20,293 P55,707 15% P 8,356 Problem – 21 B Monthly salary Death benefits Terminal pay Continuous compensation after the burial for three months Total deductible expenses P 5,000 50,000 25,000 15,000 P95,000 Note: Donation for coffin and other wake expenses is not business or compensation related and, hence, not deductible (Sec 72, Rev Regs 2) Problem – 22 C Purchases Decreased in inventory Increased in inventory Inventoriable cost P300,000 20,000 P320,000 Supplies expense P40,000 ( 3,000) P37,000 Problem – 23 D Traveling expenses (P50,000 + P200,000) Fringe benefit expense (P68,000/68%) Transportation expense – messenger Total allowable expense P250,000 100,000 40,000 P390,000 Problem – 24 D Total rent expenses paid Rent last year Prepaid rent Deductible rent expense P150,000 (10,000) (20,000) P120,000 Problem – 25 C Monthly rent (P20,000 x 60%) x mos from Oct 31 to Dec 31 Insurance premium (P3,000 x 60%) x 2/12 Real property tax (P1,500 x 60%) x 2/12 Deductible rent expense P24,000 300 150 P24,450 Note: The city services is not a rent expense Problem – 26 B B Rent for months based on usage (P20,000 x 6) x 80% Rent based on usage and payments (P80,000 x 80%) A Actual cash collection for rent Problem – 27 D Monthly rental expense Monthly depreciation (P600,000/8)/ 12 Monthly deductible expense Accrual P96,000 Cash P64,000 P150,000 P150,000 P2,000 6,250 P8,250 55 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Problem – 28 B Trading - Limit lower (P5,000,000 x 005) P25,000 C Servicing – actual lower P30,000 Problem – 29 B Operating Expense before representation Representation expense (P300,000 x 01) Deductible operating expense P80,000 3,000 P83,000 Problem – 30 C Interest expense Tax differential (P50,000 x 33%) Deductible interest expense P40,000 (16,500) P23,500 Problem – 31 D Interest expense Tax differential (P30,000 x 38%) (P30,000 x 33%) Deductible interest expense Problem – 32 Sole proprietor P50,000 (11,400) P38,600 (9,900) P40,100 B Deductible Interest Interest Interest Interest Interest Total Corporation P50,000 paid in advanced paid to a brother paid on deliquency taxes on borrowings to finance his family home paid to finance petroleum exploration Problem – 33 A Tax savings from interest expense (P100,000 x 30%) Final tax on interest income (P1,000,000 x 12%) x 20% Actual tax savings Problem – 34 A Documentary stamp taxes Local tax (P6,000 – P800 – P200) Municipal tax Community tax Deductible taxes Nondeductible P 20,000 12,000 P 8,000 P 8,000 30,000 100,000 P162,000 P30,000 24,000 P 6,000 P 1,000 5,000 2,000 1,500 P9,500 Note: The fringe benefit income taxes to key officers and rank-in-file employees are to be classified as deductible fringe benefit expense and not tax expense Problem – 35 D Unadjusted net income (P520,000 – P200,000) Add back: Income tax foreign country Adjusted net income Personal exemption Net taxable income P320,000 10,000 P330,000 (50,000) P280,000 56 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Note: The P10,000 income tax paid to foreign country is better to be treated as tax credit rather than as operating expense Problem – 36 A Asset of Oliva Payment to government (P200,000 x 50%) Balance Deductible bad debts is the entire amount of collectibles Problem – 37 B Bad debts from business actual written off (P100,000 x 40%) Bad debts from profession actual written off Deductible bad debts expense Problem – 38 D Annual depreciation expense (P50,000 – P5,000)/5 Multiplied by ratio of months used during the year Depreciation expense 200B P 60,000 (100,000) (P40,000) P100,000 P40,000 50,000 P90,000 P9,000 1/2 P4,500 Problem – 39 A Annual depreciation (P2,300,000/11.5 years) Multiplied by ratio of months used in 2007 (July to Dec.) Depreciation expense P200,000 6/12 P100,000 Problem – 40 D Oil drilling machine (P800,000 x 90%) / years Oil extracting machine (P900,000 x 90% / 10 years – limit Computers (P100,000 x 90%)/4 years Delivery truck (P200,000 x 90%)/ years – limit Annual depreciation expense P 90,000 81,000 22,500 36,000 P229,500 Problem – 41 C Depletion base (P6,000,000 – P1,000,000 + P300,000) Divided by number of extractible estimated tons Depletion per ton Multiplied by number of tons extracted during the year Depletion expense Problem – 42 D Depletable costs, January 1, 200x Exploration costs Intangible development costs Total Less: Depletion expense (P15,000,000/7,500,000) x 1,200,000 Adjusted basis Divided by remaining reserves (5,000,000 + 2,500,000 – 1,200,000) New depletion rate/ unit A P5,300,000 5,000,000 P 1.06 800,000 P 848,000 P12,500,000 1,000,000 1,500,000 P15,000,000 2,400,000 P 1,260,000 6,300,000 P 2.00 57 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Depletion cost 2007 (P2 x 1,200,000 units) P2,400,000 B Value of production (P12 x 1,200,000 units) Less: Production and selling costs: Mining costs Milling costs Marketing expenses Depreciation expense P14,400,000 P2,000,000 3,000,000 1,500,000 1,000,00 7,500,000 Net income from operation Multiplied by limit percentage Deductible amount fro exploration and development cost P 6,900,000 25% P 1,725,000 B Current exploration and development cost (P1,500,000 + P1,000,000) Less: Deductible amount of exploration and development cost (see 3) Exploration and development cost chargeable to succeeding years Problem – 43 B Deductible expense: Depreciation expense (P10,000,000 x 90%)/50 Capital outlay Problem – 44 B Lower of actual contribution or normal valuation Add: Amortization of excess 200A (P200,000/10) 200B (P100,000/10) Deductible retirement expense A Actual retirement payments Problem – 45 Capitalized P180,000 P2,500,000 1,725,000 P 775,000 Outright expense P10,000,000 200A 800,000 200B 800,000 200C 500,000 20,000 820,000 20,000 10,000 830,000 20,000 10,000 530,000 200A 200B 400,000 200C 300,000 Year X 700,000 10,000 710,000 Year Y 600,000 10,000 610,000 P610,000 = Not in the choices Actual contribution or normal valuation, lower Add: Amortization (P100,000/10) Deductible retirement expense Note: Only the excess of the actual contribution over the normal valuation is to be amortized over 10 years Problem – 46 B Allowed deductible contribution (P200,000 x 5%) Problem – 47 C Allowed deductible contribution – actual P10,000 P5,000 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS 58 Chapter 8: Deductions from Gross Income Problem – 48 B Income before charitable contribution (P500,000 – P130,000) Multiplied by percent of limit Allowed deductible contribution - lower P370,000 5% P 18,500 Problem – 49 C Actual value of donation – priority program Adopt a school program – incentive (P1,000,000 x 50%) Deductible donation Problem – 50 Net sales Less: Cost of goods manufactured and sold: Raw materials used: Raw materials, beginning P 200,000 Net purchases of raw materials 2,000,000 Raw materials, ending ( 400,000) Direct labor Factory overhead: Indirect labor – factory supervisor P 120,000 Depreciation (P100,000 x 90%) 90,000 Light and water (P150,000 x 80%) 120,000 Miscellaneous factory expenses 20,000 Cost of goods manufactured Finished goods, ending Gross income Less: Optional standard deduction (P3,000,000 x 40%) Income from operations P1,000,000 500,000 P1,500,000 P5,000,000 P1,800,000 600,000 350,000 P2,750,000 ( 750,000) Problem – 51 Salaries of barbers Depreciation of barbershop equipment Cost of service 2,000,000 P3,000,000 1,200,000 P1,800,000 P200,000 50,000 P250,000 Rent expense Utility expense Janitorial expense Bookkeeping expense Itemized deductions P 20,000 30,000 15,000 10,000 P 75,000 Problem – 52 Salaries of assistants Traveling expenses Light and water – office Stationeries and supplies Office rent Total operating expenses before contribution Add: Contribution subject to limit (P500,000 – P176,850) x 10%) Allowable itemized deductions P 96,000 11,000 7,890 1,960 60,000 P176,850 32,315 P209,165 Problem – 53 Sole Proprietorship Corporation Partnership 59 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Bad debts written-off (P35,000 – P30,000) Depreciation expense (P140,000 – P100,000) Donation to the government – priority program Donations subject to limit: Lower of actual, P170,000 or (P2,500,000 x 10%) (P2,500,000 x 5%) Total allowable deductions P 5,000 40,000 50,000 170,000 P 265,000 P 5,000 40,000 50,000 125,000 P 220,000 P 5,000 40,000 50,000 125,000 P 220,000 The research and development cost is to be treated as a deferred expense, hence, its amortization shall be made in the succeeding five years when the taxpayer realizes benefits from such expenditures (Sec 341, NIRC) Problem – 54 Operating expenses (1,000,000 x 30%) – P50,000 Interest expense (P50,000 – (P40,000/80%) x 33%] Total itemized deductions Add: NOLCO Total deductible expenses P250,000 33,500 P283,500 500,000 P783,500 Note: NOLCO is not an itemized deduction but part of deductible expenses Gross income (P5,000,000 – P2,000,000) Multiplied by OSD rate OSD P3,000,000 40% P1,200,000 Note: NOLCO is not allowed to be deducted if the taxpayer uses OSD Gross income Less: OSD Net taxable income Problem – 55 Actual contribution or normal valuation, lower Add: Amortization - 200A (P250,000/10) Deductible retirement expense Financial net income Add: Retirement benefit expense – accounting Total Less: Deductible retirement expense – taxation Net income for tax purposes P3,000,000 1,200,000 P1,800,000 200A 1,000,000 25,000 1,025,000 200B 900,000 25,000 925,000 50,000,000 1,100,000 51,100,000 1,025,000 50,075,000 60,000,000 1,200,000 61,200,000 925,000 60,275,000 Problem – 56 Salary expenses Retirement (P250,000 + P50,000/10) Representation expense (P10,000,000 x 005) Interest expense paid to the BIR - full Interest expense – limit: Corporation (P100,000 – (P96,000/80%) x 33%) Individuals (P100,000 – (P96,000/80%) x 38% Depreciation expense Rent expense Corporation 500,000 255,000 50,000 20,000 Individual 500,000 255,000 50,000 20,000 60,400 40,000 250,000 54,400 40,000 250,000 60 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Group insurance expense Bad debts expense (P100,000 x 20%) Contribution expenses: TESDA priority project (500,000 x 1.5) Local government – limit (lower is actual) Total itemized deductions 50,000 20,000 50,000 20,000 750,000 100,000 2,095,400 750,000 100,000 2,089,400 Note: NOLCO is an allowable special deduction but not an itemized deduction Problem – 57 Salaries expense (P680,000 – P100,000) Bad debts expense (P370,000 – P270,000) Retirement expense (P1,000,000 – P380,000) Representation expense (P39,000,000 x 0.005) Rent expenses (P200,000 – P20,000) Taxes expense (P300,000 – P270,000) Life insurance expense (P150,000 – P100,000) Total itemized deduction before contributions Contribution expenses: Donation to TESDA priority project (P500,000 x 150%) Donations to CHED not priority project (P200,000 actual is lower + 50% of actual) Donations to government (P100,000 actual is lower) Ind: (P39,000,000 – P30,000,000 – P1,752,500) x 10%=724,500 Corp: (P39,000,000 – P30,000,000 – P1,752,500) x 5%=362,250 Total allowable deductions Individual 580,000 100,000 620,000 195,000 180,000 30,000 50,000 1,755,000 Corporation 580,000 100,000 620,000 195,000 180,000 30,000 50,000 1,755,000 750,000 750,000 300,000 100,000 300,000 100,000 2,905,000 2,905,000 Computation of sales: Financial income Cost of sales Operating expenses deducted (P680,000 + P370,000 + P1,000,000 + P800,000 + P500,000 + P200,000 + P300,000 + P150,000) Total sales Gross income (P39,000,000 – P30,000,000) Less: Total allowable deductions Net taxable income Individual P9,000,000 2,905,000 P6,095,000 P 5,000,000 30,000,000 4,000,000 P39,000,000 Corporation P9,000,000 2,905,000 P6,095,000 ... 53 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Amount of income enjoying tax savings P 188 ,000 Problem – 15 D Gross receipts from. .. 0.952B B = = = 7, 980 7, 980 /0.955 8, 356 P 80 ,000 4,000 P 76,000 54 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS Chapter 8: Deductions from Gross Income Proof: Income before... contribution – actual P10,000 P5,000 INCOME TAXATION 5TH Edition (BY: VALENCIA & ROXAS) SUGGESTED ANSWERS 58 Chapter 8: Deductions from Gross Income Problem – 48 B Income before charitable contribution