Income tax on nonstocks
BY TRADITION, nonstock and nonprofit corporations are exempt from the payment of income tax on revenues or income earned from their operation.
A nonstock corporation is “one where no part of its income is distributable as dividends to its members, trustees or subjects.”
Nonprofit, on the other hand, means “no income or asset accrues to or benefits any member or specific person, with all the net income or asset devoted to the institution’s purposes and all its activities conducted not for profit.”
The words “nonstock” and “nonprofit” are used singly or in combination to describe an organization whose primary objective is, among others, religious, charitable, scientific, athletic or cultural.
The Tax Code exempts these corporations from income tax on condition that no part of their “net income or asset shall belong to or inure to the benefit of any member, organizer, officer or any specific person.”
The income tax exemption may be looked at as the government’s way of appreciation for the corporations’ laudable efforts, and a means to enable them to fully utilize their assets for the accomplishment of their goals.
This privilege has, unfortunately, been tweaked or exploited by some unscrupulous elements in our society to reduce their tax obligations, or, worse, evade the payment of taxes that are rightfully due the government.
Prohibition
In an effort to minimize the abuse of this concession, the Bureau of Internal Revenue (BIR) issued on June 6, 2014 Revenue Memorandum Circular No. 51-2014.
The circular states that, for an entity to qualify as nonstock or nonprofit and be exempt from income tax, it should strictly follow the “no inurement” requirement of the law.
The following acts are considered in violation of that condition:
- Payment of compensation, salaries or honorarium to its trustees or organizers
- Payment of exorbitant or unreasonable compensation to its employees
- Provision of welfare aid and financial assistance to its members
- Donation to any person or entity (except donations made to other entities for the purpose/purposes similar to its own)
- Purchase of goods or services for amounts in excess of the fair market value of such goods or services from an entity in which one or more of its trustees, officers or fiduciaries has an interest
- When upon dissolution and satisfaction of all liabilities, its remaining assets are distributed to its trustees, organizers, officers or members
With regard to item (c), if life, sickness, accident and other benefits are paid exclusively to the organization’s members or their dependents, its tax-free status shall remain.
Relative to item (f), to avoid the loss of the tax privilege, the organization should expressly provide in its articles of incorporation or by-laws that, in case of its dissolution, its assets shall be distributed to one or more entities formed for purposes similar to its own or to the Philippine government for public purposes.
Objective
The message of the circular is clear: Nonstock and nonprofit corporations should scrupulously adhere to the purpose for which they were organized in order to maintain their income tax exemption.
They should not allow themselves to be used as tax shelters, or instruments for entering into “sweetheart contracts” with private businesses, or sources of additional income for their organizers and officers.
If any of the prohibited acts is committed, the corporation may, after proper investigation, lose its tax-free status and ordered to pay income tax on its earnings, plus interest and penalties.
Following the principles that taxes are the lifeblood of the State and tax exemptions are strictly construed against the party invoking it, entities that claim income tax exemption should submit proof of compliance with the law other than financial statements signed by their external accountant.
The Court of Tax Appeals has ruled in a number of cases that “it is not bound by the findings of the ICPA (Independent Certified Public Accountant). The report submitted by the ICPA is but a tool or guide to aid the Court in the resolution of the case. The determination of the merit or the probative value of such report is still within the province of the Court.”
Consequences
Except for “payment of compensation, salaries or honorarium to its trustees or organizers,” the rest of the acts cited in the circular are manageable. They can be handled through internal rules of operation.
It is common practice in non-stock and nonprofit corporations or associations to give some form of honorarium or allowance to their trustees or officers when they attend meetings or perform special tasks for the organization.
The amounts involved are not big. At best, they are just enough to reimburse transportation expenses or other costs incurred in the performance of assigned duties and responsibilities.
Although it would be ideal for trustees and officers to serve without remuneration, the reality on the ground is not all of them are financially well off or have sources of income that can make up for the money they have to spend to be able to participate in the organization’s activities.
This is particularly true for NGOs, civic-religious associations and other similar groups engaged in grassroots-based activities.
If the circular is to be strictly followed, they have to cease giving honorarium or allowance to their trustees or officers to be able to maintain their tax-free status.
The withdrawal of that benefit could result to adverse consequences on their operation.
It is therefore advisable for the concerned organizations to clarify this issue with the BIR as soon as possible.
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