Christmas Giving

It’s Christmas season once more! For a lot of people, Christmas brings forth feelings of trepidation, laughter and cheer. It is a time of joy as we get to see relatives we haven’t seen for a long time during family reunions. It is a time when both employees and students alike can relax and take a break from the stress of office or school work.

Yet, for most people, especially those living in urbanized cities, instead of being a time for relaxation, Christmas becomes a time of stress due to the hustle and bustle of several company parties, organizational parties, church parties, family reunions, not to mention the dreaded Christmas shopping for gifts! Although employees are supposedly richer during this time because of the release of their 13th month pay, expenses for these aforementioned party contributions and gifts eat up the otherwise extra inflow of cash. In fact, not only is the extra income brought about by the various bonuses eaten up, they even usually end up broke and buried deeper in debt as a result of excessive shopping for both themselves and their loved ones.

However, giving gifts and throwing parties this Christmas need not be too burdensome and stressful. Besides, just like giving birth, these things are not actually emergency situations but normal and regular events that we can prepare for by planning ahead. Creating a budget is not only for business operations, buying a home, a vehicle or preparing for your children’s college fund or one’s retirement. A budget may also be used in preparing for any event that entails expenses. As with any financial plan, preparing a Christmas budget begins with setting the goals relative to the target recipients and intended price limit per gift or contribution. The next step is to find out the place where the best deals can be found considering the most appropriate gifts that you intend to give the concerned persons. After determining the target amounts, recipients, and specific gifts, it is now time to start setting aside the money therefor. Take note that these things should be done at the start of the year or at the latest, six months before the next Christmas.

Ensuring the success of any endeavor depends on proper planning and execution. Sufficient planning helps enable us to avoid unwanted surprises and excessive expenses. Without a plan, we may be tempted to give gifts to everyone in our Facebook friends list. This is especially true once we are already inside the mall for our Christmas shopping spree. A budget limits our expenses to only those which we intended. It prevents impulsive spending. Keep in mind that we do not need to spend more than what we want to impress people we don’t even like.

Giving gifts this Christmas should not feel like such a heavy financial burden. The essence of giving gifts is its voluntariness. We should not give gifts just because we feel obliged to give but because God loves a cheerful giver. Just like the real reason for the season wherein for God so loved the world, that He gave His one and only Son, that whoever believes in Him shall not perish but have everlasting life (John 3:16). This is the Gospel of Salvation in Christ that we celebrate each year. God the Father did not sacrifice his only begotten Son, the ultimate gift that anyone could ever receive, because he felt obliged to but because of His great love for us. As sinners, we deserve only the punishment that a just God has in store for those who violate His commands and precepts. Nevertheless, because of God’s overflowing love for us, He did not want us to suffer eternal hell-fire reserved for Satan and his minions. In order to satisfy both his justice and love, the only solution was for the Father to let His Son Jesus, God the Son, receive the penalty for our sins. Let this be the same motivation why we likewise give gifts every Christmas season.

The G.O.O.D. Plan

“The rich rules over the poor, and the borrower is the slave of the lender” (Proverbs 22:7, ESV).

“Owe nothing to anyone—except for your obligation to love one another. If you love your neighbor, you will fulfil the requirements of God’s law”
(Romans 13:8, NLT)

In my previous article, we talked about the first phase in the personal financial planning process: cashflow management. Now, we will be discussing the second phase, the “D” in the CD-RW process, which is debt management or what we call the “GOOD” plan, which stands for “Getting-Out-Of-Debt.” Nevertheless, remember what I have said before, it is not always necessary to totally eliminate all debts because there are certain debts that are truly indispensable or even good such as debts incurred for business capitalization purposes. What is more important is that debts are reduced to manageable levels.

Unfortunately however, most people, even lawyers, get into the bad kinds of debts, particularly, consumer debts. Consumer debt comes in many forms, the most popular one being credit card debt. Believe me, I’ve been guilty of that as well! For those who are employed, your firm may also offer cooperative loans if you are a member of one. Moreover, as you get older and more successful in your law practice, you will also probably get a car loan or a housing loan, especially when you get married. And yes, having a nice car can definitely help you get more and better clients as it gives them the perception that you are successful and worth your salt.

According to the Bangko Sentral ng Pilipinas (BSP), there are over six million credit cards issued in the Philippines. The BSP reported that the Philippine banking system had P130 billion in credit card receivables as of September 2009, 13% of which were non-performing. Take note, that was 6 years ago. What more today? The problem arises when credit cards and other kinds of consumer loan facilities are abused. Ideally, credit cards should only be used for emergency purposes but if it really can’t be helped, you must at least make sure to pay the whole amount when the bill arrives and not just the minimum required amount. Paying only the minimum just buries you deeper and deeper into debt.

To make things worse, banks make it easier and easier for just about anyone to get a credit card these days. One day, you will just be surprised to find a pre-approved credit card under your name right at your doorstep (or mailbox), if you haven’t already! Verily, unexpectedly receiving those precious little plastic cards will make you feel like you have just won the lottery. But beware, what appears to be a blessing might actually turn out to be a curse!

New York Times best-selling author, wealth coach, and radio host, Dave Ramsey, said, “Personal finance is 80% is behavior and 20% head knowledge.” Daniel Kahneman, in his best-selling psychology book, Thinking, Fast and Slow, proved through experimental exercises that the emotional mind is more powerful than the rational mind. In other words, skill, although indispensable, is only the tip of the iceberg. No matter how skillful a person is, if his behavior or habits are terrible, then all those technical knowledge and skills go out the window. As celebrity wealth coach Chinkee Tan puts it, “It’s all in the attitude, dude!” Although, such a thing is also true for all other endeavors, it is more so for personal finance.

Getting in debt is a lot easier than getting out of it. It is easier to borrow money than pay it back. Debt is like a quicksand that is constantly trying to pull you down. The more you struggle, the harder it is to get out. Likewise, if we refuse to give up some of the comforts in life and change our spending habits, we will sink deeper and deeper into debt. For things to change, we have to change. In his book, Debtermined, personal development and success coach, Jayson Lo, discussed a three-pronged solution brothers Chip and Dan Hearth came up with.

  • Direct the Rider
  • Motivate the Elephant
  • Shape the Path

The Rider represents the rational mind, the elephant, the emotional mind, and the Path is the direction a person wants or needs to go. The Rider holds the reins and seems to be the one in control, but the Rider’s control is unstable because he is so much smaller than the Elephant. The Rider and the Elephant need to come together and shape the Path by creating a detailed image of what the destination would look like once changes are made. Their book, Switch: How to Change Things When Change is Hard, calls it a “destination postcard.”

The tension arises, says Lo, when the Rider and the Elephant pull in different directions. Riders without Elephants produce understanding without motivation. Elephants without Riders produce passion without direction. Riders and Elephants without a clear path produce movement without progress.

According to my friend and internationally-renowned registered financial planner Randell Tiongson, author of No Nonsense Personal Finance, before we buy anything on credit, there are some things we must consider: First is purpose. What is the compelling reason why we need to borrow money? Don’t you have any other source of funds than credit? Is what you are planning to buy with the borrowed money a need or a want? If it is merely a want, wouldn’t it be better to just postpone the purchase until you have saved sufficient money for it? Avoid impulsive buying. There were a lot of times that I really felt that the thing that I wanted to buy was a need but after a good night’s sleep, I realized the following day that I can actually do fine without it.

Second is cost. Despite the disallowance of the Department of Trade and Industry (DTI) on charging additional fees for credit card purchases, merchants have since come up with cunning ways to circumvent the law. And yes, this includes “zero interest” purchases on installment. Instead of calling it “interest,” merchants would instead say that they will give you a discount if you purchase it using cash. That’s why it may still be wisest to purchase things on cash basis. If you want to learn more how this works and more, attend our Financial Planners’ Training leading to the globally-recognized Associate Financial Planner (AFP) professional certification.

Third is interest. We all know about legal fruits. No, not just the mangoes, bananas, strawberries and the like—although those are included. I am pertaining to civil fruits, industrial fruits, and yes, natural fruits. One of the most ubiquitous civil fruits aside from rent is interest. Interest is what debtors pay their creditors as compensation for the use of their money. The thing is, consumer loans, as opposed to business or corporate loans, often carry with it higher interest because of the risk factor. Most banks charge 3% to 3.5% per month as interests on credit card purchases. That would result in annual nominal interest rates of around 36% to 42%! Take note, we are only talking about banks. Non-institutional lenders such as loan sharks, 5-6, or other private lending companies can charge up to 20% per month! What’s worse is that interest on debts is usually compounded. Compounding interest is simply interest upon the interest upon interest. Many people do not realize the power of compounding interest in relation to time. Compounding interest can work for you or against you depending on which side of the balance sheet you are. The value of your money today, whether you borrowed it or invested it, will not be its value five, ten, or twenty years from now. This is what financial planners refer to as the time value of money.

But what if you are already waist or neck-deep in credit card debt? The first and foremost thing that you should do is to resolve within yourself. Resolve to get out of debt and stay out of debt. Insanity, as defined by Albert Einstein is “Doing the same things over and over again but expecting different results.” So, after resolving to get out of debt, it is time to act on that resolve. Start by making a list or inventory of all your outstanding debts including the balance, start date, and status. Then, using what financial planners call the snowball method, start paying off your debt with the lowest amount. Doing so is more achievable and realistic. After you have paid that off, you can now proceed to the next bigger debt and so on and so forth until you have paid off all your debts. When you see you debts getting paid off one by one, it encourages you to take on the next bigger debt unlike if you start with the largest debt, which might just end up in frustration due to its seeming impossibility.

There may be times of plenty when you will suddenly get to earn big bucks because of a lump sum payment such as an acceptance fee, packaged deal, success fee, or a new regular retainer fee. Other possible sources could be from bonuses, inheritance, awards, or even raffle prizes. Heck, you can even organize a garage sale for those stuff that you don’t actually use anymore and are just gathering dust in your attic or storage room! Be wise, pick your brain. Better yet, if you’re married, pick your spouse’s brain! Such unexpected income can be used to escalate your debt payments thereby accelerating your debt-extinguishment objective.

Be faithful in paying your debt; but more importantly, be faithful to God. Do not forget what we discussed previously. Tithe! God is the source of everything. If you worship him through your finances and acknowledge that the solution to your problem is him and not just money, then God will give you the ability to produce wealth (Deuteronomy 8:18). This isn’t easy, especially when you are in debt. Nevertheless, Jesus said that if we “seek first his kingdom and his righteousness…all these things will be given to you as well” (Matthew 6:33, NIV).

Last but definitely not the least—in fact, this should be the first thing you do—is pray. We cannot do it on our own strength. We need God’s wisdom and grace to help us in this situation. Remember to “Trust in the LORD with all your heart, and do not lean on your own understanding. In all your ways, acknowledge him, and he will make straight your paths” (Proverbs 3:5-6, ESV). For God promises that “If any of you lacks wisdom, let him ask God. Who gives generously to all without finding fault, and it will be given to you” (James 1:5, NIV).

May the LORD bless you and keep you;
May the LORD make his face shine upon you and be gracious to you;
May the LORD turn his face towards you and grant you peace. Amen.

General Tax Audit Procedures and Documentation

Assessment Process

1. When does the audit process begin? The audit process commences with the issuance of a Letter of Authority to a taxpayer who has been selected for audit.

2. What is a Letter of Authority? The Letter of Authority is an official document that empowers a Revenue Officer to examine and scrutinize a Taxpayer’s books of accounts and other accounting records, in order to determine the Taxpayer’s correct internal revenue tax liabilities.

3. Who issues the Letter of Authority? Letter of Authority, for audit/investigation of taxpayers under the jurisdiction of National Office, shall be issued and approved by the Commissioner of Internal Revenue, while, for taxpayers under the jurisdiction of Regional Offices, it shall be issued by the Regional Director.

4. When must a Letter of Authority be served? A Letter of Authority must be served to the concerned Taxpayer within thirty (30) days from its date of issuance, otherwise, it shall become null and void. The Taxpayer shall then have the right to refuse the service of this LA, unless the LA is revalidated.

5. How often can a Letter of Authority be revalidated? A Letter of Authority is revalidated through the issuance of a new LA. However, a Letter of Authority can be revalidated—

Only once, for LAs issued in the Revenue Regional Offices or the Revenue District Offices; or

Twice, in the case of LAs issued by the National Office.

Any suspended LA(s) must be attached to the new LA issued (RMO 38-88).

6. How much time does a Revenue Officer have to conduct an audit? A Revenue Officer is allowed only one hundred twenty (120) days from the date of receipt of a Letter of Authority by the Taxpayer to conduct the audit and submit the required report of investigation. If the Revenue Officer is unable to submit his final report of investigation within the 120-day period, he must then submit a Progress Report to his Head of Office, and surrender the Letter of Authority for revalidation.

7. How is a particular taxpayer selected for audit? Officers of the Bureau (Revenue District Officers, Chief, Large Taxpayer Assessment Division, Chief, Excise Taxpayer Operations Division, Chief, Policy Cases and Tax Fraud Division) responsible for the conduct of audit/investigation shall prepare a list of all taxpayer who fall within the selection criteria prescribed in a Revenue Memorandum Order issued by the CIR to establish guidelines for the audit program of a particular year. The list of taxpayers shall then be submitted to their respective Assistant Commissioner for pre-approval and to the Commissioner of Internal Revenue for final approval. The list submitted by RDO shall be pre-approved by the Regional Director and finally approved by Assistant Commissioner, Assessment Service (RMOs 64-99, 67-99, 18-2000 and 19-2000).

8. How many times can a taxpayer be subjected to examination and inspection for the same taxable year? A taxpayer’s books of accounts shall be subjected to examination and inspection only once for a taxable year, except in the following cases:

When the Commissioner determines that fraud, irregularities, or mistakes were committed by Taxpayer;

When the Taxpayer himself requests a re-investigation or re-examination of his books of accounts;

When there is a need to verify the Taxpayer’s compliance with withholding and other internal revenue taxes as prescribed in a Revenue Memorandum Order issued by the Commissioner of Internal Revenue.

When the Taxpayer’s capital gains tax liabilities must be verified; and

When the Commissioner chooses to exercise his power to obtain information relative to the examination of other Taxpayers (Secs. 5 and 235, NIRC).

9. What are some of the powers of the Commissioner relative to the audit process? In addition to the authority of the Commissioner to examine and inspect the books of accounts of a Taxpayer who is being audited, the Commissioner may also:

Obtain data and information from private parties other than the Taxpayer himself (Sec.5, NIRC); and

Conduct inventory and surveillance, and prescribe presumptive gross sales and receipts (Sec. 6, NIRC).

10. Within what time period must an assessment be made? An assessment must be made within three (3) years from the last day prescribed by law for the filing of the tax return for the tax that is being subjected to assessment or from the day the return was filed if filed late. However, in cases involving tax fraud, the Bureau has ten (10) years from the date of discovery of such fraud within which to make the assessment.

Any assessments issued after the applicable period are deemed to have prescribed, and can no longer be collected from the Taxpayer, unless the Taxpayer has previously executed a Waiver of Statute of Limitations.

11. What is “Jeopardy Assessment”? A Jeopardy Assessment is a tax assessment made by an authorized Revenue Officer without the benefit of complete or partial audit, in light of the RO’s belief that the assessment and collection of a deficiency tax will be jeopardized by delay caused by the Taxpayer’s failure to:

Comply with audit and investigation requirements to present his books of accounts and/or pertinent records, or

Substantiate all or any of the deductions, exemptions or credits claimed in his return. A jeopardy assessment is illegal.

12. What is a Pre-Assessment Notice (PAN)? The Pre-Assessment Notice is a communication issued by the Regional Assessment Division, or any other concerned BIR Office, informing a Taxpayer who has been audited of the findings of the Revenue Officer, following the review of these findings.

If the Taxpayer disagrees with the findings stated in the PAN, he shall then have fifteen (15) days from his receipt of the PAN to file a written reply contesting the proposed assessment.

13. Under what instances is PAN no longer required? A Preliminary Assessment Notice shall not be required in any of the following cases, in which case, issuance of the formal assessment notice for the payment of the taxpayer’s deficiency tax liability shall be sufficient:

When the finding for any deficiency tax is the result of mathematical error in the computation of the tax appearing on the face of the tax return filed by the taxpayer; or

When a discrepancy has been determined between the tax withheld and the amount actually remitted by the withholding agent; or

When a taxpayer who opted to claim a refund or tax credit of excess creditable withholding tax for a taxable period was determined to have carried over and automatically applied the same amount claimed against the estimated tax liabilities for the taxable quarter or quarters of the succeeding taxable year; or

When the excise tax due on excisable articles has not been paid; or

When an article locally purchased or imported by an exempt person, such as, but not limited to, vehicles, capital equipment, machineries and spare parts, has been sold, traded or transferred to non-exempt persons.

14. What is a Notice of Assessment/Formal Letter of Demand?

A Notice of Assessment is a declaration of deficiency taxes issued to a Taxpayer who fails to respond to a Pre-Assessment Notice within the prescribed period of time, or whose reply to the PAN was found to be without merit. The Notice of Assessment shall inform the Taxpayer of this fact, and that the report of investigation submitted by the Revenue Officer conducting the audit shall be given due course.

The formal letter of demand calling for payment of the taxpayer’s deficiency tax or taxes shall state the facts, the law, rules and regulations, or jurisprudence on which the assessment is based, otherwise, the formal letter of demand and the notice of assessment shall be void.

15. What is required of a taxpayer who is being audited? A Taxpayer who is being audited is obliged to:

Duly acknowledge his receipt of the appropriate Letter of Authority upon its presentation by the Revenue Officer authorized to conduct the audit by affixing in the Letter of Authority the name of the recipient and the date of receipt.

Present within a reasonable period of time, his books of accounts and other related accounting records that may be required by the Revenue Officer; and

Submit the necessary schedules as may be requested by the Revenue Officer within a reasonable amount of time from his (Taxpayer’s) receipt of the Letter of Authority.

16. What is the recourse of a Taxpayer who cannot submit the documents being required of him within the prescribed period of time? If a Taxpayer, believing that he cannot present his books of accounts and/or other accounting records, intends to request for more time to present these documents in order to avoid the issuance of a Jeopardy Assessment, the Taxpayer may execute what is referred to as a Waiver of the Statute of Limitations.

17. What is a Waiver of the Statute of Limitations? The Waiver of the Statute of Limitations is a signed statement whereby the Taxpayer conveys his agreement to extend the period within which the Bureau may validly issue an assessment for deficiency taxes. If a Taxpayer opts to execute a Waiver of the Statute of Limitations, he shall likewise be, in effect, waiving his right to invoke the defense of prescription for assessments issued after the reglementary period.

No Waiver of the Statute of Limitations shall be considered valid unless it is accepted by a duly authorized Bureau official.

18. If a Taxpayer does not agree with the assessment made following an audit, can he protest this Assessment?Yes, he can. A Taxpayer has the right to contest an assessment, and may do so by filing a letter of protest stating in detail his reasons for contesting the assessment.

19. What are the characteristics of a valid protest? A protest is considered valid if it satisfies the following conditions:

It is made in writing, and addressed to the Commissioner of Internal Revenue;

It contains the information, and complies with the conditions required by Sec. 6 of Revenue Regulations No. 12-85; to wit:

a.) Name of the taxpayer and address for the immediate past three (3) taxable year.

b.) Nature of request whether reinvestigation or reconsideration specifying newly discovered evidence he intends to present if it is a request for investigation.

c.) The taxable periods covered.

d.) Assessment number.

e.) Date of receipt of assessment notice or letter of demand.

f.) Itemized statement of the findings to which the taxpayer agrees as a basis for computing the tax due, which amount should be paid immediately upon the filing of the protest. For this purpose, the protest shall not be deemed validly filed unless payment of the agreed portion of the tax is paid first.

g.) The itemized schedule of the adjustments with which the taxpayer does not agree.

h.) A statement of facts and/or law in support of the protest.

The taxpayer shall state the facts, applicable law, rules and regulations or jurisprudence on which his protest is based, otherwise, his protest shall be considered void and without force and effect on the event the letter of protest submitted by the taxpayer is accepted, the taxpayer shall submit the required documents in support of his protest within sixty (60) days from date of filing of his letter of protest, otherwise, the assessment shall become final, executory and demandable.

It is filed within thirty (30) days from the Taxpayer’s receipt of the Notice of Assessment and formal Letter of Demand.

20. In the event the Commissioner’s duly authorized representative denies a Taxpayer’s protest, what alternative course of action is open to the Taxpayer? If a protest filed by a Taxpayer be denied by the Commissioner’s duly authorized representative, the Taxpayer may request the Commissioner for a reconsideration of such denial and that his tax case be referred to the Bureau’s Appellate Division. The Appellate Division serves as a “Court”, where both parties, i.e. the Revenue Officer on one hand, and the Taxpayer on the other, can present testimony and evidence before a Hearing Officer, to support their respective claims.

21. What recourse is open to a Taxpayer if his request for reconsideration is denied or his protest is not acted?

Should the Taxpayer’s request for reconsideration be denied or his protest is not acted upon within 180 days from submission of documents by the Commissioner, the Taxpayer has the right to appeal with the Court of Tax Appeals (CTA).

Any appeal must be done within thirty (30) days from the date of the Taxpayer’s receipt of the Commissioner’s decision denying the request for reconsideration or from the lapse of the 180 day period counted from the submission of the documents. (Sec. 228 of the Tax Code, as amended).

22. If the Taxpayer is not satisfied with the CTA’s decision, can he appeal the decision to a higher Court? Yes, he can. Decisions of the Court of Tax Appeals may be appealed with the Court of Appeals within fifteen (15) days from the Taxpayer’s receipt of the CTA’s decision. In the event that the Taxpayer is likewise unsatisfied with the decision of the Court of Appeals, he may appeal this decision with the Supreme Court.

23. Can a Taxpayer claim a refund or tax credit for erroneously or illegally collected taxes? Yes, he can. The Taxpayer may file such a claim with the Commissioner of Internal Revenue (Sec.229, NIRC), within two (2) years from the payment of the tax or penalty sought to be refunded. Failure of the Taxpayer to file such a claim within this prescribed period shall result in the forfeiture of his right to the refund or tax credit.

24. If a Taxpayer has filed a claim for refund and the Bureau has yet to render a decision on this claim, can the Taxpayer elevate his claim to the CTA?

25. What means are available to the Bureau to compel a Taxpayer to produce his books of accounts and other records? A Taxpayer shall be requested, in writing, not more than two (2) times, to produce his books of accounts and other pertinent accounting records, for inspection. If, after the Taxpayer’s receipt of the second written request, he still fails to comply with the requirements of the notice, the Bureau shall then issue him a Subpoena Duces Tecum.

26. What course of action shall the Bureau take if the Taxpayer fails to comply with the Subpoena Duces Tecum?

If, after the Taxpayer fails, refuses, or neglects to comply with the requirements of the Subpoena Duces Tecum, the Bureau may:

File a criminal case against the Taxpayer for violation of Section 5 as it relates to Sections 14 and 266, of the NIRC, as amended; and/or

Initiate proceedings to cite the Taxpayer for contempt, under Section 3(f), Rule 71 of the Revised Rules of Court.

27. What alternatives are open to Government for the collection of delinquent accounts?

Once an assessment becomes final and demandable, the Government may employ any, or all, of the following remedies for the collection of delinquent accounts:

Distraint of personal property;

Levy of real property belonging to the Taxpayer;

Civil Action; and

Criminal Action.

28. What is “Distraint of Personal Property”? Distraint of personal property involves the seizure by the Government of personal property – tangible or intangible – to enforce the payment of taxes, followed by the public sale of such property, if the Taxpayer fails to pay the taxes voluntarily.

29. What is “Levy of Real Property”? Levy of real property refers to the same act of seizure, but in this case of real property, and interest in or rights to such property in order to enforce the payment of taxes. As in the distraint of personal property, the real property under levy shall be sold in a public sale, if the taxes involved are not voluntarily paid following such levy.

30. In what time period must collection be made? Any internal revenue tax, which has been assessed within the period prescribed shall be collected within three (3) years from date of assessment. However, tax fraud cases may be collected by distraint or levy or by a court proceeding within five (5) years from assessment of the tax or from the last waiver.

 

Financial Accounting vs. Tax Accounting

“Then render to Caesar the things that are Caesar’s, and to God the things that are God’s.” (Luke 20:25, ESV)

Although roughly only 10% of taxpayers are audited annually, professionals and business owners are in constant fear of the Bureau of Internal Revenue (BIR), especially with the spunky Commissioner Kim Jacinto-Henares at its helm. In speaking and interacting with several accountants in a business setting, I have heard them say again and again that no matter how well they prepare a client’s financial statements, the BIR can and will always find a deficiency somewhere. To be sure, this is not only true for small and medium accounting and auditing firms but with big ones as well.

Certified Public Accountants (CPAs) use financial accounting principles or what is more commonly known as Generally Accepted Accounting Principles (GAAP) and Generally Accepted Auditing Standards (GAAS). In the Philippines, we have adopted the International Financial Reporting Standards (IFRS) as our Philippine Financial Reporting Standards (PFRS). The problem arises when these audited financial statements (AFS) are submitted to the BIR as attachment to company or individual Income Tax Returns (ITR) for purposes of computing the tax liability. This is due to the fact that the BIR does not use the same accounting principles and standards used in financial accounting but rather that which is provided for by law under the National Internal Revenue Code of 1997 (NIRC) or Tax Code for short, along with revenue issuances by the Commissioner of Internal Revenue, such as Revenue Regulations (RR), Revenue Memorandum Orders (RMO), and Revenue Audit Memorandum Orders (RAMO), among others.

RR No. 8-2007 provides that “the recording and recognition of business transactions for financial accounting purposes, in a majority of situations, differ from the application of tax rules on the same transactions resulting to disparity of reports for financial accounting vis-à-vis tax accounting.” Moreover, RMC No. 22-2004 states that “It has been observed that the GAAP and GAAS approved and adopted may from time to time be different from the provisions of the Tax Code.” It then provides that “All returns required to be filed by the Tax Code shall be prepared always in conformity with the provisions of the Tax Code. Taxability of income and deductibility of expenses shall be determined strictly in accordance with the provisions of the Tax Code and the rules and regulations issued implementing the said Tax Code. In case of difference between the provisions of the Tax Code and the rules and regulations implementing the Tax Code, on one hand, and the GAAP and GAAS, on the other hand, the provisions of the Tax Code and the rules and regulations issued implementing the Tax Code shall prevail.” In a separate ruling, the BIR held that “Therefore, it is the financial statements which is in conformity with the Tax Code that should be attached in the filing of Income Tax Returns” (BIR Ruling No. M-111-2006).

This is the main reason why the BIR always finds alleged deficiencies in a taxpayer’s tax return and payment. But what if you have already been using financial accounting principles for the longest time in filing your ITR? Don’t worry, all hope is not lost. RR No. 8-2007 further provides that “Hence, there is a need to reconcile the disparity in a systematic and clear manner to avoid irritants between the taxpayer and the tax enforcer. Accordingly, concerned taxpayers are hereby mandated to maintain books and records that would reflect the reconciling items between Financial Statements figures and/or data with those reflected/presented in the filed Income Tax Return (ITR). The recording and presentation of the reconciling items in such books and records shall be done in such a manner that would facilitate the understanding by the examiners/auditors of the Bureau of Internal Revenue tasked to undertake audit/investigation functions, providing in sufficient detail the computation of the differences and the reasons therefore aimed at bringing into agreement the IFRS and ITR figures.”

Surely, such reconciling of records is indeed taxing (pun intended)! So, in order to avoid such a predicament and the headaches that come along with it, it would be better for taxpayers to adopt tax accounting methods and principles as the PFRS from the very beginning instead of the IFRS as their GAAP and GAAS. For more information on tax accounting principles and methods, please refer to RR V-1 for the Bookkeeping Regulations and RAMO 1-2000, which serves as the guidebook of BIR auditors and examiners in implementing the provisions of the Tax Code, or consult a competent tax professional.

Effects of the Different Property Regimes in the Computation of the Estate Tax Due

Someone asked: “Atty. Terence, I just wanted to ask, what if there was a prenup agreement? How do you divide the properties and compute the estate tax due? Will a prenup supersede the law of a community property with regard to estate tax?”

——————————————————————————————————————

Answer: A prenuptial agreement, otherwise known legally as a marriage settlement, is a contract entered into by the parties intending to get married, which must be executed by them prior to the wedding, otherwise, the same shall be void. The primary purpose of a marriage settlement is to determine the property regime of the parties to the future marriage other than that provided for by law by default.

Estate tax, also known as inheritance tax, is a tax on the right of a deceased person to transmit his estate to his lawful heirs and beneficiaries. Contrary to popular belief, it is not a tax on property but on the right to transmit property at death, and is measured by the value of the property.

Now that we know what estate tax is, we should then consider the different kinds of property regimes that a married couple can enter into in order for us to properly compute the value of their respective gross estates and ultimately, their net taxable estates.

For marriages celebrated after or on the effectivity date of the Family Code, which is on August 3, 1988, in the absence of a valid marriage settlement, the default property regime of absolute community of property (ACP) shall govern. In a regime of ACP, the community property shall consist of all the property owned by the spouses at the time of the celebration of the marriage or acquired thereafter. However, the following are excluded therefrom: (1) Property acquired during the marriage by gratuitous title by either spouse, and the fruits as well as the income thereof, if any, unless it is expressly provided by the donor, testator or grantor that they shall form part of the community property; (2) Property for personal and exclusive use of either spouse; however, jewelry shall form part of the community property; and (3) Property acquired before the marriage by either spouse who has legitimate descendants by a former marriage, and the fruits as well as the income, if any, of such property.

On the other hand, for marriages celebrated before the effectivity of the Family Code, the default property regime of conjugal partnership of gains (CPG) provided for under the Civil Code, the effectivity of which began on August 30, 1950, shall prevail. The same is true in case the future spouses agree in the marriage settlements that the regime of conjugal partnership of gains shall govern their property relations during the marriage. In a regime of CPG, the husband and wife place in a common fund  the proceeds, products, fruits and income from their separate properties and those acquired by either or both spouses through their efforts or by chance, and, upon dissolution of the marriage of the partnership, the net gains or benefits obtained by either of both spouses shall be divided equally between them, unless otherwise agreed in the marriage settlements. Hence, the following shall be the exclusive property of each spouse: (1) That which is brought to the marriage as his or her own; (2) That which each acquires during the marriage by gratuitous title; (3) That which is acquired by right of redemption, by barter or exchange with property belonging to only one of the spouses; and (4) That which is purchased with exclusive money of the wife or of the husband.

Lastly, in a regime of complete separation of property (CSP), each spouse retains ownership of his or her own properties including the fruits thereof. In short, what’s yours is yours and what’s mine is mine. Article 134 of the Family Code provides that in the absence of an express declaration in the marriage settlements, the separation of property between spouses during the marriage shall not take place except by judicial order. Such judicial separation of property may either be voluntary or for sufficient cause.

So, after determining the share of each spouse from the mass of the community or conjugal property, we can now compute for their respective individual gross estates. Section 85 of the National Internal Revenue Code provides that “the value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated; Provided however, that in the case of the non-resident decedent who at the time of his death was not a citizen of the Philippines only that part of the entire gross estate which is situated in the Philippines shall be included in his taxable estate.”

Having determined their respective individual gross estates, we can now proceed to computing their net taxable estates taking into consideration the applicable exclusions and deductions provided for by law.

Words of Wisdom From Master Advisor Nick Murray

1. If you are still prospecting, no matter what else is wrong with your business, you will yet succeed. If you stop prospecting, in the absence of a steady flow of referrals/introductions, then no matter what else appears to be right with your business at the moment, you are ultimately going to fail.

2. “Rejection” does not hurt, other than to the extent we allow it to do so. The only way to hear “yes” is to risk hearing “no.”

3. Most people who invest most of their capital in fixed income investments as they go into retirement will run out of money well within their lifetimes, and will die destitute and dependent upon their children. Equities: life. Bonds: death-in-life.

4. Optimism is the only realism. It is the only world view that squares with the facts, and with the historical record.

5. Get a year’s living expenses in a money market fund as quickly as you can, even if you have live on coffee and rice while you’re saving toward this goal. This will allow you to turn down business that doesn’t feel 100% right to you. It will give you the strength to tell any prospect to go to the devil, and make it stick.

6. It is infinitely easier to turn a one-million dollar client into a two-million dollar client than it is to turn ten one-hundred thousand-dollar clients into two-hundred-thousand dollar clients.

7. Money is love. The wise advisor will always look for clients who wish to use their money as an expression of love.

8. Your price is only an issue to the extent that your value is in question.

9. Every year on your birthday, fire the client who has given you the most grief since your last birthday.

10. Never take part of an investment account. Win it all, or pass on it all. It’s not just the gaps, the overlaps and the lost fee efficiencies that make divided accounts a no-no: it’s that you’re getting sucked into a performance derby.

11. When we are telling prospects and clients exactly what they need to do in order to achieve their most deeply-held financial goals, it is not possible for them to counter with valid objections, because there are no valid objections.

12. The origin of all wealth is threefold: personal initiative, hard work, and thrift. Tell me the percentage of your income that you’re putting away, and I’ll tell you whether you’re going to achieve your financial goals.

13. The world does not end. It only seems to be ending. This time is never different.

14. Americans say they want safety and income. What they really want is all the income they can get, and the illusion of safety. More money has been lost in the quest for the chimerical combination of safety and high yield than in all the stock market crashes in history.

15. Stop trying to prove anything. You can’t prove the sun’s coming up tomorrow, nor that you or your client will be here to see it even if it does. A great advisor never accepts the burden of proof.

16. There is no such thing as a “standard” deviation. Reality always comes at us out of deep left field.

17. The only sane investment objective in retirement is an income that grows at a minimum of the same rates at which one’s cost of living is rising.

18. There is no statistical evidence fore the persistence of performance.

19. Disciplined diversification is a pact with heaven: I will never own enough of any one thing to make a killing in it; I will never own enough of any one thing to be able to be killed by it.

20. All investment “new eras” end in ruin, because all inventions follow the same arc, from miracle to commodity.

21. Never take your business problems home with you. That way you can never take them out on the people who love you.

22. Price and value are inversely correlated. When the price of any investment sector is rising, its value is declining; the converse is also true.

23. The most fascinating aspect of all financial crises is their essential sameness.

24. Life is too short to work with anyone you don’t like, and /or who doesn’t like you.

25. Get our of debt, and stay out of debt. This can be a very cyclical business. If you’re a genuinely high-quality advisor, you will lose accounts and AUM in a “new era” speculative orgy. Keep you nut as low as you possibly can.

26. What goes around comes around, even if it’s on a very long, elliptical orbit.

27. Inflation is always and everywhere a monetary phenomenon.

28. The iron law of the commodity cycle is: supply responds directly to price, even as demand responds inversely to it.

29. The advance is permanent. The declines are temporary. There have been twelve bear markets with a mean decline of 25% since the end of World War II. The first one started on May 29, 1946. that day, the S&P Index closed at 19.5. As I write, twelve ends-of-the-world later, it is 1400. Stocks are up seventy times over these six decades because earnings are up seventy times.

30. Almost all of life is in the Grateful Dead dong “Uncle John’s Band.” The rest is in “Box of Rain.”

31. The dominant determinant of the real long-term returns real people really get isn’t investment performance. It’s investor behavior.

32. Every Christmas, assemble your entire family and watch the A&E move The Crossing, about Washington’s attack across the Delaware on Christmas night, 1776. This, and not It’s a Wonderful Life, is the true American Christmas classic. Every April 13, assemble them all again, and watch Apollo 13.

33. Protectionism always raises consumer prices above where they would otherwise be; it also invariably destroys more jobs than it “saves.”

34. All investments are income investments. They are made for the production either of current income, or of future income, or of income for someone else. The only sane test of an investment’s long term income producing potential is its long term total return, not its current yield. By that one sane test, stocks are a far better income investment than bonds.

35. The computer in your cell phone is a million times smaller, a million times cheaper, and a thousand times more powerful than the mainframe computer used by E.F. Hutton & Company on the day I joined that firm, May 1, 1967. This is a billion fold increase in computing power per dollar. In the next quarter century, there will be another such billion fold increase, at which point technology will have essentially solved all our current problems: energy, the environment, poverty and disease. This is the exact worst moment in human history to turn pessimistic.

36. Freedom is never free.

37. No one who really understands baseball ever referred to the 1969 World Series champions as the Miracle Mets. They were anything but a miracle. Indeed, from the middle of the 1968 season on, they were well nigh inevitable.

38. There is no completely bad time to be prospecting, but the very best time to be prospecting is when the market is down 20%. Amateurs will have stopped calling their clients, and your timeless wisdom will never get a better hearing.

39. The only sure way to be trusted is to be single-mindedly, relentlessly trustworthy. The only way to be sure you’re always absolutely trustworthy is to tell the pure, unvarnished truth all the time, and let the chips fall where they may.

40. Stop asking for referrals. Ask for introductions.

41. And in the end, the love you take is equal to the love you make.

Investment 101

This time of year, many people think about freedom and what it means to them. We’d like to go one step further and ask that you consider your financial freedom. Imagine being financially free to live the life of your dreams and be in complete control of how you spend your time. Start today by asking yourself two simple questions:

Are you close to being financially free?

If not, do you have an action plan to get there?

If you didn’t answer an affirmative “YES” to either one of those questions, now is your time to take action. The reality is that you must have a plan if you want to achieve financial freedom. Without a plan you’ll likely never get to where you are going and could potentially waste a great deal of time and money in the process. The good news is as long as you make the decision to ACT TODAY you can begin taking steps towards financial freedom – and we can help!

Just gather at least 20 of your officemates, churchmates, classmates, friends, or relatives and we will come to you!

Investment 101

Make Your Money Work for You!

In the Philippines, most people view dabbling in the stock market as a form of gambling and as a result avoid investing therein. In fact, several years ago, I asked my dad, who is arguably the most successful Filipino executive in the international pharmaceutical industry of his time, why he hasn’t considered investing some of his retirement money in the stock market or in other similar financial instruments. He told me that the reason why he does not is that he wants to have absolute control over his money and he cannot have that with the stock market because placing your money there is just exactly like gambling where other people and circumstances dictate the condition of one’s investments. Unfortunately, I believed him.

Ironically, for a lot of Filipinos, this way of thinking about investing in the stock and money market has led them to investing in get-rich-quick scams offered by unscrupulous persons. I mean, who hasn’t heard of Multitel, Aman Futures and the like? Instead of getting themselves financially educated and patiently investing in legal and time-tested ways to grow their money, they gullibly hitch on the bandwagon of these allegedly “safe” and “high yielding” investment vehicles such as the Ponzi Scheme, also known as the “pyramiding scheme.”

Now, some people might think that I am referring to Multi-Level Marketing (MLM) businesses. I am not. Pyramiding and MLM are not necessarily synonymous. While Ponzi schemes take people’s money and use them in paying the referral commissions of those who joined earlier without trafficking any actual product whatsoever, legitimate MLM companies carry tangible products such as food supplements, skincare and cosmetics, clothing apparel, and household stuff, to name a few. To know if you are joining a legitimate MLM company, make sure that the same is a corporate entity registered with the Securities and Exchange Commission (SEC) and a member of the Direct Selling Association of the Philippines (DSAP). Moreover, be wary of MLM companies that sell cheap products at exorbitant prices. Check the prevailing market value of similar products before jumping in. In other words, don’t just rely on the testimonies of certain network marketers, even if they are your family members, but do your own research. Due diligence is the key.

As for the stock market, when you buy the shares of stocks of a certain corporation, you actually become a part owner of that business. As a part owner, you get to have a share of the business profits, called dividends. In addition, you are also entitled to voting rights, provided that your shares are common stocks. Getting into the stock market only becomes as risky as gambling if you are involved in stock trading, where stocks are bought and sold within a short period of time through the use of market trend speculation. However, this is not the case when it comes to stock investing. Although investing in stocks still carries a higher amount of risk compared to fixed income securities such as government bonds and cash deposits due to its volatility, the same can be managed through the use of the Peso Cost Averaging method. Peso Cost Averaging works by investing a fixed amount money in stocks of great Philippine corporations in regular intervals instead of just on a one-time-big-time basis. In this manner, there is no need to time the market conditions because as you buy more units the average cost per unit of investment becomes smaller. Moreover, unlike stock trading, you invest for the long term, preferably a minimum of ten years so as to realize the positive yields of your money. Investing long-term greatly lessens, if not totally eliminates, the risk of devaluating your money because instead of focusing on the present and immediate situation of the market, you look at the bigger picture where, historically speaking, stock prices of great companies always rise in the long run even after a hard fall. Nevertheless, if you are still afraid of investing in the stock market directly or do not have enough money to invest yet, then you can consider investing in pooled equity or balanced funds through Mutual Funds, Unit Investment Trust Funds, or Variable Unit-Linked Insurance. However, that will be the subject of another article!

The bottomline is, in making your money grow, financial literacy is indispensable. So before investing your hard-earned money in any of these instruments, make sure that you invest in yourself first. Read books, attend seminars, watch video lectures, consult expert professionals, or if you’re up to it, go back to school and enroll in a business, finance or law related course. In this time and age of information technology, knowledge, nay, applied knowledge, truly is power; and with great power comes great responsibility!

What are Mortgage-Backed Securities?

Although it is not yet widely known in the Philippines as an investment tool, Mortgage-Backed Securities (MBS) have been in vogue in the United States and other western nations. In fact, these financial instruments played a huge role in the financial crisis of 2008 caused by a huge number of borrowers who defaulted on their residential mortgages. To get an idea of what that was all about, read my previous blog where I posted an article from Wikipedia about the documentary movie “The Inside Job.” So what is an MBS and how is it sold and used as an investment vehicle?

Generally, real estate investments are classified into three categories: (1) Agricultural; (2) Residential; and (3) Commercial. MBS falls under the second category. In an MBS transaction, an issuer sells bonds to investors that are backed by a pool of mortgages. Specifically, the issuer acquires mortgage loans from various third-party lenders and other mortgage loan sellers (“originators”), pools those loans, and transfers them to a trust. The trust then issues certificates that are secured by some or all of the pooled mortgage loans and pays a yield to the investor linked to the cash flow—i.e., the principal and/or interest payments—from the loans. This process is called securitization.

If the borrowers whose mortgage loans back the certificates fail to pay their mortgages, the holders of the certificates backed by the loans might not receive the yield that they expected. The securitization process takes this risk into account in calculating the price and expected yield of the bonds backed by pools of mortgages.

MBS can be backed by different kinds of loans. Mortgage loans are designated prime if the borrowers to whom the loans are made have good credit scores, the loans are fully documented, and the mortgage loans conform to specified guidelines. These loans are considered less risky to investors when securitized, and as a result, pay lower yields. Subprime mortgages are mortgage loans made to borrowers with weaker credit scores and less documentation of income or assets. These loans are riskier because the borrowers are considered more likely to default on their loans. Alt-A mortgages fall between the prime and subprime categories, often involving prime borrowers but lower documentation than would be required for a prime mortgage.

To ensure that the loans they are making are appropriate and that the borrowers can repay them, the originators of the loans have underwriting guidelines that guide their decisions concerning whether to issue a mortgage loan to a borrower. These guidelines, however, are subject to a variety of “exceptions,” which allow an originator to make loans that did not fully comply with guidelines.

When determining whether to purchase a mortgage loan certificate, an investor might consider various statistics regarding the loans underlying the securitization, which were generally provided to them by the sponsor and underwriter of the transaction (described below). These figures would generally be represented to the investor in a document called the prospectus supplement. For example, the prospectus supplement would state the percentage of properties that were occupied by their owners (“owner-occupancy rates”) and the loan-to-value (“LTV”) ratios of the loans (the relationship between the amount of the loan and the value of the property securing the loan). This would give the investor information about how likely the borrowers on the loans underlying the securitizations would be to default on their mortgages. In addition, the prospectus supplement also generally summarized the underwriting guidelines for certain of the mortgage lenders, also known as originators, and represented that the originators made loans in accordance with their underwriting guidelines.

Each securitization would be divided into tranches, representing different ‘slices’ of risk exposure.  Each tranche had its own risk profile and was assigned its own credit rating, with the most senior tranches generally being the least risky and junior tranches having a higher degree of risk exposure.  Investors would select a tranche for purchase based on their appetite for risk.

The date on which a securitization was issued is known as the securitization’s closing date.  Each securitization was assigned a CUSIP number: an alphanumerical identifier unique to that securitization.

MBS were sold to the public by large investment banks such as Morgan Stanley, Bear Stearns, Goldman Sachs, Merrill Lynch, and the Lehman Brothers as profitable and safe investment vehicles. Only time will tell if and when such instruments or those similar thereto will become popular investment instruments in the Philippines and other developing countries in Asia. When that time comes, you would better be prepared. Remember, knowledge is power!

What Caused the Financial Crisis of 2008?

To give you a basic understanding of what really happened in 2008, what follows is a summary of the 2010 documentary that I watched entitled “The Inside Job,” which  was taken from Wikipedia.

Part I: How We Got Here

The American financial industry was regulated from 1940 to 1980, followed by a long period of deregulation. At the end of the 1980s, a savings and loan crisis cost taxpayers about $124 billion. In the late 1990s, the financial sector had consolidated into a few giant firms. In March 2000, the Internet Stock Bubble burst because investment banks promoted Internet companies that they knew would fail, resulting in $5 trillion in investor losses. In the 1990s, derivatives became popular in the industry and added instability. Efforts to regulate derivatives were thwarted by the Commodity Futures Modernization Act of 2000, backed by several key officials. In the 2000s, the industry was dominated by five investment banks (Goldman Sachs, Morgan Stanley, Lehman Brothers, Merrill Lynch, and Bear Stearns), two financial conglomerates (Citigroup, JPMorgan Chase), three securitized insurance companies (AIG, MBIA, AMBAC) and the three rating agencies (Moody’s, Standard & Poors, Fitch). Investment banks bundled mortgages with other loans and debts into collateralized debt obligations (CDOs), which they sold to investors. Rating agencies gave many CDOs AAA ratings. Subprime loans led to predatory lending. Many home owners were given loans they could never repay.

Part II: The Bubble (2001–2007)

During the housing boom, the ratio of money borrowed by an investment bank versus the bank’s own assets reached unprecedented levels. The credit default swap (CDS), was akin to an insurance policy. Speculators could buy CDSs to bet against CDOs they did not own. Numerous CDOs were backed by subprime mortgages. Goldman-Sachs sold more than $3 billion worth of CDOs in the first half of 2006. Goldman also bet against the low-value CDOs, telling investors they were high-quality. The three biggest ratings agencies contributed to the problem. AAA-rated instruments rocketed from a mere handful in 2000 to over 4,000 in 2006.

Part III: The Crisis

The market for CDOs collapsed and investment banks were left with hundreds of billions of dollars in loans, CDOs and real estate they could not unload. The Great Recession began in November 2007, and in March 2008, Bear Stearns ran out of cash. In September, the federal government took over Fannie Mae and Freddie Mac, which had been on the brink of collapse. Two days later, Lehman Brothers collapsed. These entities all had AA or AAA ratings within days of being bailed out. Merrill Lynch, on the edge of collapse, was acquired by Bank of America. Henry Paulson and Timothy Geithner decided that Lehman must go into bankruptcy, which resulted in a collapse of the commercial paper market. On September 17, the insolvent AIG was taken over by the government. The next day, Paulson and Fed chairman Ben Bernanke asked Congress for $700 billion to bail out the banks. The global financial system became paralyzed. On October 3, 2008, President Bush signed the Troubled Asset Relief Program, but global stock markets continued to fall. Layoffs and foreclosures continued with unemployment rising to 10% in the U.S. and the European Union. By December 2008, GM and Chrysler also faced bankruptcy. Foreclosures in the U.S. reached unprecedented levels.

Part IV: Accountability

Top executives of the insolvent companies walked away with their personal fortunes intact. The executives had hand-picked their boards of directors, which handed out billions in bonuses after the government bailout. The major banks grew in power and doubled anti-reform efforts. Academic economists had for decades advocated for deregulation and helped shape U.S. policy. They still opposed reform after the 2008 crisis. Some of the consulting firms involved were the Analysis Group, Charles River Associates, Compass Lexecon, and the Law and Economics Consulting Group (LECG). Many of these economists had conflicts of interest, collecting sums as consultants to companies and other groups involved in the financial crisis.

Part V: Where We Are Now

Tens of thousands of U.S. factory workers were laid off. The new Obama administration’s financial reforms have been weak, and there was no significant proposed regulation of the practices of ratings agencies, lobbyists, and executive compensation. Geithner became Treasury Secretary. Feldstein, Tyson and Summers were all top economic advisers to Obama. Bernanke was reappointed Fed Chair. European nations have imposed strict regulations on bank compensation, but the U.S. has resisted them. Trust remains questionable.