2. Inherent and Constitutional Limitations

2. Inherent and Constitutional Limitations of Taxation

The power of taxation is the strongest of all the powers of the government. Nevertheless, effective limitations thereon may be imposed by the people through the Constitution. Accordingly, no matter how broad and encompassing the power of taxation, it is still subject to inherent and constitutional limitations.

a. Public Purpose

Test: Whether the tax proceeds will be used for a public purpose or public benefit, rather than primarily for the advantage of private individuals.

The public purpose of the tax law must exist at the time of its enactment. The money raised by taxation can be expended only for public purposes and not for the advantage of private individuals. Therefore, since the appropriation sought a private purpose, it is null and void. (Pascual v. Secretary of Public Works and Communications, G.R. No. L-10405, 29 December 1960)¹

The term "public use" has acquired a more comprehensive coverage. To the literal import of the term signifying strict use or employment by the public has been added the broader notion of indirect public benefit or advantage. (Sumulong v. BUENAVENTURA GUERRERO and NATIONAL HOUSING AUTHORITY, G.R. No. L-48685, 30 September 1987)²

b. Inherently Legislative

Power of taxation cannot be delegated – this contemplates the power to determine kind, object, extent, amount, coverage, and situs of tax. It must be distinguished from power to assess and collect which is exercised by the Executive through the BIR.

However, it may be exceptionally delegated when:

• The delegation shall not contravene any constitutional provision or inherent limitations of taxation;
• It is effected either by the Constitution or by validly enacted legislative measures or statute; and
• Congress may confer taxing power on local governments (1987 Constitution, Art. X, Sec. 5) and may delegate implementation or fact-finding functions to administrative agencies under a complete law with sufficient standards (Abakada Guro Party List v. Ermita, G.R. No. 168056). Congress may also, by law, authorize the President to fix specified tariffs and imposts within prescribed limits (1987 Constitution, Art. VI, Sec. 28(2)).

General rule – The power to tax is exclusively vested in the legislative body, hence, it cannot be delegated. (Delegata potestas non potest delegari)

Exceptions:

• Delegation to local governments

It is in line with the principle that the power to create municipal corporations for purposes of local self-government carries with it the power to confer the power to tax on such local governments.

• Delegation to the President

Certain aspects of the taxing process that are not legislative in character may be vested to him, e.g. delegation of tariff powers by Congress to the President under the flexible tariff clause (Sec. 28(2), Art. VI, Constitution³), and delegation of emergency powers (Sec. 23(2), Art. VI, Constitution⁴)

In the case of Abakada Guro Party List v. Executive Secretary Eduardo Ermita, G.R. No. 168056, 1 September 2005⁵ the Court held that the Congress does not abdicate its functions or unduly delegating its power when it describes what job must be done, who must do it, and what is the scope of his authority. There is no undue delegation of legislative power but only of the discretion as to the execution of a law.

• Delegation to administrative agencies

Congress may, by law, authorize the President to fix tariff rates, import and export quotas, tonnage and wharfage dues, and other duties or imposts within the limits and restrictions Congress prescribes (Sec. 28(2), Art. VI, Constitution). Administrative agencies may perform validly delegated implementation functions.

c. Territorial (see discussions on situs of taxation below)

d. International Comity

A state must recognize the generally accepted tenets of international law, they must accord each other as sovereign equals. This limits the authority of a government to effectively impose taxes on a sovereign state and its instrumentalities, as well as on its property held, and activities undertaken, in that capacity. (Vitug) For example, a property of a foreign State or government may not be taxed by another State.

A state that has contracted valid international obligations is bound to make in its legislations those modifications that ensure granting of reliefs under tax treaties. (Deutsche Bank Ag Manila Branch v. CIR, G.R. No. 188550, 5 May 2014)⁶

e. Exemption of Government Entities, Agencies, and Instrumentalities

Rationale: If the government taxes itself or if Local Government Units tax the national government, it would be akin to taking money from one pocket to the other. Entities or agencies exercising sovereign functions (acta jure imperii) are tax exempt, unless expressly taxed, agencies performing proprietary functions are subject to tax unless expressly exempted.

Government owned and controlled corporation performing proprietary functions are subject to taxes, except those exempted under Section 27(C) of RA 8424 as amended by RA 9337 and RA 10963⁷, namely:

• GSIS
• SSS
• PHIC
• the local water districts

The amendment reduced the list of exempt entities by excluding therein the Philippine Amusement and Gaming Corporation.

Instrumentality of the National Government is exempt from real property tax. (MIAA v. CA, G.R. No. 155650)⁸ However, an instrumentality of the National Government can be subject to tax if there is a statutory authority to do so and if there is no express provision against such act.

Chief Justice Hilario Davide, Jr. in the case of Mactan Cebu International Airport Authority v. Marcos, G.R. No. 120082, 11 September 1996⁹ has stated that “nothing can prevent Congress from decreeing that even instrumentalities or agencies of the government performing governmental functions may be subject to tax.”

a. Provisions directly affecting Taxation:

i. Prohibition against imprisonment for non-payment of poll tax (Sec. 20, Art. III, Constitution)¹⁰

However, the taxpayer can still be made to pay fines and penalties for non-payment.

Poll tax: cedula/residence tax (but in the US, it usually means the payment of tax to exercise the right of suffrage.)

A taxpayer may be imprisoned upon conviction of a tax offense for which the law prescribes imprisonment; mere non-payment of a tax is not, by itself, a basis for imprisonment.

ii. Uniformity and equality of taxation (Sec. 28 (1), Art VI, Constitution)¹¹

Uniformity: all articles or properties of the same class taxed at the same rate (Eastern Theatrical Co. v. Alfonso, G.R. No. L-1104)¹²

Equality: apportionment must be more or less just in the light of taxpayer’s ability to shoulder tax burden

The equal protection clause refers to like treatment in like circumstances.

The uniformity and equality clause refers to the proper relative treatment for tax purposes of persons in like circumstances. Section 28 (1), Art. VI¹³ provides that Congress shall evolve a progressive system of taxation. Hence, the Constitution does not really prohibit a regressive system of taxation. A progressive system of taxation means that as resources of the taxpayer become higher, the tax rate likewise increases. It is based on the ability to pay.

iii. Grant by Congress of authority to the President to impose tariff rates (flexible tariff clause) (Sec. 28 (2), Art. VI, Constitution)¹⁴

• Includes import and export quotas, tonnage and wharfage dues aside from tariff rates
• Delegated by the Congress
• Through a law; the Customs Modernization and Tariff Act provides for what has been termed as the “flexible tariff clause” authorizing the President to modify import duties (Sec. 1608, RA 10863)¹⁵
• Subject to Congressional limits and restrictions Within the framework of national development program

iv. Prohibition against taxation of religious, charitable and educational entities/Exemption from real property taxes (Sec. 28 [3], Art. VI, Constitution)¹⁶

Exemption under Sec. 28(3), Art. VI¹⁷ pertains only to real property tax (RPT).

Summary

Tax Treatment of Revenues and Assets:

• Non-stock, non-profit educational institutions:
  • Revenues: Exempt from internal revenue taxes as long as such revenues are used actually, directly, and exclusively for educational purposes, regardless of their source (Sec. 4[3], Art. XIV, Constitution¹⁸; DLSU v. CIR¹⁹).
  • Assets: Exempt from real property tax provided they are used actually, directly, and exclusively for educational purposes (Sec. 4[3], Art. XIV, Constitution; DLSU v. CIR, 2016).
• Non-stock, non-profit hospitals:
  • Revenues: Exempt from income tax provided they are organized and operated exclusively for charitable purposes and no part of their net income or asset inures to the benefit of any member, organizer, or private individual (Sec. 30[E], NIRC²⁰). Nonetheless, income from real or personal properties, or from activities conducted for profit, regardless of the disposition made of such income, is subject to income tax (Sec. 30, last par., NIRC²¹).
  • Assets: Exempt from real property tax as long as they are used actually, directly, and exclusively for charitable purposes (Sec. 28[3], Art. VI, Constitution²²).
• Other non-stock, non-profit charitable institutions:
  • Revenues: Exempt from income tax if organized and operated exclusively for charitable purposes and no net income or asset inures to the benefit of any member, organizer, or individual (Sec. 30[E], NIRC). Any income derived from real or personal properties, or from activities conducted for profit, is subject to income tax regardless of how it is disposed of (Sec. 30, last par., NIRC).
  • Assets: Exempt from real property tax provided the property is used actually, directly, and exclusively for charitable purposes (Sec. 28[3], Art. VI, Constitution).
• Proprietary non-profit hospitals and educational institutions:
  • Revenues: A proprietary educational institution is subject to the applicable income-tax rules under Section 27(B) of the NIRC²³. A hospital or educational institution qualifies for exemption under Section 30(E) of the NIRC only if it independently meets that provision’s requirements; income covered by the last paragraph of Section 30 remains taxable.
  • Assets: Exempt from real property tax as long as the property is used actually, directly, and exclusively for educational or charitable purposes (Sec. 28[3], Art. VI, Constitution).

Scope of Real Property Tax Exemption:

Real property tax exemption covers charitable institutions, churches, and parsonages or convents appurtenant thereto, mosques, non-profit cemeteries, and all lands, buildings, and improvements actually, directly, and exclusively used for charitable, religious, and educational purposes (Sec. 28[3], Art. VI, Constitution).

Definition of Terms:

• Charitable institution – serves a charitable purpose; charging some beneficiaries does not, by itself, defeat its charitable character. Income from activities conducted for profit remains taxable. (CIR v. St. Luke's Medical Center, Inc., G.R. No. 203514, 13 February 2017)²⁴
• Exclusive - is defined as possessed and enjoyed to the exclusion of others; debarred from participation or enjoyment; and 'exclusively' is defined, 'in a manner to exclude; as enjoying a privilege exclusively.' . . The words ‘dominant use’ or ‘principal use’ cannot be equated with ‘used exclusively’ (CIR v. St. Luke's Medical Center, Inc.)

As for the income tax exemption of charitable institutions under the NIRC, receiving income from paying patients, whether outpatient, or confined in the hospital, or receiving subsidies from the government does not, by itself, destroy a hospital’s charitable character. However, income from activities conducted for profit is taxable notwithstanding its charitable status under Sections 27(B) and 30 of the NIRC (CIR v. St. Luke’s, G.R. No. 203514, 2017)

v. Prohibition against taxation of non-stock, nonprofit [educational] institutions (Sec. 4[3&4], Art. XIV, Constitution²⁵)

Test: How both the revenues and assets will be used.

Exempts from taxes all revenues and assets of non-stock, non-profit educational institutions actually, directly and exclusively used for educational purposes.

Exemption covers income, real estate tax, donor’s tax, and customs duties (distinguished from the previous provision, (Sec. 28[3], Art. VI, Constitution²⁶), which pertains only to real property tax exemption granted to real properties that are used for religious, charitable, or educational purposes)

Income is exempt provided it is used for maintenance or improvement of institution (indispensable or essential). The exemption is strictly personal (i.e., non-transferable)

Distinguish tax treatment of:

• Proprietary educational institutions (Preferential tax rate of 10%); and
• Government educational institutions (Tax-exempt, e.g., UP)

vi. Majority vote of Congress for grant of tax exemption (Sec. 28 [4], Art. VI, Constitution²⁷)

• A law granting a tax exemption requires the concurrence of a majority of all Members of Congress. A refund of taxes erroneously or illegally collected is not, merely because it returns tax payments, a grant of tax exemption.
• Involves majority of all members (absolute majority) voting separately
• Relative majority (majority of quorum) is sufficient to withdraw exemption

vii. Prohibition on use of tax levied for special purpose (Sec. 29 [3], Art. VI, Constitution²⁸)

Revenues derived for a special fund shall be administered for the purpose intended only.

If the purpose for which the special fund was created has been fulfilled or abandoned, the balance, if any, shall be transferred to the general funds of the Government.

viii.President’s veto power on appropriation, revenue, and tariff bills (Sec. 27 [2], Art. VI, Constitution²⁹)

The President shall have the power to veto any particular item or items in an appropriation, revenue, or tariff bill, but the veto shall not affect the item or items to which he does not object.

ix. Grant of power to the local government units to create its own sources of revenue (Sec. 5, Art. X, Constitution³⁰)

Each local government unit shall have the power to create its own sources of revenues and to levy taxes, fees and charges subject to such guidelines and limitations as the Congress may provide, consistent with the basic policy of local autonomy. Such taxes, fees, and charges shall accrue exclusively to the local governments.

x. Flexible tariff clause (Sec. 28 [2], Art. VI, Constitution³¹)

The Congress may, by law, authorize the President to fix within specified limits, and subject to such limitations and restrictions as it may impose, tariff rates, import and export quotas, tonnage and wharfage dues, and other duties or imposts within the framework of the national development program of the Government.

xi. No appropriation or use of public money for religious purposes (Sec. 29 [2], Art. VI, Constitution³²)

No public money or property shall be appropriated, applied, paid, or employed, directly or indirectly, for the use, benefit, or support of any sect, church, denomination, sectarian institution, or system of religion, or of any priest, preacher, minister, other religious teacher, or dignitary as such, except when such priest, preacher, minister, or dignitary is assigned to the armed forces, or to any penal institution, or government orphanage or leprosarium.

xii. Tax bills should originate exclusively in the House of Representatives (Sec. 24, Art. VI, Constitution³³)

All appropriation, revenue or tariff bills, bills authorizing increase of the public debt, bills of local application, and private bills shall originate exclusively in the House of Representatives, but the Senate may propose or concur with amendments.

xiii.Judicial power to review legality of tax (Sec. 5 (2b), Art. VIII, Constitution³⁴)

The Supreme Court shall have the power to Review, revise, reverse, modify, or affirm on appeal or certiorari, as the law or the Rules of Court may provide, final judgments and orders of lower courts in all cases involving the legality of any tax, impost, assessment, or toll, or any penalty imposed in relation thereto.

b. Provisions indirectly affecting Taxation:

i. Due process (Sec. 1, Art. III, Constitution³⁵)

It can also be invoked by the government. (Province of Abra v. Hernando, G.R. No. L-49336, 31 August 1981)³⁶

No state may tax anything not within its jurisdiction without violating the due process clause; the taxing power of a state does not extend beyond its territorial limits, but within such it may tax persons, property, income, or business (Manila Gas v. Collector, G.R. No. L-24780)³⁷

ii. Equal protection (Sec. 1, Art. III, Constitution)

All persons subject to legislation shall be treated alike, under like circumstances and conditions both in privileges conferred and liabilities imposed. (Sison v. Ancheta, G.R. No. L-59431, 25 July 1984)³⁸

No violation of equal protection when there is proper classification made

The classification to be valid must:

• Rest on substantial distinctions;
• Be germane to the purpose of the law;
• Not be limited to existing conditions only; and
• Apply equally to all members of the same class.

Examples:

In the 1988 case, the sales tax was described as applied similarly on all goods and services sold to the public, which were not exempt, at the then-applicable rates of 0% or 10%. (Kapatiran NG Mga Naglilingkod Sa Pamahalaan NG Pilipinas, Inc. v. Tan, G.R. No. 81311, 30 June 1988)³⁹. Under the current NIRC, VAT generally applies at 12%, while qualifying zero-rated transactions are taxed at 0% (Secs. 106, 107 and 108).

The phrase "except customs brokers" is not meant to discriminate against customs brokers. It was inserted in Sec. 103(r) of the VAT law then at issue⁴⁰ to complement the provisions of Sec. 102 of that law⁴¹ which makes the services of customs brokers subject to the payment of the VAT and to distinguish customs brokers from other professionals who are subject to the payment of an occupation tax under the Local Tax Code⁴². (Kapatiran NG Mga Naglilingkod Sa Pamahalaan NG Pilipinas, Inc. v. Tan). For present VAT treatment of services, see Sec. 108 of the current NIRC.

The equal protection clause recognizes a valid classification, that is, a classification that has a reasonable foundation or rational basis and not arbitrary. Both the BIR and the BOC are bureaus under the DOF. They principally perform the special function of being the instrumentalities through which the State exercises one of its great inherent functions — taxation. Indubitably, such substantial distinction is germane and intimately related to the purpose of the law. Hence, the classification and treatment accorded to the BIR and the BOC under RA No. 9335⁴³ fully satisfy the demands of equal protection. (Bureau of Customs Employees Association v. Teves, G.R. No. 181704, 6 December 2011)⁴⁴

Exception:

Equal protection is not violated if a law or ordinance imposes tax on a named occupation, so long as it is not limited to a certain person or a certain group only. The fact that there is no other person in the locality with the same designation does not make the ordinance discriminatory, because it will be applicable to any person or firm who exercises such occupation. (Shell v. Vano, G.R. No. L6093)⁴⁵

iii. Religious freedom (Sec. 5, Art III, Constitution⁴⁶)

The constitutional guaranty of the free exercise and enjoyment of religious profession and worship carries with it the right to disseminate religious information. (American Bible Society v. City of Manila, G.R. No. L-9637, 30 April 1957)⁴⁷

Tax is unconstitutional if it operates as a prior restraint on exercise of religion or favors a certain religion (non-establishment of religion).

Income of religious organizations from any activity conducted for profit or from any of their property, real or personal, regardless of disposition of such income, is taxable.

iv. Non-impairment of obligations of contracts (Sec. 10, Art. III, Constitution⁴⁸)

Applies only when government is party to the contract granting exemption

Exception: In case of franchise tax. The Constitution provides that franchise is subject to amendment, alteration, or repeal by Congress.

Contractual tax exemptions, in the real sense of the term and where the non-impairment clause of the Constitution can rightly be invoked, are those agreed to by the taxing authority in contracts, such as those contained in government bonds or debentures, lawfully entered into by them under enabling laws in which the government, acting in its private capacity, sheds its cloak of authority and waives its governmental immunity. These contractual tax exemptions, however, are not to be confused with tax exemptions granted under franchises. A franchise partakes the nature of a grant which is beyond the purview of the non-impairment clause of the Constitution. (Manila Electric Company v. Province of Laguna and Benito R. Balazo, G.R. No. 131359, 5 May 1999)⁴⁹

Example where impairment applies:

In its historical holding, the Court stated: The provision "shall be in lieu of all taxes of every name and nature" in the franchise, this Court pointed out that such exemption is part of the inducement for the acceptance of the franchise and the rendition of public service by the grantee. As a charter is in the nature of a private contract, the imposition of another franchise tax on the corporation by the local authority would constitute an impairment of the contract between the government and the corporation. (Province of Misamis Oriental v. Cagayan Electric Power and Light Company, Inc., G.R. No. L-45355, 12 January 1990)⁵⁰

Current rule: A franchise tax exemption may be amended or withdrawn by law. Its inclusion in a franchise does not, by itself, make it a contractual exemption protected by the non-impairment clause. (Manila Electric Company v. Province of Laguna, G.R. No. 131359, 5 May 1999; 1987 Constitution, Art. XII, sec. 11)