A.

Taxation as an inherent power of the State

In the bar examinations, it was asked: What do you mean by the Nature of Taxation?
Will your answer be the same if the question is, what do you mean by the theory of taxation?
The power to tax is inherent in sovereignty. The moment the State exists, the power to tax
automatically exists. As such, it can be exercised and enforced by the State even without any delegation by
the Constitution or by Congress through legislation.
This power is inherent in the National Government but not in the LGUs. Since the LGUs have no
inherent power to tax, they can only impose taxes when the power to tax is expressly granted to them by the
Constitution or by laws enacted by Congress.
In CIR v. Algue, Inc., the SC had the occasion to discuss the LIFEBLOOD THEORY, where tax is
said to be necessary to meet the expenses of government without which the latter cannot operate.
The SC, speaking through Justice Isagani Cruz, said:
“Without taxes, the government would be paralyzed for lack of the motive power to activate and
operate it. Hence, despite the natural reluctance to surrender part of one’s hard earned income to the taxing
authorities, every person who is able must contribute his share in the running of the government.”
Relevant to this discussion is the source of power of the LGUs. Note we have 2 kinds of LGUs:
1. those outside Autonomous regions; and
2. those within Autonomous regions.
Do they have the same source of power?
The LGUs outside the Autonomous Region derive their power to tax from the 1987 Constitution. Section 5,
Article X states:
“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.”
This constitutional provision is self-executing.
The authority to tax of LGUs within the Autonomous Region is not delegated by the Constitution, but by the
Organic Act creating them. This is implied under par. 2, Section 20, Article X of the 1987 Constitution which
reads:
“Within its territorial jurisdiction and subject to the provisions of this Constitution and national laws,
the organic act of autonomous regions shall provide for legislative powers over: xxx (2) Creation of sources
of revenue.”
This provision merely authorizes the Congress to pass the Organic Act of the Autonomous regions
which shall provide for legislative powers to levy taxes upon their inhabitants.
 Further, this provision is not self-executing unlike Section 5, Article X.
Therefore, the LGU’s power to tax based on the 1987 Constitution is subject only to such guidelines
and limitations as Congress may provide.
The power to tax by LGUs within the Autonomous Region is based on the Organic Act which the
1987 Constitution authorizes Congress to pass.
The limitation and guidelines under the Local Government Code is applicable only to LGUs outside
the Autonomous Regions.

B. Phases and Scope of Taxation

The following are the phases of taxation:
1. Levy, where Congress enacts a statute to impose taxes;
2. Collection.
The subject matter of taxation on the other hand, refers to persons, things, transactions, etc.

C. Inherent Limitations
1. Taxation should be for public purpose
It may be asked: What if Congress appropriates money for the development of a property belonging
to a private person, will the appropriation be valid? Of course, the answer is No.
One of the inherent limitations of the power of taxation is that it should be used for public purpose.
The SC had the occasion to rule that the legislature is without any power to appropriate public revenue for
anything but for public purpose.
It is the essential character of the direct object of expenditure which must determine its validity and
not the magnitude of the interest to be affected. Nor can it be justified by the degree to which the community
will gain a general advantage.
Public welfare should be the penultimate objective. Incidental advantage to the public or to the State,
resulting from the promotion of private interest and the prosperity of private enterprises do not justify their aid
by the use of public money.
In Lutz v. Araneta, Congress enacted a law imposing tax on the sugar industry. It was contended
that the proceeds of the tax shall only benefit a particular industry. However, it was ruled that the tax remains
valid since the protection and promotion of the sugar industry is a matter of public concern.
Hence, the legislature may determine within reasonable bounds what is necessary for its protection
and expedient for the promotion of public interest. Legislative discretion. According to the Court, should be
allowed full play, subject only to the test of reasonableness.
 If objectives and methods are alike and constitutionally valid, there can be no reason why the state
should not be allowed to levy taxes to raise funds for their prosecution and attainment. Taxation may be used
to implement the State’s police power.

2. Taxation is inherently legislative.

3. The government is exempt from tax.
A valid question may be: May the Government tax itself?
To answer this question, we have to determine who is the taxing authority?
If the taxing authority is the LGU, the answer is NO.
RA No. 7160 expressly prohibits the LGUs from levying tax from the National Government, its
agencies and instrumentalities and other LGUs. Under Section 133(o) of LGC, the taxing power of the LGUs
shall not extend to taxes, fees, charges of any kind on the National Government, its agencies and
instrumentalities, except under Sec. 154 of the LGC which provides that: “LGUs may fix the rates for the
operation of public utilities owned, operated and maintained by the LGU within their jurisdiction.”
Case in point here is Basco v. PAGCOR. It was held that the City of Manila, being a mere creature
of Congress, has no power to tax instrumentalities of the National Government. The PAGCOR, being an
instrumentality of the National Government, is therefore, exempt from local taxes, otherwise, its operations
might be burdened, impede or subjected to control by a mere LGU.
On the other hand, if the taxing authority is the National Government, the answer will be YES.
Pursuant to the provisions of the NIRC, the National Government may levy taxes upon GOCCs,
agencies and instrumentalities. However, under Sec. 32(B)(7)(b) of the NIRC, income derived by the
government from the exercise if public utility and those in the exercise of essential government functions are
exempt from taxes.
4. Territoriality
Taxation is territorial since the taxing authority cannot impose taxes on subjects beyond its territorial
jurisdiction. The taxing authority may, however, determine the tax situs. (See Phil. Match Co. v. The City of
Cebu G.R.No. L-30745, Jan. 18, 1978). In this case, it was held that sales of matches to customers outside
Cebu City, which sales were booked and paid for in the company's branch office in the city, are subject to
the city's taxing power. The matches were sold and stored in the City of Cebu, though deliveries were made
to customers outside of the City.

D. Constitutional Limitations
The Constitution is NOT the source of the taxing power of the State. The latter exists prior to and
independently of the Constitution.
 The Constitution simply defines and delimits this power to strike a balance between the power of the
government and the freedom of the governed and to safeguard the latter from possible abuse by the former.
1. DUE PROCESS CLAUSE
“No person shall be deprived of life, liberty and property without due process of law xxx.” (Sec.1, Art.
III, 1987 Constitution)
Pursuant thereto, enforced contribution from the people cannot be made without a law authorizing
the same. Otherwise, there will be a violation of the Constitution where tax collection is made without any law
enacted by a legitimate government authorizing such collection.
E. Doctrine of Equitable Recoupment vs. Doctrine of Set-off
The doctrine of equitable recoupment refers to a case where the taxpayer has a claim for refund but
he was not able to file a written claim due to the lapse of the prescription period which to make a refund is
allowed. Under this doctrine, the taxpayer is allowed to credit such refund to his existing tax liability.
On the other hand, the doctrine of set-off or compensation in taxation applies when the government
and the taxpayer are mutually debtor and creditor of each other.
Recoupment is only allowed in common law countries, NOT in the Philippines; while the set-off or
compensation is also NOT allowed, as can be gleaned in a number of jurisprudence.
General Rule: “NO off-set is admissible against demands for taxes levied for general or local
governmental purposes. The reason is that taxes are not in the nature of contracts between the parties but
grow out of duty to and are the positive acts of the government to the making and enforcing of which, the
personal consent of the individual taxpayer is not required.xxx” (Republic vs. Mambulao)
Set-off was however allowed in one exceptional case in Domingo v. Garlitos, where the SC ruled
that where the taxes and taxpayer’s claim are fully liquidated, due and demandable, legal compensation
under Article 1279 of the Civil Code takes place by operation of law and both are extinguished to the
concurrent amount. (NOTE: the reason for allowing set-off or compensation on this case is that there is
already a law passed, RA No. 2700, allocating the sum payable to the deceased. Compensation, therefore
takes place by operation of law.)

F. Double Taxation
Double taxation is defined as the imposition by the same taxing body of two taxes on what is
essentially the same thing; the imposition of two taxes on the same property during the same period and for
the same purpose.
Double taxation is allowed because there is no prohibition in the Constitution or any statute. However,
it is not allowed if the following elements are present:
1. The taxes are levied by the same taxing authority;
2. For the same subject matter;
3. For the same taxing period; and
4. For the same purpose.
The SC coined the term “INTERNATIONAL JURIDICAL DOUBLE TAXATION” which is defined as
the imposition of comparable taxes in two or more States on the same taxpayer in respect to the same subject
matter and for identical periods.
This double taxation usually takes place when a person is a resident of the first contracting State
and derives income from, or owns capital in the second contracting State and both States impose taxes on
such income or capital. In order to eliminate double taxation, a tax treaty is entered into by the two contracting
States.
The ultimate reason for avoiding double taxation is to encourage foreign investors to invest in the
Philippines.
The purpose of the most-favored nation clause is to grant the contracting party terms and conditions
not less favorable than those granted to the “most favored” among the other contracting States. It is intended
to establish the principle of equality of international treatment by providing the citizens or subjects of the
contracting parties’ privileges accorded by either party to those of the most favored nation.
It should be noted however, that international juridical double taxation only occurs when the State of
residence of the taxpayer imposes tax on the income of said taxpayer from sources within and without their
State.
The High Court also stated the methods to minimize the burden of internal juridical double taxation
as provided in the tax treaty. There are two, namely:
1. By granting tax exemptions; and
2. By giving tax credits.
3. By reduction of the rate of tax.

G. Exemption from Real Estate Tax

It was under 1935 Constitution where the “exemption by incidental purpose” was coined by the SC
in Herrera v. Q.C. Board of Assessment where the court ruled that dormitories were exempt because these
were incidental to the primary purpose of the hospital.
In contrast with the 1935 Constitution, the 1973 Constitution provided for the requirement that the
properties mentioned institutions be used not only EXCLUSIVELY but also ACTUALLY and DIRECTLY for
the mentioned purposes to be exempt from taxation.
The same requirements as in the 1973 Constitution are provided in the 1987 Constitution. The
properties must be ACTUALLY, DIRECTLY and EXCLUSIVELY used for the purposes of the institution for
the exemption to be granted. Otherwise, no exemption may be granted, not even partial.