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LET’S REVISIT THE SNITS
Oct 25, 2001
 

Current discussion on gross income taxation, no doubt precipitated by remarks made by the Secretary of Finance during a recent forum on tax reform, highlight a very difficult question of income tax law namely, whether income is qualitatively different depending on how it is made.

Under present law, it is generally conceded that income earned from passive investments is a class apart that justifies its being subjected to a final tax, withheld by the payor and no longer included in the computation of the net income subject to tax on April 15, or its equivalent for those in a fiscal year accounting period. It is further accepted that income from employment is different from income earned from business. Thus, an employee whose income is purely in the form of salaries and wages is taxed almost on the entire gross, after deducting only premiums for health and/or hospitalization insurance and claiming the personal and additional exemptions.

Business income of an individual, however, is allowed far more deductions (on top of the personal and additional exemptions) and is therefore recognized to be a bit different from pure compensation or passive income. A bit different only, because when the net taxable amount is finally arrived at, it is subjected to the same progressive rate schedule as compensation income.

An individual’s income, however, as a class (whether business or compensation income) is considered different from corporate income. This is brought out by the fact that the corporate tax rate is a proportionate rate, currently fixed at the normal tax rate of 32 percent on net income, while individuals are subject to the progressive tax rate.

The innovation now being proposed is to treat an individual’s business income in the same way as corporate income. The rationale for the proposal is that both corporations and self-employed individuals generate "business-related income" and, therefore, such income should be taxed in the same way. What is sauce for the gander should also be the sauce for the goose.

There is theoretical merit to the proposal. It is good policy for taxes to be neutral on the form of the vehicle used in earning the income. There is therefore no serious reason why income generated under the corporate form should not be taxed in the same way as income generated by an individual under a single proprietorship, or vice versa.

Practical reality, however, cautions a blanket acceptance of the idea of uniform treatment. An individual earning business income wears two hats, one is as generator of income and the other as consumer of income. In many cases, expenditures seem to fall in, to use the favorite expression of then President Carlos Garcia, the penumbra, making it neither a purely income generating expense nor a purely consumption exercise. The most notorious of this is representation expenses, particularly the famous business lunches.

Probably the most practical approach to this practical problem is to revisit the idea of the SNITS, established under Republic Act No. 7496 but quickly abandoned by the Tax Reform Law of 1997, not because of any inherent flaw in concept but on account of an unhappy phraseology in the law and regulations.

The core idea behind the SNITS, or the simplified net income tax scheme for self-employed individuals, is that the two hats of the income earner is very difficult to separate. Therefore, since deductions are a matter of legislative grace, only direct costs, such as raw materials, salaries of employees, business rentals, interest on business loans, are permitted deductions. The unfortunate feature of the SNITS law was a ceiling of 40 percent of gross receipts that was fixed for individuals whose "cost of goods sold and direct costs are difficult to determine". Many took that to mean that a business taxpayer could deduct as much direct costs as he can adequately prove and then, in addition, deduct the 40 percent, for those he has difficulty in proving.

But a revised SNITS need not necessarily carry the same unfortunate baggage. There is no reason why a particular percentage, it need not be 40 percent, be fixed as a figure that should be sufficient to answer for a business taxpayer’s direct costs. Then on the rest, the tax rate applicable to corporations could be imposed.

Understandably, the determination of the percentage is the crucial item. But there is no reason why the various trade organizations cannot get together and, in good faith and full candor, work out with the government a percentage, sector by sector, that will reasonably approximate industry standards of the proper ratio between direct costs and gross receipts. What is important at this stage of our development is that we all pull together, in the same direction and in sync like rowers in a boat race.

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