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Amicus Curiae

Mhealler T. Ycong

False’ tax returns need a clearer definition from Congress

Mhealler T. Ycong

May 08, 2015

What constitutes “falsity of returns”?

In the landmark case of Aznar vs. Court of Tax Appeals, the Supreme Court defined a false return as a deviation from the truth or fact, whether intentional or not. There being substantial under-declaration of income ranging from 170% to 4,370% of the reported income for six years, Aznar was found to have filed false returns.

The definition of false returns becomes vital and relevant in determining the application of the 10-year prescriptive period to assess under Section 222 of the Tax Code, and the 50% surcharge under Section 248 of the same law.

In general, the Commissioner of Internal Revenue is given three years to assess deficiency taxes. However, when the assessment involves false returns, the assessment period is extended to 10 years from its discovery.

Also, the normal surcharge imposed under the Tax Code is 25%. The higher rate of 50% is applied only when there is willful neglect to file returns or when false or fraudulent returns are filed. Clearly, the filing of false returns is heavily penalized under the law.

Jurisprudence is not replete with cases concerning falsity of returns. Other than the Aznar case, the issue of false returns was only discussed by the Supreme Court in Samar-I Electric Cooperative vs Commissioner of Internal Revenue. Here, there was substantial under-declaration of withholding tax on compensation for three years, which was considered by the Supreme Court to constitute falsity in returns.

With the factual milieu of these cases and given the grave penalties imposed by law, one would think that a return is false only when the deviation is highly inordinate or when the return falsified pertains to several years.

The Court of Tax Appeals (CTA), however, has differing views. In the most recent case of Next Mobile, Inc. vs. Commissioner of Internal Revenue, the CTA, applying the Aznar ruling, interpreted that any deviation from the truth, even a 5% under-declaration of the reported gross revenues, already constitutes a false return and warrants the application of the 10-year prescriptive period to assess.

However, in Commissioner of Internal Revenue vs. Ayala Hotels, Inc., the CTA ruled against the sweeping application of the Aznar ruling. The CTA reasoned that otherwise, any mistake, however slight in a return filed by a taxpayer in good faith, would justify the application of the 10-year prescriptive period for assessment. The CTA held that only false returns which are filed by a taxpayer with intent to evade tax should warrant an application of the 10-year prescriptive period.

Also, in San Miguel Corporation vs. Commissioner of Internal Revenue, the CTA acknowledged that there is nothing in the Aznar case which establishes a hard and fast rule that every deviation from the truth necessarily brings a particular return under the coverage of Section 222.

Thus, there appears to be no concrete and consistent rule as to what constitutes false returns. A strict interpretation of the definition in the Aznar case would make a mere deviation from the truth, such as a P1 difference, a “false return.” If that were the case, the three-year prescriptive period will be rendered nugatory, as every deviation from the truth, which is always present in a deficiency tax assessment, will result in a falsity in the return. Effectively, the exception under Section 222 of the Tax Code becomes the general rule, and the general rule of three years the exception. This interpretation clearly runs counter to what Congress intended when these provisions were drafted.

Section 248 (b) of the Tax Code even provides that substantial under-declaration of taxable sales, receipts or income is required to constitute a prima facie evidence of false returns, wherein under-declared receipts must be in an amount exceeding 30% of the receipts declared per return to constitute substantial under-declaration.

Moreover, the issue of whether a design to mislead or deceive on the part of the taxpayer, or at least culpable negligence, comes to fore in interpreting what renders a return “false.”

In Section 222 of the Tax Code, the phrase “with intent to evade tax” qualifies both the “false” and “fraudulent” as it is grouped under one category.

As pronounced by the CTA in the Ayala Hotels case, following the rules of statutory construction as well as the rules on grammatical construction, the qualifying words “with intent to evade tax” should refer to both the words “false” and “fraudulent” since these words are not separated by a comma. If it was the intent of the lawmakers to qualify only the word “fraudulent,” then this should have been treated separately or, at the very least, the words “false” and “fraudulent” should have been separated by a comma to show separate treatment of the two.

It appears, therefore, that applying the rules of statutory construction contradicts the definition of false returns laid by the Supreme Court in the Aznar case, wherein intent is not relevant to constitute false returns. However, since the latest case of Samar-I Electric adopts the same definition held in Aznar, the question as to the conclusiveness of the meaning of false returns still stays.

When the law has not specified and the Supreme Court has not extensively discussed or clarified the parameters of the meaning of false returns, more than ever, the taxpayer should ensure that each and every item stated in a return is correct. Any discrepancy or deviation from the truth may already render a return false and subject the taxpayer to the heavy penalties provided by law.

To prevent inconsistent interpretation, which may open the floodgates of assessments issued beyond the normal three-year period and unduly prejudice the taxpayer, Congress should revise the law and clearly define what constitutes false returns.

Mhealler T. Ycong is an associate of the Angara Abello Concepcion Regala & Cruz Law Offices -- Cebu Branch.

mtycong@accralaw.com