Tax Articles

Excess Income Tax Payments: Refund or Carry-Over?

By Atty. Fulvio D. Dawilan

Fulvio D. Dawilan Managing Partner   +632 8403 2001 loc.310 This email address is being protected from spambots. You need JavaScript enabled to view it. View Profile

Our income tax system requires the computation and payment of income taxes due on an annual basis (calendar or fiscal year), through the filing of an annual or final adjusted income tax return by the income earner. However, the same system also allows the withholding of creditable tax at source, whereby the payors of the income are obliged to deduct a certain percentage of the income and remit the same to the tax authority. In essence, the taxpayer makes an advance income tax payment through the withholding agent, which is creditable against the income taxes due. Because of the high rates of withholding taxes, the income taxes withheld at source would sometimes exceed the resulting income taxes due.

If this happens, our Tax Code provides the taxpayer options to recover or utilize the excess income tax payments through: (a) Refund – cash refund or the issuance of tax credit certificate which can be utilized against other taxes (not only for income tax), or (b) Carry-over – utilization as tax credit against future income tax liabilities of the succeeding taxable periods.

The refund remedy has to be commenced within two years from the date of payment of the tax by filing a claim with the Bureau of Internal Revenue. On the other hand, the carry-over option, also known as automatic tax credit, does not prescribe and the carry-over can be made until the tax credit is fully utilized.

Jurisprudence had also clarified the irrevocability rule for these options. The irrevocability rule applies only to the option to carry-over. It does not apply to the refund option. This means that a taxpayer who chooses to carry-over - either by marking that option in its return or by actually forwarding to the subsequent returns – waives its right to apply for refund. On the other hand, a taxpayer who chooses to recover the excess income tax payments through a refund can still abandon that option and shifts to carry-over.

While the choice is on the taxpayer whether to apply for refund or to carry-over the excess tax payments, taxpayers would conveniently choose to carry-over because of the complexities in the procedures involved in a refund application.

Since the income tax filing season is again starting, let me discuss a few of the changes in the laws and developments in jurisprudence in 2024 that may help taxpayers in making the decision.

Refund Available Upon Dissolution. While the irrevocability rule is the norm for the carry-over option, decisions of the Supreme Court had clarified that when a corporation permanently ceases its operation before full utilization of the tax credits, it may be allowed to refund the remaining tax credits that can no longer be carried over. The irrevocability rule does not apply since it is impossible for the dissolved corporation to carry over the excess creditable withholding taxes.

This exception had in fact been codified in the Tax Code through the Ease of Paying Taxes Act (EOPT). In case a taxpayer cannot carry over the excess income tax credit due to dissolution or cessation of business, the taxpayer shall file an application for refund of any unutilized excess income tax credit. That is now clearly part of the Tax Code. Thus, even if a taxpayer is prevented from recovering unutilized income tax payments through refund because of carry-over, it may still do so upon dissolution.

Processing and Decision on Refund Claim Within 180 Days. The EOPT introduced a specific timeline, mandating the BIR to process and decide on the application for refund within 180 days from the submission of the complete documents. By specifying the processing time, we expect an improvement in the length of time taxpayers expect to recover erroneously collected taxes. But the opposite is also possible – it may hasten the issuance of an unfavorable decision just to comply with the prescribed timeline.

Removal of 2-Year Prescriptive Period for Filing Judicial Claim. In relation to the introduction of the 180-day period for the processing of refund claims, the previous requirement for the filing of a judicial claim within the 2-year period was also effectively removed.

With the changes introduced by EOPT, taxpayers may appeal to the CTA if the BIR issues an unfavorable decision within the 180-day period or when the 180-day period lapses without the BIR issuing a decision. Prior to this new rule, taxpayers had to file both the administrative claim with the BIR and the judicial claim with the CTA within two years. And there were issues related to the proper timing for the filing with the CTA, especially if the administrative claim is filed towards the end of the 2-year period. That issue on the reasonableness of the time for processing by the BIR was addressed by the introduction of the 180-day period.

Excess Income Taxes from Previous Years Not Required to be Substantiated. A lot of refund claims had been denied on the grounds that prior years’ excess credits were not substantiated by the taxpayer. The principle behind the disallowance is that those prior years’ excess credits should be proven, similar to the current year’s credits, before they could be used as credits against a current year’s income tax due. If not, the current year’s creditable withholding taxes/advance income tax payments should be used as credits, which effectively reduces or eliminates the refundable amount.

We expect that reasoning to change with the promulgation by the Supreme Court on July 15, 2024 of its decision in G.R. No. 257219. According to the Court, the excess credits may be allowed to be carried over and credited to the succeeding taxable period’s tax due so long as the taxpayer submits with his income tax return a copy of the first page of his income tax return for the previous taxable period showing the amount of his excess withholding tax credits and on which he has not opted for a cash refund or tax credit certificate. The income tax returns themselves constitute sufficient proof of the previous period’s excess tax credits, as well as the amount of the tax credits to be carried over. The tax returns may be taken at face value, which necessarily entails the amount of tax credits carried over from prior years. To hold otherwise would result in absurdity and an excessive burden on the taxpayer claimants to trace the whole history of its prior year’s excess credits that it carries over.

In other words, the prior years’ income tax returns showing the excess income tax credits in those years should be sufficient to support the utilization as tax credits against the current year’s income tax due. In such case, the current year’s own tax credits would remain unitized and should be a proper subject of a tax refund.

While there are many other factors that may affect the decision of a taxpayer in opting for either refund or carry-over, I hope these changes in the procedures would provide additional guidance to taxpayers, making it easier for them to make decisions.