G.R. No. L-54108. January 17, 1984.
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. COURT OF TAX APPEALS and SMITH KLINE & FRENCH OVERSEAS CO. (PHILIPPINE BRANCH), respondents.

FACTS

Smith Kline & French Overseas Company, a foreign corporation licensed to do business in the Philippines, filed its original 1971 income tax return, declaring a net taxable income and paying the corresponding tax. In that return, it deducted P501,040 as its share of the head office’s unallocated overhead expenses. Subsequently, in 1972, it received an authenticated certification from its international independent auditors, Peat, Marwick, Mitchell and Company, stating that its correct ratable share of the head office’s worldwide overhead expenses for 1971, computed based on the ratio of its Philippine gross income to the corporation’s total global gross income, was actually P1,427,484. Consequently, Smith Kline filed an amended return reflecting this higher deduction, which resulted in a substantial overpayment of P324,255. It filed a claim for refund, and after the Commissioner failed to act, it sought relief from the Court of Tax Appeals (CTA).

ISSUE

Whether Smith Kline is entitled to a refund of overpaid income tax for 1971 based on its amended return, which claimed a higher deductible share of head office overhead expenses computed pursuant to the formula under tax laws and regulations, notwithstanding a prior service agreement stipulating a lower deductible amount.

RULING

The Supreme Court affirmed the CTA’s decision ordering the refund. The legal logic is anchored on the mandatory application of Section 37(b) of the National Internal Revenue Code and Section 160 of Revenue Regulations No. 2. These provisions govern the determination of net income from Philippine sources for a non-resident foreign corporation, allowing a deduction for a ratable part of expenses (like head office overhead) that cannot be definitely allocated to any specific item or class of gross income. The ratable part is computed based on the ratio of Philippine gross income to total worldwide gross income. The Court held that this statutory formula is controlling and cannot be altered or limited by a private service agreement between the branch and its head office. The Commissioner’s argument that the contractual stipulation for a lower deductible amount should prevail was rejected, as tax liability is dictated by law, not private contract. Smith Kline properly amended its return upon receipt of the audited financial statements, which provided the accurate data for applying the statutory formula. The certification from the independent auditors constituted sufficient evidence to establish the correct deductible amount under the law. Therefore, the amended return was in conformity with tax regulations, and the resulting overpayment must be refunded.