G.R. No. 44100; September 22, 1938
WM. H. ANDERSON, plaintiff-appellee, vs. JUAN POSADAS, JR., Collector of Internal Revenue, defendant-appellant.

FACTS

Wm. H. Anderson* appealed the assessment of his income tax for 1921 by the Collector of Internal Revenue. The Court of First Instance ruled in his favor on three key items: (1) allowing a deduction for a P42,542.63 penalty (100% surcharge) paid for fraudulent income tax returns for 1918 and 1919; (2) holding that a recovered loss of P125,000 was not taxable; and (3) holding that P155,000, treated as proceeds from the sale of goodwill, was not taxable. The Collector appealed.

ISSUE

1. Whether a penalty (100% surcharge) paid for fraudulent tax returns is deductible from gross income.
2. Whether a recovered loss previously deducted from income is taxable upon recovery.
3. Whether the amount credited to an incorporator’s account for created goodwill constitutes taxable income.

RULING

The Supreme Court REVERSED the lower court’s judgment.
1. No, penalties or fines paid for violations of law, such as the fraud surcharge, are not deductible from gross income. They are not considered taxes but penalties, and administrative regulations and doctrine support their non-deductibility.
2. Yes, a recovered loss is taxable. An amount previously deducted from income as a loss must be restored to taxable income when recovered in a later year.
3. Yes, the P155,000 credited to Anderson’s account for goodwill constituted taxable income. Goodwill created in the course of business and subsequently valued and used to offset a debt (here, the unpaid balance on subscribed shares) represents a realized profit or benefit subject to income tax.

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