Link: Case Summary Document
Citation: G.R. No. 195909  Supreme Court of The Philippines, Carpio, Leonardo-De Castro, Brion, Perez, Perlas-Bernabe JJ
Acknowledgement:The Pemsel Case Foundation thanks The Australian Centre for Philanthropy and Nonprofit Studies for its contribution in the drafting of this Case Note.
St Luke’s Medical Center Inc. (St Luke’s) is a nonprofit hospital in Manila. On 16 December 2002, the Bureau of Internal Revenue (BIR) assessed St Luke’s deficiency taxes amounting to ₱76,063,116.06 for 1998, comprising deficiency income tax, value-added tax, withholding tax on compensation and expanded withholding tax. The BIR reduced the amount to ₱63,935,351.57 during trial in the First Division of the Court of Tax Appeals (CTA).
This was a review on certiorari under Rule 45 of the Rules of Court of the Decision of 19 November 2010 of the CTA and its Resolution of 1 March 2011 in CTA Case No. 6746. The Supreme Court resolved this case on a pure question of law, which involved the interpretation of sub-section 27(B) and its interaction with sub-sections 30(E) and (G) of the National Internal Revenue Code of the Philippines (NIRC), on the income tax treatment of proprietary nonprofit hospitals.
St Luke’s stated purposes were:
(a) To establish, equip, operate and maintain a non-stock, non-profit Christian, benevolent, charitable and scientific hospital which shall give curative, rehabilitative and spiritual care to the sick, diseased and disabled persons; provided that purely medical and surgical services shall be performed by duly licensed physicians and surgeons who may be freely and individually contracted by patients;
(b) To provide a career of health science education and provide medical services to the community through organized clinics in such specialties as the facilities and resources of the corporation make possible;
(c) To carry on educational activities related to the maintenance and promotion of health as well as provide facilities for scientific and medical researches which, in the opinion of the Board of Trustees, may be justified by the facilities, personnel, funds, or other requirements that are available;
(d) To cooperate with organized medical societies, agencies of both government and private sector; establish rules and regulations consistent with the highest professional ethics.
The BIR had argued before the CTA that section 27(B) of the NIRC, which imposes a 10% preferential tax rate on the income of proprietary nonprofit hospitals, should be applicable to St Luke’s. According to the BIR, section 27(B), introduced in 1997, ‘is a new provision intended to amend the exemption on non-profit hospitals that were previously categorized as non-stock, non-profit corporations under Section 26 of the 1997 Tax Code…’. It is a specific provision which prevails over the general exemption on income tax granted under sub-sections 30(E) and (G) for non-stock, non-profit charitable institutions and civic organisations promoting social welfare. The BIR contended that St Luke’s was not really operating for charitable purposes, but was for profit, on the basis that only 13% of its revenues came from its charitable purposes.
St Luke’s took the position that the BIR should not consider its total revenues, because its free services to patients amounted to ₱218,187,498 or 65.20% of its 1998 operating income (i.e. total revenues less operating expenses) of ₱334,642,615. St Luke’s also claimed that its income did not inure to the benefit of any individual, and that its making a profit did not affect its status as exempt from taxation under sub-sections 30(E) and (G) of the NIRC.
The CTA had held that section 27(B) did not apply to St Luke’s. It was exempt from taxation on income derived from all services to patients, whether paying or non-paying. Thus, the sole issue before the Supreme Court was whether that decision was correct, i.e. whether section 27(B) did or did not apply. If it did, then St Luke’s would have to pay the 10% reduced tax rate on the income of proprietary nonprofit hospitals. The Court held that:
Section 27(B) of the NIRC does not remove the income tax exemption of proprietary non-profit hospitals under Section 30(E) and (G). Section 27(B) on one hand, and Section 30(E) and (G) on the other hand, can be construed together without the removal of such tax exemption. The effect of the introduction of Section 27(B) is to subject the taxable income of two specific institutions, namely, proprietary non-profit educational institutions and proprietary non-profit hospitals, among the institutions covered by Section 30, to the 10% preferential rate under Section 27(B) instead of the ordinary 30% corporate rate under the last paragraph of Section 30 in relation to Section 27(A)(1). Section 27(B) of the NIRC imposes a 10% preferential tax rate on the income of (1) proprietary non-profit educational institutions and (2) proprietary non-profit hospitals. The only qualifications for hospitals are that they must be proprietary and non-profit. ‘Proprietary’ means private… ‘Non-profit’ means no net income or asset accrues to or benefits any member or specific person, with all the net income or asset devoted to the institution’s purposes and all its activities conducted not for profit. ‘Non-profit’ does not necessarily mean ‘charitable’.’
The Court said that charitable institutions were not automatically granted tax exemptions. Tax exemptions are given by the Congress under specific laws (except for exemption from real property taxation which was given by the Constitution of the Philippines). Section 30(E) of the NIRC defines a charitable institution as:
(1) a non-stock corporation or association;
(2) organised exclusively for charitable purposes;
(3) operated exclusively for charitable purposes; and
(4) with no part of its net income or assets belonging to or inuring to the benefit of any member, organiser, officer or any specific person.
There was no doubt that St Luke’s was organised as a non-stock, non-profit charitable institution. However, this did not automatically exempt it from paying taxes. The last paragraph of section 30 of the NIRC stated that:
Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizations from any of their properties, real or personal, or from any of their activities conducted for profit regardless of the disposition made of such income, shall be subject to tax imposed under this Code. (emphasis added)
Therefore, the Court said that ‘if a tax exempt charitable institution conducts ‘any’ activity for profit, such activity is not tax exempt even if its not-for profit activities remain tax exempt’. The Court added that:
The Court cannot expand the meaning of the words ‘operated exclusively’ without violating the NIRC. Services to paying patients are activities conducted for profit. They cannot be considered any other way. There is a ‘purpose to make profit over and above the cost’ of services. The ₱1.73 billion total revenues from paying patients is not even incidental to St. Luke’s charity expenditure of ₱218,187,498 for non-paying patients. (emphasis in original)
The Court therefore held that St Luke’s was not operated exclusively for charitable or social welfare purposes. It received income from paying patients. This income was subject to 10% taxation under section 27(B) of the NIRC. As the Court held:
St. Luke’s fails to meet the requirements under Section 30(E) and (G) of the NIRC to be completely tax exempt from all its income. However, it remains a proprietary non-profit hospital under Section 27(B) of the NIRC as long as it does not distribute any of its profits to its members and such profits are reinvested pursuant to its corporate purposes. St. Luke’s, as a proprietary non-profit hospital, is entitled to the preferential tax rate of 10% on its net income from its for-profit activities.
Thus, St Luke’s was liable for tax at the rate of 10% in the 1998 year under section 27(B) of the NIRC. It was held not liable for surcharges or interest on the amount of tax owing.
The case may be viewed at: http://sc.judiciary.gov.ph/jurisprudence/2012/september2012/195909.pdf
Implications of this case
This case illustrates the position in the Philippines that income from commercial (for-profit) activity (in this case, paying patients) is taxable, but the organisation remains tax-exempt on income from its actual charitable activities. The only question is whether an activity is for-profit (commercial) or not.