Classification of Taxes in the Philippines: Direct vs Indirect, National vs Local

Introduction

The Philippine tax system is a critical component of the country's fiscal framework, designed to generate revenue for public services, infrastructure, and economic development. Taxes in the Philippines are governed primarily by the 1987 Constitution, which allocates taxing powers between the national government and local government units (LGUs). The National Internal Revenue Code of 1997 (NIRC), as amended by various laws such as Republic Act (RA) No. 10963 (TRAIN Law), RA No. 11534 (CREATE Law), and others, provides the statutory basis for national taxes. Meanwhile, the Local Government Code of 1991 (RA 7160) empowers LGUs to impose local taxes.

Taxes are classified in multiple ways, but two key distinctions are particularly relevant: (1) direct versus indirect taxes, based on the burden and shiftability of the tax; and (2) national versus local taxes, based on the level of government imposing and collecting them. These classifications are not mutually exclusive; a tax can be both direct and national, or indirect and local, for instance. Understanding these categories is essential for taxpayers, businesses, and policymakers to ensure compliance, avoid double taxation, and promote equitable revenue distribution. This article explores these classifications in depth, drawing on constitutional principles, statutory provisions, and jurisprudential interpretations.

Direct vs. Indirect Taxes: Conceptual Framework

The distinction between direct and indirect taxes originates from economic theory and has been adopted in Philippine tax law, though not explicitly defined in the NIRC. The Supreme Court of the Philippines has elaborated on this in cases such as Commissioner of Internal Revenue v. Philippine Long Distance Telephone Company (G.R. No. 140230, 2000), where it emphasized the economic incidence of the tax.

• Direct Taxes: These are taxes where the burden (incidence) cannot be shifted to another party; the taxpayer who pays the tax also bears its economic impact. Direct taxes are typically levied on income, wealth, or personal status, making them progressive in nature—they increase with the taxpayer's ability to pay. They align with the constitutional principle of equity under Article VI, Section 28(1) of the 1987 Constitution, which mandates a progressive system of taxation.

  Characteristics of direct taxes include:

  • Imposed directly on the person or entity earning income or owning property.
  • Non-shiftable; the statutory taxpayer is also the economic taxpayer.
  • Often require self-assessment and filing of returns.
  • Subject to withholding mechanisms in some cases to ensure collection.

  Examples in the Philippine context:

  • Income Tax: Under Sections 24–32 of the NIRC, this is imposed on individuals and corporations based on net income. For individuals, rates range from 0% to 35% (as amended by the TRAIN Law), while corporations face a 25% rate under the CREATE Law (reduced from 30%). It includes taxes on compensation, business income, and passive income like dividends and royalties.
  • Estate Tax: Levied on the transfer of a decedent's estate under Section 84 of the NIRC, at a flat rate of 6% on the net estate exceeding PHP 5 million (post-TRAIN amendments).
  • Donor's Tax: Imposed on gratuitous transfers of property under Section 98, also at 6% on the fair market value exceeding PHP 250,000 annually.
  • Capital Gains Tax: Applied to gains from the sale of real property (6%) or shares of stock not traded on the stock exchange (15%), per Sections 24(D) and 27(D).
  • Community Tax (Cedula): A poll tax under Section 156 of the Local Government Code, based on income and property, though minimal in amount.

  Direct taxes promote social justice by targeting higher earners, but they can be administratively burdensome due to the need for accurate reporting.

• Indirect Taxes: These are taxes where the burden can be shifted from the statutory taxpayer (e.g., the seller or manufacturer) to the ultimate consumer through pricing mechanisms. Indirect taxes are regressive, as they disproportionately affect lower-income groups, but they are efficient for revenue generation due to broad bases and ease of collection. The Constitution does not prohibit indirect taxes but requires uniformity and equity in their imposition.

  Characteristics of indirect taxes include:

  • Levied on transactions, goods, or services rather than on persons directly.
  • Shiftable; the initial payer passes the cost to others in the supply chain.
  • Often collected at the point of sale or importation, with minimal need for individual assessments.
  • Serve as tools for economic regulation, such as discouraging consumption of harmful goods.

  Examples in the Philippine context:

  • Value-Added Tax (VAT): Under Title IV of the NIRC, VAT is imposed at 12% on the gross selling price of goods and services, including imports. It is a multi-stage tax collected at each value-adding step, with input tax credits available to offset output tax. Exemptions apply to essential goods like agricultural products and senior citizens' discounts.
  • Excise Taxes: Specific taxes on certain goods under Title VI, such as petroleum products, automobiles, tobacco, alcohol, and sweetened beverages (introduced by TRAIN Law). Rates vary—e.g., ad valorem for luxury items or specific amounts per unit for sin products.
  • Percentage Taxes: Imposed on non-VAT-registered entities under Title V, such as 3% on gross receipts for common carriers, banks, and amusement places.
  • Documentary Stamp Tax (DST): Levied on documents, instruments, and transactions under Title VII, like loans, deeds of sale, and stock issuances, at rates based on value.
  • Customs Duties: Administered by the Bureau of Customs under the Customs Modernization and Tariff Act (RA 10863), these are tariffs on imported goods, functioning as indirect taxes to protect local industries.

  Indirect taxes are vital for government revenue, comprising a significant portion of collections, but they raise concerns about inflation and equity, prompting reforms like expanded exemptions for basic necessities.

The direct-indirect dichotomy is not absolute; some taxes exhibit hybrid traits. For instance, withholding taxes on income are direct but collected indirectly through agents. Jurisprudence, such as in Silkair (Singapore) Pte. Ltd. v. Commissioner of Internal Revenue (G.R. No. 173594, 2010), clarifies that the ability to shift determines the classification.

National vs. Local Taxes: Division of Taxing Powers

The 1987 Constitution delineates taxing authority to prevent overlap and ensure fiscal autonomy for LGUs. Article X, Section 5 grants LGUs the power to create their own sources of revenue, subject to limitations in RA 7160. National taxes are uniform across the country, while local taxes vary by jurisdiction.

• National Taxes: These are imposed by Congress and administered by the Bureau of Internal Revenue (BIR) or Bureau of Customs (BOC). They fund national programs and are based on the plenary taxing power of the state under Article VI, Section 28. National taxes must be uniform and equitable, as per constitutional mandates.

  Key national taxes include:

  • All direct taxes mentioned above (income, estate, donor's, capital gains).
  • Most indirect taxes (VAT, excise, percentage, DST, customs duties).
  • Other specialized taxes, such as the tax on winnings from the Philippine Charity Sweepstakes Office (PCSO) or mining royalties under the Mining Act of 1995 (RA 7942).

  The BIR handles internal revenue taxes, while the BOC manages import-related duties. Revenue sharing occurs via the Internal Revenue Allotment (IRA) under RA 7160, where 40% of national internal revenue taxes (based on collections three years prior) is allocated to LGUs.

• Local Taxes: These are levied by LGUs—provinces, cities, municipalities, and barangays—pursuant to Sections 128–284 of the Local Government Code. Local taxes must not be unjust, excessive, oppressive, or confiscatory, and LGUs cannot tax items reserved for national taxation (e.g., income tax). They are collected by local treasurers and fund local services like health, education, and infrastructure.

  Characteristics and limitations:

  • Provinces and cities have broader powers than municipalities and barangays.
  • Taxes must be based on ordinances passed by local sanggunians (councils).
  • Subject to review by higher LGUs or the Department of Finance for legality.
  • Cannot impose taxes on national government instrumentalities or exports (per Constitution).

  Examples of local taxes:

  • Business Taxes: On gross sales or receipts, up to 3% for manufacturers, wholesalers, etc. (Section 143).
  • Real Property Tax (RPT): On land and improvements, at rates not exceeding 1% for provinces and 2% for cities/municipalities (Sections 232–233), based on assessed value.
  • Amusement Tax: Up to 10% on admission fees for theaters, cinemas, etc. (Section 140), though reduced or eliminated in some areas.
  • Community Tax: As noted, a direct local tax.
  • Other Fees and Charges: For services like building permits, sanitary inspections, or idle land tax (up to 5% on assessed value for unproductive lands).
  • Special Levies: On real property benefiting from public works (Section 240) or for socialized housing.

  Barangays have limited powers, mainly community taxes and fees for local services. Cities like Manila or Quezon City often impose higher rates due to their charter status.

Interplay between national and local taxes is governed by the "no double taxation" rule, though not absolute—taxes on the same subject by different authorities are allowed if not prohibited (e.g., national VAT and local business tax on the same transaction). The Supreme Court in City of Manila v. Coca-Cola Bottlers Philippines, Inc. (G.R. No. 181845, 2009) upheld this, provided taxes differ in nature.

Challenges, Reforms, and Implications

The classification system faces challenges like tax evasion, administrative inefficiencies, and overlaps. Reforms under the TRAIN, CREATE, and proposed Comprehensive Tax Reform Program aim to simplify classifications, broaden bases, and lower rates for direct taxes while enhancing indirect tax collections through digitalization.

For businesses, understanding these categories aids in compliance: direct taxes require detailed record-keeping, while indirect taxes involve invoice management. For individuals, direct taxes emphasize progressive equity, whereas indirect taxes affect daily consumption.

In conclusion, the direct-indirect and national-local classifications form the backbone of Philippine taxation, balancing revenue needs with constitutional principles of equity, uniformity, and local autonomy. Mastery of these distinctions is indispensable for navigating the complex fiscal landscape.