How to Compute Capital Gains Tax on Sale of Real Property in the Philippines

Introduction

In the Philippines, the sale or disposition of real property classified as a capital asset is subject to capital gains tax (CGT) under the National Internal Revenue Code (NIRC) of 1997, as amended by Republic Act (RA) No. 10963, also known as the Tax Reform for Acceleration and Inclusion (TRAIN) Law, and further modified by subsequent laws such as RA No. 11534 (CREATE Act). This tax is imposed on the presumed gain from the transaction, regardless of whether an actual gain or loss is realized. Understanding the computation of CGT is crucial for sellers, buyers, real estate professionals, and tax practitioners to ensure compliance with Bureau of Internal Revenue (BIR) regulations and avoid penalties.

This article provides a comprehensive overview of CGT on real property sales, including its legal basis, applicability, computation methodology, exemptions, special rules, procedural requirements, and related considerations. It is grounded in Philippine tax law and jurisprudence, emphasizing practical steps for accurate computation.

Legal Basis and Overview of Capital Gains Tax

The primary legal foundation for CGT on real property is Section 24(D) of the NIRC, which imposes a final tax of 6% on the capital gains presumed to have been realized from the sale, exchange, or other disposition of real property located in the Philippines and classified as capital assets. This tax is "final" in the sense that it is withheld at source and not subject to further income tax adjustments in the seller's annual return.

Key principles:

• Presumptive Gain: Unlike ordinary income tax, CGT does not require computing the actual gain (selling price minus cost or adjusted basis). Instead, it is based on the higher of the gross selling price (GSP) or the current fair market value (FMV).
• Capital vs. Ordinary Assets: Real property is a capital asset if not held primarily for sale in the ordinary course of trade or business (e.g., not inventory of a real estate dealer). If it is an ordinary asset, the gain is subject to regular income tax rates (up to 35% for individuals or 25-30% for corporations under CREATE) instead of CGT.
• Taxpayer Liability: The tax is borne by the seller, who may be an individual (resident or non-resident), estate, trust, or corporation (domestic or foreign). Buyers often withhold and remit the tax as withholding agents.

When Does CGT Apply?

CGT applies to:

• Sales, exchanges, or dispositions of land, buildings, or improvements thereon located in the Philippines.
• Transactions involving capital assets, such as residential lots, commercial properties, or agricultural land not used in business.
• Installment sales, where the tax is computed on the full GSP but may be paid in installments if qualified.
• Foreclosures, dacion en pago (payment in kind), or other involuntary dispositions, treated as sales.

It does not apply to:

• Sales of ordinary assets (e.g., by real estate developers).
• Properties classified as ordinary assets due to frequent dealings.
• Certain exempt transactions (detailed below).

Step-by-Step Computation of Capital Gains Tax

Computing CGT involves determining the tax base and applying the 6% rate. Follow these steps:

1. Determine the Classification of the Property:

   • Confirm if the property is a capital asset. Consult BIR rulings or Revenue Memorandum Orders (RMOs) if uncertain. For example, a single sale by an individual is typically capital, but multiple sales may reclassify it as ordinary.

2. Ascertain the Gross Selling Price (GSP):

   • GSP is the total consideration received or to be received by the seller, including cash, fair value of property received in exchange, assumption of liabilities, and installment payments.
   • For installment sales: If initial payments do not exceed 25% of GSP, the tax may be paid in installments proportional to collections. Otherwise, full CGT is due upfront.
   • In non-monetary exchanges: Use the FMV of the property received.

3. Determine the Fair Market Value (FMV):

   • FMV is the higher of:
     • Zonal value (ZV) as determined by the BIR under Revenue District Office (RDO) valuations.
     • Assessed value (AV) as per the local government unit (LGU) tax declaration.
   • BIR zonal values are updated periodically via Department of Finance (DOF) orders. Always use the latest ZV at the time of sale.
   • If the property spans multiple zones, prorate based on area.

4. Identify the Tax Base:

   • The tax base is the higher of GSP or FMV.
   • Example: If GSP is PHP 5,000,000 and FMV (ZV) is PHP 6,000,000, the base is PHP 6,000,000.

5. Apply the Tax Rate:

   • CGT = Tax Base × 6%.
   • Continuing the example: CGT = PHP 6,000,000 × 0.06 = PHP 360,000.

6. Consider Adjustments for Special Cases:

   • Partial Sales: For subdivided lots, compute per lot based on allocated GSP or FMV.
   • Condominiums or Improvements: Include building value; FMV may require appraisal.
   • Inherited Properties: Basis is FMV at inheritance, but CGT uses GSP or current FMV.
   • Corporate Sellers: Same 6% rate applies to domestic corporations; foreign corporations pay 6% on gains from Philippine-sourced income.

7. Account for Creditable Withholding Tax (CWT):

   • Buyers withhold 6% CWT on the tax base, which satisfies the CGT liability.
   • For non-resident alien sellers not engaged in business: 6% if capital asset.
   • Exempt sellers (e.g., government) have no CGT.

Exemptions and Relief Measures

Several exemptions mitigate CGT liability:

1. Sale of Principal Residence (Section 24(D)(2), NIRC):

   • Exempt if the seller is an individual, the property is their principal residence, and proceeds are fully utilized to acquire or construct a new principal residence within 18 months.
   • Requirements: BIR Certificate Authorizing Registration (CAR) with escrow of 6% tax; submit proofs of utilization.
   • Partial utilization: Pro-rated tax on unused portion.
   • Limit: One-time exemption per seller, but multiple if for family members.

2. Exchanges for Shares of Stock (Section 40(C)(2), NIRC):

   • Tax-free if property is exchanged solely for shares in a corporation as part of a merger or to gain control.

3. Government Expropriations:

   • Exempt if just compensation is paid and property is capital.

4. Socialized Housing (RA No. 7279):

   • Sales of properties under PHP 450,000 (adjusted for inflation) may be exempt or subject to lower rates.

5. Senior Citizens and PWDs (RA No. 9994 and 10754):

   • Discounts or exemptions on related taxes, but CGT generally applies unless specifically waived.

Non-compliance with exemption conditions triggers full CGT plus penalties.

Procedural Requirements and Compliance

1. Filing and Payment:

   • File BIR Form 1706 (CGT Return) within 30 days from sale.
   • Pay at Authorized Agent Banks (AABs) or via eFPS.
   • For withholding: Buyer files BIR Form 1606.

2. Documentation:

   • Deed of Absolute Sale (DOAS), notarized.
   • Tax Declaration, Title, Zonal Value Certification.
   • Proof of cost (for reference, though not used in computation).

3. BIR Clearance:

   • Obtain CAR from BIR before title transfer at Registry of Deeds.
   • Delays if discrepancies in GSP vs. FMV.

4. Penalties for Non-Compliance:

   • 25% surcharge for late filing/payment, plus 12% interest per annum.
   • Criminal penalties for evasion under Section 255, NIRC.

Related Taxes and Considerations

While focusing on CGT, note interplay with other taxes:

• Documentary Stamp Tax (DST): 1.5% on GSP or FMV.
• Donor's Tax: If sale is below FMV, difference may be treated as donation (6% rate).
• Value-Added Tax (VAT): 12% if seller is habitually engaged in real estate (threshold: PHP 3,000,000 annual sales).
• Local Transfer Tax: 0.5-0.75% by LGUs.
• Installment Reporting: Report in income tax return if ordinary asset.
• Jurisprudence: Cases like CIR v. Primetown (G.R. No. 162155) clarify FMV usage; BIR rulings on reclassification.

Practical Tips and Common Pitfalls

• Valuation Disputes: Challenge BIR ZV via appraisal if overstated.
• Record-Keeping: Maintain records for 3-10 years for audits.
• Tax Planning: Structure as installment to defer tax; consider corporate ownership for lower rates.
• Inflation Adjustments: No indexation for inflation in CGT base.
• Non-Residents: Tax treaties may reduce rates (e.g., Philippines-US treaty).
• Common Errors: Understating GSP, misclassifying assets, ignoring FMV.

Conclusion

Computing CGT on real property sales in the Philippines requires meticulous adherence to NIRC provisions, emphasizing the higher of GSP or FMV as the base for the 6% tax. Exemptions provide relief for principal residences and specific transactions, but strict compliance is essential to avoid penalties. Taxpayers should consult BIR or accredited professionals for case-specific advice, as laws may evolve through new legislation or rulings. Proper computation not only ensures fiscal responsibility but also facilitates smooth property transfers in the Philippine real estate market.