If you are planning to sell your home in the Philippines or if you are planning to start a property buy and sell business model, it is important to note that taxes must be paid on the property for capital gains. For taxes to be properly computed, the properties in question must be labeled or classified correctly.
Ordinary Vs. Capital Assets
Properties, like homes, buildings, and empty lots, are assets, which are things that increase the value of a company or person. Here are the specifics based on Section 39 of the Philippine Tax Code, which delineates capital assets from ordinary assets. And your taxes will be assessed based on these.
Here “capital assets” are defined as property held or in possession of the taxpayer but is non-inclusive of the following:
- Stocks for the business
- Any other property included in the inventory of the taxpayer if it is on hand by the end of the taxable year
- Held for sale to customers in the ordinary course of business operations
- Property used in or by the business which is subject to depreciation, and real property used in any business or trade of the taxpayer.
In summary, capital assets are any form of real property held by the taxpayer, whether related to his business or not, which are not included among ordinary asset classification. In short, the trader doesn’t use the property for his business. Ordinary assets, on the other hand, are the properties that are used in business or trade by the taxpayer or held by the taxpayer for sale to the customer in the ordinary course of the business.
Guidelines for determining your assets
The classification of a taxpayer’s assets would depend on the nature of their business. For example, in the case of real estate companies, ordinary business operations require the possession of properties instead of inventory. Thus, real properties are considered ordinary properties as they are necessary to day-to-day (or ordinary) operations. On the other hand, for any company not primarily engaged in the trade or selling of properties, these properties are considered capital assets. Avoid a BIR audit by knowing the difference so you can pay the right tax dues.
Conversion of classification - if necessary
Conversion of classification of assets may occur under certain situations. For example, if a taxpayer suffers a financial hardship and decides to temporarily or permanently shut down business operations that cause its properties used in business to become abandoned or idle, a conversion of classification may occur.
You may find the complete list of guidelines for determining asset classification conversion in Section 3(4) (e) of Revenue Regulations No. 07-2003. Here, it states that all real properties of a taxpayer engaged in real estate business are considered ordinary assets regardless of whether these properties are abandoned and sit idle.
On the other hand, properties that are classified under ordinary assets and are used in business by a taxpayer not engaged in real estate business must be converted to capital assets. In addition, proof must be submitted to show that the said real property has not been in use for more than two years before the collation of all taxable transactions that involve the said properties.
Taxes on the different assets
The sale of all capital assets (land, building, and commercial space) is nonexempt from capital gains tax. The rate for this tax is six percent (6%) of the gross selling price or fair market value at the time the sale occurred, whichever amounts to higher. Additionally, documentary stamp taxes will have to be paid as well as other miscellaneous expenses, like mandated payments by local government units and even legal fees. Noteworthy, any gain from the sale of capital assets will be listed on financial statements as capital gains. This is the profit made from the sale of items not included in the day-to-day operations of a company and is often computed, including the depreciation expense.
The sale of ordinary assets, on the other hand, may be taxed creditable withholding tax ranging from a 1.5 percent to 6 percent tax rate to the ordinary income in accordance with the 12 percent Value Added Tax and Documentary Stamp Tax. As the sale of ordinary assets falls under the regular and ordinary day-to-day operations of taxpayers engaged in the business of real properties, they must be computed under ordinary income tax.
The details can be confusing to the untrained eye. So if you need assistance setting up the right payments to the BIR, give our team of certified public accountants a call. We can help iron out your documents and review your assets to make sure you pay the correct dues. Touch base with us soon as we offer free 30-minute consultations.