Overview of Individual vs. Corporate Income Taxation: Schedular vs. Flat Rate under Philippine Tax Law
Under the National Internal Revenue Code (NIRC) of 1997, as amended by the Tax Reform for Acceleration and Inclusion (TRAIN) Law (Republic Act No. 10963) and the Ease of Paying Taxes Act (Republic Act No. 11976), income taxation for individuals and corporations in the Philippines is structured differently. This distinction is rooted in two primary principles: schedular taxation for individual income and flat-rate taxation for corporate income. Each type of taxpayer—individual, corporation, trust, or estate—is subject to specific tax rules that govern the computation, rates, and compliance obligations for income tax.
A. Nature and General Principles of Income Taxation
Income tax is imposed on the income earned by individuals, corporations, trusts, and estates, regardless of the taxpayer's residence, nationality, or source of income. The Philippine tax system generally follows a global taxation principle, taxing all income earned by residents, whether from domestic or foreign sources, while non-residents are taxed only on income from Philippine sources.
The TRAIN Law and Ease of Paying Taxes Act introduced significant reforms to simplify compliance, adjust tax rates, and ease the tax burden on low- and middle-income taxpayers. These changes have further clarified the distinct approaches to individual and corporate income taxation.
B. Kinds of Taxpayers under Philippine Tax Law
Individual Taxpayers
- Residents (citizens and aliens)
- Non-residents (citizens and aliens)
Corporations
- Domestic Corporations (organized under Philippine laws)
- Resident Foreign Corporations (foreign corporations engaged in business in the Philippines)
- Non-resident Foreign Corporations (foreign corporations not engaged in business in the Philippines but earning Philippine-sourced income)
Trusts and Estates
Each type of taxpayer has distinct tax rates, compliance requirements, and allowable deductions or exemptions.
C. Individual Income Taxation – Schedular System
The schedular system applies to individuals, where income tax rates increase progressively based on income brackets. This method primarily applies to the following:
- Compensation income earned from employment,
- Business or professional income earned from trade or practice,
- Other forms of income (e.g., capital gains).
1. Tax Rates for Individuals under the TRAIN Law
- Graduated Rates: Under the TRAIN Law, taxable income for individuals is subject to graduated rates, ranging from 0% to 35%.
- Bracketed System: Income is divided into brackets, each of which has a corresponding tax rate.
- For example, taxable income not exceeding ₱250,000 is exempt, while income exceeding ₱8 million is taxed at the maximum rate of 35%.
- Personal and Additional Exemptions: The TRAIN Law eliminated the personal and additional exemptions that previously applied, streamlining the computation of taxable income.
2. Passive Income Tax
- Interest Income: Interest income from bank deposits is taxed at a flat rate of 20%.
- Dividends: Dividends received by individuals from domestic corporations are taxed at a flat rate of 10%.
- Capital Gains: Gains from the sale of shares listed on the stock exchange are taxed at 0.6%, while gains from sales of real property are subject to a 6% capital gains tax.
3. Compliance Requirements for Individuals
- Individuals are required to file an annual income tax return (ITR) on or before April 15 of each year.
- Those solely earning compensation income from one employer may opt to file a substituted filing form, where the employer withholds and remits taxes on their behalf.
D. Corporate Income Taxation – Flat Rate System
Corporations in the Philippines are subject to a flat rate system, meaning they are taxed at a uniform rate on net taxable income.
1. Tax Rates for Corporations under the TRAIN Law and CREATE Law (Corporate Recovery and Tax Incentives for Enterprises Act)
Domestic Corporations:
- General rate: 25% on net taxable income.
- Small and medium corporations (SMEs) with net taxable income not exceeding ₱5 million and total assets not exceeding ₱100 million (excluding land) are subject to a reduced rate of 20%.
Resident Foreign Corporations: Also subject to the flat 25% rate on Philippine-sourced income, though tax treaties may reduce this rate.
Non-resident Foreign Corporations: Income from Philippine sources, such as dividends, interest, and royalties, is subject to a 30% final withholding tax, unless reduced by a tax treaty.
2. Minimum Corporate Income Tax (MCIT)
- Corporations are subject to a Minimum Corporate Income Tax (MCIT) of 2% of gross income, starting from the fourth year of operation.
- If a corporation’s regular income tax liability is less than the MCIT, it must pay the higher amount. Any excess MCIT over the regular corporate income tax can be carried forward and credited against future regular corporate income taxes for up to three years.
3. Passive Income Tax for Corporations
- Domestic corporations are subject to a 20% final tax on passive income derived from interest, royalties, and other income sources.
- For non-resident foreign corporations, passive income is taxed at rates prescribed in the NIRC or applicable tax treaties.
4. Compliance Requirements for Corporations
- Corporations must file an annual corporate income tax return on or before April 15 of each year or the 15th day of the fourth month following the close of the fiscal year.
- Quarterly income tax returns must also be filed for the first three quarters of the year, with payments made quarterly.
E. Comparative Analysis of Individual vs. Corporate Income Taxation
| Feature | Individual Income Taxation | Corporate Income Taxation |
|---|---|---|
| Tax System | Schedular | Flat Rate |
| Tax Rates | Graduated (0% - 35%) | Flat (20% or 25%) |
| Bracketed Income | Yes (graduated) | No (flat rate) |
| Minimum Tax | Not applicable | MCIT (2%) |
| Passive Income | Separate rates for interest, dividends | Final withholding on passive income |
| Capital Gains | 0.6% or 6% | 6% |
| Compliance | Annual filing; substituted filing for some | Annual and quarterly filing |
F. Key Legislative Amendments: TRAIN Law and Ease of Paying Taxes Act
The TRAIN Law reformed individual income tax rates to ease the burden on low- and middle-income earners and simplified corporate taxation. Meanwhile, the Ease of Paying Taxes Act introduced reforms aimed at reducing compliance complexity for both individual and corporate taxpayers, including electronic filing options, more efficient audits, and simplified return forms for MSMEs.
G. Conclusion
The NIRC, as amended by the TRAIN Law and Ease of Paying Taxes Act, has established a clear distinction between individual and corporate income taxation systems in the Philippines. The schedular approach for individual taxpayers ensures a progressive tax system where higher-income individuals bear a greater tax burden, while the flat-rate system for corporations aims to provide predictability and efficiency in business taxation. These changes underscore the government’s intent to create a fair, efficient, and simplified tax system for diverse taxpayer categories.