Needs a Legal Opinion to avoid donors tax

Five years ago, I and my siblings co-owned a parcel of land in Cebu City. A corporation bought said parcel of land from ours in exchange of 20 million. We acknowledged the corporation's prior payment of 5 Million, and further agree that a 15 million is still owed. The Corporation (now debtor) constructed a condominium on said parcel of land, and now wishes to exercise the option to pay the balance in form of condominium units and parking spaces (a Dacio En Pago transaction). We (now creditor) agreed to be paid in said manner; however, we further requested that said condo units and parking spaces be transferred and conveyed directly to our sons & daughters (HEIRS).

In view thereof, Deeds of Assignment were executed, the debtor corporation, conveying twelve condominium units and five parking spaces in favor of the heirs. The total zonal value of the conveyed real properties amounted to 15 million. Taxes were paid (CWT, DST, Local Transfer Tax). And said transactions were filed before the BIR for issuance of Certificate Authorizing Registration. Upon review, the BIR is now assessing the transaction for Donor's Tax. This is because, following the flow of the transaction, the Deed indicates that there was a donation of the condo units and parking spaces from the Creditor to the Heirs, hence, donor’s tax is due, plus interest, surcharge, and penalties because of late payment.

We do not have any money to pay for Donors Tax. Thus, in order to avoid Donor’s Tax, we are guided to enter into a Novation Agreement, where there is a transfer to the heir of all rights and benefit appertaining to the creditor, particularly transferring the privilege to be paid by the debtor corporation. If we use said Novation Agreement to avoid Donor's Tax, will it prosper?

To be enlighten further here is "Novation" in Real Estate context.

Real Estate Definition - novation

novation - the substitution of a new contract, debt, or obligation for a previous or existing contract, debt or obligation between the same or different parties. There are three different types of novation in the context of real estate loans: (a) the debtor and creditor remain the same, but a new debt replaces the old; (b) the creditor and the debt remain the same, but a new debtor is substituted; (c) the debtor and the debt remain the same, but the creditor is replaced by another. The requirements for a novation are a valid original contract, an agreement by all parties to extinguish the previous obligation, the extinguishment of the old contract, and the validity of the new contract.

Going back when the condominium developer opted to donate 15 condo units plus parking spaces inlieu of 15mil cash. Take note that the developer is the donor (Giver) and you are the donee (recepient). In the BIR tax code its the donor who must pay the donor's tax. why go into novation agreement?

CHAPTER II - DONOR'S TAX

SEC. 98. Imposition of Tax. -


(A)  There shall be levied, assessed, collected and paid upon the transfer by any person, resident or nonresident, of the property by gift, a tax, computed as provided in Section 99.
(B)  The tax shall apply whether the transfer is in trust or otherwise, whether the gift is direct or indirect, and whether the property is real or personal, tangible or intangible.

SEC. 99. Rates of Tax Payable by Donor. -

(A)  In General. - The tax for each calendar year shall be computed on the basis of the total net gifts made during the calendar year in accordance with the following schedule:

Thank you for your reply isellnuts. To clarify, and as per my illustration, the Developer did not donate. The developer's conveyance of the properties is payment IN KIND (condo & parking slots) in lieu of 15M cash. This mode of payment is also known as Dacio en Pago. Thus the developer did not donate. It is only a payment of their obligation.

The BIR is imposing the Donor's Tax to the creditor (to us), that as per the transaction, who wished to the developer that instead conveying the condos and parking spaces to them, be conveyed DIRECTLY to the heirs. Matatanda na po kase kaming mga creditor, hindi na namin madadala sa libingan yang mga properties na yan kung sa saamin pa icoconvey, kaya hiniling na namin na sa sons and daughters na lang diretsong itransfer ang ownership ng ipapambayad utang ng developer.

We, the creditors is thinking of a way to avoid such tax imposition that is why we came up with novation. I hope I illustrated the situation very well. Thank you.

there is an implied donation from the creditor (ascendants) to the heirs of the creditors. whatever you call it, whether donation or assignment of rights, that is still an implied donation. you and your siblings, as creditors, are waiving your rights in favor of your heirs.

the heirs' source of right to the said condo emanates from you and your siblings. without you and your siblings, the heirs cannot receive the said privilege to be paid by way of dacion en pago. thus, when you waive your right to receive such credit, there is a privilege to transfer the said right to your heirs. that privilege to transfer the said right by way of assignment of rights or waiver or implied donation, is a transaction that is subject to tax.

CHAPTER II - DONOR'S TAX

SEC. 98. Imposition of Tax. -


(A) There shall be levied, assessed, collected and paid upon the transfer by any person, resident or nonresident, of the property by gift, a tax, computed as provided in Section 99.
(B) The tax shall apply whether
the transfer is in trust or otherwise,
whether the gift is direct or indirect,


if you dont believe us, why not go to the nearest Revenue District Office of the BIR. you may ask from them if indeed there is a donors tax due.

Thank you for your reply taxconsultantdavao. As per my illustration comments above (please refer to the uppermost comment), the BIR ALREADY IMPOSED Donor's Tax. There is already a DONORS TAX DUE. Further, as the subject of this discussion, I am soliciting an opinion to AVOID said donors tax, particularly if thru novation, can we avoid it.

That thru novation, there is a subrogation of creditors, from the ascendants (old creditor) to the heirs (new creditor). That further according to our novation agreement, the heirs (new creditor) paid the ascendants (old creditor) with the debtor's (developer corporation) knowledge, the amount that the debtor is owing, thus Legally Subrogating them (heirs) as the new creditor by virtue of Paragraph One, Article 1302 of the NCC. Thus entitles them (heirs) to be paid by the debtor (developer corporation).

With regards to the assignment that your are referring to in your above comment “that privilege to transfer the said right by way of assignment of rights or waiver or implied donation, is a transaction that is subject to tax”, I think you are referring to the Assignment of Credit as per Articles 1624-1627 of the NCC. Indeed, an Assignment of Credit, once done GRATUITOUSLY, is a DONATION and must therefore comply with the formalities of a donation. However, the NCC is clear and further created distinctions between Assignment of Credit and Novation thru Legal Subrogation. Thus, they are separate and distinct. I am soliciting comments if we can legally and successfully avoid donation by virtue novation (legal subrogation). Thanks.

reply. later.

Did you just delete your previous comment? Thank you  anyway taxconsultantdavao. We will still pursue novation. We will be cautious, detailed, and concise with the documentation of our novation agreement to qualify that we are not evading it. Thank you again.

yes. i did delete it. i did not want to make a conclusion without giving reasons for the said conclusion. so i had my previous comment erased because i was pressed for time hours ago that i cannot give detailed reasons for my conclusion

this is not an opinion on your transaction. you have to consult your accountant and lawyer on this matter. i just want to copy and paste a particular portion of the case of cir vs. estate of toda as an additional instructive material on your supposed tax saving device which you believe is legal by means of novation.

allow me to copy and paste wht the supreme court had pronounced in the case of estate of Toda where the issue of whether the means employed by the heirs of benigno toda was a case of tax evasion (illegal) or a tax avoidance (legal)
([G.R. No. 147188. September 14, 2004]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. THE ESTATE OF BENIGNO P. TODA, JR., Represented by Special Co-administrators Lorna Kapunan and Mario Luza Bautista, respondents.

Is this a case of tax evasion

or tax avoidance?

Tax avoidance and tax evasion are the two most common ways used by taxpayers in escaping from taxation.

**Tax avoidance is the tax saving device within the means sanctioned by law.
This method should be used by the taxpayer in good faith and at arms length.

**Tax evasion, on the other hand, is a scheme used outside of those lawful means and when availed of, it usually subjects the taxpayer to further or additional civil or criminal liabilities.[23]

Tax evasion connotes the integration of three factors:
(1) the end to be achieved, i.e., the payment of less than that known by the taxpayer to be legally due, or the non-payment of tax when it is shown that a tax is due;
(2) an accompanying state of mind which is described as being “evil,” in “bad faith,” “willfull,”or “deliberate and not accidental”; and
(3) a course of action or failure of action which is unlawful.[24]

All these factors are present in the instant case.

It is significant to note that as early as 4 May 1989, prior to the purported sale of the Cibeles property by CIC to Altonaga on 30 August 1989, CIC received P40 million from RMI,[25] and not from Altonaga. That P40 million was debited by RMI and reflected in its trial balance[26] as “other inv. – Cibeles Bldg.” Also, as of 31 July 1989, another P40 million was debited and reflected in RMI’s trial balance as “other inv. – Cibeles Bldg.” This would show that the real buyer of the properties was RMI, and not the intermediary Altonaga.

The investigation conducted by the BIR disclosed that Altonaga was a close business associate and one of the many trusted corporate executives of Toda. This information was revealed by Mr. Boy Prieto, the assistant accountant of CIC and an old timer in the company. [27] But Mr. Prieto did not testify on this matter, hence, that information remains to be hearsay and is thus inadmissible in evidence. It was not verified either, since the letter-request for investigation of Altonaga was unserved,[28] Altonaga having left for the United States of America in January 1990. Nevertheless, that Altonaga was a mere conduit finds support in the admission of respondent Estate that the sale to him was part of the tax planning scheme of CIC. That admission is borne by the records. In its Memorandum, respondent Estate declared:

Petitioner, however, claims there was a “change of structure” of the proceeds of sale. Admitted one hundred percent. But isn’t this precisely the definition of tax planning? Change the structure of the funds and pay a lower tax. Precisely, Sec. 40 (2) of the Tax Code exists, allowing tax free transfers of property for stock, changing the structure of the property and the tax to be paid. As long as it is done legally, changing the structure of a transaction to achieve a lower tax is not against the law. It is absolutely allowed.

Tax planning is by definition to reduce, if not eliminate altogether, a tax. Surely petitioner [sic] cannot be faulted for wanting to reduce the tax from 35% to 5%.[29] [Underscoring supplied].

The scheme resorted to by CIC in making it appear that there were two sales of the subject properties, i.e., from CIC to Altonaga, and then from Altonaga to RMI cannot be considered a legitimate tax planning. Such scheme is tainted with fraud.

Fraud in its general sense, “is deemed to comprise anything calculated to deceive, including all acts, omissions, and concealment involving a breach of legal or equitable duty, trust or confidence justly reposed, resulting in the damage to another, or by which an undue and unconscionable advantage is taken of another.”[30]

Here, it is obvious that the objective of the sale to Altonaga was to reduce the amount of tax to be paid especially that the transfer from him to RMI would then subject the income to only 5% individual capital gains tax, and not the 35% corporate income tax. Altonaga’s sole purpose of acquiring and transferring title of the subject properties on the same day was to create a tax shelter. Altonaga never controlled the property and did not enjoy the normal benefits and burdens of ownership. The sale to him was merely a tax ploy, a sham, and without business purpose and economic substance. Doubtless, the execution of the two sales was calculated to mislead the BIR with the end in view of reducing the consequent income tax liability.

In a nutshell, the intermediary transaction, i.e., the sale of Altonaga, which was prompted more on the mitigation of tax liabilities than for legitimate business purposes constitutes one of tax evasion.[31]

Generally, a sale or exchange of assets will have an income tax incidence only when it is consummated.[32] The incidence of taxation depends upon the substance of a transaction. The tax consequences arising from gains from a sale of property are not finally to be determined solely by the means employed to transfer legal title. Rather, the transaction must be viewed as a whole, and each step from the commencement of negotiations to the consummation of the sale is relevant. A sale by one person cannot be transformed for tax purposes into a sale by another by using the latter as a conduit through which to pass title. To permit the true nature of the transaction to be disguised by mere formalisms, which exist solely to alter tax liabilities, would seriously impair the effective administration of the tax policies of Congress.[33]

To allow a taxpayer to deny tax liability on the ground that the sale was made through another and distinct entity when it is proved that the latter was merely a conduit is to sanction a circumvention of our tax laws. Hence, the sale to Altonaga should be disregarded for income tax purposes.[34] The two sale transactions should be treated as a single direct sale by CIC to RMI.

sa tingin niyo ba, ang novation na iyan is me other business purpose other than avoiding the tax? is simulation of contract lawful or unlawful? if there is a simulation of contract, it is accidental or carefully planned?