Accounting and Taxation Archives

If you hate math, income tax computation can be your worst nightmare. Unfortunately, you can't escape from it, as determining your taxable income is an essential part of filing your income tax return. It's your duty as a Filipino citizen to pay taxes, so knowing how to compute income tax is one of your responsibilities. But it doesn't have to be a nightmare. In this guide, we'll discuss different ways to compute your income tax--from the manual method using the tax table to the easiest option of using online tax calculators. Disclaimer: This article is for general information only and is not substitute for professional advice. Related: How to File and Pay Taxes: An Ultimate Guide to Philippine Tax Basics of Income Tax ComputationHow To Compute Income Tax in the Philippines: 4 Ways1. How to Compute Your Income Tax Using the New BIR Tax Rate Table2. How To Compute Your Income Tax Based on an 8% Preferential Tax RateSample income tax computation (for the taxable year 2020)3. How To Compute Tax on Passive Income4. How to Compute Your Income Tax Using an Online Tax CalculatorFrequently Asked Questions1. Should I file income tax under the 8% special rate or the graduated rates? Basics of Income Tax Computation Before we proceed to the different methods of computing your income tax, it's important to establish the difference between gross income and taxable income. Gross income is the total income you've earned before deductions are made. It doesn't just refer to the salary you get as an employee (compensation income) but also to profits from your business or professional practice and any passive income that you didn't actively work for, like rents, royalties, prizes/winnings, etc. On the other hand, taxable income is what's left on your gross income if you less the allowable deductions. The taxable income, not the gross income, is used to determine the amount of annual income tax you must pay. For more information about gross income and taxable income, please read the first part of this article. How To Compute Income Tax in the Philippines: 4 Ways 1. How to Compute Your Income Tax Using the New BIR Tax Rate Table This manual computation of your income tax uses the following formula to determine your income tax due: Taxable income (Gross income – Allowable deductions) x Tax rate – Tax withheld The tax rate depends on which income range your current annual taxable income falls under. The BIR has issued two tax tables--one will be used until December 31, 2022, and the other will take effect starting January 1, 2023. The tax rates will gradually decrease with each passing year, thanks to the Tax Reform for Acceleration and Inclusion (TRAIN) Act. Read more about computing your income tax rate with the help of the latest BIR tax rate tables. 2. How To Compute Your Income Tax Based on an 8% Preferential Tax Rate The 8% tax rate is a simpler way to compute, file, and pay income tax. It's based on gross sales or receipts and other non-operating income (e.g., profits from investments and sales of properties and assets) over Php 250,000. Deducting various expenses when computing income tax with this flat-rate option is unnecessary. Also, the 8% tax rate already covers both graduated income tax and percentage tax, so taxpayers don't have to file and pay them separately. However, not all taxpayers can use this optional tax rate. It applies only to the business and professional income of self-employed and mixed-income taxpayers whose gross sales or receipts and other non-operating income for the taxable year don't exceed Php 3 million. The 8% tax rate doesn't apply to a small business's income if registered as a corporation. Here's the formula for computing your income tax based on the 8% tax rate, depending on your taxpayer type: For self-employed individuals earning income solely from business and/or profession:Income tax due = 8% x [Gross sales or receipts + Non-operating income - Php 250,000] For mixed income-earners:Income tax due = [8% x Gross sales or receipts + Non-operating income] + Tax due on compensation income (based on graduated tax rates) The Php 250,000 deduction doesn't apply to the business/professional income of mixed-income earners. It's already deducted from the compensation income when computing income tax based on graduated rates. This amount can be deducted only once. Sample income tax computation (for the taxable year 2020) Scenario 1: Full-time small business owner with total gross sales of Php 480,000 and without any non-operating income for the previous taxable year who availed of the 8% tax rate Get the taxable income. Deduct the non-taxable Php 250,000 from the gross sales: Php 480,000 - Php 250,000 = Php 230,000. To compute the income tax due, multiply the difference by 8%: Php 230,000 x 0.08 = Php 18,400. Scenario 2: Call center employee with a gross monthly salary of Php 20,000, receiving 13th-month pay of the same amount, earning Php 15,000 monthly as a freelance photographer, and availed of the 8% tax rate on business income 1. Computation of income tax due on compensation income (Using the graduated tax rates): a. Get the annual salary: Php 20,000 x 12 months = Php 240,000. b. Compute the total annual contributions (employee's share only). SSS - Php 800 x 12 months = Php 9,600 PhilHealth - Php 300 x 12 months = Php 3,600 Pag-IBIG - Php 100 x 12 months = Php 1,200 Total annual contributions: Php 14,400 c. Get the taxable income. Deduct the total annual contributions from the annual salary: Php 240,000 - Php 14,400 = Php 225,600. d. Refer to the BIR's graduated tax table to find the applicable tax rate. The taxable income of Php 225,600 falls under the first bracket, which means the tax rate is 0%. Since the taxable income is below the Php 250,000 tax exemption, the employee should not pay tax on compensation income. 2. Computation of income tax due on business income (Using the 8% tax rate): Get the annual gross income: Php 15,000 x 12 months = Php 180,000 Multiply the gross income by 8% to compute the income tax due: Php 180,000 x 0.08 = Php 14,400 3. Computation of total income tax due: Add up the income taxes due on compensation income and business income. Since the mixed-income earner is exempted from paying income tax on compensation, he must only file and pay the Php 14,400 income tax due on business income. On the flip side, if the mixed-income earner has opted to use the graduated income tax rates for computing tax based on his business income, then he has to combine his taxable compensation and business income. Then compute the annual income tax due based on the graduated tax table. 3. How To Compute Tax on Passive Income The BIR imposes different tax rates on certain types of passive income. The only exceptions are prizes worth Php 10,000 and below (Tax computation is based on the graduated tax rates) and tax-exempt incomes such as PCSO and lotto winnings worth Php 10,000 or less. Unlike compensation and business income, computing the tax due on passive income is more straightforward. Simply multiply your earnings by the applicable tax rate to determine how much your tax is. For local and foreign taxpayers living in the Philippines, here's the BIR tax table showing the tax rates on passive income. Let's say you won Php 1 million in the lotto. The tax rate of 20% on prizes over Php 10,000 is automatically deducted before you receive it. Before you claim your prize, you can compute how much tax is deducted. Simply multiply Php 1 million by 20% (Php 1 million x 0.20). Expect to be taxed Php 200,000 and receive the remaining Php 800,000. 4. How to Compute Your Income Tax Using an Online Tax Calculator No time to compute your income tax manually? Try online tax calculators instead. As of this writing, three online tax calculators from three different government agencies are active: BIR Withholding Tax Calculator DOF Tax Calculator NTRC Income Tax Calculator Take note, however, that the online tools mentioned above can only offer an estimate of how much income tax you're required to pay. To learn how to use each one of these online tax calculators, go to this article. Frequently Asked Questions 1. Should I file income tax under the 8% special rate or the graduated rates?To promote better tax compliance among self-employed individuals, the government offered a new option under the TRAIN law: the 8% flat rate for income tax. This 8% rate option for self-employed taxpayers simplifies income tax computation and filing requirements. If you avail of this tax rate, you don’t deduct business expenses from your gross income to determine your taxable income. Rather, you multiply your annual gross sales or receipts by 8%.Also, you’re exempted from paying the 3% quarterly percentage tax under the 8% tax rate. While all these benefits are good reasons to choose the 8% tax rate over the graduated rates of 0% to 35%, it’s not ideal for everyone. The flat tax rate works best for freelancers, professionals, and other service-oriented jobs/businesses whose business expenses are minimal.Businesses and individuals with large business expenses can minimize their tax dues with the graduated tax rates, which allow certain deductions from the gross income.To know which income tax rate option is optimal, do the math and compare the tax payable under the 8% tax rate vs. graduated rates. Whichever yields a lower tax due is the better option.