EN BANC

[G.R. No. 42780. January 17, 1936.]

MANILA GAS CORPORATION , plaintiff-appellant, vs . THE COLLECTOR

OF INTERNAL REVENUE, defendant-appellee.

DeWitt, Perkins & Ponce Enrile for appellant.

Solicitor-General Hilado for appellee.

SYLLABUS

1. CONSTITUTIONAL LAW; CONSTITUTIONALITY OF STATUTE; TIME OF

RAISING QUESTION. — Where neither in the pleadings, the decision of the trial court, nor
the assignment of errors, was the question of the validity of an act raised, and no
jurisdictional issue being involved, it is not the duty of the Supreme Court to pass on the
constitutional question.
2. ID.; ID.; ID.; ACT No. 3761. VALIDITY. — Quære as to whether or not Act No.
3761 is valid.
3. ID.; TAXATION; OBLIGATION OF CONTRACTS. — A corporation has a
personality distinct from that of its stockholders, enabling the taxing power to reach
the latter when they receive dividends from the corporation. Dividends of a domestic
corporation which are paid and delivered in cash to foreign corporations as
stockholders are subject to the payment of the income tax, the exemption clause in the
charter of the corporation notwithstanding. (Philippine Telephone and Telegraph Co. vs.
Collector of Internal Revenue [1933], 58 Phil., 639.)
4. ID.; ID.; DUE PROCESS OF LAW; SITUS. — No state may tax anything not within
its jurisdiction without violating the due process clause of the constitution. The taxing
power of a state does not extend beyond its territorial limits, but within such limits it
may tax persons, property, income, or business.
5. ID.; ID.; ID.; ID.; — If an interest in property is taxed, the situs of either the
property or interest must be found within the state. If an income is taxed, the recipient
thereof must have a domicile within the state or the property or business out of which
the income issues must be situated within the state so that the income may be said to
have a situs therein.
6. ID.; ID.; ID.; ID. — Personal property may be separated from its owner, and he
may be taxed on its account at the place where the property is although it is not the
place of his own domicile and even though he is not a citizen or resident of the state
which imposes the tax. But debts owing by corporations are obligations of the debtors,
and only possess value in the hands of the creditors.
7. ID.; ID.; ID.; ID.; CASE AT BAR. — Held: That the Collector of Internal Revenue
was justi ed in withholding income taxes on dividends and interest on bonds and other
indebtedness paid by a resident corporation to non-resident corporations.

DECISION
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 MALCOLM , J : p

This is an action brought by the Manila Gas Corporation against the Collector of
Internal Revenue for the recovery of P56,757.37, which the plaintiff was required by the
defendant to deduct and withhold from the various sums paid by it to foreign
corporations as dividends and interest on bonds and other indebtedness and which the
plaintiff paid under protest. On the trial court dismissing the complaint, with costs, the
plaintiff appealed assigning as the principal errors alleged to have been committed the
following:

"1. The trial court erred in holding that the dividends paid by the plaintiff
corporation were subject to income tax in the hands of its stockholders, because to
impose the tax thereon would be to impose a tax on the plaintiff, in violation of the
terms of its franchise, and would, moreover, be oppressive and inequitable.

"2. The trial court erred in not holding that the interest on bonds and other
indebtedness of the plaintiff corporation, paid by it outside of the Philippine Islands to
corporations not residing therein, were not, on the part of the recipients thereof, income
from Philippine sources, and hence not subject to Philippine income tax."

The facts, as stated by the appellant and as accepted by the appellee, may be
summarized as follows: The plaintiff is a corporation organized under the laws of the
Philippine Islands. It operates a gas plant in the City of Manila and furnishes gas service
to the people of the metropolis and surrounding municipalities by virtue of a franchise
granted to it by the Philippine Government. Associated with the plaintiff are the Islands
Gas and Electric Company domiciled in New York, United States, and the General
Finance Company domiciled in Zurich, Switzerland. Neither of these last mentioned
corporations is resident in the Philippines.
For the years 1930, 1931, and 1932, dividends in the sum of P1,348,847.50 were
paid by the plaintiff to the Islands Gas and Electric Company in the capacity of
stockholders upon which withholding income taxes were paid to the defendant totalling
P40,460.03. For the same years interest on bonds in the sum of P411,600 was paid by
the plaintiff to the Islands Gas and Electric Company upon which withholding income
taxes were paid to the defendant totalling P12,348. Finally for the stated time period,
interest on other indebtedness in the sum of P131,644.90 was paid by the plaintiff to
the Islands Gas and Electric Company and the General Finance Company respectively
upon which withholding income taxes were paid to the defendant totalling P3,949.34.
Some uncertainty existing regarding the place of payment, we will not go into this
factor of the case at this point, except to remark that the bonds and other tokens of
indebtedness are not to be found in the record. However, Exhibits E, F, and G, certi ed
correct by the treasurer of the Manila Gas Corporation, purport to prove that the place
of payment was the United States and Switzerland.
The appeal naturally divides into two subjects, one covered by the rst assigned
error, and the other by the second assigned error. We will discuss these subjects and
errors in order.
1. Appellant rst contends that the dividends paid by it to its stockholders, the
Islands Gas and Electric Company, were not subject to tax because to impose a tax
thereon would be to do so on the plaintiff corporation, in violation of the terms of its
franchise and would, moreover, be oppressive and inequitable. This argument is
predicated on the constitutional provision that no law impairing the obligation of
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 contracts shall be enacted. The particular portion of the franchise which is invoked
provides:
"The grantee shall annually on the fth day of January of each year pay to the City
of Manila and the municipalities in the Province of Rizal in which gas is sold, two and
one-half per centum of the gross receipts within said city and municipalities,
respectively, during the preceding year. Said payment shall be in lieu of all taxes, Insular,
provincial and municipal, except taxes on the real estate, buildings, plant, machinery,
and other personal property belonging to the grantee."
The trial judge was of the opinion that the instant case was governed by our
previous decision in the case of Philippine Telephone and Telegraph Co. vs. Collector of
Internal Revenue ([1933], 58 Phil., 639). In this view we concur. It is true that the tax
exemption provision relating to the Manila Gas Corporation hereinbefore quoted differs
in phraseology from the tax exemption provision to be found in the franchise of the
Telephone and Telegraph Company, but the ratio decidendi of the two cases is
substantially the same. As there held and as now con rmed, a corporation has a
personality distinct from that of its stockholders, enabling the taxing power to reach
the latter when they receive dividends from the corporation. It must be considered as
settled in this jurisdiction that dividends of a domestic corporation, which are paid and
delivered in cash to foreign corporations as stockholders, are subject to the payment
of the income tax, the exemption clause in the charter of the corporation
notwithstanding.
For the foregoing reasons, we are led to sustain the decision of the trial court and
to overrule appellant's first assigned error.
2. In support of its second assignment of error, appellant contends that, as the
Islands Gas and Electric Company and the General Finance Company are domiciled in
the United States and Switzerland respectively, and as the interest on the bonds and
other indebtedness earned by said corporations has been paid in their respective
domiciles, this is not income from Philippine sources within the meaning of the
Philippine Income Tax Law. Citing sections 10 ( a) and 13 (e) of Act No. 2833, the
Income Tax Law, appellant asserts that their applicability has been squarely determined
by decisions of this court in the cases of Manila Railroad Co. vs. Collector of Internal
Revenue (No. 31196, promulgated December 2, 1929, not reported), and Philippine
Railway Co. vs. Posadas (No. 38766, promulgated October 30, 1933 [58 Phil., 968]),
wherein it was held that interest paid to non-resident individuals or corporations is not
income from Philippine sources, and hence not subject to the Philippine income tax.
The Solicitor-General answers with the observation that the cited decisions interpreted
the Income Tax Law before it was amended by Act No. 3761 to cover the interest on
bonds and other obligations or securities paid "within or without the Philippine Islands."
Appellant rebuts this argument by "assuming, for the sake of the argument, that by the
amendment introduced to section 13 of Act No. 2833 by Act No. 3761 the Legislature
intended that interest received by non-residents is to be considered income from
Philippine sources and so is subject to tax," but with the necessary sequel that the
amendatory statute is invalid and unconstitutional as being beyond the power of the
Legislature to enact.
Taking rst under observation the last point, it is to be observed that neither in
the pleadings, the decision of the trial court, nor the assignment of errors, was the
question of the validity of Act No. 3761 raised. Under such circumstances, and no
jurisdictional issue being involved, we do not feel that it is the duty of the court to pass
on the constitutional question, and accordingly will refrain from doing so. (Cadwallader-
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 Gibson Lumber Co. vs. Del Rosario [1913], 26 Phil., 192; Macondray & Co. vs. Benito
and Ocampo, p. 137, ante; State vs. Burke [1912], 175 Ala., 561.)
As to the applicability of the local cases cited and of the Porto Rican case of
Domenech vs. United Porto Rican Sugar Co. ([1932], 62 F. [2d], 552), we need only
observe that these cases announced good law, but that each case must be decided on
its particular facts. In other words, in the opinion of the majority of the court, the facts
at bar and the facts in those cases can be clearly differentiated. Also, in the case at bar
there is some uncertainly concerning the place of payment, which under one view could
be considered the Philippines and under another view the United States and
Switzerland, but which cannot be de nitely determined without the necessary
documentary evidence before us.
The approved doctrine is that no state may tax anything not within its jurisdiction
without violating the due process clause of the constitution. The taxing power of a
state does not extend beyond its territorial limits, but within such limits it may tax
persons, property, income, or business. If an interest in property is taxed, the situs of
either the property or interest must be found within the state. If an income is taxed, the
recipient thereof must have a domicile within the state or the property or business out
of which the income issues must be situated within the state so that the income may
be said to have a situs therein. Personal property may be separated from its owner and
he may be taxed on its account at the place where the property is although it is not a
citizen or resident of the state which imposes the tax. But debts owing by corporations
are obligations of the debtors, and only possess value in the hands of the creditors.
(Farmers Loan Co. vs. Minnesota [1930], 280 U. S., 204; Union Refrigerator Transit Co.
vs. Kentucky [1905], 199 U. S., 194; State Tax on Foreign-held Bonds [1873], 15 Wall.,
300; Buck vs. Beach [1907], 206 U. S., 392; State ex rel. Manitowoc Gas Co. vs. Wis. Tax
Comm. [1915], 161 Wis., 111; United States Revenue Act of 1932, sec. 143.)
These views concerning situs for taxation purposes apply as well to an
organized, unincorporated territory or to a Commonwealth having the status of the
Philippines.
Pushing to one side that portion of Act No. 3761 which permits taxation of
interest on bonds and other indebtedness paid without the Philippine Islands, the
question is if the income was derived from sources within the Philippine Islands.
In the judgment of the majority of the court, the question should be answered in
the a rmative. The Manila Gas Corporation operates its business entirely within the
Philippines. Its earnings, therefore, come from local sources. The place of material
delivery of the interest to the foreign corporations paid out of the revenue of the
domestic corporation is of no particular moment. The place of payment even if
conceded to be outside of the country cannot alter the fact that the income was
derived from the Philippines. The word "source" conveys only one idea, that of origin,
and the origin of the income was the Philippines.
In synthesis, therefore, we hold that conditions have not been provided which
justify the court in passing on the constitutional question suggested; that the facts
while somewhat obscure differ from the facts to be found in the cases relied upon, and
that the Collector of Internal Revenue was justi ed in withholding income taxes on
interest on bonds and other indebtedness paid to non-resident corporations because
this income was received from sources within the Philippine Islands as authorized by
the Income Tax Law. For the foregoing reasons, the second assigned error will be
overruled.
Before concluding, it is but fair to state that the writer's opinion on the rst
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 subject and the rst assigned error herein discussed is accurately set forth, but that his
opinion on the second subject and the second assigned error is not accurately
re ected, because on this last division his views coincide with those of the appellant.
However, in the interest of the prompt disposition of this case, the decision has been
written up in accordance with instructions received from the court.
Judgment a rmed, with the costs of this instance assessed against the
appellant.
Hull, Vickers, Imperial, Butte and Recto, JJ., concur.

Separate Opinions
VILLA-REAL , J., concurring and dissenting:

I concur with the majority decision regarding the disposition of the second error,
but dissent as to its disposition of the first error. In my opinion, the exemption clause to
be found in the charter of the plaintiff is broader in scope than that to be found in the
charter of the Philippine Telephone and Telegraph Company, thus making inapplicable
the decision of this court in the case of Philippine Telephone and Telegraph Co. vs.
Collector of Internal Revenue (58 Phil., 639).

ABAD SANTOS , J., concurring in part and dissenting in part:

I am of opinion that the rst assignment of error should be sustained, and the
judgment below reversed in that respect.
The franchise held by the appellant corporation contains a stipulation by the
Government to the effect that the payment by the corporation to the entities named in
the franchise of two and one-half per centum of its gross receipts, shall be in lieu of all
taxes, except taxes on the real estate, buildings, plant, machinery and other personal
property belonging to the corporation. The dividends paid by the appellant corporation
to its stockholders were a part of its earnings and as such not subject to tax under the
terms of the franchise. The franchise in this case is a contract, the obligation of which
can not be impaired.
I agree with the majority of the court that the second assignment of error should
be overruled, and the judgment affirmed in that particular.
Section 13 (e) of Act. No. 2833, as amended by Act No. 3761, expressly provides
for the imposition of a tax ". . . upon the income derived from interest upon bonds and
mortgages, or deeds of trust, notes, or other interest-bearing obligations of a domestic
or resident foreign corporation, . . ." The income derived from the interest on bonds and
other indebtedness of the appellant corporation, is clearly within the purview of the
statute. The power of the legislature to impose such a tax must be recognized. As
stated by Justice Bradley in United States vs. Erie R. Co (106 U. S., 327; 27 Law. ed.,
151, 153): ". . . The tax laid upon their bonds was intended to affect the owners of the
bonds, and whilst the companies were directed to pay it, they were authorized to retain
the amount from the installments due to the bondholders, whether citizens or aliens.
The objection that Congress had no power to tax non-resident aliens, is met by the fact
that the tax was not assessed against them personally, but against the rem, the credit,
the debt due to them. Congress has the right to tax all property within the jurisdiction of
the United States, with certain exceptions not necessary to be noted. The money due to
non-resident bondholders in this case was in the United States — in the hands of the
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 company — before it could be transmitted to London, or other place where the
bondholders resided. Whilst here it was liable to taxation. Congress, by the internal
revenue law, by way of tax, stopped a part of the money before its transmission,
namely: 5 per cent of it. Plausible grounds for levying such a tax might be assigned. It
might be said that the creditor is protected by our laws in the enjoyment of the debt;
that the whole machinery of our courts and the physical power of the government are
placed at his disposal for its security and collection."

AVANCEÑA, C.J., dissenting:

I do not agree with the majority opinion with respect to the appellant's second
assignment of error, which in my opinion should be sustained. The question involved in
this error has been clearly decided by this court in the case of Manila Railroad Co. vs.
Collector of Internal Revenue (G. R. No. 31196, promulgated December 2, 1929, not
reported). In said case it was held that interest on bonds purchased outside the
Philippine Islands by non-residents of the Islands cannot be considered derived from
sources within the Islands. The amendment of the law introduced by Act No. 3761 as to
the place of payment of interest does not affect the aspect of the question raised in
this error if the interest on which the tax in the present case has been collected is not
derived from sources within the Islands, as it is not so in fact, in accordance with the
doctrine laid down in said case of Manila Railroad Co. vs. Collector of Internal Revenue.

GODDARD , J., dissenting:

The tax exemption and communication clause in the plaintiff's franchise provides
that:
"The grantee shall annually on the 5th day of January of each year pay to the City
of Manila and to the municipalities in the Province of Rizal in which gas is sold, two and
one-half per centum of the gross receipts within said city and municipalities,
respectively, during the preceding year. Said payment shall be in lieu of all taxes, Insular,
provincial and municipal, except taxes on the real estate, buildings, plant, machinery,
and other personal property belonging to the grantee."
This franchise is a contract between the Government and the grantees thereof,
whose rights have been acquired by the plaintiff corporation. In Manila Railroad Co. vs.
Rafferty (40 Phil., 224, 230), this court held that ". . . Once granted, a charter becomes a
private contract . . ." Article 1091 of the Civil Code provides the "Obligations arising
from contract shall have the force of law between the contracting parties and must be
performed in accordance with their stipulations." It follows that as the plaintiff
corporation has paid to the City of Manila and to the municipalities of Rizal, where gas
is sold by it, the franchise tax stipulated in the contract, the Government has no legal
right to impose another tax on its earnings.
The case of Farrington vs. Tennessee (95 U. S., 679; 24 Law. ed., 558), is almost
in exact parallel with the case at bar. The facts of that case were as follows: The Union
and Planters' Bank of Memphis was duly organized under the charter granted by the
Legislature of Tennessee, by two Acts, respectively dated March 20, 1858, and
February 12, 1869. Since its organization it continued doing a regular banking business.
Its capital subscribed and paid in amounted to $675,000, divided into 6,750 shares of
$100 each. Farrington, the plaintiff in error, was the owner of 150 shares, of the value of
$15,000.
The tenth section of the charter of the bank declared:
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 "That said Company shall pay to the State an annual tax of one-half of one per
cent on each share of the capital stock subscribed, which shall be in lieu of all other
taxes."
The State of Tennessee and the County of Shelby, claiming the right, under the
Revenue Laws of the State, to tax the stock of the plaintiff in error, a stockholder of the
bank, assessed and taxed it for the year 1872. It was assessed at its par value. The tax
imposed by the State was forty cents on the $100, making the county tax $160. The
country tax was $1.20 on the $100, making the country tax $180.
The plaintiff in error denied the right of the State and County to impose these
taxes. He claimed:
(1) That the 10th section of the charter was a contract between the State and the
Bank;
(2) That any other tax than that therein specified was expressly forbidden; and
(3) That the revenue laws imposing the taxes in question impaired the obligation
of the contract.
The Supreme Court of Tennessee adjudged the taxes to be valid and the plaintiff
in error thereupon removed the case to the Federal Supreme Court for review.
In upholding all of the contentions of the plaintiff in error, and pronouncing invalid
the taxes involved as impairing the obligation of the contract created by the franchise,
the United States Supreme Court said:
"This case turns upon the construction to be given to the 10th section of the
charter of the bank. . . .
xxx xxx xxx
"When this charter was granted, the State might have been silent as to taxation. In
that case, the power would have been unfettered. (Bk. vs. Billings, 4 Pet., 514.) It might
have reserved the power as to some things, and yielded it as to others. It had the power
to make its own terms or to refuse the charter. It chose to stipulate for a speci ed tax
on the shares, and declared and bound itself that this tax should be 'in lieu of all other
taxes.'
"There is no question before us as to the tax imposed on the shares by the
charter. But the State has by her revenue law imposed another and an additional tax on
these same shares. This is one of those 'other taxes' which it had stipulated to forego.
The identity of the thing doubly taxed is not affected by the fact that in one case the tax
is to be paid vicariously by the bank, and in the other by the owner of the share himself.
The thing thus taxed is still the same, and the second tax is expressly forbidden by the
contract of the parties. After the most careful consideration, we can come to no other
conclusion. Such, we think, must have been the understanding and intent of the parties
when the charter was granted and the bank was organized. Any other view would ignore
the covenant that the tax speci ed should be 'in lieu of all other taxes.' It would blot
those terms from the context, and construe it as if they were not a part of it. . . .
xxx xxx xxx
"The decree of the Supreme Court of Tennessee is reversed and the case will be
remanded, with directions to enter a decree in favor of the plaintiff in error." (Farrington
vs. Tennessee, 95 U. S., 679; 24 Law. ed., 560, 561.)
That case, it will be observed, is almost in exact parallel with the case at bar. Both
cases deal with tax commutation provided for in a franchise granted by the State. In
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 both cases the State covenanted that the tax speci ed in the franchise should be in lieu
of all other taxes. In both cases the additional tax which the tax authorities sought to
impose was a revenue tax. In both cases the tax provided for in the franchise was paid
by the corporation, and the tax which the authorities attempted to collect were
imposed on the stockholders. In the Farrington case the provision in the Federal
Constitution that "No State shall . . . pass any . . . law impairing the obligation of
contracts" was applied; in this case the provision of our Organic Law that "no law
impairing the obligation of contracts shall be enacted" is involved. It will be observed,
further, that in the Farrington Case the franchise was granted to a corporation, yet the
court held that the commutation provision of the franchise extended to the individual
stockholders. In the case at bar, while the plaintiff, the present owner of the franchise, is
a corporation, the original grantees were natural persons; hence there is more reason
for holding in the present case that the commutation provision in the franchise granted
by the Philippine Government should extend to the stockholders of plaintiff
corporation.
The Farrington Case, decided in 1878, was by a divided court. Eighteen years
later — in 1896 — the State of Tennessee sought to have the decision in that case
reviewed, on the ground that the court did not consider the other portions of the charter
which, according to the State, were material. The Supreme Court — this time
unanimously — declined to reverse its view as expressed in the Farrington decision,
saying.
"We do not think under the circumstances that we ought now to come to a
different conclusion upon the question of exemption from that which was arrived at by
this court in the Farrington Case. As the whole charter was then before the court, we are
not prepared to say that its force was misunderstood, or that there was an omission by
the court to consider all the language of the exemption clause simply because a portion
of it is omitted in the quotation from the record made in the opinion therein delivered.
We are not inclined, therefore, to overrule or distinguish the Farrington Case, and we
must now hold that the charter clause of exemption limits the amount of tax on each
share of stock in the hands of the shareholder, and that any subsequent revenue law of
the state which imposes an additional tax on such shares in the hands of shareholders,
impairs the obligation of the contract, and is void. This compels us to reverse the
judgments herein against the shareholders." (Bank of Commerce vs. Tennessee, 161 U.
S., 134; 40 Law. ed., 645, 648.)
The doctrine of the Farrington Case is now the settled rule of the highest court of
the United States. The first assignment of error should therefore be sustained.
As to the second assignment of error I concur with the dissenting opinion of the
Chief Justice for the reasons set forth therein. Consequently that assignment of error
should also be sustained.
The trial court erred in not holding that interest received by a non-resident
corporation, outside of the Philippine Islands, is not income from Philippine sources
and so not subject to income tax.
In view of the above I am of the opinion that the appealed decision should be
reversed and another entered by this court, ordering the defendant to pay the plaintiff
the sum of P40,460,03, the amount of withholding taxes paid on account of interest on
bonds and other indebtedness, or a total of P56,757.37.

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