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590 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

*
No. L-27044. June 30, 1975.

THE COMMISSIONER OF INTERNAL REVENUE,

petitioner, vs. ENGINEERING EQUIPMENT AND
SUPPLY COMPANY AND THE COURT OF TAX
APPEALS, respondents.
*
No. L-27452. June 30, 1975.

ENGINEERING EQUIPMENT AND SUPPLY COMPANY,

petitioner, vs. THE COMMISSIONER OF INTERNAL
REVENUE AND THE COURT OF TAX APPEALS,
respondents.

Taxation; Contractor’s tax; Company engaged in the design

and installation of central type air conditioning system subject to
contractor’s tax; Reasons.—The company did not manufacture air
conditioning units for sale to the general public, but imported
some items which were used in executing contracts entered into
by it. It undertook negotiations and execution of individual
contracts for the design, supply and installation of air
conditioning units of the central type, taking into consideration in
the process such factors as the area of the space to be air
conditioned; the number of persons occupying or would be
occupying the premises; the purpose for which the various air
conditioning areas are to be used; and the sources of heat gain or
cooling loan on the plant such as sum load, lighting, and other
electrical appliances which are or may be in the plan. The
company did not and was not engaged in the manufacture of air
conditioning

_______________

6 Motion to Dismiss dated April 28, 1975.

* FIRST DIVISION.

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591

VOL. 64, JUNE 30, 1975 591

Commissioner of Internal Revenue vs. Engineering

Equipment and Supply Company

units but had its services contracted for the installation of a

central system. The supply of air conditioning units to the
company’s various customers, whether the said machineries were
on hand or not, was specially made for each customer and
installed in his building upon his special order. The company is a
contractor rather than a manufacturer, subject to the contractors
tax prescribed by Section 191 of the Code and not to the advance
sales tax imposed by Section 185(m) in relation to Section 194 of
the same Code.
Same; Same; Distinction between a contract of sale and a
contract for furnishing services; labor and materials.—The
distinction between a contract of sale and one for work, labor and
materials is tested by the inquiry whether the thing transferred is
one not in existence and which never would have existed but for
the order of the party desiring to acquire it, or a thing which
would have existed and has been the subject of sale to some other
persons even if the order had not been given. If the article ordered
by the purchaser is exactly such as the plaintiff makes and keeps
on hand for sale to anyone, and no change or modification of it is
made at defendant’s request, it is a contract of sale, even though
it may be entirely made after, and in consequence of, the
defendants order for it.
Same; Same; Test to determine whether a person a contractor
or not.—The word “contractor” has come to be used with special
reference to a person who, in the pursuit of the independent
business, undertakes to do a specific job or piece of work for other
persons, using his own means and methods without submitting
himself to control as to the petty details. The true test of a
contractor would seem to be that he renders service in the course
of an independent occupation, representing the will of his
employer only as to the result of his work, and not as to the
means by which it is accomplished.
Same; Compensating tax; Compensating tax imposed on the
user of imported goods not subject to sales tax; Case at bar.—Since
the company imported air conditioning units, parts or accessories
thereof for use in its construction business and these items were
never sold, resold, bartered or exchanged, it should be held liable
to pay taxes prescribed under Section 190 of the Code. This

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compensating tax is not a tax on the importation of goods but a

tax on the use of imported goods not subject to sales tax.
Same; Surcharge; Payment of surcharge in [Link] a false or
fraudulent return is filed or in case of willful neglect to file a
return; Reasons; Case at bar.—The company deliberately and
purposely misdeclared its importations to evade the payment of
the 30% tax.

592

592 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering

Equipment and Supply Company

Since the commission of fraud is altogether too glaring, the

company should not be absolved from the 50% fraud surcharge,
otherwise it would be giving premium to a plainly intolerable act
of tax evasion. Whether the company is subject to advance sales
tax or compensating tax, it is required by law to truly declare its
importation in the import entries and internal revenue
declarations before the importations maybe released from
customs custody. The said entries are the very documents where
the nature, quantity and value of the imported goods are declared
and where the customs duties, internal revenue taxes and other
fees or charges incident to the importation are computed. These
entries, therefore, serve the same purpose as the returns required
by Section 183(a) of the Code.
Same: Surcharge for delinquency in the payment of
compensating tax.—Section 190 of the Tax Code, as amended,
provides that if any article withdrawn from the customhouse or
the post office without payment of the compensating tax is
subsequently used by the importer for other purposes,
corresponding entry should be made in the books of accounts if
any are kept or a written notice thereof sent to the Collector of
Internal Revenue and payment of the corresponding
compensating tax made within 30 days from the date of such
entry or notice and if tax is not paid within such period the
amount of the tax shall be increased by 25% the increment to be a
part of the tax.
Same: Prescription; Assessment and collection of taxes in case
a false or fraudulent return is filed or in case of failure to file a
return within 10 years after the discovery of the falsity, fraud or
omission.—In the case of a false or fraudulent return with intent
to evade tax or of a failure to file a return, the tax may be

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assessed, or a proceeding in court for the collection of such tax

may be begun without assessment at any time within ten years
after the discovery of the falsity, fraud or omission.

PETITION for review on certiorari of a decision of the

Court of Tax Appeals.

The facts are stated in the opinion of the Court.

          Solicitor General Antonio P. Barredo, Assistant
Solicitor General Felicisimo R. Rosete, Solicitor Lolita O.
Gal-lang and Special Attorney Gemaliel H. Mantolino for
Commissioner of Internal Revenue, etc.
          Melquiades C. Gutierrez, Jose U. Ong, Juan G.
Collas, Jr., Luis Ma. Guerrero and J.R. Balonkita for
Engineering Equipment and Supply Company.

593

VOL. 64, JUNE 30, 1975 593

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

ESGUERRA, J.:

Petition for review on certiorari of the decision of the Court

of Tax Appeals in CTA Case No. 681, dated November 29,
1966, assessing a compensating tax of P174,441.62 on the
Engineering Equipment and Supply Company.
As found by the Court of Tax Appeals, and as
established by the evidence on record, the facts of this case
are as follows:
Engineering Equipment and Supply Co. (Engineering
for short), a domestic corporation, is an engineering and
machinery firm. As operator of an integrated engineering
shop, it is engaged, among others, in the design and
installation of central type air conditioning system,
pumping plants and steel fabrications. (Vol. I pp. 12-16
T.S.N. August 23, 1960)
On July 27, 1956, one Juan de la Cruz, wrote the then
Collector, now Commissioner, of Internal Revenue
denouncing Engineering for tax evasion by misdeclaring its
imported articles and failing to pay the correct percentage
taxes due thereon in connivance with its foreign suppliers
(Exh. “2” p. 1 BIR record Vol. I). Engineering was likewise
denounced to the Central Bank (CB) for alleged fraud in
obtaining its dollar allocations. Acting on these
denunciations, a raid and search was conducted by a joint
team of Central Bank, (CB), National Bureau of
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Investigation (NBI) and Bureau of Internal Revenue (BIR)

agents on September 27, 1956, on which occasion
voluminous records of the firm were seized and confiscated.
(pp. 173-177 T.S.N.)
On September 30, 1957, revenue examiners Quesada
and Catudan reported and recommended to the then
Collector, now Commissioner, of Internal Revenue
(hereinafter referred to as Commissioner) that Engineering
be assessed for P480,912.01 as deficiency advance sales tax
on the theory that it misdeclared its importation of air
conditioning units and parts and accessories
1
thereof which
are subject to tax under Section 185(m) of the Tax Code,
instead of Section 186 of the same

__________________

1 “Section 185. Percentage tax on sales of x x x, refrigerators and

others.—There shall be levied, assessed, and collected once only on every
original sale, barter, exchange, or similar transaction intended to transfer
ownership of, or title to, the other articles herein below enumerated, a tax
equivalent to thirty percentum of the gross selling price or gross value in
money of the articles sold, bartered,

594

594 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

Code. (Exh. “3” pp. 59-63 BIR rec. Vol. I) This assessment
was revised on January 23, 1959, in line with the
observation of the Chief, BIR Law Division, and was raised
to P916,362.56 representing deficiency advance sales tax
and manufacturers sales tax, inclusive of the 25% and 50%
surcharges, (pp. 72-80 BIR rec. Vol. I)
On March 3, 1959, the Commissioner assessed against,
and demanded upon, Engineering payment of the increased
amount and suggested that P10,000 be paid as compromise
in extrajudicial settlement of Engineering’s penal liability
for violation of the Tax Code. The firm, however, contested
the tax assessment and requested that it be furnished with
the details and particulars of the Commissioner’s
assessment. (Exh. “B” and “15”, pp. 86-88 BIR rec. Vol. I)
The Commissioner replied that the assessment was in
accordance with law and the facts of the case.
On July 30, 1959, Engineering appealed the case to the
Court of Tax Appeals and during the pendency of the case

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the investigating revenue examiners reduced Engineering’s

deficiency tax liabilities from P916,362.65 to P740,587.86
(Exhs. “R” and “9” pp. 162-170, BIR rec.), based on findings
after conferences had with Engineering’s Accountant and
Auditor.
On November 29, 1966, the Court of Tax Appeals
rendered its decision, the dispositive portion of which reads
as follows:

“For ALL THE FOREGOING CONSIDERATIONS, the decision of

respondent appealed from is hereby modified, and petitioner, as a
contractor, is declared exempt from the deficiency manufacturers
sales tax covering the period from June 1, 1948, to September 2,
1956. However, petitioner is ordered to pay respondent, or his
duly authorized collection agent, the sum of P174,141.62 as
compensating tax and 25% surcharge for the period from 1953 to
September 1956. With costs against petitioner.”

_______________

exchanged or transferred, such tax to be paid by the manufacturer or

producers. Provided: That where the articles enumerated herein below are
manufactured out of materials subject to tax under this section, the total
cost of such materials, as duly established, shall be deductible from the
gross selling price or gross value in money of such manufactured articles.
xxx
(m) Air conditioning units and parts or accessories thereof (As amended
by R.A. No. 588, effective from September 22, 1950 until it was amended
by R.A. No. 1612 made effective August 14, 1956 )

595

VOL. 64, JUNE 30, 1975 595

Commisioner of Internal Revenue vs. Engineering
Equipment and Supply Company

The Commissioner, not satisfied with the decision of the

Court of Tax Appeals, appealed to this Court on January
18, 1967, (G.R. No. L-27044). On the other hand,
Engineering, on January 4, 1967, filed with the Court of
Tax Appeals a motion for reconsideration of the decision
abovementioned. This was denied on April 6, 1967,
prompting Engineering to file also with this Court its
appeal, docketed as G.R. No. L-27452. Since the two cases,
G.R. No. L-27044 and G.R. No. L-27452, involve the same
parties and issues, We have decided to consolidate and
jointly decide them.

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Engineering in its petition claims that the Court of Tax

Appeals committed the following errors:

1. That the Court of Tax Appeals erred in holding

Engineering Equipment & Supply Company liable
to the 30% compensating tax on its importations of
equipment and ordinary articles used in the central
type air conditioning systems it designed,
fabricated, constructed and installed in the
buildings and premises of its customers, rather
than to the compensating tax of only 7%;
2. That the Court of Tax Appeals erred in holding
Engineering Equipment & Supply Company guilty
of fraud in effecting the said importations on the
basis of incomplete quotations from the contents of
alleged photostat copies of documents seized
illegally from Engineering Equipment and Supply
Company which should not have been admitted in
evidence;
3. That the Court of Tax Appeals erred in holding
Engineering Equipment & Supply Company liable
to the 25% surcharge prescribed in Section 190 of
the Tax Code;
4. That the Court of Tax Appeals erred in holding the
assessment as not having prescribed;
5. That the Court of Tax Appeals erred in holding
Engineering Equipment & Supply Company liable
for the sum of P174,141.62 as 30% compensating
tax and 25% surcharge instead of completely
absolving it from the deficiency assessment of the
Commissioner.

The Commissioner on the other hand claims that the Court

of Tax Appeals erred:

1. In holding that the respondent company is a

contractor and not a manufacturer;
2 In holding respondent company liable to the 3%
contractor’s tax imposed by Section 191 of the Tax
Code instead of the 30% sales tax prescribed in
Section 185(m) in relation to Section 194(x) both of
the same Code;
3 In holding that the respondent company is subject
only to the 30% compensating tax under Section
190 of the Tax Code and not to

596

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596 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

the 30% advance sales tax imposed by section 183

(b), in relation to section 185(m) both of the same
Code, on its importations of parts and accessories of
air conditioning units;
4. In not holding the company liable to the 50% fraud
surcharge under Section 183 of the Tax Code on its
importations of parts and accessories of air
conditioning units, notwithstanding the finding of
said court that the respondent company
fraudulently misdeclared the said importations;
5. In holding the respondent company liable for
P174,141.62 as compensating tax and 25%
surcharge instead of P740,587.86 as deficiency
advance sales tax, deficiency manufacturers tax
and 25% and 50% surcharge for the period from
June 1, 1948 to December 31 1956.

The main issue revolves on the question of whether or not

Engineering is a manufacturer of air conditioning units
under Section 185(m), supra, in relation to Sections 183(b)
and 194 of the Code, or a contractor under Section 191 of
the same Code.
The Commissioner contends that Engineering is a
manufacturer and seller of air conditioning units and parts
or accessories thereof and, therefore, it is subject to the
30% advance sales tax prescribed by Section 185(m) of the
Tax Code, in relation to Section 194 of the same, which
defines a manufacturer as follows:

“Section 194.—Words and Phrases Defined.—In applying the

provisions of this Title, words and phrases shall be taken in the
sense and extension indicated below:
xxx
(x) “Manufacturer” includes every person who by physical or
chemical process alters the exterior texture or form or inner
substance of any raw material or manufactured or partially
manufactured products in such manner as to prepare it for a
special use or uses to which it could not have been put in its
original condition, or who by any such process alters the quality of
any such material or manufactured or partially manufactured
product so as to reduce it to marketable shape, or prepare it for
any of the uses of industry, or who by any such process combines
any such raw material or manufactured or partially

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manufactured products with other materials or products of the

same or of different kinds and in such manner that the finished
product of such process of manufacture can be put to special use
or uses to which such raw material or manufactured or partially
manufactured products in their original condition could not have
been put, and who in addition alters such raw material or
manufactured or partially manufactured products, or combines
the same to produce such finished products for the purpose

597

VOL. 64, JUNE 30, 1975 597

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

of their sale or distribution to others and not for his own use or
consumption.

In answer to the above contention, Engineering claims that

it is not a manufacturer and seller of air-conditioning units
and spare parts or accessories thereof subject to tax under
Section 185(m) of the Tax Code, but a contractor engaged
in the design, supply and installation of the central type of
air-conditioning system subject to the 3% tax imposed by
Section 191 of the same Code, which is essentially a tax on
the sale of services or labor of a contractor rather than on
the sale of articles subject to the tax referred to in Sections
184, 185 and 186 of the Code.
The arguments of both the Engineering and the
Commissioner call for a clarification of the term contractor
as well as the distinction between a contract of sale and
contract for furnishing services, labor and materials. The
distinction between a contract of sale and one for work,
labor and materials is tested by the inquiry whether the
thing transferred is one not in existence and which never
would have existed but for the order of the party desiring to
acquire it, or a thing which would have existed and has
been the subject of sale to 2some other persons even if the
order had not been given. If the article ordered by the
purchaser is exactly such as the plaintiff makes and keeps
on hand for sale to anyone, and no change or modification
of it is made at defendant’s request, it is a contract of sale,
even though it may be entirely made3 after, and in
consequence of, the defendants order for it.
Our New Civil Code, likewise distinguishes a contract of
sale from a contract for a piece of work thus:

“Art. 1467. A contract for the delivery at a certain price of an

article which the vendor in the ordinary course of his business
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manufactures or procures for the general market, whether the

same is on hand at the time or not, is a contract of sale, but if the
goods are to be manufactured specially for the customer and upon
his special order and not for the general market, it is a contract
for a piece of work.”

The word “contractor” has come to be used with special

reference to a person who, in the pursuit of the
independent business, undertakes to do a specific job or
piece of work for

________________

2 Groves vs. Buck, 3, Maule & s. 178; Towers v. Osborne, 1 Strange 506,
Benjamin on Sales 90; as cited in Arañas, Annotations and Jurisprudence
on the NIRC, as amended, 1970 ed. p. 323, 324.
3 Ibid p. 324, par. 191 (13).

598

598 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

other persons, using his own means and methods without

submitting himself to control as to the petty details.
(Arañas, Annotations and Jurisprudence on the National
Internal Revenue Code, p. 318, par. 191 (2), 1970 Ed.) The
true test of a contractor as was held in the cases of Luzon
Stevedoring Co., vs. Trinidad 43, Phil. 803, 807-808, and La
Carlota Sugar Central vs. Trinidad 43, Phil. 816, 819,
would seem to be that he renders service in the course of an
independent occupation, representing the will of his
employer only as to the result of his work, and not as to the
means by which it is accomplished.
With the foregoing criteria as guideposts, We shall now
examine whether Engineering really did “manufacture”
and sell, as alleged by the Commissioner to hold it liable to
the advance sales tax under Section 185(m), or it only had
its services “contracted” for installation purposes to hold it
liable under section 198 of the Tax Code.

After going over the three volumes of stenographic notes

and the voluminous record of the BIR and the CTA as well
as the exhibits submitted by both parties, We find that

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Engineering did not manufacture air conditioning units for

sale to the general public, but imported some items (as
refrigeration compressors in complete set, heat exchangers
or coils, t.s.n. p. 39) which were used in executing contracts
entered into by it. Engineering, therefore, undertook
negotiations and execution of individual contracts for the
design, supply and installation of air conditioning units of
the central type (t.s.n. pp. 20-36; Exhs. “F”, “G”, “H”, “I”,
“J”, “K”, “L”, and “M”), taking into consideration in the
process such factors as the area of the space to be air
conditioned; the number of persons occupying or would be
occupying the premises; the purpose for which the various
air conditioning areas are to be used; and the sources of
heat gain or cooling load on the plant such as sun load,
lighting, and other electrical appliances which are or may
be in the plan, (t.s.n. p. 34, Vol. I) Engineering also testified
during the hearing in the Court of Tax Appeals that
relative to the installation of air conditioning system,
Engineering designed and engineered complete each
particular plant and that no two plants were identical but
each had to be engineered 4
separately. As found by the
lower court, which finding We adopt—

________________

4 Decision, Court of Tax Appeals, CTA Rec. p. 212.

599

VOL. 64, JUNE 30, 1975 599

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

“Engineering, in a nutshell, fabricates, assembles, supplies and

installs in the buildings of its various customers the central type
air conditioning system; prepares the plans and specifications
therefor which are distinct and different from each other; the air
conditioning units and spare parts or accessories thereof used by
petitioner are not the window type of air conditioner which are
manufactured, assembled and produced locally for sale to the
general market; and the imported air conditioning units and
spare parts or accessories thereof are supplied and installed by
petitioner upon previous orders of its customers conformably with
their needs and requirements.”

The facts and circumstances aforequoted support the

theory that Engineering is a contractor rather than a
manufacturer.
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The Commissioner in his Brief argues that “it is more in

accord with reason and sound business management to say
that anyone who desires to have air conditioning units
installed in his premises and who is in a position and
willing to pay the price can order the same from the
company (Engineering) and, therefore, Engineering could
have mass produced and stockpiled air conditioning units
for sale to the public or to any customer with enough
money to buy the same.” This is untenable in the light of
the fact that air conditioning units, packaged, or what we
know as self-contained air conditioning units, are distinct
from the central system which Engineering dealt in. To
Our mind, the distinction as explained by Engineering, in
its Brief, quoting from books, is not an idle play of words as
claimed by the Commissioner, but a significant fact which
We just cannot ignore. As quoted by Engineering
Equipment & Supply Co., from an Engineering handbook
by L.C. Morrow, and which We reproduce hereunder for
easy reference:

“x x x there is a great variety of equipment in use to do this job (of

air conditioning). Some devices are designed to serve a specific
type of space; others to perform a specific function; and still others
as components to be assembled into a tailor-made system to fit a
particular building. Generally, however, they may be grouped into
two classifications—unitary and central system.
“The unitary equipment classification includes those designs
such as room air conditioner, where all of the functional
components are included in one or two packages, and installation
involves only making service connection such as electricity, water
and drains. Central-station systems, often referred to as applied
or built-up systems, require the installation of components at
different points in a building and their interconnection.

600

600 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

“The room air conditioner is a unitary equipment designed

specifically for a room or similar small space. It is unique among
air conditioning equipment in two respects: It is in the electrical
appliance classification, and it is made by a great number of
manufacturers.”

There is also the testimony of one Carlos Navarro, a

licensed Mechanical and Electrical Engineer, who was once
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the Chairman of the Board of Examiners for Mechanical

Engineers and who was allegedly responsible for the
preparation of the refrigeration and air conditioning code of
the City of Manila, who said that “the central type air
conditioning system is an engineering job that requires
planning and meticulous layout due to the fact that usually
architects assign definite space and usually the spaces they
assign are very small and of various sizes. Continuing
further, he testified:

“I don’t think I have seen central type of air conditioning

machinery room that are exactly alike because all our buildings
here are designed by architects dissimilar to existing buildings,
and usually they don’t coordinate and get the advice of air
conditioning and refrigerating engineers so much so that when we
come to design, we have to make use of the available space that
they are assigning to us so that we have to design the different
component parts of the air conditioning system in such a way that
will be accommodated in the space assigned and afterwards the
system may be considered as a definite portion of the building. x x
x”
Definitely there is quite a big difference in the operation
because the window type air conditioner is a sort of compromise.
In fact, it cannot control humidity to the desired level; rather the
manufacturers, by hit and miss, were able to satisfy themselves
that the desired comfort within a room could be made by a
definite setting of the machine as it comes from the factory;
whereas the central type system definitely requires an intelligent
operator.” (t.s.n. pp. 301-335, Vol. II)

The point, therefore, is this—Engineering definitely did not

and was not engaged in the manufacture of air conditioning
units but had its services contracted for the installation of
a central system. The cases cited by the Commissioner
(Advertising Associates, Inc. vs. Collector of Customs, 97,
Phil. 636; Celestino Co & Co. vs. Collector of Internal
Revenue, 99 Phil. 841 and Manila Trading & Supply Co. vs.
City of Manila, 56 O.G. 3629), are not in point. Neither are
they applicable because the facts in all the cases cited are
entirely different.

601

VOL. 64, JUNE 30, 1975 601

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

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Take for instance the case of Celestino Co where this Court

held the taxpayer to be a manufacturer rather than a
contractor of sash, doors and windows manufactured in its
factory. Indeed, from the very start, Celestino Co intended
itself to be a manufacturer of doors, windows, sashes etc. as
it did register a special trade name for its sash business
and ordered company stationery carrying the bold print
“ORIENTAL SASH FACTORY (CELESTINO CO AND
COMPANY, PROP.) 926 Raon St., Quiapo, Manila, Tel. No.
etc., Manufacturers of All Kinds of Doors, Windows x x x.”
Likewise, Celestino Co never put up a contractor’s bond as
required by Article 1729 of the Civil Code. Also, as a
general rule, sash factories receive orders for doors and
windows of special design only in particular cases, but the
bulk of their sales is derived from ready-made doors and
windows of standard sizes for the average home, which
“sales” were reflected in their books of accounts totalling
P118,754.69 for the period from January, 1952 to
September 30, 1952, or for a period of only nine (9) months.
This Court found said sum difficult to have been derived
from its few customers who placed special orders for these
items. Applying the abovestated facts to the case at bar, We
found them to be inapposite. Engineering advertised itself
as Engineering Equipment and Supply Company,
Machinery Mechanical Supplies, Engineers, Contractors,
174 Marques de Comillas, Manila (Exh. “B” and “15” BIR
rec. p. 186), and not as manufacturers. It likewise paid the
contractors tax on all the contracts for the design and
construction of central system as testified to by Mr. Rey
Parker, its President and General Manager, (t.s.n. p. 102,
103) Similarly, Engineering did not have ready-made air
conditioning units for sale but as per testimony of Mr.
Parker upon inquiry of Judge Luciano of the CTA—
Q—“Aside from the general components, which go into
air conditioning plant or system of the central type which
your company undertakes, and the procedure followed by
you in obtaining and executing contracts which you have
already testified to in previous hearing, would you say that
the covering contracts for these different projects listed . . .
referred to in the list, Exh. “F” are identical in every
respect? I mean every plan or system covered by these
different contracts are identical in standard in every
respect, so that you can reproduce them?
A—“No, sir. They are not all standard. On the contrary,
none of them
602

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Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

are the same. Each one must be designed and constructed

to meet the particular requirements, whether the
application is to be operated. (t.s.n. pp. 101-102)
What We consider as on all fours with the case at bar is
the case of S.M. Lawrence Co. vs. McFarland,
Commissioner of Internal Revenue of the State of
Tennessee and McCanless, 355 SW 2d, 100, 101, “where
the cause presents the question of whether one engaged in
the business of contracting for the establishment of air
conditioning system in buildings, which work requires, in
addition to the furnishing of a cooling unit, the connection
of such unit with electrical and plumbing facilities and the
installation of ducts within and through walls, ceilings and
floors to convey cool air to various parts of the building, is
liable for sale or use tax as a contractor rather than a
retailer of tangible personal property. Appellee took the
position that appellant was not engaged in the business of
selling air conditioning equipment as such but in the
furnishing to its customers of completed air conditioning
systems pursuant to contract, was a contractor engaged in
the construction or improvement of real property, and as
such was liable for sales or use tax as the consumer of
materials and equipment used in the consummation of
contracts, irrespective of the tax status of its contractors.
To transmit the warm or cool air over the buildings, the
appellant installed system of ducts running from the basic
units through walls, ceilings and floors to registers. The
contract called for completed air conditioning systems
which became permanent part of the buildings and
improvements to the realty.” The Court held the appellant
a contractor which used the materials and the equipment
upon the value of which the tax herein imposed was levied
in the performance of its contracts with its customers, and
that the customers did not purchase the equipment and
have the same installed.
Applying the facts of the aforementioned case to the
present case, We see that the supply of air conditioning
units to Engineer’s various customers, whether the said
machineries were in hand or not, was especially made for
each customer and installed in his building upon his
special order. The air conditioning units installed in a
central type of air conditioning system would not have
existed but for the order of the party desiring to acquire it

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and if it existed without the special order of Engineering’s

customer, the said air conditioning units were
603

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Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

not intended for sale to the general public. Therefore, We

have but to affirm the conclusion of the Court of Tax
Appeals that Engineering is a contractor rather than a
manufacturer, subject to the contractors tax prescribed by
Section 191 of the Code and not to the advance sales tax
imposed by Section 185(m) in relation to Section 194 of the
same Code. Since it has been proved to Our satisfaction
that Engineering imported air conditioning units, parts or
accessories thereof for use in its construction business and
these items were never sold, resold, bartered or exchanged,
Engineering should 5
be held liable to pay taxes prescribed
under Section 190 of the Code. This compensating tax is
not a tax on the importation of goods but a

______________

5 “Section 190. Compensating tax.—All persons residing or doing

business in the Philippines, who purchase or receive from without the
Philippines any commodities, goods, wares or merchandise, excepting
those subject to specific taxes under Title IV of this Code, shall pay on the
total value thereof at the time they are received by such persons,
including freight, postage, insurance, commission and all similar charges,
a compensating tax equivalent to the percentage taxes imposed under this
Title on original transactions effected by merchants, importers or
manufacturers, such tax to be paid before the withdrawal or removal of
said commodities, goods, wares or merchandise from the custom house or
the post office. Provided, However, That merchants, importers, and
manufacturers, who are subject to the tax under Sections 184, 185, 186 or
189 of this Title, shall not be required to pay the herein tax imposed
where such commodities, goods wares or merchandise purchased or
received by them from without the Philippines are to be sold, resold,
bartered or exchanged or are to he used in the manufacture or preparation
of articles for sale, barter or exchange and are to form part thereof. And
Provided, Further, that the tax imposed in this section shall not apply to
articles to he used by the importer himself in the manufacture or
preparation of articles subject to specific tax, or those for consignment
abroad and are to form part thereof. If any article withdrawn from the
customhouse or the post office without payment of the compensating tax is

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subsequently used by the importer for other purposes, corresponding entry

should be made in the books of accounts, if any are kept or written notice
thereof sent to the Collector of Internal Revenue and payment of the
corresponding compensating tax made within 10 days from the date of
such entry or notice. If the tax is not paid within such period the amount
of the tax shall be increased by 25%, the increment to be a part of the tax”.
(As amended by R.A. 253, effective July 1948)

604

604 SUPREME COURT REPORTS ANNOTATED

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Equipment and Supply Company

tax on the use of imported goods riot subject to sales tax.

Engineering, therefore, should be held liable to the
payment of 30% compensating tax in accordance with
Section 190 of the Tax Code in relation to Section 185(m) of
the same, but without the 50% mark up provided in Section
183(b).

II

We take up next the issue of fraud. The Commissioner

charged Engineering with misdeclaration of the imported
air conditioning units and parts or accessories thereof so as
to make them subject to a lower rate of percentage tax (7%)
under Section 186 of the Tax Code, when they are allegedly
subject to a higher rate of tax (30%) under its Section
185(m). This charge of fraud was denied by Engineering
but the Court of Tax Appeals in its decision found
adversely and said:

“x x x We are amply convinced from the evidence presented by

respondent that petitioner deliberately and purposely misdeclared
its importations. This evidence consists of letters written by
petitioner to its foreign suppliers, instructing them on how to
invoice and describe the air conditioning units ordered by
petitioner. x x x” (p. 218 CTA rec.)

Despite the above findings, however, the Court of Tax

Appeals absolved Engineering from paying the 50%
surcharge prescribe by Section 183(a) of the Tax Code by
reasoning out as follows:

“The imposition of the 50% surcharge prescribed by Section 183(a)

of the Tax Code is based on willful neglect to file the monthly
return within 20 days after the end of each month or in case a
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false or fraudulent return is willfully made, it can readily be seen

that petitioner cannot legally be held subject to the 50%
surcharge imposed by Section 183(a) of the Tax Code. Neither can
petitioner be held subject to the 50% surcharge under Section 190
of the Tax Code dealing on compensating tax because the
provisions thereof do not include the 50% surcharge. Where a
particular provision of the Tax Code does not impose the 50%
surcharge as fraud penalty we cannot enforce a non-existing
provision of law notwithstanding the assessment of respondent to
the contrary. Instances of the exclusion in the Tax Code of the
50% surcharge are those dealing on tax on banks, taxes on
receipts of insurance companies, and franchise tax. However, if
the Tax Code imposes the 50% surcharge as fraud penalty, it
expressly so provides as in the cases of income tax, estate and
inheritance taxes, gift taxes, mining tax, amusement tax and the

605

VOL. 64, JUNE 30, 1975 605

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

monthly percentage taxes. Accordingly, we hold that petitioner is

not subject to the 50% surcharge despite the existence of fraud in
the absence of legal basis to support the importation thereof.” (p.
228 CTA rec.)

We have gone over the exhibits submitted by the

Commissioner evidencing fraud committed by Engineering
and We reproduce some of them hereunder for clarity.
As early as March 18, 1953, Engineering in a letter of
even date wrote to Trane Co. (Exh. “3-K” pp. 152-155, BIR
rec.) viz:

“Your invoices should be made in the name of Madrigal & Co.,

Inc., Manila, Philippines, c/o Engineering Equipment & Supply
Co., Manila, Philippines—forwarding all correspondence and
shipping papers concerning this order to us only and not to the
customer.
“When invoicing, your invoices should be exactly as detailed in
the customer’s Letter Order dated March 14th, 1953 attached.
This is in accordance with the Philippine import licenses granted
to Madrigal & Co., Inc. and such details must only be shown on all
papers and shipping documents for this shipment. No mention of
the words air conditioning equipment should be made on any
shipping documents as well an on the cases. Please give this
matter your careful attention, otherwise great difficulties will be
encountered with the Philippine Bureau of Customs when
clearing the shipment on its arrival in Manila. All invoices and
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cases should be marked ‘THIS EQUIPMENT FOR RIZAL

CEMENT CO.’ “

The same instruction was made to Acme Industries, Inc.,

San Francisco, California in a letter dated March 19, 1953
(Exh. “3-J-1” pp. 150-151, BIR rec.)
On April 6, 1953, Engineering wrote to Owens-Corning
Fiberglass Corp., New York, U.S.A. (Exh. “3-1” pp. 147-149,
BIR rec.) also enjoining the latter from mentioning or
referring’ to the term ‘air conditioning’ and to describe the
goods on order as Fiberglass pipe and pipe fitting
insulation instead. Likewise on April 30, 1953, Engineering
threatened to discontinue the forwarding service of
Universal Transcontinental Corporation when it wrote
Trane Co. (Exh. “3-H” p. 146, BIR rec.):

“It will be noted that the Universal Transcontinental Corporation

is not following through on the instructions which have been
covered by the above correspondence, and which indicates the
necessity of discontinuing the use of the term “Air conditioning
Machinery or Air Coolers”. Our instructions concerning this
general situation have been sent to you in ample time to have
avoided this error in terminology, and we will ask that on receipt
of this letter that you again write to

606

606 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

Universal Transcontinental Corp. and inform them that, if in the

future, they are unable to cooperate with us on this requirement,
we will thereafter be unable to utilize their forwarding service.
Please inform them that we will not tolerate another failure to
follow our requirements.”

And on July 17, 1953 (Exh. “3-g”, p. 145, BIR rec.)

Engineering wrote Trane Co. another letter, viz:

“In the past, we have always paid the airconditioning tax on

climate changers and that mark is recognized in the Philippines
as air conditioning equipment. This matter of avoiding any tie-in
on air conditioning is very important to us, and we are again
asking that from hereon that whoever takes care of the processing
of our orders be carefully instructed so as to avoid again using the
term ‘climate changers’ or in any way referring to the equipment
as ‘air conditioning.’

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And in response to the aforequoted letter, Trane Co. wrote

on July 30, 1953, suggesting a solution, viz:

“We feel that we can probably solve all the problems by following
the procedure outlined in your letter of March 25, 1953, wherein
you stated that in all future jobs you would enclose photostatic
copies of your import license so that we might make up two sets of
invoices: one set describing equipment ordered simply according
to the way that they are listed on the import license and another
according to our ordinary regular methods of order write-up. We
would then include the set made up according to the import
license in the shipping boxes themselves and use those items as
our actual shipping documents and invoices, and we will send the
other regular invoice to you, by separate correspondence. (Exh.
No. “3F-1”, p. 144 BIR rec.)

Another interesting letter of Engineering is one dated

August 27, 1955 (Exh. “3-C” p. 141 BIR rec.)

“In the process of clearing the shipment from the piers, one of the
Customs inspectors requested to see the packing list. Upon
locating the packing list, it was discovered that the same was
prepared on a copy of your letterhead which indicated that the
Trane Co. manufactured air conditioning, heating and heat
transfer equipment. Accordingly, the inspectors insisted that this
equipment was being imported for air conditioning purposes. To
date, we have not been able to clear the shipment and it is possible
that we will be required to pay heavy taxes on the equipment.
“The purpose of this letter is to request that in the future, no
documents of any kind should be sent with the order that indicate
in any way that the equipment could possibly be used for air

607

VOL. 64, JUNE 30, 1975 607

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

conditioning.
“It is realized that this is a broad request and fairly difficult to
accomplish and administer, but we believe with proper caution it
can be executed. Your cooperation and close supervision
concerning those matters will be appreciated.” (Italics supplied)

The aforequoted communications are strongly indicative of

the fraudulent intent of Engineering to misdeclare its
importation of air conditioning units and spare parts or
accessories thereof to evade payment of the 30% tax. And
since the commission of fraud is altogether too glaring, We
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cannot agree with the Court of Tax Appeals in absolving

Engineering from the 50% fraud surcharge, otherwise We
will be giving premium to a plainly intolerable act of tax
evasion. As aptly stated by then Solicitor General, now
Justice, Antonio P. Barredo: ‘this circumstance will not free
it from the 50% surcharge because in any case whether it is
subject to advance sales tax or compensating tax, it is
required by law to truly declare its importation in the
import entries and internal revenue declarations before the
importations maybe released from customs custody. The
said entries are the very documents where the nature,
quantity and value of the imported goods are declared and
where the customs duties, internal revenue taxes and other
fees or charges incident to the importation are computed.
These entries, therefore, serve the same purpose as the
returns required by Section 183(a) of the Code.’
Anent the 25% delinquency surcharge, We fully agree to
the ruling made by the Court of Tax Appeals and hold
Engineering liable for the same. As held by the lower court:

“At first blush it would seem that the contention of petitioner that
it is not subject to the delinquency surcharge of 25% is sound,
valid and tenable. However, a serious study and critical analysis
of the historical provisions of Section 190 of the Tax Code dealing
on compensating tax in relation to Section 183 (a) of the same
Code, will show that the contention of petitioner is without merit.
The original text of Section 190 of Commonwealth Act 466,
otherwise known as the National Internal Revenue Code, as
amended by Commonwealth Act No. 503, effective on October 1,
1939, does not provide for the filing of’ a compensating tax return
and payment of the 25% surcharge for late payment thereof.
Under the original text of Section 190 of the Tax Code, as
amended by Commonwealth Act No. 503, the contention of the
petitioner that it is not subject to the 25% surcharge appears to be
legally tenable. However, Section 190 of the Tax Code was
subsequently amended by Republic Acts Nos. 48, 253, 361, 1511
and

608

608 SUPREME COURT REPORTS ANNOTATED

Commissioner of Internal Revenue vs. Engineering
Equipment and Supply Company

1612 effective October 1, 1946, July 1, 1948, June 9, 1949, June

16, 1956 and August 24, 1956 respectively, which invariably
provides among others, the following:

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“x x x If any article withdrawn from the customhouse or the post office

without payment of the compensating tax is subsequently used by the
importer for other purposes, corresponding entry should be made in the
books of accounts if any are kept or a written notice thereof sent to the
Collector of Internal Revenue and payment of the corresponding
compensating tax made within 30 days from the date of such entry or
notice and if tax is not paid within such period the amount of the tax
shall be increased by 25% the increment to be a part of the tax.”

“Since the imported air conditioning units and spare parts or

accessories thereof are subject to the compensating tax of 30% as
the same were used in the construction business of Engineering,
it is incumbent upon the latter to comply with the aforequoted
requirement of Section 190 of the Code, by posting in its books of
accounts or notifying the Collector of Internal Revenue that the
imported articles were used for other purposes within 30 days. x x
x Consequently, as the 30% compensating tax was not paid by
petitioner within the time prescribed by Section 190 of the Tax
Code as amended, it is therefore subject to the 25% surcharge for
delinquency in the payment of the said tax.” (pp. 224-226 CTA
rec.)

III

Lastly the question of prescription of the tax assessment

has been put in issue. Engineering contends that it was not
guilty of tax fraud in effecting the importations and,
therefore, Section 332(a) prescribing ten years is
inapplicable, claiming that the pertinent prescriptive
period is five years from the date the questioned
importations were made. A review of the record however
reveals that Engineering did file a tax return or declaration
with the Bureau of Customs before it paid the advance
sales tax of 7%. And the declaration filed reveals that it did
in fact misdeclare its importations. Section 332 of the Tax
Code which provides:

“Section 332.—Exceptions as to period of limitation of assessment

and collection of taxes.—
(a) In the case of a false or fraudulent return with intent to
evade tax or of a failure to file a return, the tax may be assessed,
or a proceeding in court for the collection of such tax may be
begun

609

VOL. 64, JUNE 30, 1975 609

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Equipment and Supply Company

without assessment at any time within ten years after the

discovery of the falsity, fraud or omission.

is applicable, considering the preponderance of evidence of

fraud with the intent to evade the higher rate of percentage
tax due from Engineering. The tax assessment was made
within the period prescribed by law and prescription had
not set in against the Government.
WHEREFORE, the decision appealed from is affirmed
with the modification that Engineering is hereby also made
liable to pay the 50% fraud surcharge.
SO ORDERED.

     Makalintal, C.J., Castro, Makasiar and Martin, JJ.,

concur.

Decision affirmed with modification.

Notes.—a) Contractor defined.—Although, in a general

sense, every person who enters into a contract may be
called a contractor, yet the word, for want of a better one,
has come to be used with special reference to a person who,
in the pursuit of an independent business, undertakes to do
a specific piece or job of work for other persons, using his
own means and methods without submitting himself to
control as to the petty details. The true test of a ‘contractor’
would seem to be that he renders the service in the course
of an independent occupation, representing the will of his
employer only as to the result of his work, and not as to the
means by which it is accomplished. (Luzon Stevedoring Co.
vs. Trinidad, L-18316, September 23, 1922).
b) When return considered sufficient.—A return need not
be complete in all particulars. It is sufficient if it complies
substantially with the law. There is substantial compliance
(1) when the return is made in good faith and is not false or
fraudulent; (2) when it covers the entire period involved;
and (3) when it contains information as to the various
items of income, deductions and credits with such
definiteness as to permit the computation and assessment
of the tax. (Commissioner of Internal Revenue vs. Lilia
Yusay Gonzales, L-19495, Nov. 24, 1966).

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