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COLA and separation pay

Cola and separation pay by: Edward "Wowie" D. Roguel

Since tax laws are complicated and confusing, the Bureau of Internal Revenue (BIR) provides formal guidance to taxpayers by issuing revenue regulations (RRs) and revenue memorandum circulars (RMCs) that tackle and provide the official position or interpretation of the BIR on critical tax issues or interpretation of tax laws. As for the directives or instructions, guidelines and procedures necessary in the implementation of BIR policies, goals, objectives, plans and programs are contained in the revenue memorandum orders (RMOs) issued by the BIR.

In two of the most recent BIR issuances for this month, the BIR moved to clarify the tax treatment of Cost of Living Allowance (COLA) of Minimum Wage Earners (MWEs) under RMC 23-2011 and streamline the process for securing the income tax exemption of separation benefits under RMO 26-2011.

If you recall, the Regional Tripartite Wages and Productivity Board-National Capital Region (RTWPB-NCR) issued Wage Order No. NCR-16 last May 9, 2011 mandating the grant of a P22 per day COLA to all private sector minimum wage workers in the NCR. This means that starting May 26, 2011 -- the effectivity of NCR Wage Order No. 16 -- MWEs from the non-agricultural sector shall receive P426 per day (P404 basic pay plus P22 COLA), and those in the agricultural sector shall enjoy a P389 daily wage (P367 basic pay plus P22 COLA). The issue, however, is whether such COLA is taxable and would therefore disqualify minimum wage earners from their exemption from income tax under Republic Act (RA) No. 9504.  

Under RA 9504, MWEs are exempted from income tax on their salary including their holiday pay, overtime pay and night shift differential pay and hazard pay. Based on Revenue Regulations No. (RR) 10-2008, in the event that an MWE earns taxable income other than the said benefits, he shall cease to be considered an MWE, and he will therefore be taxable on his entire income.  Accordingly, since COLA is not among those benefits enumerated under RA No. 9504, then, it may be interpreted that MWEs receiving COLA under above-mentioned wage order may no longer qualify for income tax exemption.  

To clarify this issue, the BIR quickly responded by issuing RMC No. 23-2011. Under RMC 23-2011, MWEs receiving not more than the new wage rate  (inclusive of COLA), including holiday pay, overtime pay, night shift differential pay and hazard pay, if any, shall be exempted from income tax. Hence, those employees in the non-agricultural sector in the NCR who are subject to income tax prior to the effectivity of said wage order because their salaries are more than P404, may now enjoy exemption from income tax, provided their salaries, inclusive of COLA, will not exceed P426 and they do not receive other taxable allowances or commissions other than holiday, overtime, night shift differential and hazard pays. This means that they will receive higher net pay this period. Their income prior to May 26, 2011, however, shall remain taxable.
On the other issue, some employees or their heirs who are separated due to sickness, death or other physical disability have to request for a ruling from the BIR to avail of the exemption from income taxes, as well as withholding taxes, on their separation benefits received from their employers. The rulings are normally filed with the Law Division of the BIR National Office.  

To simplify the process, the BIR issued RMO 26-2011, which devolves the processing of requests for tax exemption of separation benefits to the Regional Office. The RMO further provides, among others, that instead of a confirmatory ruling, a Certificate of Tax Exemption (CTE) shall be issued by the Regional Director. 

The request for the CTE, together with the required documents, shall be filed by the employee (or his heir) or the employer with the Revenue District Office (RDO) where the employer is registered. The RDO shall endorse the same to the Regional Office for evaluation and approval.
Unf ort unately, the RMO does not provide for a specific time frame for the BIR to issue the CTE.  Hence, taxpayers cannot surmise how long it may take before they can receive the CTE.  But hopefully, it will take less time than securing a ruling with the BIR.  

It is important to note, however, that the foregoing procedures cover only the separation benefits due to death, sickness or physical disability. The process of securing exemption of separation benefits for any other causes "beyond the control," such as separation due to reorganization, restructuring, etc., shall continue to be processed at the Law Division - BIR National Office.
The foregoing issuances are a welcome development to individual taxpayers since RMC 23-2011 puts to rest any questions MWEs may have had regarding the tax treatment of the COLA that was recently granted to them. The simplification of the process of securing certification, on the other hand, addresses the issue encountered by employees separating from service on account of sickness or physical disability whose separation benefits are subjected to tax and thus have no other recourse but to seek refund because they are unable to secure the required ruling.