LETTER OF AUTHORITY

G.R. No. 222743, April 5, 2017

MEDICARD PHILIPPINES, INC.

FACTS:

• MEDICARD is a health maintenance organization (HMO) that provides prepaid health and
medical insurance coverage to its clients. Individuals enrolled in its health care programs pay an annual
membership fee and are entitled to various preventive, diagnostic and curative medical services provided
by duly licensed physicians, specialists, and other professional technical staff participating in the group
practice health delivery system at a hospital or clinic owned, operated or accredited by it.

• MEDICARD filed its VAT Returns through Electronic Filing and Payment System (EFPS).

• Upon finding some discrepancies between MEDICARD’s Income Tax Returns (ITR) and VAT
Returns through the BIR’s RELIEF System, the CIR issued a Letter Notice (LN) and subsequently, a
Preliminary Assessment Notice (PAN) against MEDICARD for deficiency VAT.

MEDICARD then received CIR’s FAN dated December 10, 2007 for deficiency VAT for taxable year
2006.

• According to the CIR, the taxable base of HMOs for VAT purposes is its gross receipts without
any deduction. The CIR argued that since MEDICARD does not actually provide medical and/or hospital
services, but merely arranges for the same, its services are not VAT exempt.

• MEDICARD filed a protest arguing that the services it renders are not limited merely to
arranging for the provision of medical and/or hospitalization services but include actual and direct
rendition of medical and laboratory services.

MEDICARD explains that its business as an HMO involves two different although interrelated contracts.
One is between a corporate client and MEDICARD, with the corporate client's employees being
considered as MEDICARD members; and the other is between the health care institutions/healthcare
professionals and MEDICARD.

Under the first, MEDICARD undertakes to make arrangements with healthcare institutions/healthcare
professionals for the coverage of MEDICARD members under specific health related services for a
specified period of time in exchange for payment of a fixed membership fee. Under its contract with its
corporate clients, MEDICARD expressly provides that 20% of the membership fees per individual,
regardless of the amount involved, already includes the VAT of 10%, excluding the remaining 80%
because MEDICARD would earmark this latter portion for medical utilization of its members.

Thus MEDICARD assails CIR's inclusion in its gross receipts of its earnings from medical services which
it actually and directly rendered to its members.
• CIR denied MEDICARD’s protest, thus MEDICARD proceeded to file a petition for review
before the CTA.

• The CTA Division held that the determination of deficiency VAT is not limited to the issuance of
Letter of Authority (LOA) alone and that in lieu of an LOA, an LN was issued to MEDICARD informing
it of the discrepancies between its ITRs and VAT Returns and this procedure is authorized under Revenue
Memorandum Order (RMO) No. 30-2003 and 42-2003.

• Also, the amounts that MEDICARD earmarked and eventually paid to doctors, hospitals and
clinics cannot be excluded from the computation of its gross receipts because the act of earmarking or
allocation is by itself an act of ownership and management over the funds by MEDICARD. Furthermore,
MEDICARD’s earnings from its clinics and laboratory facilities cannot be excluded from its gross
receipts because the operation of these clinics and laboratory is merely an incident to MEDICARD’s line
of business as an HMO.

• MEDICARD elevated the matter to the CTA en banc.

ISSUES:
1. Is the absence of the Letter of Authority fatal? YES.

2. Should the amounts that MEDICARD earmarked and eventually paid to the medical service
providers still form part of its gross receipts for VAT purposes? NO.

RULING:

1. The absence of the LOA violated MEDICARD’s right to due process. An LOA is the authority
given to the appropriate revenue officer assigned to perform assessment functions. An LOA is premised
on the fact that the examination of a taxpayer who has already filed his tax returns is a power that
statutorily belongs only to the CIR himself or his duly authorized representatives. Under the NIRC, unless
authorized by the CIR himself or by his duly authorized representative, through an LOA, an examination
of the taxpayer cannot ordinarily be undertaken.

The LN, on the other hand, shall serve only as a discrepancy notice to the taxpayer similar to a Notice for
Informal Conference. However, for a Notice of Informal Conference, which generally precedes the
issuance of an assessment notice to be valid, the same presupposes that the revenue officer who issued the
same is properly authorized in the first place. Thus, the LN must be CONVERTED into an LOA pursuant
to RMO No. 32-2005 (clarifying RMO No. 30-2003 and 42-2003).

In this case, the Court cannot convert the LN into the LOA required under the law even if the same was
issued by the CIR himself. LN is issued to a person found to have underreported sales/receipts per data
generated under the RELIEF system. Upon receipt of the LN, a taxpayer may avail of the BIR's Voluntary
Assessment and Abatement Program. If a taxpayer fails or refuses to avail of the said program, the BIR
may avail of administrative and criminal remedies, particularly closure, criminal action, or audit and
investigation. Since the law specifically requires an LOA and RMO No. 32-2005 requires the conversion
of the previously issued LN to an LOA, the absence thereof cannot be simply swept under the rug, as the
CIR would have it. In fact, an LN is considered as a notice of audit or investigation only for the purpose
of disqualifying the taxpayer from amending his returns.

The following differences between an LOA and LN are crucial.

2. Second, an LOA is valid only for 30 days from date of issue while an LN has no such limitation.

3. Third, an LOA gives the revenue officer only a period of 10 days from receipt of LOA to conduct
his examination of the taxpayer whereas an LN does not contain such a limitation.

Simply put, LN is entirely different and serves a different purpose than an LOA. Due process demands, as
recognized under RMO No. 32-2005, that after an LN has served its purpose, the revenue officer should
have properly secured an LOA before proceeding with the further examination and assessment of the
petitioner. Unfortunately, this was not done in this case.

There is no dispute that no LOA was issued prior to the issuance of a PAN and FAN against
MEDICARD. Therefore no LOA was also served on MEDICARD. The LN that was issued earlier was
also not converted into an LOA. The applicability of RMO 32-2005 in the present case is clear and
unequivocal on the necessity of an LOA for the assessment proceeding to be valid.

Hence, the CTA's disregard of MEDICARD's right to due process warrants the reversal of the assailed
decision and resolution.

2. Since an HMO like MEDICARD is primarily engaged in arranging for coverage or designated
managed care services that are needed by plan holders/members for fixed prepaid membership fees and
for a specified period of time, then MEDICARD is principally engaged in the sale of services. Its VAT
base and corresponding liability is, thus, determined under Section 108(A) of the Tax Code, as amended.

The nature of MEDICARD's business and the extent of the services it rendered are not seriously disputed.
As an HMO, MEDICARD primarily acts as an intermediary between the purchaser of healthcare services
(its members) and the healthcare providers (the doctors, hospitals and clinics) for a fee. By enrolling
membership with MEDICARD, its members will be able to avail of the pre-arranged medical services
from its accredited healthcare providers without the necessary protocol of posting cash bonds or deposits
prior to being attended to or admitted to hospitals or clinics, especially during emergencies, at any given
time. Apart from this, MEDICARD may also directly provide medical, hospital and laboratory services,
which depends upon its member's choice.

Thus, in the course of its business as such, MEDICARD members can either avail of medical services
from MEDICARD's accredited healthcare providers or directly from MEDICARD. In the former,
MEDICARD members obviously knew that MEDICARD would not actually be providing the actual
healthcare service. Thus, based on industry practice, MEDICARD informs its would-be member
beforehand that 80% of the amount would be earmarked for medical utilization

and only the remaining 20% comprises its service fee. In the latter case, MEDICARD's sale of its services
is exempt from VAT under Section 109(G).

The CTA and the CIR have not pointed to any portion of Section 108 of the NIRC that would extend the
definition of gross receipts even to amounts that were indisputably utilized not by MEDICARD itself but
by the medical service providers. For this Court to subject the entire amount of MEDICARD's gross
receipts without exclusion, the authority should have been reasonably founded from the language of the
statute. That language is wanting in this case. In the scheme of judicial tax administration, the need for
certainty and predictability in the implementation of tax laws is crucial.
In sum, an HMO undertakes to provide or arrange for the provision of medical services through
participating physicians. In the present case, the VAT is a tax on the value added by the performance of
the service by the taxpayer. It is, thus, this service and the value charged thereof by the taxpayer that is
taxable under the NIRC.

As to the CIR's argument that the act of earmarking or allocation is by itself an act of ownership and
management over the funds, the Court does not agree. On the contrary, it is MEDICARD's act of
earmarking or allocating 80% of the amount it received as membership fee at the time of payment that
weakens the ownership imputed to it. By earmarking or allocating 80% of the amount, MEDICARD
unequivocally recognizes that its possession of the funds is not in the concept of owner but as a mere
administrator of the same. For this reason, at most, MEDICARD's right in relation to these amounts is a
mere inchoate owner which would ripen into actual ownership if, and only if, there is underutilization of
the membership fees at the end of the fiscal year. Prior to that, MEDICARD is bound to pay from the
amounts it had allocated as an administrator once its members avail of the medical services of
MEDICARD's healthcare providers.

It is significant to note in this regard that MEDICARD established that upon receipt of payment of
membership fee, it actually issued two official receipts, one pertaining to the VATable portion,
representing compensation for its services, and the other represents the non-VATable portion pertaining
to the amount earmarked for medical utilization. Therefore, the segregation of the amounts pertaining to
two different kinds of fees proves that indeed services were rendered by its healthcare providers for which
it paid the amount must be excluded from its gross receipts.

Therefore, for purposes of determining the VAT liability of an HMO, the amounts earmarked and actually
spent for medical utilization of its members should not be included in the computation of its gross
receipts.
 G.R. No. 196596, G.R. No. 198841, G.R. No. 198941 November 9, 2016

COMMISSIONER OF INTERNAL REVENUE

FACTS:

• Sometime in 2004, the BIR issued to DLSU a Letter of Authority (LOA) authorizing its revenue
officers to examine the latter's books of accounts and other accounting records for all internal revenue
taxes for the period Fiscal Year Ending 2003 and Unverified Prior Years.

• On May 19, 2004, BIR issued a Preliminary Assessment Notice and subsequently a Formal Letter
of Demand assessing DLSU the following deficiency taxes: (1) income tax on rental earnings; (2) VAT
on business income; and (3) documentary stamp tax (DST) on loans and lease contracts.

• The BIR demanded the payment of ₱17,303,001.12, inclusive of surcharge, interest and penalty
for taxable years 2001, 2002 and 2003.

• DLSU protested the assessment. The Commissioner failed to act on the protest; thus, DLSU filed
a petition for review with the CTA Division, and then with the CTA En Banc on the ground that: the
entire assessment should have been cancelled because it was based on an invalid LOA.

• The CTA En Banc held that a LOA should cover only one taxable period and that the practice of
issuing a LOA covering audit of unverified prior years is prohibited. If the audit includes more than one
taxable period, the other periods or years shall be specifically indicated in the LOA.

In the present case, the LOA issued to DLSU is for Fiscal Year Ending 2003 and Unverified Prior Years.
Hence, the assessments for deficiency income tax, VAT and DST for taxable years 2001 and 2002 are
void, but the assessment for taxable year 2003 is valid.

• DLSU DLSU objects to the CTA En Banc's conclusion that the LOA is valid for taxable year
2003, and argues as that: According to RMO No. 43-90, the practice of issuing LOAs covering audit of
'unverified prior years' is prohibited. It refers to the LOA which has the format "Base Year + Unverified
Prior Years." Since the LOA issued to DLSU follows this format, then any assessment arising from it
must be entirely voided.

ISSUE:

Whether the entire assessment should be voided because of the defective LOA. NO

RULING:
The LOA issued to DLSU is not entirely void. The assessment for taxable year 2003 is valid.

A LOA is the authority given to the appropriate revenue officer to examine the books of account and
other accounting records of the taxpayer in order to determine the taxpayer's correct internal revenue
liabilities and for the purpose of collecting the correct amount of tax.