FACTS:

The consolidated petitions for review on certiorari involve the interpretation of the National Internal Revenue Code of the Philippines (NIRC) on the income tax treatment of proprietary non-profit hospitals. St. Luke's Medical Center, Inc. (St. Luke's), a non-stock and non-profit hospital, was assessed deficiency taxes by the Bureau of Internal Revenue (BIR) for the year 1998. The BIR argued that St. Luke's should be subjected to the 10% preferential tax rate under Section 27(B) of the NIRC. St. Luke's contended that it is a non-stock and non-profit institution for charitable and social welfare purposes under Section 30(E) and (G) of the NIRC. The Court of Tax Appeals (CTA) En Banc affirmed the CTA First Division decision ordering St. Luke's to pay the deficiency income tax and deficiency expanded withholding tax for 1998.

In a separate case, the CTA ruled that St. Luke's is a non-stock and non-profit charitable institution, exempting all income derived from its services to patients, regardless of their ability to pay. The CTA relied on St. Luke's articles of incorporation and documents branding it as a charitable institution. The CTA also held that Section 27(B) of the NIRC did not apply to St. Luke's because it required hospitals to be "non-profit," while Congress specifically used the term "non-stock" to qualify charitable organizations in Section 30(E) of the NIRC. According to the CTA, this indicates an intent to exempt this type of organization from income tax.

Additionally, the court held that Section 27(B) does not remove the tax exemption of proprietary non-profit hospitals provided under Section 30(E) and (G) of the NIRC. The introduction of Section 27(B) merely subjects the taxable income of proprietary non-profit hospitals to the 10% preferential rate instead of the ordinary income tax rate.

ISSUES:

1. Whether Section 27(B) of the NIRC removes the income tax exemption of proprietary non-profit hospitals under Section 30(E) and (G).

2. Whether a non-profit organization must be charitable to qualify for tax exemption.

3. Whether the Lung Center of the Philippines lost its charitable character when it used a portion of its lot for commercial purposes.

4. Whether St. Luke's Medical Center is exempt from paying taxes as a charitable institution.

5. Whether St. Luke's Medical Center is "operated exclusively" for charitable or social welfare purposes.

6. Whether the revenues from services to paying patients of St. Luke's are considered income from activities conducted for profit.

7. Whether the income from activities conducted for profit is subject to income tax.

8. Whether or not St. Luke's Medical Center, Inc. is entitled to tax exemption under Section 30(E) and (G) of the National Internal Revenue Code (NIRC).

9. Whether or not St. Luke's Medical Center, Inc. is liable for deficiency income tax in 1998.

RULING:

1. The Court held that Section 27(B) of the NIRC does not remove the income tax exemption of proprietary non-profit hospitals under Section 30(E) and (G). The introduction of Section 27(B) merely subjects the taxable income of proprietary non-profit hospitals to a 10% preferential tax rate instead of the ordinary 30% corporate rate.

2. The Court clarified that a non-profit organization does not necessarily have to be charitable to qualify for tax exemption. While "charity" is defined as a benefit to an indefinite number of persons, a non-profit organization may be deemed tax exempt if it does not distribute any part of its income to stockholders or members. However, any income earned by the institution from activities conducted for profit is taxable.

3. The Lung Center of the Philippines did not lose its charitable character when it used a portion of its lot for commercial purposes. The test of exemption for real property taxes is the use of the property for charitable purposes, not strictly the intrinsic nature or character of the institution. The effect of failing to meet the use requirement is only to remove the tax exemption on the portion of the property not devoted to charity.

4. St. Luke's Medical Center, being organized as a non-stock and non-profit charitable institution, is not automatically exempt from paying taxes. To be exempt from real property taxes, the institution must use the property "actually, directly and exclusively" for charitable purposes, as required by the Constitution. To be exempt from income taxes, the institution must be "organized and operated exclusively" for charitable purposes, as provided in the National Internal Revenue Code (NIRC). However, the last paragraph of Section 30 of the NIRC states that if a tax-exempt charitable institution conducts any activity for profit, that activity is not tax-exempt.

5. St. Luke's Medical Center is not "operated exclusively" for charitable or social welfare purposes, specifically in relation to its revenues from services to paying patients.

6. The revenues from services to paying patients of St. Luke's are considered income from activities conducted for profit.

7. The income from activities conducted for profit is subject to income tax.

8. St. Luke's Medical Center, Inc. fails to meet the requirements under Section 30(E) and (G) of the NIRC to be completely tax exempt from all its income. However, it remains a proprietary non-profit hospital under Section 27(B) of the NIRC as long as it does not distribute any of its profits to its members and such profits are reinvested pursuant to its corporate purposes. St. Luke's is entitled to the preferential tax rate of 10% on its net income from its for-profit activities.

9. St. Luke's Medical Center, Inc. is liable for deficiency income tax in 1998 based on the 10% preferential income tax rate under Section 27(B) of the NIRC.

PRINCIPLES:

• Proprietary non-profit hospitals are still tax exempt under Section 30(E) and (G) of the NIRC, despite the introduction of Section 27(B).

• "Non-profit" does not necessarily mean "charitable." A non-profit organization may qualify for tax exemption as long as it does not distribute income to stockholders or members.

• The loss of taxes from tax-exempt institutions is compensated by relieving the government from funding public services that these institutions provide.

• The requirements for tax exemption are strictly construed against the taxpayer, as an exemption restricts the collection of necessary taxes for the government's existence.

• The test of exemption for real property taxes is the use of the property for charitable purposes, not the intrinsic nature or character of the institution.

• To be exempt from income taxes, a charitable institution must be organized and operated exclusively for charitable purposes.

• The last paragraph of Section 30 of the NIRC provides that if a tax-exempt charitable institution conducts any activity for profit, such activity is not tax-exempt.

• Exclusive use means possessed and enjoyed to the exclusion of others, and "exclusively" means in a manner to exclude others from enjoying the privilege.

• "Dominant use" or "principal use" cannot be substituted for the words "used exclusively" without violating the law.

• Solely is synonymous with exclusively.

• Services to paying patients are activities conducted for profit and cannot be considered otherwise.

• Income from activities conducted for profit is subject to income tax regardless of the disposition made of such income.

• The legislative intention behind the phrase "or from any activity conducted for profit" is to include activities of charitable institutions that generate profit and subject them to income tax.

• A tax exemption is a social subsidy granted by the State to institutions beneficial to the public and those which improve social welfare.

• Tax exemptions for charitable institutions should be limited and should not be allowed to be exploited by profit-making entities to the detriment of the government and other taxpayers.

• Good faith and honest belief in the previous interpretation of government agencies tasked to implement the tax law can be a sufficient justification to delete the imposition of surcharges and interest.