DISCLAIMER: This article does not create an attorney-client relationship between the author and the reader.  The answer of the author on the issue is just an expression of his general opinion based on Philippine law and hence does not constitute legal advice.

Other than in real estate, one may also invest his hard-earned money in financial instruments. As a financial management lecturer in a university, I am pleased to share this article as a tutorial for the newbies in investing.

Financial instruments are instruments issued by government or private companies when soliciting funds to finance cash requirements or projects.  Buyers or takers of these financial instruments are called investors.  These financial instruments represent investors’ claim against the resources and future earnings of the issuer.

The following are the common financial instruments:

1. Bank deposits such as savings account, checking account, time deposit, and other high-yielding deposits.
2. Corporate notes
3. Treasury bills
4. Corporate bonds
5. Treasury or government bonds
6. Stocks or equities

The first three financial instruments in the list are commonly called “money market instruments”. They are called money market instruments because they are “near cash” because of high liquidity. They can be converted into cash at any time during trading or banking hours with little to no market price fluctuation.

Corporate notes are instruments issued by private companies to obtain short-term financing, usually not exceeding one year while treasury bills are instruments issued by the government to obtain short-term financing. Corporate bonds and treasury bonds are the long-term version of corporate notes and treasury bills.  These are issued to finance cash requirements exceeding one year.  When private companies decide not to issue corporate bonds to finance long-term needs, they may issue stocks or equities.  Stocks or equities represent ownership in the issuing company while all other instruments, the investor is a creditor of the issuing company.

Where to invest in these financial instruments depends on your cash requirement.  If you need your hard-earned money in less than a year, you may invest in one or in a combination of the first three financial instruments.  Otherwise, you may want to invest in one or in a combination of the last three financial instruments depending on your risk appetite with some in the first three financial instruments to keep you liquid for any unforeseen need.

One who has sufficient knowledge, time, and expertise may invest his funds directly in these financial instruments.  Otherwise, funds may be invested in financial instruments through the unit investment trust funds (UITF) or mutual funds.  UITF and mutual funds are managed funds consisting of financial instruments as the underlying assets.

In terms of return or income, financial instruments follow the “risk-return concept”.  The higher the risk, the higher the return. Financial instruments with longer term are riskier than financial instruments with shorter term. It is easier to project what will happen within the next twelve months than what will happen within the next five years.  Hence, financial instruments with longer term provide higher return because of higher uncertainty.

Income from financial instruments is considered passive income.  They are considered passive because effort is less after investing.  You either wait for the maturity of the instrument or wait for the right timing of when to dispose prior to the maturity date.

We now dive on the tax aspect of income from financial instruments to complete the tutorial.  Generally, income of individual investor from financial instruments is taxed at 20%, as amended by the Capital Markets Efficiency Promotion Act (CMEPA), except:

1. The interest income of non-resident individual from deposit account under the expanded foreign currency deposit system is exempt.
2. The net capital gain on the sale of shares not traded through the stock exchange is taxed at 15%.
3. The tax on the gross selling price on the sale of shares traded through the stock exchange is 0.10%.
4. The cash or property dividend on the stocks or equities is taxed at 10% (except non-resident individual).

Income from financial instruments is credited in the investor’s bank account, net of applicable tax. The tax imposed on the income is a final tax which means the income is no longer included in the taxable income of the recipient in his annual income tax return (ITR) with the Bureau of Internal Revenue (BIR).

You may want to check Section 24(B) and Section 127(A) of the National Internal Revenue Code (NIRC), as amended by the CMEPA for more about the taxes.

Ready to invest? Contact your preferred financial institution or mutual fund company for specific advice!

(September 14, 2024)