SCHOOL OF BUSINESS AND ECONOMICS
DEPARTMENT OF ACCOUNTING AND FINANCE
COURSE OUTLINE: BBM 303: TAXATION 1
Purpose of the Course
The course is to explore the purpose and principles of taxation. It is designed to equip students with understanding of
the types of taxes and the procedure to compute taxes for individuals, partnership firms, corporations, and Value
Added Tax (VAT).
Course Objectives
1. To enable the learner describe taxation principles and concepts
2. To equip the learner of with skills on computation of tax liability for individuals, corporations, and VAT
3. To enable learners understand the computation of capita allowances
Course content
1. Introduction
 Definition of taxation
 Brief history of taxation, purpose of taxation, and principles of taxation
 Types of taxes, incidence of taxation and effects of taxation
 Administration of taxes in Kenya
2. Definition of concepts and terms used in taxation
 Year of income, Persons, and Residence
 Rates of taxes, Withholding tax, Installment tax, and Personal relief
 Tax evasion and tax avoidance
 Taxable and non-taxable incomes or exempted incomes
3. Taxation of incomes from dividends, interest, and rent
4. Determination of taxable employment income and tax computation
5. Determination of taxable income from gains or profits from business and computation of taxes
6. Taxation of partnerships
7. Capital deductions
 Investment deduction
 Wear and tear deduction
8. Value Added Tax (VAT) computations:
 Taxable and non-taxable supplies
 Registration and deregistration
 Accounting for VAT
9. Returns, Notices, Assessment, and payment of taxes
10. Objections, Appeals, Offences, and Penalties
References
Saleemi, N. A. (2009). Taxation I Simplified. Saleemi Publications Ltd., Nairobi.
Saleemi, N. A. (2009). Taxation II Simplified. Saleemi Publications Ltd., Nairobi
Simiyu, T. T. N. (2008). Taxation in Kenya: Principles & Practice. Nairobi.
Income Tax Act Cap. 470.
The Value Added Tax Act Cap. 476.
Grading System
Continuous assessment Tests
30%
University Examination
70 %
Total
100 %
BBM 303: Taxation 1
Mr. Tuwey, Department of Accounting and Finance, Moi University
Introduction
The Government is charged with the responsibility of providing essential services to its citizens such as:

Protective functions: To maintain peace and security in the country and to defend the country from external
aggression.
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
Administrative functions: To provide administrative functions of the country such as providing documents
of title, issuance of identity cards, passports, etc.

Social functions: To provide social services such as education, health, housing, etc. which are essential for
the welfare of the society.

Development functions: The Government is expected to execute development functions such as developing
irrigation systems, transport and communication infrastructure, industrial and agricultural systems,
among others.
To be able to provide these functions, the Government requires funds in the form of public revenue. Public revenue
means those amounts which are received by Government from different sources. In other words, the income of the
Government is known as public revenue.
Sources of Public Revenue
1.
Tax
Tax is the most important source of public revenue because of the magnitude of money raised through this source. In
Kenya, for example, taxation is the single largest source of government budgetary resources. Between 1995 and 2004, tax
revenue constituted 80.4% of total government revenue (including grants). Taxes may be of different kinds, as follows:
 Income tax
 Corporation tax
 Excise tax
 Custom duty
 Value Added Tax
2. Fees
Fee is the amount which is received by the Government against any direct services rendered, for example, road license
fee, import license fee, among others.
3.
Prices
Prices are those amounts which are received by the Government for commercial services e.g. railway fare, postage and
telephone charges, among others.
4.
Fines
Fines are charged on individuals who do not obey the laws of the country.
5.
State Property
The forests, mines, and National parks are considered Government property. The income from such sources is also part
of Government revenue.
What is Tax?
The word tax comes from the Latin “taxo” meaning ("I estimate"). Tax is a financial charge or other levy upon a
taxpayer by a state such that failure to pay is punishable by law. Tax may either be direct tax or indirect tax, and is paid in
monetary terms.
A tax may be defined as a "pecuniary burden laid upon individuals or property owners to support the government. A tax
"is not a voluntary payment or donation, but an enforced contribution, exacted pursuant to legislative authority" and is
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"any contribution imposed by government whether under the name of toll, duty, custom, excise, or other name. A tax is
a compulsory payment levied by the government on individuals or companies to meet the expenditure which is required
for public welfare.
According to Hugh Dalton, "a tax is a compulsory contribution imposed by a public authority, irrespective of the exact amount of service
rendered to the taxpayer in return, and not imposed as penalty for any legal offence."
Seligman defines tax as a “compulsory contribution from a person to a government to defray expenses incurred in the common interest of
all, without reference to special benefits conferred”. It is in effect a contribution designed to reduce private expenditure in favor
of public expenditure to enable the government to obtain funds in order to provide social and merit goods and services,
redistribute income, clear market imperfections and stabilize the economy.
Characteristics of Tax
From the foregoing definitions, three characteristics are identified as follows:
i.
Tax is a compulsory contribution imposed by the government of the people residing in the country. Since it is a
compulsory contribution, a person who refuses to pay a tax is liable to punishment.
ii.
Tax is a payment made by the tax payers which is used by the government for the benefit of all its citizens. The
state uses the revenue collected from taxes for providing hospitals, schools, public utility services, etc. which
benefit all people.
iii.
Tax is not levied in return for any specific service rendered by the government to the taxpayer. An individual
cannot ask for any special benefit from the state in return for the tax paid by him.
Scholars have argued that “the essence of tax is the absence of a direct quid pro quo between the taxpayer and the
government. This means the public cannot claim something equivalent to the tax paid from government. Taxes are
meant to cover the general expenses of the state and are not levied for any particular purpose. The government therefore
cannot guarantee or promise to perform a particular service in return for the payment of the tax.
If tax is levied directly on personal or corporate income, then it is a direct tax. If tax is levied on the price of a good or
service, then it is called an indirect tax. The purpose of taxation is to finance government expenditure. One of the most
important uses of taxes is to finance public goods and services, such as street lighting and street cleaning. Since public
goods and services do not allow a non-payer to be excluded, or allow exclusion by a consumer, there cannot be a market
in the good or service, and so they need to be provided by the government or a quasi-government agency, which tend to
finance themselves largely through taxes.
History of Taxation
The first known system of taxation was in Ancient Egypt around 3000 BC - 2800 BC in the first dynasty of the Old
Kingdom. The earliest and most widespread form of taxation was the corvée and tithe. The corvée was forced labor
provided to the state by peasants too poor to pay other forms of taxation. Records from the time document that the
pharaoh would conduct a biennial tour of the kingdom, collecting tithes from the people. Other records are granary
receipts on limestone flakes and papyrus.
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Early taxation is also described in the Bible. In Genesis (chapter 47, verse 24 - the New International Version), states
"But when the crop comes in, give a fifth of it to Pharaoh. The other four-fifths you may keep as seed for the fields and as food for yourselves
and your households and your children". Joseph was telling the people of Egypt how to divide their crop, providing a portion
to the Pharaoh. A share (20%) of the crop was the tax.
Later, in the Persian Empire, a regulated and sustainable tax system was introduced by Darius I the Great in 500 BC; the
Persian system of taxation was tailored to each Satrapy (the area ruled by a Satrap or provincial governor). At differing
times, there were between 20 and 30 Satrapies in the Empire and each was assessed according to its supposed
productivity. It was the responsibility of the Satrap to collect the due amount and to send it to the emperor, after
deducting his expenses (the expenses and the power of deciding precisely how and from whom to raise the money in the
province, offer maximum opportunity for rich pickings). The quantities demanded from the various provinces gave a
vivid picture of their economic potential. For instance, Babylon was assessed for the highest amount and for a startling
mixture of commodities; 1,000 silver talents and four months’ supply of food for the army. India, a province fabled for
its gold, was to supply gold dust equal in value to the very large amount of 4,680 silver talents. Egypt was known for the
wealth of its crops; it was to be the granary of the Persian Empire (and, later, of the Roman Empire) and was required to
provide 120,000 measures of grain in addition to 700 talents of silver. This was exclusively a tax levied on subject
peoples. Persians and Medes paid no tax, but, they were liable at any time to serve in the army.
Support for Taxation
According to most political philosophies, taxes are justified as they fund activities that are necessary and beneficial to
society. Additionally, progressive taxation can be used to reduce economic inequality in a society. According to this view,
taxation in modern nation-states benefits majority of the population and social development. A common presentation of
this view, paraphrasing various statements by Oliver Wendell Holmes, Jr. is "Taxes are the price of civilization".
It can also be argued that in a democracy, because the government is the party performing the act of imposing taxes,
society as a whole decides how the tax system should be organized. The American Revolution's "No taxation without
representation" slogan implied this view. For traditional conservatives, the payment of taxation is justified as part of the
general obligations of citizens to obey the law and support established institutions. The conservative position is
encapsulated in perhaps the most famous adage of public finance, "An old tax is a good tax".
Conservatives advocate the "fundamental conservative premise that no one should be excused from paying for government, lest they come
to believe that government is costless to them with the certain consequence that they will demand more government 'services". Social
democrats generally favor higher levels of taxation to fund public provision of a wide range of services such as universal
health care and education, as well as the provision of a range of welfare benefits. As argued by Tony Crosland and
others, the capacity to tax income from capital is a central element of the social democratic case for a mixed economy as
against Marxist arguments for comprehensive public ownership of capital. Many libertarians recommend a minimal level
of taxation in order to maximize the protection of liberty.
Defenders of business taxation argue that it is an efficient method of taxing income that ultimately flows to individuals,
or that separate taxation of business is justified on the grounds that commercial activity necessarily involves use of
publicly established and maintained economic infrastructure, and that businesses are in effect charged for this use.
Georgist economists argue that all of the economic rent collected from natural resources is unearned income, and
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belongs to the community rather than any individual. They advocate a high tax on land and other natural resources to
return this unearned income to the state, but no other taxes.
Therefore, the government levies taxes for the following purposes:

Raising Revenue: The government imposes taxes to raise income or revenue in order to perform its major
functions. Given the fact that governments must raise revenue to provide public and social goods, which
cannot be priced, the major objective of taxation, then, becomes one of raising a given amount of revenue in
the least distortionary manner.

Economic stability: Taxes are also imposed to maintain economic stability in the country. During inflationary
period, the Government imposes more taxes to discourage the unnecessary expenditure of the individuals.
Similarly, during deflation, taxes are reduced in order to enable the individuals to spend more money. In this
way, the increase and decrease in taxes helps check the big fluctuations in the prices and maintain economic
stability.

Fair distribution of wealth and income: Taxes are imposed to achieve equality in distribution of national wealth and
income. Normally, higher rates are levied on the rich and such incomes are used to improve the welfare of the
poor. In so doing, taxes are used to achieve fair distribution of income in the country.

Optimum allocation of resources: Taxes are imposed in order to allocate the resources of the country. The money
collected by the Government from taxes is used in more productive projects.

Protection policy: The Government levies taxes in order to offer protection to those commodities which are
produced in the country. To achieve this, the Government imposes heavy taxes on the import of such
commodities from other countries and so the individuals are induced to buy local; products.

Social Welfare: The Government imposes taxes on the production of those commodities which are harmful to
human health, for instance, excise duty on wines, cigarettes, opium, etc.

Higher employment: The Government imposes taxes in order to complete public works projects. In these
projects, the Government employs individuals to work. A good example is Kazi Kwa Vijana (KKV) initiative
which basically is the use of revenue to create jobs on the jobless youths.
Opposition to taxation
Because payment of tax is compulsory and enforced by the legal system, some political philosophies view taxation as
theft (or as slavery, or as a violation of property rights), or tyranny, accusing the government of levying taxes via force
and coercive means. The view that democracy legitimizes taxation is rejected by those who argue that all forms of
government, including laws chosen by democratic means, are fundamentally oppressive. Libertarian opponents of
taxation claim that governmental protection, such as police and defense forces might be replaced by market alternatives
such as private defense agencies, arbitration agencies or voluntary contributions. Walter E. Williams, professor of
economics at George Mason University, stated “Government income redistribution programs produce the same result as theft. In fact,
that's what a thief does; he redistributes income. The difference between government and thievery is mostly a matter of legality”.
Taxation has also been opposed by communists and socialists. Karl Marx assumed that taxation would be unnecessary
after the advent of communism and looked forward to the "withering away of the state". In socialist economies such as
that of China, taxation played a minor role, since most government income was derived from the ownership of
enterprises, and it was argued by some that taxation was not necessary. While the morality of taxation is sometimes
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questioned, most arguments about taxation revolve around the degree and method of taxation and associated
government spending, not taxation itself.
Canons of Taxation
Given its central role, taxation has been applied to meet two objectives. First, taxation is used to raise sufficient revenue
to fund public spending without recourse to excessive public sector borrowing. Second, it is used to mobilize revenue in
ways that are equitable and that minimize its disincentive effects on economic activities. The imposition of taxes is a
double edged sword in which it creates a burden on individual taxpayers and at the same time the amount collected by
the government are spent in productive activities. This calls for an optimum tax system which takes care of the taxpayers
as well as being able to raise sufficient revenue for the state.
Canons of Taxation are the main basic principles (i.e. rules) set to build a 'Good Tax System'. Canons of Taxation were
first originally laid down by economist Adam Smith in his famous book "The Wealth of Nations". In this book, Adam
smith only gave four canons of taxation. These original four canons are now known as the "Original or Main Canons of
Taxation". As the time changed, governance expanded and became much more complex than what it was at the Adam
Smith's time. Soon a need was felt by modern economists to expand Smith's principles of taxation and as a response
they put forward some additional modern canons of taxation.
Adam Smith's Four Main Canons of Taxation
A good tax system is one which is designed on the basis of an appropriate set of principles (rules). The tax system
should strike a balance between the interest of the taxpayer and that of tax authorities. Adam Smith was the first
economist to develop a list of Canons of Taxation. These canons are still regarded as characteristics or features of a
good tax system. Adam Smith gave following four important canons of taxation:
1. Canon of Equity
According to this principle, every person should pay to the government depending upon his ability to pay. The rich class
people should pay higher taxes to the government, because without the protection of the government authorities (Police,
Defense, etc.) they could not have earned and enjoyed their income. Adam Smith argued that the taxes should be
proportional to income, i.e., citizens should pay the taxes in proportion to the revenue which they respectively enjoy
under the protection of the state. Smith explained it thus “the subjects of every state ought to contribute towards the support of
government, as nearly as possible, in proportion to the revenue which they respectively enjoy under the protection of the state”. It means that
every person should pay the tax according to his/her ability and not the same amount. Every taxpayer should thus pay
tax in proportion to his income. The rich should pay more and at a higher rate than the other person whose income is
less.
2. Canon of Certainty
According to Adam Smith, the tax which an individual has to pay should be certain, not arbitrary, because uncertainty
breeds corruption. The tax payer should know in advance how much tax he has to pay, at what time he has to pay the
tax, and in what form the tax is to be paid to the government. In other words, every tax should satisfy the canon of
certainty. At the same time a good tax system also ensures that the government is also certain about the amount that will
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be collected by way of tax. This canon requires that there should be no element of arbitrariness in a tax. It should be
clear to every tax payer as to what, when, and where the tax is to be paid. Nothing should be left to the discretion of the
income tax department.
3. Canon of Convenience
The mode and timing of tax payment should be as far as possible, convenient to the tax payers. Adam Smith argues that
“Every tax ought to be levied at the time or in the manner in which it is most likely to be convenient for the contributor to pay”. For
example, value added tax is collected together with the sales and remitted to the government because they are included
in the prices of commodities, similarly, tax on employment income is withheld at source by the employer in the form of
PAYE and remitted to the government instead of waiting until end of the year. Convenient tax system will encourage
people to pay tax and will increase tax revenue.
4. Canon of Economy
This principle states that there should be economy in tax administration. The tax should satisfy the canon of economy in
two ways. First, the cost of tax collection should be lower than the amount of tax collected. Meaning that if the cost of
collecting a certain tax is more than what the tax brings in, then there is no need to levy the tax. It may not serve any
purpose, if the taxes imposed are widespread but are difficult to administer. Second, it should be economical to the
taxpayer. It means that the taxpayer should be left with sufficient money after paying the tax. A heavy tax on incomes
will discourage savings and investments, and thus adversely affect the productive capacity of its citizens. In the words of
Adam Smith, “Every tax ought to be contrived as both to take out and keep out of the pockets of the people as little as possible, over and
above what it brings in to the public treasury of the state”.
Additional Canons of Taxation
Activities and functions of the government have increased significantly since Adam Smith's time. Government is
expected to maintain economic stability, full employment, reduce income inequality & promote growth and
development. Tax system should be such that it meets the requirements of growing state activities.
Accordingly, modern economists gave following additional canons of taxation.
5. Canon of Productivity
It is also known as the canon of fiscal adequacy. According to this principle, the tax system should be able to yield
enough revenue for the treasury and the government should have no need to resort to deficit financing. But this does
not mean that in its efforts to raise revenue, the government should tax the people heavily. Such an effort would affect
the productive capacity of the economy adversely. Further, this canon implies that on tax which brings large revenue is
better than a number of taxes which bring small revenue. This is a good principle to follow in a developing economy.
6. Canon of Elasticity
According to this canon, every tax imposed by the government should be elastic in nature. In other words, the income
from tax should be capable of increasing or decreasing according to the requirement of the country. For example, if the
government needs more income at time of crisis, the tax should be capable of yielding more income through increase in
its rate.
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7. Canon of Flexibility
It should be easily possible for the authorities to revise the tax structure both with respect to its coverage and rates, to
suit the changing requirements of the economy. With changing time and conditions the tax system needs to be changed
without much difficulty. The tax system must be flexible and not rigid.
8. Canon of Simplicity
The tax system should not be complicated. It should be simple to understand as to how it is computed and how it is
paid. The forms to be filled up for calculation and payment of tax should be simple and intelligible for the taxpayer. This
cannon is essential as it minimizes corruption and bribery on the part of tax department.
9. Canon of Diversity
This principle states that the government should collect taxes from different sources rather than concentrating on a
single source of tax. It is not advisable for the government to depend upon a single or a few sources of tax; it may result
in inequity to the certain section of the society and uncertainty for the government to raise funds. If the tax revenue
comes from diversified source, then any reduction in tax revenue on account of any one cause is bound to be small. A
point to note is that a large multiplicity of taxes will be difficult to administer and hence uneconomical.
Problems of Equity in Taxation
Adam Smith has placed the canon of equality in the forefront. Although everybody agrees that a tax should be just and
that it should be graduated according to the ability to pay, there is no unanimity as to what is the correct measure of
equity in taxation. In this connection, several proposals have been put forward:

Cost of service or Purchase theory:
Requirement of a Good Tax Structure / System
The tax structure is a part of economic organization of a society and therefore fit in its overall economic environment.
No tax system that does not satisfy this basic condition can be termed a good one.
However, the state should pursue mainly following principles in structuring its tax system:
1.
The primary aim of the tax should be to raise revenue for public services.
2.
People should be asked to pay taxes according to their ability to pay and assessment of their taxable capacity
should be made primarily on the basis of income and property.
3.
Tax should not be discriminatory in any aspect between individuals and also between various groups.
In practice, there are three common objectives of tax systems:
(i)
To raise revenue for funding government operations;
(ii)
To assist in the redistribution of wealth or income; and
(iii)
To encourage or discourage certain activities through the use of tax provisions.
While all tax systems share these objectives, what differs is the weight placed in a given country to each of these
objectives. The capacities of different countries’ tax systems to achieve these objectives also differ. In Kenya, raising
revenue has been the overriding objective of the tax system. Moreover, with a limited degree of success, the tax system
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has also been used to address issues of inequality, as can be deduced from the nominal progressivity of the income tax
structure.
Diagnostic Tests of a Good Tax System
A tax system that has been designed after due consideration of all the objectives would seem to be a good tax system.
Vito Tanzi has proposed eight qualitative diagnostic tests to help one decipher how well and effective a given tax system
is. These tests are as follows:

Concentration Index: Does a large share of total tax revenue come from relatively few taxes?

Dispersion Index: Are there very few, if any, low revenue-yielding nuisance taxes?

Erosion Index: Are actual tax bases as close to potential as possible?

Collection lags index: are tax payments made by tax-payers without much time lag and close to the time when they
should be made?

Specificity index: Does the tax system depend upon as few taxes with specific rates as possible?

Objectivity Index: Are most taxes levied on objectively measured bases?

Enforcement index: Is the tax system enforced fully and effectively?

Cost of collection index: Is the cost of collection as low as possible?
According to Tanzi, a positive answer to all these questions should entitle the country a good tax system.
Classification of Taxes
Tax may be classified on the basis of the following:
(i)
Impact tax
(ii)
Base of tax
(iii)
Rates of tax
Impact of Tax
Under this category, tax may be classified as either:
(a) Direct tax
(b) Indirect tax
Definition of Direct Tax and Indirect Tax
Direct tax is a form of tax under which the impact and incidence of the tax is on the same person.
According to
Dalton, “a direct tax is paid by the person on whom it is legally imposed; while indirect tax is imposed on one person,
but paid partly or wholly by another”. John Stuart Mill defined a direct tax as one which is “demanded from the very person
who it is intended or desired to pay it” on the other hand, an indirect tax is one which is “demanded from one person in the
expectation and intention that he shall indemnify himself at the expense of another”. Examples of direct taxes include income tax
corporation tax, etc. while indirect tax include excise duty, value added tax, import and export duty etc.
Merits of Direct Tax
1.
Equitable
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Direct taxes are based on the canon of equity. Their burden is equitably distributed as they are progressive in nature
because as the income of the tax payer increases the rate of tax also increases. In this sense, direct tax falls heavily on the
people whose income increases.
2.
Certain
Direct taxes have an element of certainty such that the tax payer is aware of as to the time and manner of payment and
even the amount to be paid. The government is also certain as to the amount of money it shall receive from those taxes.
3.
Economical
The cost of collecting direct tax is normally low. For instance, income tax is deducted at source from salaried persons
and remitted to government by the employer. This makes the collection of such taxes low.
4.
Elastic
Direct taxes are flexible and thus satisfy the canon of elasticity. The government can increase or decrease the rates of
direct taxes according to the requirements of the economy. For instance, in case of calamities or in a state of emergency
the government can raise the rates if taxes in order to raise a large tax revenue.
5.
Desirable
These taxes do not involve general opposition from the public because they are paid by persons who come under the
jurisdiction of income or corporation tax.
6.
Civic Consciousness
Direct taxes create civic consciousness among the tax payers. They are conscious that they are paying taxes to the
government and so take interest in the activities of the state and to which public expenditure is incurred on public
welfare.
7.
Simple
Direct taxes are simple and easy to understand.
Demerits of Direct Taxes
1.
Direct taxes pinch the taxpayers because they have to pay them directly out of their incomes.
2.
Direct taxes are inconvenient because taxpayers have to comply with a number of formalities relating to their
source of income and related expenditure.
3.
Direct taxes possess an element of arbitrariness because they leave much to the discretion of the taxation
authorities in fixing the rates of taxation and in interpreting them.
4.
Since direct taxes pinch taxpayers directly, they may try to evade them by filling wrong returns and even take
help of income tax experts.
5.
Direct taxes adversely affect savings and investment because when people know that increase in their income
will cause an increase in tax, they may become reluctant to save and invest more.
6.
Direct taxes have the potential to discourage production of essential goods.
Merits of Indirect taxes
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1.
Indirect taxes are convenient because they are paid only when a commodity or a service is bought so they
are paid in small amounts rather than in lump sum. Similarly, since these taxes are included in the prices of
commodities, buyers do not feel the burden of these taxes.
2.
These taxes have a wide coverage and reach the pockets of all income groups because they are levied on
necessaries, comforts and luxuries. Thus, the wide coverage provides the government with significant
revenue.
3.
Indirect taxes are also elastic in nature. The government can increase or decrease the rate according to its
policy requirements.
4.
Indirect taxes are economical in the sense that they involve little cost of collection because the producers
and sellers deposit them with the government.
5.
Indirect taxes are diverse as they can be levied on a variety of commodities and services and so the
government guaranteed of continuous flow of revenue.
6.
There is less possibility of tax evasion in the case of direct tax because they are included in the prices of
commodities. Because these taxes are suitable to final consumers, producers do not feel the pain of paying
them. Similarly, the consumers can evade them only if they decide not to buy the commodities.
7.
Indirect taxes have the advantage of checking the consumption of harmful goods like wine, cigarettes, and
other intoxicants. The government levies high rates of taxes
on such products which are injurious to
health.
8.
Indirect tax is a powerful tool for implementing economic policies by the government. If the government
wants to protect domestic industries, it can levy heavy import duties. Similarly, if the government wants to
encourage one industry, it may not levy any taxes on its products but continue the taxes imposed on other
industries.
Demerits of Indirect Taxes
1.
The revenue from indirect tax is uncertain because it is not possible to accurately estimate the effect
of such taxes on the demand of products.
2.
Indirect taxes are regressive because they are levied on necessaries as well as luxuries. Necessaries are
consumed by the poor, and because the rate of tax is the same for both the rich and the poor, the
burden becomes heavier on the poor, and so do not satisfy the canon of equity.
3.
Indirect taxes have a bad effect on production and employment. When prices of commodities
increase with the levy of a tax, its demand falls and as a result, its production falls and so does
employment.
4.
Indirect tax fuel inflation because such taxes tend to raise the prices of commodities, thereby leading
to higher cost, to higher wages and again to higher prices.
5.
Indirect tax do not enhance civic consciences because people who buy a commodity does not know
that he/she is paying tax to the government and so such people may not demand accountability on
the government.
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Classification of Tax based on Rates
Proportional Tax
A proportional tax is one in which, whatever the size of income, same rate is charged. In this sense, the tax payers have
to pay tax using one rate on their income.
Merits
1.
It is administratively simple because there are no complicated rate schedules and a degree of progression in
each tax is not involved.
2.
It is neutral because it does not change the relative position of tax-payers. Put differently, proportional tax does
not affect the relative demand/supply positions and therefore the developmental course of the economy.
Progressive Tax
In the case of progressive tax, the rate of the tax rises as the taxable income increases. The higher the income, the
higher the rate and so rich tax payers pay more.
Merits of Progressive Tax
1.
It is more equitable because broader shoulders carry the heavier burden.
2.
It is considered more productive as it yields much more than it would under proportional taxation.
3.
The cost of collecting does not normally increase with the increase in the rate of the tax and so is economical.
4.
Because broader shoulders carry a heavier burden, it then brings about equality of sacrifice.
5.
It helps in redistribution of wealth because the rich will sacrifice only their luxuries, while the poor men will be
able to satisfy their wants a little more fully.
Demerits of Progressive Tax
1.
Heavy progressive taxes have a tendency of discouraging savings.
2.
The rates of progressive taxes are arbitrary.
3.
It is very inconvenient and pinches the tax payers very much.
Regressive Tax
A tax is said to be regressive when its burden falls more heavily on the poor than on the rich. This happens when the
tax rate decreases in stages so that the proportion of total income taken away in tax decreases as income increases (i.e.
the marginal rate of tax decreases with income). No government would ideally tax heavily the poor and tax lower the
rich because it would be unjust and inequitable.
Digressive Tax
A tax is considered digressive when the higher incomes do not make a due contribution. In other words, the tax is
mildly progressive such that the rate is not sufficiently steep. Similarly a tax is digressive if incremental rate is applied on
increasing incomes up to a certain level when the rate applied is proportional even as income increases.
Page 12 of 88
Effects of Taxation
Taxation yields both positive and negative effects, it is a bag with mixed blessings and so when designing a tax system
effort should be made to embrace the good effects and minimize the bad effects. In the words of Dalton, a good tax
system is one “which has the best or the least bad, economic effect”.
a) Effects of Taxation on Production
Dalton categorized effects of taxation on production under three categories.

On ability to work and save

On the desire to work and save

On the composition and pattern of production
a) Ability to work and save
Taxes which lower the efficiency of the taxpayers adversely affect their ability to work and hence production. When
taxes are levied, they reduce the purchasing power of the people who are forced to cut down expenditures on
necessaries, comforts and luxuries. People in the lower and middle class are mostly affected and so if a taxpayer
maintains the same standard of living after imposition of taxes, and does not reduce his consumption expenditure, the
taxpayer will have less or no income to save at all. Since savings depend on income, all taxes reduce the ability to save.
ii)
Desire to work and save
Taxes also affect production through desire to work and save of the taxpayer. For instance, highly progressive taxes
such as income tax, corporate tax etc. discourage willingness to work, save and invest. If say the inputs are taxed heavily,
the cost production and prices of commodities will increase thereby affecting the demand and production.
Similarly, the immediate reaction of a taxpayer to the announcement of tax proposals adversely affects willingness to
work and save. A person’s reaction to taxation is governed by the elasticity of his/her demand for income. A person’s
demand for income is elastic when he/she is not anxious to maintain a certain minimum level of income. Accordingly,
he is not prepared to work more to maintain that level. Thus, the imposition of taxes to such tax payers will retard the
desire to work and save. However, if the demand for income is inelastic, the desire to work and save will be encouraged.
iii)
The composition and pattern of production
Taxation alters the composition and pattern of production through the diversion of resources between different
industries. For example, taxes on luxuries raise their prices and reduce the demand and hence their production. As a
consequence, factors of production engaged in manufacturing such products shift to the production of other products.
b) Effects of Taxation on Distribution
Taxation is meant to bring equity in distribution of wealth and so progressive taxes in which the tax rate increase with
income achieves this objective. Other taxes such as regressive and proportional taxes do not provide equity in wealth
distribution. Similarly some types of taxes affect distribution of income and wealth for instance indirect tax on
necessaries is regressive in nature because same rate is applied for all tax payers. Thus taxation of necessaries raises the
prices of such commodities and reduces their consumption.
c) Effects of Taxation on Investment
It may be possible that persons may be able to save, but opportunities to invest may be blocked through taxation. For
instance, the tax authorities might tax the earnings from investment to such an extent that it might become difficult for
Page 13 of 88
firms to make a return on their investments. If the profits of the firm are heavily taxed, investors will not be able to
depend on their internal sources of funds for expansion and so may resort to borrowing which again may be constrained
due to the requirement for repayment.
Impact and Incidence of Taxation
The impact of tax is the first point of contact with the tax payers. Incidence of taxation on the other hand is related to
the question of “who ultimately pays tax?” or “who bears the money burden of a tax?” Incidence is the final resting point that
fully bear the money burden of it and that are not able to pass it on to others. The incidence of a tax involves the
process of transfer from the person to whom the tax is imposed initially to the ultimate taxpayer who bears the money
burden of the tax. The process of transfer of a tax is known as shifting of the tax, while the settlement of the burden on
the ultimate tax payer is called the incidence of the tax.
Shifting the Tax Incidence
Forward and backward shifting of Tax
A tax may be shifted either forward or backward i.e. through a sales transaction or through a purchase transaction. A
tax is shifted forward when the producer of a commodity transfers the money burden to the tax on the wholesaler, the
wholesaler on the retailer and the retailer on the consumer. Backward shifting occurs when the producer shifts the
money burden of the tax on the suppliers of factors of production.
Tax may be shifted either wholly or partly depending upon the extent of the rise in the price of the taxed commodity. If
the price of the commodity raises equal to the amount of the tax, the entire money burden of the tax is sifted from the
producer/ wholesaler to the consumer. However, if the price does not rise by the full amount of the tax, the consumer
pays a part of the tax which is equal to the difference between the new price and the pre-tax price of the commodity. In
this case, the incidence of the tax falls partly on the producer and partly on the consumer.
Types of Taxes
Income Tax
Income taxes were in existence even before independence but were not structured as they are at present. Companies and
individuals were meant to file returns and pay income taxes at the end of the year. The income tax is classified into
individual, corporate, withholding and other income taxes.

Income from employment is subject to Pay As You Earn (PAYE). Personal income tax and PAYE are charged
at the same graduated scale.

Corporate Income Tax (CIT), on the other hand, is charged on profits of limited liability companies at a flat
rate. This is currently at 30%.

Withholding Tax (WHT) is another type of income tax that is charged on interest, dividends, royalties,
commission and pension. The person paying out these amounts is required to withhold a certain percentage, as
prescribed in the Act, and remit the same to the Commissioner of income Tax by the 20 th day of the following
month. A withholding tax certificate is issued for the amount withheld.
Excise Duty
An excise tax is a levy applied selectively on particular goods and services. Kenya’s excisable commodities at the moment
are alcoholic beverages, tobacco, fuel and motor vehicles. Other than motor vehicles, excise taxes on beer, cigarettes and
petroleum are currently charged on a specific basis, i.e. per volume or quantity.
Page 14 of 88
Excise taxes are levied for a variety of reasons, the main reason being their ability to raise substantial revenue for the
government at relatively low administrative and compliance costs. The taxes are normally imposed at high rates on a few
commodities produced by a few large producers. Such goods tend to have low own price elasticity of demand, implying
minimum shifting of consumer purchase when prices change. Another reason for levying excise taxes is to correct the
negative externalities that arise from the consumption of the taxed products. For example, excessive smoking of
cigarettes and drinking of alcohol is harmful not only to the individual consuming the products but also to the society at
large. The relatively high taxes imposed on these products are therefore meant to ensure that the consumers internalize
the cost to the society. Finally, excise taxes are used to improve vertical equity of the tax system. They are levied on
luxurious goods that are consumed by the high-income individuals.
Consumption Taxes
Sales tax is levied on consumption of goods. This had been levied since independence. However, in 1990, Value Added
Tax (VAT) was introduced in Kenya to replace the sales tax. It is levied on consumption of both goods and services.
The difference between VAT and sales tax is that sales tax never included services. Value Added Tax is a multi-stage
consumption tax based on the destination principle. The tax is applied to the sale of goods and services at all stages of
the production and distribution chain. Only registered traders are required to charge VAT, and for one to qualify for
registration under VAT, one must have an annual sales turnover of Kshs. 3 million. VAT is currently charged at a
standard rate of 16 percent, with a lower rate of 14 percent applying to hotels and restaurants.
Customs Duties
Customs duty is currently charged on the CIF value of imported goods. The current structure of the tariff bands is: 0, 5,
15, 20, 25, 30, and 35 percent and sugar at 100 percent. Some imports from regional trading blocs like COMESA and the
East African Community are subject to customs duty at the rate of zero.
Tax Avoidance and Tax Evasion in Kenya
Tax Evasion
Tax evasion has not been defined by the Kenyan tax laws. However, the elements of evasion have been covered which
include:

Any omission from a return of income any amount which should have been included therein.

Any claims set off deduction or incorrect statements made in relation to any matter affecting his liability to tax
where such omission claim set off or statement was due to fraud or gross neglect.”

Evasion therefore involves intentional concealment or misrepresentation of financial facts with a view to
escape liability. Evasion presupposes that a liability to tax exists and the taxpayer by way of deception takes
definite and calculated steps to escape payment.
Tax Avoidance
The presumption that tax avoidance is a legal phenomenon may however not be completely right because most tax
regimes have enacted anti avoidance laws. The main feature of tax avoidance is that it is an advantage taken from
weakness which may be present in the laws. Avoidance offers a tax free exit through expert planning arrangements. It is
an advantage taken in relation to any tax inform of:

Relief or increased relief from the tax or the avoidance or reduction of a change tax.

The deferral of any payment of tax or

The avoidance of any obligation to deduct or account for any tax.
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Administration of taxes in Kenya
The history of administration of taxes in Kenya dates back to the colonial times which required persons to pay tax to the
rulers. In Uganda, Buganda agreement in 1900 required the payment of hut tax of three rupees to the administration to
be collected by the local chief. Around the same time, the rulers in Kenya were faced with the problem of how to make
the Kenyan protectorate pay taxes, and so taxes were imposed on the few people with whom they came in contact with
the administrators. This means there was no structured way of taxation in Kenya at the time.
The first East Africa Income Tax Legislation was enacted in Kenya in 1937, which was a reflection of the UK tax
legislation, and with some amendments, this ordinance remained in force until 1950. Latter in 1940, Uganda and
Tanzania introduced income tax Legislation; however, it was decided that these three countries introduced identical
legislations having the same rates, same allowances, and administered on the same system.
An important development in the Tax system of Kenya came about following the break away from the East Africa
Community on 31st December 1973, and immediately thereafter the assessment and collection of taxes in Kenya became
the responsibility of the Kenyan Government under the income tax department of Kenya. In 1973, an Act of parliament
was drawn to make provisions for the changes in tax administration, and the Act which may be cited as the Income Tax
Act came into operation on 1st January, 1974 and applied to assessments for the year of income 1974 and thereafter.
Further developments have seen the creation of the income tax department, the value Added department, The Customs
and Excise department, and The Motor vehicle department. The four departments are now under an authority known as
Kenya revenue Authority headed by a Commissioner General.
The Income Tax Act Cap 470
The Act is divided into 14 parts with 133 subsections, 13 schedules and 90 rules. The main 14 parts include:
Parts
Sections
Details
I
1-2
Preliminaries
11
3-12
Imposition of income tax
III
13-14
Exemptions from tax
IV
15-28
Ascertainment of Total Income
V
29-33
Personal Reliefs
VI
34-43
Rates deduction, and set-off and double taxation relief
VII
44-51
Persons assessable
VIII
52-72
Returns and Notices
IX
73-81
Assessments
X
82-91
Objections, Appeals, and Relief for mistakes
XI
92-106
Collection, Recovery, and Repayment of Tax
XII
107-121
Offences and Penalties
XIII
122-126
Administration
XIV
127-133
Miscellaneous Provisions Schedules
Schedules……
DEFINITION OF TERMS
1.
YEAR OF INCOME
o
It refers to the period of 12 months with reference to which the income of individuals and business units is
assessed for tax purposes. In Kenya, year of income begins from January and ends on 31st December of any
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particular year. However, section 27 states that if the accounting period does not coincide with the year of
income, then the year of income may be taken.
1.
TAXABLE PERSONS
o
Those persons assessable or chargeable to tax are called persons by the Act. It includes individuals and artificial
persons but excludes partnership firms because its income is assessable on the partners.
2.
RESIDENCE
o
It is a matter of physical presence. An individual is considered resident if:
i.
The person has permanent home in Kenya and was present in Kenya for any period during a
particular year of income under consideration;
ii.
He has no permanent home in Kenya but was present in Kenya;

For a total of 183 days a more in such year of income, or

For a period more than 122 days in the year of income and the two other preceding
year of income.
o
Importance of residential status of individual;
i.
Only resident persons are eligible for personals are taxed on gross income.
ii.
Income of a resident person is taxed at graduated scales of tax.
iii.
Resident individuals are allowed to offset certain expenses; however in case of non-resident
person no such expenses are deductible.
o
A company is considered a resident if;
i.
The company is incorporated in Kenya or.
ii.
The management and control was exercised in Kenya; or
iii.
It has been declared resident by a notice in the Gazette by the minister to the resident for any
year of income.
o
Importance of residential status to a company;
a.
Resident companies are taxed at the corporate tax rate of 30 percent compared to a non-resident
company which is 37½%.
b.
In the case of a resident companies and non-resident companies with permanent establishment in
Kenya, certain expenses are allowable in accordance with section 15 of the Act, whereas in the case
of non-resident companies with no establishment in Kenya, will be taxed of gross income.
c.
In the case of resident companies and non-resident companies with a permanent establishment in
Kenya, shall be eligible for set-offs in respect of taxes paid at source, e.g. withholding taxed paid on
interest income, whereas in the case of non-resident companies with no establishment in Kenya,
there will be no set-offs of any withholding tax.
Page 17 of 88
Income chargeable to Tax
The following incomes are chargeable to tax:
i.
Business profit.
ii.
Income employment or services rendered.
iii.
Income from use and occupation of property.
iv.
Dividends or interest.
v.
Any other income deemed to be income of any person under this Act: e.g.;

Sums received under insurance against loss of profits, damage or compensation for loss of profit.

Sums recovered from previous year.

Balancing charges arising from cessation of business

Any payment made to non-residents in the form of professional fees, royalties, interest, rent etc.

Foreign exchange gain/loss realized on a before 1.1.1989 (section 4)
NON -TAXABLE INCOMES OR EXEMPT INCOMES FROM TAX
There are items which are commonly referred to as income but are not included in the above mentioned list of taxable
income. A number of such non-taxable incomes come to mind such as:

Dowry

Gifts - (however, tips arising from employment are taxable)

Harambee collections

Inheritance

Charity sweepstake winnings

Premium bonds winnings

Income or interest on post office savings bank account

Profit on selling isolated assets

Honoraria

Pension or gratuities earned or granted in respect to disability

The income of a registered pension fund or trust scheme or provident funds.

Monthly or lump sum pension granted to a person who is 65 years of age or more.

That part of the income of the president of the republic of Kenya that is exempt e.g. a salary duty, allowances,
entertainment allowances paid or payable to him from public funds.

Allowances to the speaker, deputy speaker and MP payable to them under the National Assembly remuneration

Interest up to Sh.100, 000 per individual on housing bonds, account with Housing Finance Corporation of
Kenya (HFCK), Savings and loans of Kenya Ltd, East Africa Building Society, Home Loans and Savings. (With
effect from June 1987, interest up to Shs 300,000 is qualifying while the excess is non qualifying.)

Income of parastatals bodies.

Dividend received by a resident company from another resident company where it controls 12 ½ % or more of
the voting power or share capital.
Page 18 of 88

Cost of passage to and from Kenya of a non-citizen employee borne by the employer.

Employer’s contribution to pension funds or provident funds.

Benefits, advantages/facilities of an aggregate value of less than Sh.36,000 p.a. in respect of employment or
services tendered.( W.e.f.1.1.2006, non-cash benefits are taxed if their aggregate value is more than Sh 36000
p.a or Sh 3000 p.m.

The income of agricultural bodies.

The income of any local authorities

Interest on any tax reserve certificates issued by the Kenya Government.

The income from the investment of annuity as defined under Section 19 of the Income tax Act, of an insurance
company.
a.
RATES OF TAXES
After determining the taxable income, also referred to as assessable or chargeable income/loss of a person, the person is
taxed. Loss is carried forward on the basis of specified sources until the person makes a profit to off-set the loss. The
loss from one specified source can only be off-set against future income from the same specified source. Income is taxed
at the prescribed rates of taxation.
There are two rates of taxes;

Corporation rates of tax applicable to companies (legal persons).

Individual rates of tax applicable to individuals (natural persons)
i.
Corporation Rates of Tax
The corporation rates of tax apply to legal persons such as companies, trusts, clubs, estates, co-operatives, associations
etc.
 Corporate rate of tax from years 2000 to date is 30% for resident corporations.
 From year 2000 to date, a non-resident company with a permanent establishment in Kenya is taxed at 37½%.
Companies newly listed on any securities exchange approved under the Capital Markets Act enjoy favorable corporation
tax rates as follows:
 If the company lists at least 20% of its issued share capital listed, the corporation tax rate applicable will be
27% for the period of three years commencing immediately after the year of income following the date of such
listing.
 If the company lists at least 30% of its issued share capital listed, the corporation tax rate applicable will be
25% for the period of five years commencing immediately after the year of income following the date of
listing.”
 If the company lists at least 40% of its issued share capital listed, the corporation tax rate applicable will be
20% for the period of five years commencing immediately after the year of income following the date of such
listing.
The corporate tax rate applicable to the company may therefore change if the percentage of the listed share capital
exceeds 20% of the issued share capital. The applicable tax rate will depend on the percentage of the issued share capital
listed at the Nairobi Stock Exchange.
Tax rates for individuals (natural persons)
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An individual is taxed at graduated scale rates such that the higher the income, the higher the tax as follows: These rates
are effective on 1st January, 2021. These rates of tax include wife’s employment, self-employment and professional
income rates of tax.
Monthly taxable pay (shillings)
Annual taxable pay (shillings)
Rates of tax (%)
Up to
-
24,000
up to
-
288,000
10%
24,001
-
32,333
288,001
-
388,000
25%
32,333
income above
388, 000
30%
Income above
Personal relief Kshs. 2,400 per month (Kshs. 28, 800 per annum)
Prescribed benefit rates of motor vehicles provided by employer
Capital allowances
Monthly (sh.)
Annual (sh)
Wear and tear allowances
Upto
- 1200 cc
3,600
43,200
Class I
37.5%
1201
- 1500 cc
4,200
50,400
Class II
30%
1501
- 1750 cc
5,800
69,600
Class III
25%
1751
- 2000 cc
7,200
86,400
Class IV
12.5%
2001
- 3000 cc
8,600
103,200
Software
20%
Over
- 3000 cc
14,400
172,800
Industrial building allowance:
Up to 2009
2.5%
From 1st January 2010
10%
Hotels
10%
ii. Pick-ups, Panel Van (Unconverted)
Hostels/educational
100%
buildings
Commercial buildings (Shop,
Up to
1750 cc
3,600
43,200
office or show rooms)
25%
Over
1750 cc
4,200
50,400
Farm works allowance
100%
Investment deduction:
100%
iii
Shipping investment deduction
(Ships over 125 tonnes) 100%
Land Rovers/Cruisers
(iv)
86,400
OR 2% of the initial capital cost of the vehicle for each month,
whichever is higher.
Extraction expenditure:
Written off over 5 years (20%)
Commissioner’s prescribed benefit rates
Services
(i)
(ii)
(iii)
7,200
Electricity (Communal or from a generator)
Water (Communal or from a borehole)
Provision of furniture (1% of cost to employer)
If hired, the cost of hire should be brought to charge
Telephone (Landline and mobile phones)
Monthly rates
Sh.
1,500
500
Agricultural employees: Reduced rates of benefits
(i)
Water
(ii)
Electricity
The current VAT rate is 16%
RELIEFS
Page 20 of 88
Annual rates
Sh.
18,000
6,000
30% of bills
200
900
2,400
10,800
These are incentives granted by tax authorities to either an individual taxpayer or body corporate in any given year of
income. The effect of such incentives is that it reduces the taxable income of an individual taxpayer and body corporate.
There are two types of tax reliefs in Kenyan tax system;

Personal relief

Insurance relief
a) Personal reliefs
The personal relief is claimed and granted only to resident individuals. The relief reduces tax payable by an individual.
The general rule is that;

The personal relief reduces tax payable by a resident individual only.

Any resident individual is entitled to claim personal relief. The relief does not apply to non-resident individuals
or to companies.

The personal relief is currently Sh.13, 944 p.a. (1,162 pm) granted on the basis of number of months worked
during the calendar year.
b) Insurance Relief
A resident individual will be entitled to an insurance relief at the rate of 15% of the premiums paid subject to a
maximum of Sh5000 p.m. (Sh. 60,000 p.a.) if he proves that;
 He was paid premium for an insurance made by him on his life, or the life of his wife, or his child and that the
insurance secures a capital sum payable in Kenya and in the law full currency of Kenya.
 His employer paid premium on the insurance of the life of the employee which has been charged to tax in the
hands of the employee.

Both employer and employee have paid premiums on the insurance.
N/B: Premiums paid for an educational policy with a monthly period of at least 10 years shall qualify for this relief.
b. WITHHOLDING TAXES
This is a tax that is withheld at source or at the point of payment. A resident person is required to withhold tax on
various payments, under section 35 of the Income Tax Act. Withholding tax is applicable on payments to both residents
and non-residents. Such payments include dividends, interest, royalties, management and professional fees and agency,
consultancy and contractual fees. The importance of deducting withholding tax is that it makes tax collection easy and it
also ensures that some incomes do not escape taxation. The withholding tax should be viewed as income tax paid in
advance.
A person making payments of incomes subject to withholding tax is legally required to deduct the withholding tax or the
tax at source at appropriate rates before effecting the payment and:

Remit the tax so deducted to the Domestic Taxes Department;

Pay the payee the amount net of tax; and

Issue the payee with a certificate of the withholding tax or tax paid at source e.g. interest certificate or a
dividend voucher. For any given year of income, the payee is assessed on gross income and is given credit for
the tax paid at source except in cases where the withholding tax is the final tax.
Withholding tax rates are as follows;
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Payments
Notes
Dividends
Interest - Housing Bonds
(a)
- Other sources
(b)
Insurance Commission
(c)
Brokers
Others
Royalties
Pension and retirement annuities
(d)
Management and professional fees, training fees (e)
Sporting or entertainment income
Real estate rent
Lease of equipment
Contractual fee
(e)
Telecommunication service fee
(f)
Tax rates
Resident
%
5%
10%
15%
Tax rates
Non- resident
%
10%
15%
15%
5%
10%
5%
0%-30%
5%
20%
30%
3%
3%
5%
20%
20%
20%
5%
20%
15%
20%
-
Notes:
i.
Qualifying interest in respect of Housing Bonds is limited to Sh 300,000 per year.
ii.
Withholding tax on interest income received by a resident individual from the following sources is final:
iii.

Banks or financial institutions licensed under the Banking Act.

Building societies licensed under the Building Societies Act.

Central Bank of Kenya.
Commissions payable to non-resident agents for purposes of auctioning horticultural produce outside Kenya
are exempt from withholding tax.
iv.
Tax deducted at source on withdrawals from provident and pension schemes in excess of the tax-free amounts
made after the expiry of fifteen years or on the attainment of the age of fifty years, or upon earlier retirement
on health grounds are final.
v.
Withholding tax on payments to resident persons for management and professional fees applies to payments of
Sh 24,000 or more in a month to both registered and nonregistered business. The tax rate in respect of
consultancy fees payable to citizens of the East African Community Partner States is 15%.
vi.
The tax is subjected to payments made to non-resident telecommunication service providers and is based on
gross amounts.
Note: Various reduced rates of withholding tax apply to countries with double tax relief treaties with Kenya. The
incomes of the non-residents are taxed gross, that is, no expenses are allowed against the income. The withholding tax
must be remitted to the Domestic Taxes Department within 20 days of its being deducted. There is no further tax for
the non-resident after the withholding tax is paid as far as Kenya is concerned.
TAXATION OF INCOMES FROM DIVIDENDS, INTERESTS, RENT AND ROYALTIES
1.
DIVIDEND INCOMES
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Dividend means any distribution (whether in cash or property, and whether made before or during a winding up) by a
company to its shareholders with respect to their equity interest in the company, other than distributions made in
complete liquidation of the company of capital which was originally paid directly into the company in connection with
the issuance of equity interest.
Dividend paid by resident companies to the individual shareholders are taxable income. In comparison to employment
income which is brought to tax in the year it is earned, dividend income is taxable in the year it was paid out. For tax
purposes, the following amounts are taken to be dividend income:

Cash dividends

The distribution of profits in case of voluntary winding up (whether cash or non-cash).

The issue of debentures or redeemable preference shares without any payment.

Dividend in this case shall be higher of the nominal value or Redeemable value.

The issue of debentures without any payment.

Issuance of Debentures or redeemable Preference shares for part payment i.e. at a discount.
Non Taxable Dividend/Exempt: - These are dividends not charged or subjected to tax. They include;

Dividend received from an investment outside Kenya (foreign dividend).

Dividend received by a resident company from another resident company where it controls 12.5% or more of
the share capital.

Dividends received by Insurance Company from its life assurance Fund.

The issuance of debentures or redeemable shares for free or for part payment in the care of a body corporate.
Classification of Dividends; - Dividends are classified into two, namely;

Qualifying dividend

Non qualifying dividend
a) Qualifying dividend; - There are dividends which are subjected to withholding tax only. i.e withholding tax in
this case is a final tax. The withholding tax rate is 5% on the gross amount for residents. The non-resident rate
is 10% as final tax. Are paid out by:
-
Private Companies
-
Public Companies
-
SACCOs (Savings and Credit Cooperative Societies
Examples of SACCOs are; {Harambee SACCO, Mwalimu SACCO, Magereza SACCO, and Police SACCO}
b) Non Qualifying dividend: - These are dividends paid out by Cooperative Societies other than SACCOs .e.g.
-
Kiambu Farmers Coop society
-
Kariokor Women Coop society
-
Tetu Farmers’ Cooperative Societies
The Withholding tax rate is 15% which is not a final tax. The Non qualifying dividend will be aggregated with other
incomes of that person and taxed further and any withholding tax suffered will be allowed as a set off tax.
Those paying dividend, except where dividend is exempted from deduction of withholding tax, must deduct the
withholding tax. If they fail to deduct the withholding tax, the Income Tax Department has power to collect such tax
Page 23 of 88
from the person paying. Therefore, withholding tax on qualifying dividend for residents is final tax. This means that
there is no further tax charged on dividend once the withholding tax has been paid. Dividends received by insurance
companies are not qualifying dividends and are taxed at corporation rate. W.e.f. 13.06.2008, Dividends received by
financial institutions is subject to withholding tax.
2.
INTEREST INCOMES
Interest is defined as the amount paid for the use of money. For tax purposes, it is defined as interest payable in any
manner in respect of a loan, deposit and other debts or obligations e.g. loans by banks and financial institutions, deposits
to banks and financial institutions etc.
Those paying interest, except where interest is exempted from deduction of withholding tax, must deduct the
withholding tax. If they fail to deduct the withholding tax, the Income Tax Department has power to collect such tax
from the person making the payment. Therefore, interest is taxable; when it has been credited to one’s account or when
it has been paid out or when it has matured?
Interest Income exempt from taxation
a)
Interest arising from tax reserve certificates - These are certificates sold or issued by the government and for
the time being they are held by the government. Interest accrues which is fully exempt from taxation. These
certificates will then be used to pay taxes when tax becomes due.
b) Interest from Post Office Savings Bank Account.
c)
Interest arising from government stocks and Nairobi City council stocks in the case of a non-resident only.
d) Interest on East Africa High Commission in the case of non-residents only.
e)
Interest arising from a registered retirement Fund. (Encourages savings for old age).
f)
Interest on a deposits in Home Ownership Savings Plan to purchase a permanent house for own occupation
through recognized financial institutions with effect from 1/1/96.
g)
Interest accrued or earned outside Kenya.
h) The interest paid to a unit holder from a Unit Trust.:- A Unit Trust or a mutual fund organization is one
registered under the Unit Trust Act. It sells units
(equivalent to shares) to the public and invests the funds for
a return. The unit holder gets a return (interest) from the Unit Trust tax free.
The Unit Trusts are supposed to invest in shares and the government hopes this will help develop the capital
market (buying and selling of shares mainly in the Nairobi Stock Exchange). The withholding tax paid by a
Unit
Trust on interest and dividend is final tax, which means that the Unit Trust is not taxed further on the income.
i)
The interest paid to banks, financial institutions, insurance companies, building societies, Agricultural Finance
Corporation, and hire purchase companies.
Note;
-
Interest on housing development bonds by approved institution such building society. The first Sh 300,000 of
the interest will suffer withholding tax only otherwise any excess interest will be subject to further taxation
-
Interest received by a body corporate from financial institutions will be subject to withholding tax at the rate of
15% but this will not be final tax. Interest paid by other person’s not financial institutions is fully taxable.
Page 24 of 88
Illustration
Mr. Omondi deposited Sh 300,000 in Housing Finance development Bonds in year 2004 and earned gross interest of Sh
450,000.
Required;
i.
Calculate withholding tax on the interest.
ii.
How much of the interest suffers further taxation.
Solution
Sh’000’
Gross income
Withholding tax at
450
10% x 450
Interest on further taxation
(450 - 300) =
45
150
Classification of Interest income
Interest income can be classified into two, namely; Qualifying Interest and Non-qualifying Interest
i.
Qualifying Interest
This is the aggregate interest receivable by an individual in any year of income from financial institutions e.g. Banks,
insurance companies, treasury Bills and bonds. Interest is subject to Withholding tax as final tax at a rate of 15%; In the
case of Housing development bonds, the qualifying amount is the first Shs 300, 000; the rest is non- qualifying.
ii.
Non qualifying Interest
Non qualifying interest is the interest that is taxed further i.e. withholding tax is not a final tax. It is aggregated with
other incomes of that person and any withholding tax suffered will be allowed as a set off tax. Examples include:
3.
-
All interest income accruing to persons other than individuals.
-
Interest in excess of Sh 300,000 of housing development bonds.
-
Interest accruing to individuals other than from financial institutions
Rental Income Taxation Under Annual Regime
This is income earned by a person for rights granted to others to occupy his property. Rent income is made up
of key money or goodwill, normal rent and premium. Rent is charged on the actual amount received
 Expenses incurred to generate rent are allowed under section 15 of the Income Tax Act.
 Tax is calculated under individual graduated scale or corporate rate of 30%
 In addition, rent on non-residential buildings (Commercial) is taxable under the VAT Act (No. 35 of
2013) - Laws of Kenya.
Taxation of rental income depends on whether one is a resident individual or a non-resident.
Non-residents: - They are taxed at a flat rate of 30% on gross rent income and this is the final tax. No expenses are
allowed against gross rent income.
Residents: - For residents, rental income will be brought to tax at the graduated scale rates for individuals and at the
corporation tax rate for the companies. However the following points are relevant in arriving at the net taxable rental
income:
Page 25 of 88
Allowable deductions/expenses against Rental income
The general principle is that expenses allowed as deductions from incomes where they are wholly and exclusively
incurred in the production or generation of the chargeable income. Expenses incurred prior to period of production are
not allowable
Allowable expenses include:
i.
Interest on an overdraft or mortgage where funds have been raised to purchase the property. e.g mortgage
interest. Interest is allowable in full irrespective of the source of the loan provided that the premises have
been rented for 12 months. If let for less than 12 months, the amount is apportioned accordingly.
ii.
Structural alterations to maintain existing rents. E.g. demolishing walls to create more room or to create a
fire outlet.
iii.
Capital allowances e.g. Diminishing in value of any implements, utensils or similar articles if included in the
rentals. Wear and tear, industrial building allowance, investment etc. may be allowed as deduction.
iv.
Legal costs and stamp duties on acquiring a lease of not more than 99 years.
v.
Any reasonable advertising and promotional costs.
vi.
Municipal water rates, land and ground rates.
vii.
Repairs, renewals and replacements in order to maintain the existing rent e.g. repair of walls, water supply
network, fences, re-decorating etc.
viii.
Rent collection costs, estate agent’ fees and legal costs in operation.
ix.
Cost of valuation for insurance of the building and its contents as well as insurance premiums paid.
x.
Expenses incurred during regular or normal inspection by the agent.
xi.
Wages of any staff looking after premises including garden maintenance.
xii.
If included in the rentals, heating, lighting as well as telephone bills.
xiii.
If let furnished, an allowance for wear and tear and for replacement of furnishings and fittings.
Disallowed expenses
i.
Cost of structural extension cannot be allowed as a deduction.
ii.
Capital expenditure such as building of additional garage, additional servant’s quarters are not allowable
iii.
Where property such as a holiday cottage is kept for letting out for short periods, a full year’s expense will
be allowed.
iv.
Expenses incurred by the owner for normal inspection of the property are not allowed.
v.
Expenses will not be apportioned where the premises are not occupied for the remaining part of the year
so long as it is not more than 6 months.
vi.
Expenses incurred prior to period of production are not allowable.
vii.
Expenses relating to a whole year are apportioned if the property is rented for a period of less than 12
months.
Page 26 of 88
Example 1
Gross rent income for year of income 2020
Details
Property A – 5 units*Kshs. 15,000*12 months
Property A – 10 units*Kshs. 10,000*12 months
Total rent income
Less: Allowable expenses
Land rates/rent
10,000
Insurance
20,000
Agent’s fees
30,000
Repairs
150,000
Loan interest
80,000
Electricity
60,000
Next taxable income
Kshs
900,000
1,200,000
2,100,000
(350, 000)
1,750,000
Monthly Rental Income Tax (MRI)
It is charged on gross rent income under Section 6A of Income Tax Act. It was introduced by Finance Act 2015 and
became effective from 1st January 2016..
What is residential rental income?
• Tax payable by resident persons on rental income earned for the use or occupation of a residential property where
the rent income is between Kshs. 288,000 and Kshs. 15 million per annum.
• Landlords with rental income below Kshs. 288,000 or above Kshs. 15 million per year shall be required to file
annual income tax returns and declare this rental income together with income from other sources.
What is a tax rate?
Residential rental income is charged at a flat rate of 10% on gross rent received per month. It is payable when landlords
receive rent from their tenants either monthly, quarterly, semi-annually or annually. However, returns must be filed
monthly. No expenses, losses or capital deduction allowances shall be allowed for deduction from the gross rent.
Note: The taxpayer who wishes to remain in the previous residential income tax may do so by applying to the
commissioner of Income Tax of his intentions.
4.
ROYALTIES
This is income earned by a person for rights granted to others to use his intellectual properties. These are incomes
arising from rights granted to other persons for the use of intellectual property. Royalties means a payment made as a
consideration for the use of:
-
A copyright of literary, artistic or scientific work.
-
A cinematograph film including film or tape used in radio and television broadcasting.
-
A patent, trademark, design or model, plan, formula, process.
-
Any industrial, commercial or scientific equipment or the use of information concerning industrial, commercial
or scientific equipment or any experience thereof as well as gains derived from the sale or exchange of any right
or property.
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Taxation of royalties
Taxation of royalties depends on whether one is a resident individual or a non-resident.
Non-residents: - They are taxed at a flat rate of 20% of gross royalty income. This is a withholding tax which is a final
tax. No expenses are allowed against the gross income.
Residents: - Expenses are allowed against gross royalty income to arrive at the taxable royalty. Expenses incurred prior
to the period of production of royalty income are not allowed e.g. expenses in the nature of researching, testing,
development before commencement of generation of the royalty income. The net royalty income will be aggregated with
other incomes of that resident individual and assessed on him using graduated scale rates in the case of an individual and
corporation tax rate in the case of a body corporate. There is a withholding tax at source at 5% to be set off against gross
tax liability of the person.
5.
PENSION AND ANNUITIES
Pension fund is long-term as it continues after employment. Provident fund would normally cease upon ceasing
employment there are of 2 categories:
-
Benefit as a contributor
-
Benefit after employment
Benefit as a contributor; Contribution may be under;
i.
Contributory scheme-both employer and employee contributes.
ii.
Non-contributory scheme-Only where one party contributes, either employer or employee.
Generally, Employer’s contribution towards a registered or unregistered scheme on behalf of the employees is NOT
TAXABLE on the employee (except where the employer is not taxable or where it exceeds the tax exempt limit of Sh.
240,000 p.a.). The combined employer-employee contribution to a registered or approved fund or scheme on behalf of a
member is unlimited. However, the employee’s tax allowable amount or deductible contribution is limited to the lower
of:
-
30% of Pensionable pay
-
Employee’s actual contribution.
-
Shs. 240, 000 per annum 0r sh.20, 000 per month. (Before 1.1.2006, it was Sh.17, 500 per month or 210,000 per
annum.)
Employer’s contributions to unregistered pension scheme or excess contributions beyond the allowable limit of
Ksh.240, 000 by an employer not taxable in Kenya are taxable on the employees. Nontaxable Employer’s Contributions
to Registered or Unregistered Pension Scheme or Provident Fund
Contributions paid by a non-taxable employer to unregistered pension scheme or excess contributions paid to a
registered pension scheme, provident fund or individual retirement fund; shall be employment benefit chargeable to tax
on the employee
Page 28 of 88
Benefit after employment
The benefits after employment arise as a result of withdrawals made by the employee. Such withdrawals can be: Periodic
withdrawals or Lump sum withdrawals
a) Periodic withdrawals or annuities
Pensions or retirement annuities (periodic payments) up to Sh 180, 000 p.a. received by a resident individual are TAX
EXEMPT so long the scheme or fund is registered.
b) Lump sum withdrawals
Lump sum withdrawals from a Pension or retirement up to Sh 480,000 p.a. received by a resident individual are tax
exempt so long the scheme or fund is registered. Where the period of contribution is less than 10 years, then the exempt
amount of the pension lump sum shall be 48,000 x numbers of years of contribution. E.g. if the contributions were
made for 6 years then the tax exempt amount would be computes as: 6/10x480, 000= 288000 or 48000x6.
N/B: The first 1.4 million payable to the estate of a deceased person is TAX EXEMPT.
Note:
i.
Maximum allowable Pension/ Provident Fund had been increased from 17500 per month to 20000 per
month (240000) w.e.f. 1st Jan 2006).
ii.
Contribution made to NSSF( National Social Security Fund) also qualify as a deduction with effect from
1.1.97.However, Where an employee is a member of a pension scheme or fund and at the same time the
National Social Security Fund (NSSF) the maximum allowable contributions should not exceed Sh 20,000
per month in aggregate.
TAXATION OF EMPLOYMENT INCOME
Although the Act has not defined the term employment, it can be taken to mean any relationship between employer and
employee arising from an agreement whether expresses or implied in year a given year of income. However, the income
tax has defined the employer to include:
-
Any person having control of payment of remuneration;
-
Any agent, manager or other representative of any employer who is outside Kenya
-
Any paying officer of Government or other public authority;
-
Any trust, insurance company or body of persons paying pensions.
An employee has also been defined by the Act to include:
-
Any holder of office for which remuneration is payable.
-
Any individual receiving emoluments in respect of any employment, office, appointment or past employment.
The Kenyan income tax system adopts a PAYE system where employer is under statutory duty to deduct the income tax
on any income from employment or services rendered in a particular year of income. The system applies to all cash
emoluments and all credits in respect of emoluments to employees' accounts with their employers, no matter to what
period they relate.
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Taxable Employment Income
Section 5 (1) (a) of income tax Act clearly specifies the basis on which an income from employment is liable to income
tax in Kenya as follows;
1.
Cash payments - Wages, salary, leave pay, sick pay, payment in lieu of leave, directors' fees and other fees,
overtime, commissions, bonuses, gratuities or pension whether payable monthly or at longer or shorter
intervals paid by the employer.
2.
Cash allowances - house allowance, telephone allowance, commuting allowances, hardship allowances, cost of
living allowances, entertainment allowances etc. paid by the employer. However, where allowances are paid as a
reimbursement with regard to expenses paid in the course of duty by the employee on behalf of the employer,
such allowances are NOT taxable on the employer.
3.
Personal expenditure - The amount of any private expenditure of the employee paid by the employer e.g.
house rent, holiday bills, shopping bills, grocery bills, insurance premiums, electricity, water and telephone bills,
school fees etc. are taxable on the employee.
4.
Any amount contributed by the employer on behalf of an employee to a provident fund which is NOT
registered with the commissioner of Income Tax (CIT) is taxable. However, for a registered /approved fund it
is NOT taxable on the employee.
Taxable Employment Benefits
Taxable benefits include any benefits whether in cash or in kind that is provided free by the employer to the employee or
persons associated with the employee. The value of benefits received by an employee from his/her employer is subject
to income tax. All benefits are taxable at the higher of cost to the employer of providing the benefit and the fair market
value.
a) Motor vehicles benefit
-
Taxed at the higher of 2% p.m. of the initial cost of the vehicle and the prescribed scale rates.
-
Leased and hired vehicles are taxed at the cost of hiring or leasing the vehicle.
-
Where there is restricted use, the Commissioner may upon application, determine a lower rate based on usage
b) Non-cash benefits that exceed an aggregate value Kshs. 3000 per month/Kshs. 36000 per annum are taxable.
However, a non-cash benefit of less than Kshs. 36, 000 per annum is NOT taxable on the employee.
c)
Facilities - free lunches, free transport, gifts etc. paid by the employer on behalf of the employer are taxable at a
higher of the cost of providing the benefit and fair market value.
d) Servants - gardeners, house helps, security personnel, personal assistants etc. provided for by employer to the
employee are taxable at a higher of cost of providing for the servants and the fair market value.
e)
Domestic benefits including staff meals, club subscriptions, water, electricity etc. paid the employer are taxable at
the higher of cost or fair market value. The Commissioner has prescribed the value of benefits where the cost to the
employer is difficult to ascertain. The prescribed rates are:
-
Telephone (incl. mobile) 30% of cost to employer
-
Furniture 1% of cost to employer
-
Water (provided communally)
- Shs. 500 (Shs. 200 for agricultural employees)
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f)
Electricity (provided communally)
- Shs. 1,500 (Shs. 900 for agricultural employees)
Housing benefit – arises where an employee is provided a house by an employer and taxed at;
-
-
The higher of market rental, actual rent paid and:

For directors: 15% of total income.

For whole-time service directors: 15% of total employment income.

For employees: 15% of total employment income.

Agricultural employees: 10% of total employment income.
Where the total employment income exceeds Shs. 600,000 p.a., the rental benefit is the higher of rent paid and
the fair market value.
-
Rental received from an employee is deducted in calculating housing benefit
g) Employee loans – loan advanced by the employer to the employee at a lower interest is a taxable benefit on the
employee. Loans granted after 11th Jun 1998 are subject to Fringe Benefit Tax payable by the employer at the
resident corporate tax rate (30%). Fringe benefit is the difference between the market interest rate and the interest
paid by the employee.
Low interest benefit = (Market interest rate – loan interest) * Loan value – Taxable on the employee
Fringe tax benefit
= (Prescribed rate – interest paid) x Loan value x 30% - Taxable on the employer
h) Registered Employee Share Ownership Plan (ESOPS) – This is a plan where employees are given an
opportunity to buy shares of the company. Mainly used to motivate and reward employees. This is a benefit taxable
on the employee based on the difference between the offer/issue price and the market price per share at the date
the option is granted.
Tax Free Employment Benefits
1.
Medical services provided to a full-time employee and a whole-time service director (holding less than 5%
shares), including their beneficiaries (spouse and upto 4 children below 21 years).
2.
Medical benefits provided to a non-whole-time service director, partner and a sole proprietor subject to a
maximum value of Kshs. 1 million.
3.
Education fees of an employee’s dependents or relatives, if taxed on the employer.
4.
Education fees paid by an educational institution for low income employee’s dependents attending the
institution.
5.
International passage cost for non-citizen employee recruited outside Kenya.
6.
Non-cash benefits not exceeding Kshs. 36,000 p.a.
7.
KShs. 2,000 per day towards subsistence and traveling allowance for person working outside usual place of
work.
8.
Meals provided at the employer’s canteen where the value does not exceed kshs. 48, 000 p.a. per person.
9.
The first Kshs. 150, 000 p.m. of the total income and a deduction of up to Kshs. 50, 000 p.m. for nonreimbursed hospital admission costs, drugs treatment and home care services for disabled persons registered
with national council of persons with disabilities and approved by the commissioner (The exemption is valid
for 5 years).
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10. Deduction of 1/3 of employment income of a non-citizen employee, of a non-resident company or a
partnership firm approved by the commissioner, who is absent from Kenya for an aggregate of 120 days or
more in a year of income and whose employment costs are not deductible in ascertaining the employer’s
income chargeable to tax.
Deductible Expenses against Employment Income
These are expenses that reduce the taxable income of a person in any year of income. Such expenses include;
1.
2.
3.
Mortgage interest paid on loan borrowed either for purchase or improvement or for residence is deductible
subject to a maximum amount of Kshs. 150, 000 p.a. (not claimed for more than one residence).
Life, health and education insurance relief is deductible at 15% of the premiums subject to a maximum of
Kshs. 60, 000 p.a.
Deductible contributions to registered pension fund in respect of employees is the lower of;
- 30% of pensionable income
- Actual contribution or
- Max amount of KShs. 240,000 p.a. set by Commissioner
However;

The first KShs. 300,000 p.a. of the total pension or retirement annuities received by a resident
taxpayer are exempt from tax.
 Lump sum payments and monthly pension payments to persons of 65 years of age or above are tax
exempt.
Tax exempt lump sum withdrawals:
 Lump sum commuted from a registered pension fund - the first Kshs. 600,000.
 Withdrawal from a registered pension fund upon termination of employment - Kshs. 60,000 for each
year of pensionable service subject to a maximum of Kshs. 600,000.

Withdrawal from a registered provident fund (or defined contribution fund) - Kshs. 60,000 for each
year of pensionable service subject to a maximum of Kshs. 600,000 plus all lump sums from
segregated funds on contributions made prior to 1st Jan 1991.

A one-off final lump sum payment from a registered fund to the estate of a deceased - the first Kshs.
1.4 million.

The first Kshs. 600,000 of NSSF benefits.

Withdrawals above these limits are subject to withholding tax based on length of service.

Any surplus refunded to/withdrawn by an employer from a registered fund is taxable on the
employer.
4.
Contribution to NSSF – the current rate is 10% of the monthly income upto a maximum of Ksh. 400 p.m.; half
paid by employer and half by employee.
5.
Contribution to National Hospital Insurance Fund – the new rates for NHIF became effective on April 2015.
It is a mandatory contribution among formal and informal sector workers, as well as retirees. The NHIF new
rates are intended to give members both in-patient and out-patient cover. Out-patient cover services included
in these new rates include:
 Family planning, Drugs and medicines
 General consultation with general medical practitioners
 Prescribed Laboratory tests and Lab investigations
 Treatment of Sexually Transmitted Diseases.
 Prescribed ultra sound diagnosis and X-ray
 Treatment, dressing and diagnostic testing
 Clinical counseling services
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 Post-natal and ante-natal health care
 Health and wellness education
Gross income Kshs
0 – 5, 999
6,000 – 7,999
8,000 – 11,999
12,000 – 14,999
15,000 – 19,999
20,000 – 24,999
25,000 – 29,999
30,000 – 34,999
35,000 – 39,999
40,000 – 44,999
45,000 – 49,999
50,000 – 59,999
60,000 – 69,999
70,000 – 79,999
80,000 – 89,999
90,000 – 99,999
100,000 and above
Self Employed (special)
Monthly NHIF premium Kshs
150
300
400
500
600
750
850
900
950
1,000
1,100
1,200
1,300
1,400
1,500
1,600
1,700
500
Incomes of a married woman
According to section 45 of income Tax the income of a married woman living with a husband shall be deemed to be the
income of the husband for the purpose of ascertaining his total income and it shall be assessed on ad the tax thereon
charged on the husband.
A married woman is treated to be living with her husband unless;
i.
They have been separated under a court order, or under a written agreement of separation.
ii.
They have been separated in such a circumstance that the separation is likely to be permanent.
iii.
She is a resident person and her husband is a non-resident.
Currently, there are three exceptions to this rule as follows;
i.
The wife’s employment income
ii. Wife’s professional income
iii. Wife’s self-employment income
1.
Wife’s Employment Income - Wife’s employment income will be taxed on her separately. However, wife’s
employment income will NOT include the following incomes;

Her incomes as an employee of the husband

Her incomes as an employee of a partnership in which the husband is a partner.

A company in which the share capital is held by herself or the husband or both to the extent of 12.5% or
more, whether directly or indirectly.
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
Income derived by her as a trustee or as a manager of a trust which has been created by the husband for
the benefit of children.
2.
Wife’s professional Income - Wife’s professional income is also assessed separately on her. The income will
be taxed separately at the graduate scale rates of tax. Wife’s professional income means the gains or profits of a
married woman living with her husband which have been derived by her, exercising or practicing as a
professional person in one of the professions and having such qualifications specified in the 15 th schedule e.g.
Medical profession, Dentist, Lawyer or Advocate, Surveyor, Architect, Surgeon, Engineer, Accountant etc.
3.
Wife’s self-employment income - Wife’s self-employment income is also assessed on her separately. Wife’s
self-employment income means any gains or profit arising from a business of a married woman living with her
husband which is chargeable to tax as business income which means any income of any undertaking of a
married woman in the form of a business or a trading concern which in most cases means a business which is
registered in the name of the wife. Wife’s self-employment income will not include any income of a woman
which is derived by a married woman from a business which involves the selling of goods or the provision of
services to:a)
A business which is owned by the husband, or
b) A partnership in which the husband is a partner, or
c)
A Company in which herself or her husband or both control 12.5% or more of the voting powers.
Other incomes of a married woman
Other income of a married woman NOT included as employment, self-employment or professional income are normally
referred to as other incomes of a married woman. Such types of incomes will be taxed alongside other incomes of the
husband the effect of which will increase the tax liability of the husband. These incomes shall include the following;

Rental income

Farming income

Investment income (dividends & Interest)
In the case of polygamous marriages, the provision of section 45 does not change because;
a)
The income of the wife’s shall be deemed to be the income of the husband and shall be taxed on the husband.
b)
Any income of the wives derived from employment, professional or self- employment income will not be
taxed with other incomes of husband.
Losses of a Married woman
Any losses of a married woman shall also be deemed to be losses of the husband. Where this exists, a deficit of income
as at the time of marriage on the part of the woman, the deficit shall be come the husbands deficit which can be
deducted against future incomes of the wife which are taxed on the husband. Where the husband fails or is unable to pay
the tax due, the commissioner can collect a portion of the husband’s taxes from the wife to the extent that such a tax
relates to her incomes which are taxed on the husband.
Page 34 of 88
Suggested Examples
Example 1
Mr. John is employed by Kazuku Ltd. During the year of income 2015, he presented to you the following information.
1.
His employment earnings include the following,

Salary sh.80, 000 p.m. (PAYE sh.16, 000 p.m.)

He received end year bonus of sh.40, 000.

He was provided with a car with 2000 cc rating. The car had cost Kshs 900, 000.

He spent sh.52, 000 on entertainment for customers which was fully reimbursed by the employer.

He lives in a well-furnished house at a cost of shs 240, 000 provided by his employer. The employer pays
sh.8, 000 pm for the house as nominal rent. The fair market rental value for the house is Kshs. 15, 000
p.m. The employer also provides for his watchmen at a cost of kshs 6, 000 p.m.

His employer pays on his behalf life insurance premium at sh.8, 000 pm.

The employer paid sh.4, 000 p.m. for Mr. John approved/registered pension scheme.

The employer loaned him an amount of kshs 200, 000 during the year of income at a rate of 10% lower
than the market rate of 12%.

His employer paid for his medical bills averaging sh.4, 000 p.m. The employer maintains a nondiscriminatory medical scheme.
2.
Mr. John owns 25,000 ordinary shares of sh.50 each in Barclays ltd. During the year of income he received a
dividend of sh. 2 per share.
3.
Interest come received by John during the year was as follows:
4.
Interest received from an investment in Uganda
shs 35, 000
Post office savings bank
sh. 10, 000
Fixed deposit account: Equity Bank
sh. 2, 000
Saving account: National Bank
sh 8, 000
Mr. John paid a mortgage interest of sh.15, 000 per month on a loan from Family Bank for the purchase of his
residence.
5.
Mr John own premises. During the year of income he disclosed a net rental loss of shs 150, 000 after the
following expenses had taken into consideration;
6.
Legal costs on acquiring a lease of more than 99 years
shs 18, 000
Cost of replacing a wooden door with a metallic door
shs 60, 000
Mortgage interest paid
shs 8, 000
Cost of partitioning of the three existing rooms
shs 180,000
Cost of painting the partitioned rooms
shs 30, 000
Preliminary expenses incurred
shs 25, 000
Salaries and wages
shs 15, 000
Mrs. John who is employed by Pambazuka enterprises where both her and the husband are partners. During
the year of income 2015 the following information was reported by Mars. Ltd.
 Salary as an employee
shs. 72, 000 p.m.
 Free lunches by her employer
shs. 2, 400 p.m.
 Part time business
shs. 10, 000 p.m.
Page 35 of 88
Required:
a)
Calculate the total income and tax payable for Mr. John for the year of income 2015.
b) Comment on any information that you did not use in computation of Mr. John taxable income.
Example 2
Mr. Tom is employed by Felix Bank Ltd as marketer. He presented the following information to be used in the
computation of his taxable income for the year ended 31 st December 2014.
1.
Basic salary sh.60, 000 pm (PAYE Sh.8, 000 p.m.)
2.
Received overtime allowance computed at 10% of his monthly pay.
3.
His employer paid for his medical bills averaging sh.5, 000 p.m. The employer maintains a discriminatory medical
scheme.
4.
His employer provided him with the following;

A car which was acquired at a cost of sh.300, 000. This car has an engine capacity of 1800cc.

The employer provides Mr. Tom with a well-furnished house by the employer at a cost of shs 200, 000.
Sh. 2, 500 was deducted from his salary every month to cover rent for the house. The employer paid
electricity and water bill for the house at a cost of shs 1, 500 p.m. and shs 1, 200 p.m. respectively as well
as telephone charges worth shs 6, 000 p.m.
5.
He contributes sh.8, 000 p.m. to a registered pension scheme while the employer contributes an equal amount.
6.
During the year, the employer provided Mr. Tom with tea and snacks valued at sh.2, 000 p.m.
7.
He attends a one-day seminar, employer paid shs 5, 000 as allowances. He donates 10% of this amount to a local
children’s home.
8.
He was nominated an employee of the year and was awarded a cash gift of sh.40, 000.
9.
He operates a savings account with post bank ltd. During the year ended 31 December 2012, the bank credited his
account with sh.5, 000 being interest on the balances in his account.
10. On 25th November, he offered part-time consultancy services. He made a profit of sh.70, 000 from the consultancy
before deducting operating expenses of 18,000 and sh.9, 000 relating to acquisition of furniture.
11. His wife Mrs. Tom, operates a grocery. She made a net profit of sh.50,000 after deducting the following;
Rent of stall
sh. 10, 000
Hire of van
sh. 22, 000
School fees for children
sh.108, 000
Advertisement expenses
sh. 6, 000
Required:
a. Mr. Tom taxable income for the year ended 31st December 2014
b. Tax payable on the taxable income computed in (a) above.
c. Comment on any information not used in (a) above
Example 3
Mr Mkebe is a general manager with Karai Ltd. He has provided you with the following information on his income for
the year ended 31 December 2007
1)
He is paid a basic salary of Sh.75, 000 per month (PAYE Sh.15, 000 per month).
Page 36 of 88
2)
He is housed by the employer in a house leased at Sh 30, 000 per month. The house was furnished by the
employer at a cost of Sh 200, 000. His private telephone charges averaging Sh1, 800 per month are also paid by
the employer.
3)
He is a member of a golf club where the employer contributes Sh 5, 000 per month for him.
4)
He holds a life assurance policy with Maisha Assurance Company Ltd. The employer paid the premiums on the
policy for year 2007 amounting to Sh 48, 000.
5)
He is a member of a registered collective investment scheme. During the year, he earned an income of Sh.40,
000 from the scheme. The scheme invests in shares and fixed deposit accounts.
6)
He separated with his wife on 1 October 2007. With effect from 31 October 2007, he has been paying alimony
of sh20, 000 per month to his wife as required by a court order.
7)
He is provided with a motor vehicle (2000cc) by the employer which was purchased on 1st January 2006 at a
cost of Sh1, 500, 000.
8)
He contributed Sh 25,000 per month towards a registered pension scheme.
9)
On 1 December 2007, his monthly salary was increased by ten per cent backdated to 1 st July 2007.
10) He owns a pig-rearing farm in Limuru. The farm reported revenue of Sh 1,800,000 for the year ended 31
December 2007 before deducting the following costs:
Shs
Salary to farm manager
300, 000
Wages to farm labourers
160, 000
Construction of pig stays
48, 000
Purchase of a plastic water tank
22, 000
Purchase of pig feed
410, 000
Cost of renovating the farmhouse
130, 000
1, 070, 000
Required:
i.
Taxable income of Mr. Mkebe for the year ended 31 December 2007.
ii.
Tax liability from the income computed in b (i) above.
Example 4
Mr. Moto is married to Jiko Makaa. Mr. Moto is a registered engineer and he is the proprietor of Meko Engineering
Services a firm of consulting engineers. He is nevertheless fully occupied as an employee of Jenga Construction Limited.
His company is therefore managed by his wife who draws Sh.50, 000 per month as salary. Jenga Construction Ltd.
provided the following emoluments to Mr. Moto for the year ended 31 st December 2012:
1.
Salary of Sh.150, 000 per month (PAYE Sh.62, 000 per month).
2.
Housing – Free housing is provided, with water and electricity. He pays a nominal sh.10, 000 per month.
Water consumed was for Sh.4, 800 and electricity consumed was for Sh.18, 000 during the year.
3.
1,000 ordinary shares for past years of service. Last valuation of shares was at sh.50 each. The issued share
capital is now 25,000 shares. The company paid a dividend of Sh.10 per share on 31 December 2012.
4.
Company car of 2000 cc.
5.
Leave pay equal to one month’s salary.
6.
Life insurance premium per each household member of Sh.10, 000 per annum. This covers himself, wife and
son.
7.
Pension at 10% per month. He contributes 5% towards the same scheme. The scheme is registered.
Page 37 of 88
Meko Engineering Services made an assessed loss of Sh.400, 000 for the year of income 2012. Mr. Moto owns
property which he bought many years ago. Rent income account for the year 2012 is as follows:
Gross rent
Less: expenses
Loan repayment
Interest on loan
Fencing
Caretaker wages
Insurance, rent and rates
Replaced broken doors
Loss to be carried forward
Sh.
Sh.
300,000
150,000
125,000
30,000
55,000
25,000
85,000
470,000
(170,000)
Required:
(a)
Taxable income of Mr. Moto for the year of income 2012.
(b)
Tax payable by Mr. Moto for the year of income 2012.
(c)
Mr. Moto is being invited by Meza Ranching Company Limited to be their manager and reside at the farm.
What will be the tax implications of this? Explain but do not compute if he takes up the offer and everything
remains unchanged other than the residence.
Example 5
Mrs. Ongera works with Anga Ltd. and has provided you with the following information for the year ended 31 st
December 2007. Pension from previous employment of Sh.20, 000 per month.
1. Salary sh.120, 000 per month (P.A.Y.E Shs. 42,000 per month)
2. Mrs. Ongera and her husband own a company whose taxable income was agreed at Sh.500, 000 after charging
husband’s salary of Sh.250, 000 per month (P.A.Y.E sh.60, 000 per month).
3. Anga Ltd. provided a company house to Mrs. Ongera in South B where rent of similar houses was Sh.20, 000
per month.
4. Mrs. Ongera works over-time and her over-time income averages Sh.10, 000 per month.
5. Mrs. Ongera enjoyed medical benefit of Sh.160, 000 during the year. She is a senior manager and the company
has medical cover for all its employees.
6. She obtained free consumables from the company as a Christmas gift worth Sh.30, 000 during the year.
7. Mrs. Ongera owns rental property at Komarock Estate and receives Sh.50, 000 as rental income per month.
During the year, she incurred Sh.60, 000 in renovations, repairs and painting before letting the property. She
had obtained a mortgage loan from Housing Finance Company amounting to Sh 3,000,000. She paid Shs
900,000 during the year of which Sh 500,000 was principal.
8. Mrs. Ongera owns 20% of the shares of Anga Ltd.
Required:
i.
The taxable income for Mr and Mrs Ongera for the year of income 2007.
ii.
Tax payable on the income computed above.
Example 6
Joel Kivu is a general manager with Ukweli Ltd. He has provided you with the following information on his income for
the year ended 31 December 2007
1) He is paid a basic salary of Sh.75, 000 per month (PAYE Sh.15, 000 per month).
2) He is housed by the employer in a house leased at Sh 30, 000 per month. The house was furnished by the
employer at a cost of Sh 200, 000. His private telephone charges averaging Sh1, 800 per month are also paid by
the employer.
3) He is a member of a golf club where the employer contributes Sh 5, 000 per month for him.
4) He holds a life assurance policy with Maisha Assurance Company Ltd. The employer paid the premiums on the
policy for year 2007 amounting to Sh 48, 000.
5) He is a member of a registered collective investment scheme. During the year, he earned an income of Sh.40,
000 from the scheme. The scheme invests in shares and fixed deposit accounts.
6) He separated with his wife on 1 October 2007. With effect from 31 October 2007, he has been paying alimony
of sh20, 000 per month to his wife as required by a court order.
Page 38 of 88
7)
He is provided with a motor vehicle (2000cc) by the employer which was purchased on 1st January 2006 at a
cost of Sh1, 500, 000.
8) He contributed Sh 25,000 per month towards a registered pension scheme.
9) On 1 December 2007, his monthly salary was increased by ten per cent backdated to 1st July 2007.
10) He owns a pig-rearing farm in Limuru. The farm reported revenue of Sh 1,800,000 for the year ended 31
December 2007 before deducting the following costs:
Shs
Salary to farm manager
300, 000
Wages to farm labourers
160, 000
Construction of pig stays
48, 000
Purchase of a plastic water tank
22, 000
Purchase of pig feed
410, 000
Cost of renovating the farmhouse
130, 000
1, 070, 000
Required:
i.
Taxable income of Mr. Joel Kivu for the year ended 31 December 2007.
ii.
Tax liability from the income computed in b (i) above.
Example 7
Alex Kipkoech is employed by Zintac Ltd. as a salesman. He provided the following information relating to his income
and that of his wife for the year ended 31st December 2007:
1) His monthly basic salary is Sh. 60,000 (PAYE Sh. 15,000 per month).
2) He is also entitled to a commission based on 5% of all extra sales he makes above Sh. 200,000 per month. His
sales for the months of March, June, August and October 2007 amounted to 250,000, Sh.300, 000, Sh.220, 000
and Sh.215, 000 respectively.
3) He lives in a company house and pays a nominal rent of Sh. 8,000 per month. The market rental value of the
house is Sh. 45,000 per month.
4) The company reimburses him for all out-of- pocket expenses incurred on the official use of his car. In the year
2007, the amount reimbursed was Sh. 90, 000; he had purchased the car in the year 2004 at cost of Sh. 800,000.
The car has an engine capacity of 1600cc.
5) The education fees for his two children amounting to Shs. 200, 000 was paid by the company during the year.
This amount was charged to the company’s income statement.
6) He earned a net interest income of Sh. 150,000 during the year from his investments in housing development
bonds.
7) He is contemplating purchasing a house for his residence in the near future. In the year 2007, he invested Sh.
100,000 in a registered home ownership savings plan and earned an interest income of Sh. 10,000.
8) He has a life insurance policy for self and family for which he pays a total premium of Sh.45, 000 per annum.
9) He has a farm which generated a surplus of Sh. 120,000 during the year. A tax of Sh. 15,000 had been deducted
under presumptive tax regulations.
10) His wife has invested in the shares of a quoted company. She received a dividend of Sh. 12,000 (net) from the
shares in the year 2007.
Required:
i.
Compute the total taxable income of Alex Kipkoech for the year ended 31 st December 2007.
ii.
Determine his tax liability from the income computed in (i) above.
Page 39 of 88
TAXATION OF BUSINESS INCOME
The Income Tax Act has defined business to include any trade, profession or vocation, and every manufacture,
adventure and concern in the nature of trade, but does not include employment.
i.
Trade
- Buying and selling for gain;
ii.
Profession
- Professional practice such as by a doctor, lawyer, accountant etc.
iii.
Vocation
- A calling or career;
iv.
Adventure
- Would include smuggling and poaching;
v.
Concern
- Would mean any commercial enterprise.
Business may be carried on for a short time or a full year. However, the period a business is carried on is irrelevant in
taxation of business income. Thus any business income is chargeable to tax whatever period of time the business is
carried on. Similarly, the Act charges tax on profits from any business that is whether income is earned legally or illegally.
Therefore, legality of the business is not recognized in tax law when it comes to taxing the business income.
Taxable Business Income
These are items of business income chargeable to income tax. This include;
1.
An amount of profit from ordinary business arising from buying and selling as a trade e.g. butchery, grocery,
manufacture, transport etc.
2.
Where business is carried on partly within and partly outside Kenya, by a resident person, the gains or
profits is deemed to be derived from Kenya.
3.
An amount of insurance claim received for loss of profit or for damage or compensation for loss of trading
stock.
4.
An amount of trade debt recovered which was previously written off.
5.
An amount of balancing charge during cessation of business
6.
An amount of trading receipt received from a business operating as a going concern.
7.
An amount of realized foreign exchange gain.
8.
Amount of discounts arising from a trading activities
9.
Decrease in the specific provision for doubtful debts
Non-taxable Business Incomes:
These are items of business income not chargeable to tax as provided for by the Income Tax Act. They include;
1.
Profit on sale of assets.
2.
VAT refunds.
3.
Any income specified in the Act as tax exempt or non-taxable.
4.
Any income subject to tax at source i.e. W/T on interest or dividends.
5.
Foreign exchange gain not realized
6.
Decrease in the general provisions for bad and doubtful debts
Business income in Kenya is chargeable to tax with respect to companies and partnership firms. For tax purposes,
determination of taxable income with respect to these forms of business organizations is almost similar except that in
Page 40 of 88
partnership firms, once the taxable income has been determined, an amount will be distributed to each partner and tax
assessed on each individual partner using graduated scale rates of tax. Similarly, it is important to note that whether
expenses are allowable or disallowable and whether income is taxable or non-taxable is also considered when
determining taxable income for the year of income.
TAXATION OF COMPANIES
-
Section 3(2) of the Income Tax Act (ITA) provides that Income tax is charged on all the income of resident
and non-resident companies, which have accrued in, deemed to be or is derived from Kenya.
-
An entity will be regarded as resident if it is under Kenyan laws, effectively managed and controlled or declared
to be resident in Kenya by the Cabinet Secretary by way of notice in the Kenya Gazette
-
The corporation tax rates in Kenya is 30% of the taxable profit on residents and 37.5% on non-resident
entities.
-
The corporation tax rates proposed as incentives for new listed companies by Kenya Revenue Authority in the
year 2015 were as follows:
Special rates
Newly listed companies through IPO
- At least 20% of issued share capital listed
- At least 30% of issued share capital listed
- At least 40% of issued share capital listed
- Listing through Introduction
- Export Processing Zone
Special Economic Zone**
Source: Finance Act, 2015
-
Rates
%
27.5%
25%
20%
25%
0%
25%
Exempt
Period
No. of years
3 years
5 years
5 years
5 years
First 10 years
Next 10 years
-
Tax Losses incurred by a company before, 1st Jan 2016, the carrying forward of such losses was limited to 4
years. However, Finance Act 2015 amended this to 9 years commencing 1st Jan 2016.
-
All companies in Kenya are expected to pay installment tax before the end of the year of income. Therefore,
the amount of tax payable shall be determined at the beginning of each year. This is based on the higher of:

The budgeted profits of the year or

25% of 110% of the tax assessed in the previous year.
-
Once determined, the installment tax is payable as follows;
1st
installment
installment
3rd installment
4th installment
Final tax (tax
balance)
25% of tax due by 20th day of the 4th month during the year of income.
25% of tax due by 20th day of the 6th month during the year of income.
25% of tax due by 20th day of the 9th month during the year of income.
25% of tax due by 20th day of the 12th month during the year of income.
Actual tax payable minus total installment tax paid on the last day of the fourth month
after the end of the year of income.
2nd
-
However for firms in agriculture sector, installment tax is payable as:
1st installment
75% of tax due by 20th day of the 9th month during the year of income.
2nd installment
25% of tax due by 20th day of the 12th month during the year of income.
Final
balance)
tax
(tax
Actual tax payable minus total installment tax paid on the last day of the fourth month
after the end of the year of income.
Page 41 of 88
-
When determining the taxable income for body corporates in Kenya, incomes not subjected to tax are excluded
from taxable incomes. Similarly, expenses should be classified as either allowed or disallowed and adjusted
accordingly as follows;
Sample Taxable income Computation
Particulars of transactions during the year
Net profit per accounts/ ledger for a source
ADD:
Non- allowable expenses
Expenses relating to exempt incomes
LESS:
Other deductible expenses for the source
Non-taxable income/exempt incomes
Capital allowances
Profit/Loss for the year of income
Kshs.
xx
xx
Xx
Xx
Xx
Kshs.
xx
xx
xx
xx
Taxation of Business Income
Allowable expenses
Subject to certain restrictions, all expenditure which is wholly and exclusively incurred in the production of that
income shall be deducted in arriving at the taxable income including capital and investment allowances. Besides the
normal revenue expenses, the following expenses have been specifically allowed against business profits:
















Specific bad debts written off but subject to meeting some set criteria;
Provision for bad debts but subject to some set criteria;
Capital allowances (as investment incentives);
Pre-operating expenses;
Legal fees incurred on leases for premises used for business;
Capital expenditure on farmlands;
Structural alterations to premises incurred by the landlord where such expenditure is necessary to maintain the
existing rent;
Expenditure on scientific research;
Interest paid to generate investment income;
Sums contributed national retirement benefit schemes;
Expenditure, which the commissioner considers just and reasonable, incurred on advertising and promoting
goods and services provided by that business;
Operating and finance lease payments paid by the lessee under a lease contract where the title of the asset
leased always remains with the lessor;
Donations made subject to certain conditions; and
Realised foreign exchange gains or losses.
Effective 01July 2016 expenditure incurred to sponsor sports, with prior approval of the sports cabinet
secretary, is allowable
Effective
3rd April
2017
Expenditure
incurred
in
that
year
of
income
on
donations to the Kenya Red Cross, county governments or any other institution responsible for
the management of national disasters to alleviate the effects of a national disaster declared by the
President.
The following expenses are specifically disallowed:
 Non-business and personal expenses (expenses not wholly and exclusively incurred in the production of
income);
 Expenditure or loss which is recoverable under an insurance contract;
 All donations with the exception of those specified above;
 School fees;
Page 42 of 88












All legal fees with the exception of those specified above;
Legal and other professional fees of a capital nature e.g. in relation to borrowings, stamp duty, valuation e.t.c);
General and other provisions for bad debts;
Other general provisions;
Capital expenditure, or any loss, diminution or exhaustion of capital;
Capital repairs and maintenance of buildings;
Taxes paid;
Employer pensions contributions exceeding prescribed limits;
Unrealized foreign exchange losses;
Realized foreign exchange losses arising from related party loans in case of thinly capitalized companies.
Interest expenses for thinly capitalized companies;
Depreciation and amortisation.
Expenses allowed against Taxable Corporate Income
Section 15(1) of the Income Tax Act generally allows expenditure which is wholly and exclusively incurred in the
production of taxable income. They include:
-
Legal expenses and stamp duties on acquiring a lease on premises not exceeding 99 years.
-
Legal and other costs in publicly issuing shares and debentures.
-
Capital allowances for instance Wear & Tear allowances.
-
Expenses incurred prior to the commencement of business that would have been deductible if incurred after
the date of commencement.
-
Expenditure on agricultural land clearance and planting of semi/permanent crops.
-
Cost of structural alterations to premises, incurred by a landlord to maintain the rent (Non-capital).
-
Expenses incurred by a lessee, in leasing transactions.
-
Interest paid on borrowings made to generate investment income (but restricted to the amount of investment
income earned).
-
Expenditure on scientific research approved by CDT for that purpose e.g. AMREF, KEMRI, and KARI etc.
-
Donations to approved charitable organizations.
-
Bad debts written off which satisfy the following Commissioner’s guidelines: The debt was wholly and
exclusively incurred in the normal course of business;

The debt is not of a capital nature; and

The debt has become uncollectable
-
Increase in the specific provision for doubtful debts
-
Commercial expenses of a business or profession e.g. wages, rent, transport, salary, water, advertising etc.
-
Any capital expenditure incurred by the owner or occupier of the farm for the prevention of soil erosion in a
farm land. For example, on construction of dams, terraces, wind breaks etc.
-
The diminution or decrease in value of implements, utensils or similar articles e.g. loose tools in workshop or
factory; crockery, cutlery, kitchen utensils in hotels or restaurants; jembes, pangas etc. in a farm.
-
The entrance fees or annual subscription paid to a trade association e.g. Kenya National Chamber of
Commerce and Industry or Kenya Association of Manufacturers.
-
Club subscription paid by an employer on behalf of an employee;
Page 43 of 88
-
Any sum contributed in that year of income by an employer to NHIF or NSSF for employees throughout
Kenya by the provisions of any written law.
-
Mortgage interest to the maximum of Shs 150, 000 w.e.f. from 1 st Jan 2006. This is the interest on loan
obtained for purchase or improvement of a residential house. For the interest to be allowed the loan must be
obtained from any of the following institutions:
-

Banks and financial institutions licensed under the Banking Act;

Insurance companies licensed under the Insurance Companies Act;

Building society licensed under the Building Societies Act;

National Housing Corporation established by the Housing g Act
The amount of loss brought forward from previous year(s) of income. The losses should be on the basis of
specified sources.
-
The amount of trading loss for a business operating as a going concern.
-
The amount of balancing deduction during cessation of a business.
-
The amount of interest on money borrowed and used in the production of income e.g. interest on loan,
overdraft, debentures etc.
-
The amount of realized foreign exchange loss (capital or revenue) with effect 1.1.'89. If the foreign exchange
loss is not realized or incurred, it is not allowed against taxable income.
-
Cost of provision of meals to employees.
Expenses not allowed against Taxable Business Income
These are those expenses incurred not wholly and exclusively incurred in the production of income. They should be
added back to the net taxable income in a given year of income. They include;
-
Expenses which are not commercial expenses of a business e.g. notional rent, salary to self. etc.
The amount of capital expenditure, loss, diminution or exhaustion of capital e.g. depreciation, amortization,
write-off of all assets, loss on sale of asset etc. These are disallowed unless specifically allowed in the Income
Tax Act.
The amount of personal expenditure incurred by any individual in the maintenance of himself, his family, or for
domestic purpose.
The amount of expenditure or loss recoverable under insurance contract or indemnity.
The amount of income tax paid, or any tax on income.
The amount of premium paid under an annuity contract, which is, paid to an insurance company for the
purpose of receiving annuities (regular amounts annually) in future.
The amount of expenditure in the production of income by a non-resident person with no permanent
establishment in Kenya.
The amount of loss from hobby business.
The amount of reserves and provisions for instance increase in general provisions of doubtful debts.
Expenses of non-resident persons relating to certain types of income interest, management fees, royalties etc.
Pension contributions to unregistered pension schemes
Page 44 of 88
Examples on Taxation of Companies
Example 1
The management of Mali Ltd presented the following financial statement of performance of the company for the year of
income 2011.
Mali Limited
Income Statement for the year ended 31 December 2011
Sh.
Gross Profit
Other Incomes:
Dividend from a subsidiary Company
200,000
Interest from foreign bank accounts
4,000
Discount received
28,000
Refund of VAT
12,000
Gain on sale of motor vehicle
14,000
Expenditure:
Salaries and wages
NHIF contributions
Subscriptions to a trade association
Hire purchase interest
Bad debts written off
General expenses
Depreciation
Legal expenses
Insurance premiums
Rent
Electricity
Purchase of furniture
Net profit
800,000
30,000
50,000
15,000
60,000
80,000
25,000
40,000
124,000
66,000
34,000
26,000
Sh.
5,292,000
258,000
5,550,000
(1,350,000)
4,200,000
Additional Information
1. Capital allowances were agreed with the Revenue Authority at Sh. 75,000.
2. Included in bad debts is a loan of Sh.15, 000 due from a former employee of the company who was dismissed
in October 2011.
3. Legal expenses include sh.20, 000 incurred in defending a manager against a traffic offence.
4. Insurance premiums include Sh.24, 000 paid to the National Hospital Insurance Fund (NHIF) as penalty for
late submission of contributions.
5. The company paid stamp duty of Sh.6, 000 relating to a piece of land purchased in August 2011. This payment
is included in the rent expenses for the year ended 31 December 2011.
Required:
(i)
Compute the adjusted taxable profit or loss of Mali Limited for the year ended 31 December 2011.
(ii)
Calculate the tax liability (if any) of the company for the year ended 31 December 2011.
Solution:
MALI LTD ADJUSTED TAXABLE INCOME
FOR YEAR OF INCOME 2011
Shs “000”
Reported net profit
Add back: disallowed expenses
Bad debts – employee loan
15
Legal expenses – manager
20
Insurance premium – penalty
24
Rent expenses – stamp duty
6
Depreciation
25
Purchase of furniture
26
Less:
Capital allowances
(75)
Dividend and interest
(200 + 4)
(204)
Page 45 of 88
shs “000”
4,200
116
VAT refund
Gain on sale of M. Vehicle
Adjusted taxable income
(12)
(14)
(305)
4,011
Tax payable = 30% x 4,011,000 = 1,203,300
Example 2
The management of Mapato Ltd. presented the following income statement of the company for the year ended 31
December 2007:
Mapato Ltd
Income Statement for the year ended 31 December 2007
Note
Sh.
Gross Profit
1,864,000
Investment income
(1)
284,636
Profit on sale of shares
216,324
2,364,960
Directors remuneration
(2)
1,020,000
Interest
(3)
273,000
Audit fees and expenses
(4)
216,000
Bad debts
(5)
158,400
Depreciation
344,760
Miscellaneous expenses
(6)
133,600
2,146,360
Net profit
218,600
Additional information:
1. Investment income:
Sh.
Dividends from shares in Ushindi Commercial Bank Ltd
72,000
Interest on fixed deposit account
58,760
Interest on Treasury bills
93,876
Dividends from a subsidiary company
60,000
284,636
2. Directors remuneration:
Sh.
Directors fees
240,000
Travelling expenses – directors
400,000
Payment to directors pension scheme
160,000
Compensation to a former director for wrongful termination contract
220,000
1,020,000
3.
Interest expenses
Interest on bank overdraft
Interest on loan from a foreign bank
Interest on loan to purchase investment shares
4.
Audit fees and expenses:
Audit fees
Tax appeal against assessment
Book-keeping fees
Audit expense paid in relation to a discontinued business line
5.
Bad debts:
Embezzlement by staff
Insurance compensation on embezzlement
Sh.
151,200
50,400
72,000
273,600
Sh.
68,000
32,000
48,000
68,000
216,000
21,600
(12,000)
Page 46 of 88
Sh.
Bad debts written off
General provision for bad debts
6.
28,800
120,000
158,400
Miscellaneous expenses:
Sh.
28,000
24,000
30,000
10,000
41,600
133,600
Acquisition of a 100 year lease on business premises
Directors Christmas party
Subscription to a trade association
A.S.K show contribution
Donation to children’s home
Required:
Determine the adjusted taxable profit or loss of Mapato Ltd. for the year ended 31 December 2007
SOLUTION:
MAPATO LTD
Sh.
Reported Net profits
Add back: disallowable expenses
Depreciation
Travelling expenses – directors
Pension scheme - (directors)
Compensation-wrongful termination
Audit fees
– tax appeal
– discontinued business
Bad debts
– general provision
100 year lease
X- Mass party
ASK show
344,760
400,000
160,000
220,000
32,000
68,000
120,000
28,000
24,000
10,000
Sh.
218, 600
1,406, 760
1,625, 360
12, 000
(284, 636)
1, 352, 724
Add: insurance compensation (embezzlement)
Less: investment income (all non-business income)
Adjusted taxable income
N/B:
i.
Embezzlement of staff of Sh. 21,600 is treated as allowable expense but compensation as taxable income. This
is the practice for strictly cash and stock embezzlement or loss.
ii.
Interest paid on borrowings made to generate investment income but not exceeding the amount of investment
income is tax allowable expense.
iii.
Donations to charitable organizations are allowable expenses.
TAXATION OF PARTNERSHIP FIRMS
Partnership is a form of a business where two or more persons come together with a view of making a profit. For tax
purposes, partnership is not included as a taxable person. Any income/ loss from partnership is assessed and taxed on
the individual partners. The gains or profits or incomes of a partner from a partnership are the aggregate of:
a.
Salaries payable to him/her in a year of income.
b.
Interest on capital receivable during the year of income.
c.
Any bonus or commission receivable in a year of income.
d.
Share of profits during the year of income based on the P&L ratio.
Before the profits are apportioned to individual partners, taxable profit should be determine by considering whether
expenses are allowable or disallowable.
The following expenses are not allowable (Disallowable):
a.
Salary to individual partners
Page 47 of 88
b.
Interest paid to partners on capital
c.
Personal expenses incurred by partners
d.
Expenses of capital nature incurred by the firm
e.
Any expenses that has been written off
f.
Deprecation
g.
Drawings by partners either in form of goods or cash.
h.
Legal fees on partnership agreements
i.
Increase in general provisions of doubtful debts
The following are items of income which are not taxable:
a.
Interest on drawings
b.
Profit on sale of fixed assets
c.
Any income which is tax exempt as the Income Tax
d.
Increase in the general provisions of doubtful debts
Determination of taxable income for a partnership firm
Income Tax Computation of a Partnership
Net profit as per A/C
Add back: Disallowable
Less: Non-taxable income
Capital deductions allowed
Adjusted partnership profits/loss for tax
Shs
XXX
XXX
(XX X)
(XXX)
XXX
Shs
Income Allocation to Partners
Salary
Interest on capital
Interest on drawings
Share of profit or loss
AMOUNT TO BE CHARGED TO TAX
Partner A
SHS
XX
XX
(XX)
XX
XX
Partner B
SHS
XX
XX
(XX)
XX
XX
Partner C
SHS
XX
XX
(XX)
XX
XX
Example 1
A, B and C are in partnership business trading as X enterprises ltd. They share profits and losses in the ratio of 2:2:1. In
the year 2007, they reported a loss of Sh. 200,000 after charging the following items.
Depreciation
Salaries:
Interest on capital
Commission
Stationery
Office expenses
Required:
A
B
C
A
C
B
Sh.
100,000
400,000
300,000
200,000
100,000
100,000
200,000
50,000
100,000
Calculate the adjusted partnership profit/ (loss) and its distribution among the partners.
Page 48 of 88
Solution
X enterprises
Computation of adjusted Partnership Income
Loss as per account
Add back:
Depreciation
Salaries A
400,000
B
300,000
C
200,000
Interest on Capital
A
C
100,000
Commission
B
Shs.
Shs.
(200,000)
100,000
100,000
200,000
1,400,000
Partnership income
1,200,000
Distribution of Adjusted Profit or loss to Partners:
A
B
C
TOTAL
Salary
400, 000
300, 000
200, 000
900, 000
Interest on capital
100, 000
100, 000
200, 000
Commission
200, 000
200, 000
Share of loss
(40, 000)
(40, 000)
(20, 000)
(100, 000)
Total taxable income
460, 000
460, 000
280, 000
1, 200, 000
Therefore taxable income will be assessed on each individual partner using graduated scale rates of tax.
Example 2
Ali and Salama are in partnership trading as Alisa enterprises and sharing profits and losses in the ratio of 3:2
respectively. They have presented the following profit and loss account for the year ended 31 December 2007:
Income:
Sales revenue
Proceeds from sale of fixed assets
Refund of VAT
Interest on post Bank savings account
Dividend (net)
Total income
Expenditure:
Cost of sales
National Hospital Insurance Fund (NHIF) contributions
National Social Security Fund (NSSF) contributions
Lorry maintenance expenses
Salaries to partners
Household expenses-Ali
Repairs and maintenance- buildings
Advertising
Insurance premiums
Interest on loan
Subscriptions to trade associations
Donations - none approved charitable organization
Legal expenses
Income tax
General expenses
Bad debts
Water and electricity
Depreciation
Net profit
Page 49 of 88
shs
1, 591, 500
108, 750
170, 000
1, 005, 750
800, 000
96, 250
75, 000
156, 750
125, 000
200, 000
40,000
20,000
98,000
240,000
86,650
61,750
81,000
19,500
Shs
6,882,000
190,000
41,250
8,750
42,800
7,164,800
4,975,900
2,188,900
Additional information:
1. Included in sales revenue were goods valued at Sh. 150,000 consumed by the partners. These goods had cost
Sh. 80,000 which was included in cost of sales.
2. Insurance premiums include Sh. 70,000 incurred on the life insurance policy of Salama.
3. Bad debts comprise:
Sh.
Increase in general provisions
20,000
Increase in specific provisions
41,750
61,750
4. Interest on loan and legal expenses relate to a mortgage acquired by Ali for purchase of his house.
5. Salaries to partners comprise
6. NSSF and NHIF contributions relate to the employees of the firm.
Required:
i.
The adjusted partnership profit or loss for the year ended 31 December 2007.
ii.
An allocation of the adjusted profit or loss between the partners.
Solution
Alisa Enterprise
2007 Computation of adjusted profit (loss)
Sh
Reported profit
Add:
Goods consumed at cost
Insurance
Bad-debts-Increase in gen-provisions
Interest on loan
Legal expenses
NHIF
NSSF
Salaries to partners
Household expenses-Ali
Donations
Income tax
Depreciation
Deduct:
Goods consumed at selling price
Proceeds from sale of fixed assets
Refund of VAT
Interest on Post Bank savings A/C
Dividend
Adjusted partnership profit
Partner’s allocation
Salaries
Share of profit
Ali
500, 000
1,727, 106
2,227,106
Sh.
2,188,900
80,000
70,000
20,000
200,000
98,000
108,750
170,000
800,000
96,250
20,000
240,000
19,500
1,922,500
(150,000)
(190,000)
(41,250)
(8,750)
(42,800)
Salama
300, 000
1, 151, 440
1,451,440
(432,800)
3,678,600
Total
800, 000
2,878,600
3,678,600
Example 3
A, K and M are in a partnership of selling imported clothes, handbags and shoes. They have provided the following
information for the year of income 2011.
Sh.
Net loss after deducting the following:
(1,080,000)
Rent
180,000
Legal costs
75,000
Salaries and wages
300,000
Page 50 of 88
Donations: Turkana Food Relief Fund
50,000
Electricity and water
35,000
Repairs to business premises
65,000
Stationery
12,000
Vehicle expenses
90,000
Audit and accountancy
24,000
Advertising
65,000
Depreciation:
Car
10,000
Building
33,000
Salaries:
K
240,000
M
240,000
A
360,000
Interest on capital:
K
80,000
M
80,000
A
120,000
Bad debts
40,000
Loss on sale of shares
8,000
Political party membership: K
6,000
Withdrawals by M
5,000
Dresses taken by A for her own use
12,000
School fees paid for A’s children
55,000
Additional Information:
1. Wear and tear deductions were estimated at Sh.16,000
2. Fifty per cent of vehicle expenses were for personal use.
3. Salaries and wages include Sh.30, 000 paid to A’s daughter for assisting in the business during the school
holidays.
4. Rent analysis:
Payment for Partners residence
Sh. 80, 000
Business
Sh.100, 000
5. Legal costs included a payment of Sh.15, 000 paid to an arbitrator to settle a personal dispute between K and
M.
6. Bad debts analysis:
Sh.
General provision
10,000
Specific provision
12,000
Written- off
8,000
A’s son (defaulter)
10,000
40,000
7. Advertising:
Sh.
Advertising campaign
28,000
Cost of new sign board
5,000
Sale of clothes
9,000
A’s birthday expenses
23,000
65,000
8.
Other incomes (included in trading profit)
Dividends from shares KCB Ltd.,
Rental income: Sub-letting business premises
Gain on sale of furniture
Sh.
19,000
22,000
13,000
54,000
Required:
(a) Taxable income(loss) for the partnership business and distribution among the partners for 2011 if they share
profits and losses in the ratio 2:1:1
(b) Determine the taxable income of each partner.
Page 51 of 88
Solution
A, K & M Partnership
Taxable Income (LOSS) for the Year 2011
Sh.’000’
Net Loss reported
Add disallowable expenses:
Legal costs- personal dispute resolution
Salaries and wages – A’s daughter
Donations – Turkana Food Relief fund
Motor vehicle expenses- personal use
Advertising
New sign board
A’s birthday expenses
Depreciation – car & building
Salaries:
K
M
A
Interest on capital:
K
M
A
Bad debts:
General provision
A’s son (defaulter)
Loss on sale of shares
Political membership - K
Withdrawals by M
Dresses taken by A for her own use
School fees paid for A’s children.
80
15
30
50
45
5
23
43
240
240
360
80
80
120
10
10
8
6
5
12
55
Deduct non-taxable income and income taxed separately:
Dividends from KCB shares
Rental income
Gain on sale of furniture
Deduct allowable expenses:
Wear and tear deductions
Adjusted partnership profit
(b) Taxable Income of each Partner
1,517
437
19
22
13
(54)
(16)
367
(a) Distribution among Partners
A
Salaries
240,000
Interest on capital
80,000
Share of loss
(376,500)
Partnership Profit/loss
56,500
Partnership profit (loss)
Add rental income
Taxable income
Sh.’000’
(1,080)
K
240,000
80,000
(188,250)
131,730
A
56,500
11,000
11,000
K
131,750
5,500
137,250
Page 52 of 88
M
360,000
120,000
(188,250)
291,750
M
291,700
5,500
297,250
Total
840,000
280,000
(753,000)
367,000
CAPITAL ALLOWANCES
These are tax incentives offered for capital expenditures to investors or businesses. They are tax allowable and that a
company will not be taxed on them. These allowances are also referred to as deductions under the Second Schedule to the
Income Tax Act. They include;
a.
Investment deductions (ID)
b.
Industrial building deductions (IBD)
c.
Wear and Tear deductions
d.
Farm works deductions
1.
-
INVESTMENT DEDUCTIONS
This is an allowance granted to an investor who incurs capital expenditure on industrial building and machinery
used for manufacturing as an incentive to encourage investments mainly in the manufacturing sector. Therefore, these
allowances are granted in order to encourage:
-

Development of industries in normal manufacture, tourism and shipping.

Exportation to earn more foreign exchange.

Foreign investors to invest in Kenya.

To encourage development of industries outside the main urban centers of Nairobi and Mombasa.
Currently, an investor can claim as much as 100% capital allowance with respect to investment deduction. For
capital expenditures intended for manufacturing purposes exceeding sh.200 million set up outside Nairobi, Kisumu
or Mombasa, an investor can claim 150% allowance.
-
The following are different types of investment deduction
a.

Normal investment deduction for ordinary manufacture

Investment deduction bonded manufacture

Shipping investment deduction

Investment deduction in respect of hotel building certified by the commissioner of income tax
INVESTMENT DEDUCTION FROM NORMAL MANUFACTURE
This a type of investment granted to any person who incurs capital expenditure on:

Construction of an industrial building which is used by him or his lessee, an installation therein of new
machinery for manufacture.

Purchase of new machinery which is installed in a building not previously used for manufacture and such
machinery is not installed as a replacement of machinery previously in use in the business.

Construction of building used by the owner or lessee for manufacture purposes

Purchase of and installation of machinery into or setting up the machinery for use as may be appropriate to
be used for manufacture.

Construction of a Hotel building certified as an industrial building by the commissioner. Claims made by
hotels relate to building cost only and not items generally considered machinery.

Specified civil works are eligible for the allowance:
Page 53 of 88

-
roads and parking areas
-
railway lines and related structures
-
water, industrial effluent and sewerage works
-
communications and electrical posts and pylons and other electrical supply works
-
security walls and fencing
Workshop machinery for the maintenance of machinery used for manufacturing.
-
In case a building is converted into a factory and new machinery installed for manufacture then
both machinery and building qualify for the allowance. Note that in the case of the building
only conversion cost qualifies:
-
It is possible to construct an industrial building and do part installation of machinery.
Machinery would qualify for ID in respective years of the part installation.
-
Power generation equipment also qualifies for investment deduction with effect from 1 st July
2000
b. INVESTMENT DEDUCTION BONDED MANUFACTURE (IDBM)
-
This is an investment deduction in respect of building and machinery used for manufacture under bond, that is,
goods manufactured for export only with effect from 1st January 1989. If IDBM is granted and the
manufacturing under bond ceases before 3 years are over, the IDBM is withdrawn and the difference between
the IDBM claimed and the capital deductions which would have been claimed (IDB & W.T.A) is added back in
the total taxable income computation and treated as a trading receipt.
-
For the EPZ enterprises IDBM will be available only within the first twenty years of manufacture.
-
To qualify for investment deduction bonded manufacturers:

A license must be secured from customs and excise to manufacture under bond.

Expenditure must be incurred on building and machinery for manufacture under bond.

Manufacture must be for export only and not for the local market.

Manufacture must proceed for at least three years otherwise the allowance shall be withdrawn.
c.
SHIPPING INVESTMENT DEDUCTION
-
The shipping investment deduction is given where a resident ship-owner incurs capital expenditure:

On the purchase of new, power-driven ship of more than 495 tons tare weight; or

On the purchase and subsequent refitting for the purpose of shipping business of a used power-driven
ship of more than 495 tons tare weight.
-
The rate of shipping investment deduction is 40% of qualifying cost. The deduction is made in computing the
taxable income/loss of a person for the year of income in which the ship is first used for business.
-
w.e.f. from 1st Jan 87, the wear and tear deduction for a ship is calculated on the qualifying amount net of
shipping investment deduction.
-
Limitations on shipping investment deduction;

A given ship can only get one shipping investment deduction in its life.
Page 54 of 88

If a ship is sold within 5 years after the year of income in which shipping investment deduction is given, the
shipping investment deduction is withdrawn and the deduction treated as income of the year of income
in which the sale takes place.
d. Investment Deduction in respect of a hotel building certified by the CDT to be an industrial building.
Costs that do not qualify for Investment Deductions
i.
Cost of land on which the building is constructed.
ii.
Stamp duty, legal costs and other incidental expenses on acquisition of land.
iii.
Cost of items or activity which are supplementary to manufacture such as design, storage, transport,
administration, security, etc.
iv.
Replacement machinery.
2.
INDUSTRIAL BUILDING DEDUCTIONS (IBD)
This is a capital deduction or allowance given in respect of capital expenditure on an industrial building as per
paragraph 1 to 6 of the Second Schedule to the Income Tax Act.
The amount of industrial building allowance is deducted in the income tax computation or in arriving at the taxable
income/loss for year or period. Its calculated based on cost, net of investment deduction on a straight line basis. The
standard rate on the qualifying cost w.e.f. 25th April, 2020 is as follows;
Capital Expenditure Incurred on:
Rate of Investment Allowance
(a) Buildings
i) Hotel Buildings
50% in the first year of use
ii) Buildings used for manufacture
50% in the first year of use
iii)Hospital buildings
50% in the first year of use
iv)Petroleum or gas storage facilities
50% in the first year of use
v) Residual value to item (a)(i) to a(iv)
25% per year, on reducing balance
vi)Educational buildings including student hostels
10% per year, on reducing balance
vii) Commercial building (shops, offices and showrooms)
10% per year, on reducing balance
(b)Machinery
i) Machinery used for manufacture
50% in the first year of use
ii) Hospital equipment
50% in the first year of use
iii) Ships or aircrafts
50% in the first year of use
iv)Residual value items (b)(i) to (b)(iii)
25% in the first year of use
v) Motor Vehicle and heavy earth moving equipment
25% in the first year of use
vi) Computer and peripheral computer hardware and
software calculators, copiers and duplicating machines
25% in the first year of use
vii)Furniture and fittings
10% per year, reducing balance
viii)Telecommunications Equipment
10% per year, reducing balance
ix) Filming equipment by a local film producer licensed by the
Cabinet Secretary responsible for filming
25% per year on reducing balance
Page 55 of 88
x) Machinery used to undertake operations under a
prospecting right
50% in the first year of use and 25% per year,
on reducing balance
xi)Machinery used to undertake exploration operations under
a mining right
50% in the first year of use and 25% per year
on reducing balance
xii) Other machinery
10% per year, reducing balance
(c) Purchase or an acquisition of an indefeasible right to use
fibre optic cable by a telecommunication operator
10% per year, on reducing balance
(d) Farm works
50% in the first year of use and 25% per year,
on reducing balance
For tax purposes, an industrial building means a building in use:

For a business carried on in a mill, factory or other similar premises e.g. bakery, saw mill, soap factory,
Posho mill, etc.

For a commercial undertaking of transport, dock, bridge, tunnel, inland navigation, water, electricity,
or hydraulic power e.g. old Nyali Bridge, old Karen water supply, repair dock in Mombasa, Kenya Bus
Depot at Eastleigh etc.

For a business of manufacture of goods or materials, or the subjection of goods or materials to any
process e.g. East African Industries, Kenya Breweries, BAT Kenya Ltd etc.

For a business which consists in the storage of goods or materials which are raw materials for
manufacture of other goods or materials, finished goods, or on their arrival by sea or air into any part
of Kenya.

For agricultural services e.g. ploughing, cultivation, threshing of crops etc. on agricultural land but not
owned by the farmer. This is normally buildings used by agricultural contractors.

For a business declared by the Cabinet Secretary for Finance by a notice in the Gazette as qualifying
for industrial building deduction;
o
A prescribed dwelling-house e.g. dwelling-house constructed for and occupied by employees e.g.
Tusker Village for Kenya Breweries employees.
o
A hotel building or part of a hotel building which the CDT has certified to be an industrial
building, including any building directly related to the operations of the hotel such as kitchens,
staff quarters and entertainment and sporting facilities.
o
A building used for the welfare of workers employed in any business or undertaking referred to in
(a) above e.g. canteen, sports-house etc.
o
civil works or structures on the premises of the building deemed to be part of the building where
they relate or contribute to the use of the building;

Roads and parking areas;

Railway lines and related structures;

Communications and electrical posts and pylons and other electricity supply works;

Water, industrial effluent and sewage works; and

Security walls and fencing
Page 56 of 88
Costs do not qualify for industrial building deduction:
i.
The cost of acquisition of land on which the industrial building is constructed, and other incidental costs on
acquisition such as stamp duty and legal fees.
ii.
The costs of items treated as machinery for wear and tear e.g. partitioning, shelves, counters etc.
Points to note when computing for an Industrial Building Deduction (IBD)
i.
Where an industrial building is used for part of the year, the annual IBD is proportionately reduced to the
period of the year that the building is used.
ii.
Where an industrial building in use is sold and continues to be an industrial building used by the
purchaser or his lessee, the industrial building deduction continues to be given to purchaser as before and
the purchase price is not considered for any capital deduction.
iii.
Where capital expenditure is incurred on the construction of an industrial building and the industrial
building is sold before it is used, then the qualifying cost is the lower of construction cost and the
purchase price paid.
iv.
If the building is sold more than once before being used as an industrial building, the last purchase price is
compared with the construction cost e.g. A → sells to B → C → D, and D uses the building as an
industrial building. The cost qualifying for industrial building deduction is the lower of construction cost
to (A) and the price paid by (D).
v.
Where the cost of constructing an industrial building is incurred by a person carrying on the business of
constructing buildings with a view to selling them (a builder) and he sells the industrial building before use,
then the capital expenditure which qualifies for IBD is equal to the price paid for such a sale. The
construction cost is ignored in this case.
vi.
Where a building is not used as an industrial building for a period, a notional industrial building deduction
is calculated for the purpose of determining the residue of expenditure to be carried forward.
3.
-
WEAR AND TEAR ALLOWANCES
This is a capital deduction on machinery used for business. The deduction is made against taxable income in
a given year of income.
-
Income Tax Act recognizes the loss of value of assets used in business through usage, passage of time or
obsolescence and thus grants the wear & tear allowance.
-
For tax purposes, wear & tear allowance is calculated on cost, net of investment deduction on reducing balance
method. Therefore, machinery qualifies for wear and tear deduction where it is owned by a person, and used by
the person for business anytime during the year of income.
-
For tax purposes, assets are classified into the following classes, allowances granted at different rates during the
year of income;
a) Class 1 (37.5%) – This is a class of heavy self-propelling machines or assets such as tractors,
lorries of more than 3 tonnes, Combine Harvesters, fork lifts, mounted cranes, tippers, buses,
loaders, graders, bulldozers, etc.
b) Class 11 (30%) – This is a class for office equipment e.g. computers, printers electronic
calculators, adding machines, photocopiers, and duplicating machines.
c) Class III (25%) - This is a class for other self-propelling vehicles including aircrafts, examples
Page 57 of 88
include pick-ups motor cars, aircraft, motor cycles, lorries of less than 3 tons load capacity, vans.
d) Class IV (12.5%) - This is a class for other machinery not included in the other classes e.g.
factory plant and machinery, fixtures and fittings, bicycles, partitions (temporary or movable), shop
counters and shelves, safes, typewriters, sign boards, fridges, freezers, advertisement stands
(billboards), wheelbarrows, surveillance cameras, ships, petroleum pipeline and other equipment
etc.
e) Telecommunication equipment used by a telecom operator on straight line basis- (20%).
f)
Computer software on straight line basis at 20%.
g) Indefeasible right to use fibre optic cable on straight line is at 5%.
-
Format of computing wear and tear allowance
WEAR AND TEAR SCHEDULE
XZY Limited
For the year ended 31st December 2016
I (37.5%)
II (30%) III (25%)
IV (12.5%)
Sh.
Sh.
Sh.
Sh.
Written down value start 1.1.08
XX
XX
XX
XX
Additions:
Cost of new machinery bought in the year - QC
XX
XX
XX
XX
Disposal (amounts realized on disposal)
(XX)
(XX)
(XX)
(XX)
Value for WTA
XX
XX
XX
XX
W.T.A.
(XX)
(XX)
(XX)
(XX)
Written down value at the end
XX
XX
XX
XX
Less:
Points to consider when computing for Wear and Tear:

Written Down Value (WDV) - The WDV at the close of the accounting year/period is the opening WDV for
the following accounting year/period.

Addition for Wear and Tear:
The cost of assets which qualify for wear and tear additions are:

The historical cost of qualifying assets whether new or old and whether made in the business or
purchased.

The expenses after purchase and before machinery is used e.g. customs duty, transport, installation
expenses including alterations to buildings incidental to installation like widening room or building a
stand for machinery.

The trade-in and part exchange values plus the cash paid in purchasing the asset. In other words, the
full value of an asset acquired is taken as an addition for the respective class of wear and tear as in the
case of the safe in the above example.

In hire purchase, the cash price is taken as the value of addition. The hire purchase interest is charged
in the profit and loss account and is allowed for tax.
Page 58 of 88

For assets brought into the business without being purchased, the most likely open market price of
such assets is taken as the value for addition. The Commissioner of Domestic Taxes has normally
accepted taxpayers' own valuation of assets brought into the business unless such values are
unreasonable.

The non-commercial vehicles in Class III are restricted as additions in wear and tear computation
where the cost of any such vehicle exceeds the restriction level as follows:
To Sh 1,000,000 with effect from 1.1.1998 – 31/12/2005
To Sh. 2,000,000 to date with effect from 1/1/2006

With effect from 1.1.'87, where machinery for wear and tear also qualifies for investment deduction,
the addition for wear and tear is taken to be the cost net of investment deduction. The investment
deduction is explained later in the lesson.

Disposal for Wear and Tear.
Some details of sale proceeds which qualify as the qualifying cost for wear and tear:

The amount of cash proceeds or cash equivalent on sale of wear and tear machinery is taken as the
sale amount for wear and tear.

The amount of sale proceeds for non-commercial vehicles which has been restricted as addition is
also restricted on sales as follows:
Sales Proceeds X restricted cost in the year of purchase.
Cost

The trade-in amount or part-exchange value is taken as sale proceeds for wear and tear.

The amount of insurance claim received for wear and tear machinery lost in theft, fire or accident is
taken as sale proceeds for wear and tear.

In a continuing business:

If the amount of sale proceeds in any class of wear and tear is more than the written down
value, there is a trading receipt. The amount of trading receipt is taxable income and is added
back in the tax computation. It is in a way, wear and tear over-provided.

If all the items in a class of wear and tear are sold, and the amount of sale is less than the
written down value, there is a trading loss. The amount of trading loss is allowable against
income and is deducted in the income tax computation. It is Wear and Tear Deduction
under-provided.

In case of business which has ceased to operate:

If the amount of sale proceeds is more than the balance (WDV) in any class of wear and
tear, the excess is called balancing charge. The balancing charge is taxable income and is
added back in the income tax computation. It is wear and tear deduction over-provided.

If all the items in a class of wear and tear are sold for less than the written down value the
difference is a balancing deduction. The amount of balancing deduction is allowable against
income.
Page 59 of 88

Where the balancing deduction cannot be absorbed by the income of the year in which it arises, the
Income Tax Act provides for it to be spread in the preceding years to the maximum of six years.
4.
-
FARM WORKS DEDUCTION
This is a capital deduction granted only in respect of capital expenditure on agricultural land as per paragraph
22 and 23 of the Second Schedule to the Income Tax Act.
-
It is also granted on structures excluding machinery necessary for proper operation of a farm. Only farmers can
claim for this allowance.
-
The standard rate claimable by a farmer is 50% in the first year of use and 25% per year, on reducing balance
w.e.f. 1st Jan, 2021.
-
Agricultural Land means land occupied wholly or mainly for the purpose of trade in farming e.g. crop
farming—tea, coffee, horticulture, pyrethrum, maize, wheat, sugar cane etc. or animal farming—dairy cattle,
ranching, pigs, chicken, fish, snakes for serum etc.
-
Farm works means farmhouses, labour quarters, any other immovable building necessary for the proper
operation of the farm, fence, dips, drains, water and electricity supply works other than machinery and other
works necessary for the proper operation of the farm such as fish pond, coffee factory, horse stable, cow shed,
drains, windbreak, roads, stores, irrigation network etc.
Points to remember when computing for capital allowance for a farmer:

Full farm works deduction is given for items constructed during any accounting year without
limitation if the farming business was carried on for a full year.

A farmer taking over a farm will take over the proportion of the farm works deduction not yet
claimed up to date of purchase. Any apportionment of the unclaimed farm works deduction would be
done on the basis of period of ownership.

A farmer can also claim other capital deductions where applicable e.g. wear and tear deduction.
5.
-
-
-
MINING ALLOWANCES
This refers to capital allowances granted to a person carrying on the business of mining. The following costs
are qualifying costs for mining allowances;
i.
Cost of exploring and prospecting for minerals.
ii.
Cost of acquiring rights over the mine and minerals but does not include cost of land/site.
iii.
Cost of buildings and machinery (mining equipment’s) which will have little or no value if
mining ceased.
iv.
Cost of development and general administration and management incurred prior to
commencement of production or during a period of non-production (temporary stoppage).
Mining operation is usually expected to last for 7 years. The deductions are granted as follows:
Year
Rate (%)
1
40%
2
10%
3
10%
4
10%
5
10%
6
10%
7
10%
Corporation tax rate for mining concerns is 27.5% for the first 4 years and thereafter the normal rate of 30%
Page 60 of 88
EXAMPLES ON CAPITAL ALLOWANCES
Example 1
Mr Njoroge enterprises manufactures animal feeds in Kiambu with effect from 1st Jan, 2019. He constructed the
factory building at a cost of Kshs 900,000 and installed machinery costing Kshs 600,000. In the factory, Mr Njoroge also
had showrooms at Kshs 150, 000, and retail shop at Kshs 180,000 which were put into use in March 2019. He reported
a profit of Kshs 3,500,000 during the year ended 31 December.
Required: Calculate the investment deduction for year 2019.
Example 2
Molo Co. Ltd., a company dealing in hardware, prepares its accounts to 30 June each year. The following information
relates to the year ended 30 June 2018.
i.
Written down value of assets brought forward for Income Tax purpose:
Class I
Class III
Class IV
37½%
25%
12½%
Sh
WDV 30.6.2017 200,000
ii.
Disposals during the year:
205,000
Cost
Sh
Isuzu Lorry
305,000
Saloon car (purchased in 1.3.2017) 2,185,000
iii.
Additions during the year
iv.
Sh
Sh
Net Book
Value
Sh
200,000
1,040,000
825,000
Sales
proceeds
Sh
310,000
112,000
Sh
Mercedes Benz sports car for director
4,025,000
Second-hand Tractor
105,000
Trailer occasionally used by tractor
105,000
Shop fittings
85,000
Computer bought 1.3.2018
275,000
Telephone system bought 1.9.2017
97,000
The office safe which cost Sh 55, 000, in 2012 was traded-in for a more modern safe costing Kshs 65, 000.
The old safe was valued at Kshs 45,000 and the company paid the balance of Kshs, 20,000 to acquire the
new safe. The net book value of the old safe was Kshs 47,968 at 30.6.2018.
Required: Calculate the wear and tear deductions due to the company for the year 2018.
Example 3
Mali Ltd. is a manufacturing company operating in Nairobi industrial area. The following information was
obtained from the books of the company for the year ended 31st Dec, 2020;
i.
The reported profits for the year before capital allowances amounted to Kshs 4,500,000.
ii.
The written down values of assets for capital allowance purposes as at 1st Jan, 2020 were as follows;
Kshs
Computers
590, 000
Plant and Machinery
3, 840, 000
Tractors
1,140, 000
Furniture and Fittings
320, 000
Motor vehicles
940, 000
iii.
The building was constructed on 1st January 2015 and put into used on 1st Jan, 2016. It had a written down
value of Kshs. 1, 865, 000.
iv.
The following assets were constructed and acquired during the year;
Kshs
Warehouse
984, 000
Security wall
360, 000
Showroom
548, 000
Computer and peripherals
296, 000
Page 61 of 88
Motor vehicles
2, 200, 000
Lorry (above 3 tonnes)
1, 490, 000
Office cabinets
284, 000
Conveyor belts
380, 000
Processing machine
880, 000
v.
During the year, a motor vehicle (saloon) which was purchased in 2017 for shs. 800, 000 was disposed of
for Kshs. 440, 000.
vi.
The company demolished a factory extension in July 2020 at a cost of Kshs 380, 000 in order to conform
to industry safety standards.
vii.
The company sunk a water borehole at a cost of Kshs. 760,000 which was put into use on 1 September
2020
Required:
i.
Capital allowances due to the company for the year of income ended 31st Dec, 2020.
ii.
Adjusted taxable profit or loss for the year of income ended 31st Dec, 2020.
Examples 4
Maji Matamu Ltd produces water tanks from recycled plastic containers. The company started operations on 1st July,
2019 with the following assets:
Assets
Cost (Kshs)
Factory building
4, 400, 000
Production machinery
4, 200, 000
Drainage system
840, 000
Treatment plant
720, 000
Delivery truck
1, 560, 000
Staff canteen
960, 000
Standby generator
360, 000
Tractor
860, 000
Photocopier
300, 000
Additional information:
Prior to commencement of production, the company had received a loan of Sh12 million at an interest rate
i.
of 10% per annum from a bank to finance the acquisition of some of the assets. The loan was to be
repaid over a 5-year period.
The cost of production machinery includes:
ii.
 Plastic recycling equipment acquired on hire purchase at Sh800, 000. The cash price for the
equipment was Sh 680,000.
 Important duty of Sh 400,000 which was waived by the Minister for Finance
iii.
Factory building includes: A Godown constructed at a cost of Sh.700, 000 and which was put into use on
1 January 2020;
• Office space partitioned at a cost of Sh420, 000 and put into use on 1 August 2019.
• A showroom costing Sh640, 000 utilized from 1 January 2020.
iv.
A factory extension was constructed and utilized from 1 January 2020 at a cost of Sh 1, 600, 000. The
following assets were acquired and installed in the factory extension:
Conveyor belts
600, 000
Production machinery
180, 000
Surveillance cameras
90,000
Computer systems
300, 000
v.
The company constructed a perimeter wall at a cost of Sh150, 000 which was completed on 1 July 2020.
vi.
On 1 September 2020, the company incurred Sh200, 000 on electrical posts which were fixed within the
premises for use in power distribution.
vii.
A recreation hall was constructed for the employees and used from 1 November 2020. The cost of
construction was Kshs. 800, 000.
viii.
The company reported a loss of Kshs 2, 500, 000 for the year ended 31 December 2019 and a profit of Sh1,
800, 000 for the year ended 31 December 2020. The company has not accounted for capital allowances
or loan interest for year 2019 and 2020.
Page 62 of 88
Required:
For each of the two years ended 31 December 2019 and 2020, determine for Maji Matamu Ltd;
 Capital allowances due for the company
 Adjusted taxable income
Example 5
Mr Delamere, a farmer, incurred the following capital expenditure in his farm for the year ended 31st Dec 2020;
Kshs
Extension to labour line
50, 000
Fenced paddocks
35, 000
Extension to farm house
290,000
Electric generator
52, 000
Gabion for soil erosion
40, 000
There is a balance of unclaimed Farm Work Deduction brought forward in 2018 of Kshs. 55,000
Required: Compute the capital deductions for the year 2020.
Example 6
Madini Mining Company Ltd. has been prospecting for gold in Kakamega District since 1995. In year 2005, the
company discovered huge deposits of the mineral and commenced mining operations on 1 July 2005. The following
expenditure was incurred on 1 July 2005.
Sh.
Patent rights paid to the government
4,800,000
Payment of local council licence fees
840,000
Construction of labour quarters at site
1,200,400
Construction of godown in Kakamega town
2,680,000
Construction of godown at site
780,000
Purchase of specialised machinery for mining
1,960,000
Transportation of specialised machinery for mining to site
450,000
Purchase of a ten ton lorry
1,920,000
Purchase of tools and implements for mining
90,000
Purchase of computers
360,000
Purchase of furniture and fittings
1,400,000
Purchase of a Toyota Hilux pick-up
Additional information:
i.
The company had incurred exploration expenses amounting to Sh. 1,500,000 as on 1 July 2005.
ii.
The administration expenses incurred prior to 1 July 2003 amounted to Sh. 3,000,000
Required: Compute the capital allowances due to Madini Mining Company Ltd. For the years ended 31st December
2005, 2006 and 2007.
Page 63 of 88
ADMINISTRATION OF VALUE ADDED TAX
 VAT is tax on spending which is collected by businesses and passed on to the Government. VAT is charged on
the supply of goods or services in Kenya and on the importation of goods into Kenya.
 Before VAT may become chargeable in respect of supply of goods or services, the following requirements
must be fulfilled:
 A supply of goods or services must take place;
 The supply must be a taxable supply;
 The goods or services must be supplied by a taxable person;
 The supply must be made in the course of furtherance of business carried on by the supplier;
 The supply must be made in Kenya.
IMPORTANT TERMS IN VAT
i.
Value Added: - It is the increase in worth of a supply when it changes hands in the line of manufacture
and distribution.
ii.
Tax Invoice: - it is a document which gives the description of the goods supplied, their VAT rate, amount
of VAT and total value of goods supplied by a supplier.
iii.
Remission: - This refers to the waiver by the commissioner of domestic taxes of any tax payable by a
taxpayer.
iv.
Output Tax: - This is the VAT charged by a registered person when he makes a supply of taxable supplies
in the course of his business (sales transaction).
v.
Input Tax: - This is the VAT charged on a taxable person when he acquires taxable supplies for use in the
furtherance of his business (purchase transaction).
vi.
Taxable person: - This is a person who is liable to apply for registration under the VAT Act.
vii.
VAT payable/refundable: - It is the difference between input and output tax. If output tax is more than
the input tax the difference is the VAT payable. If input tax is higher than output tax the difference is the
VAT refundable.
viii.
Tax period: - It means one calendar month. VAT is accounted for on a monthly basis.
ix.
Taxable Supply: - Means transacting in taxable goods or services. Supply includes the following:
 The sale, supply or delivery of taxable goods to another person;
 The sale or provision of taxable services to another person.
 The appropriation by a registered person of taxable goods or services for his own use outside the
business.
 The making of a gift of any taxable goods or services;
 Letting of taxable goods on hire, leasing or other transfers;
 Provision of taxable services by a contractor to himself in constructing a building and related civil
engineering works for his own use, sale or renting to other persons.
 The receipt of a sum of money by a registered person for loss of taxable goods or services.
x.
Any other disposal of taxable goods or provision of taxable services
 Taxable goods/ services - Goods/ services on which VAT is chargeable.
 Exempt goods/ services - Goods/ services on which no VAT is chargeable.
 Zero Rated Goods/services - Goods/ services on which VAT is chargeable at 0%
REGISTRATION AND DE-REGISTRATION OF TAXABLE PERSONS
Registration for VAT
 This is the process by which traders who are eligible for registration under the VAT Act are issued with
registration certificates. It is an important process because only registered traders are allowed to charge VAT. It
is important to note that it is an offence to charge VAT if you are not registered.
Who qualifies for registration?
 Any person who in the course of his business has supplied, or expects to supply taxable goods or services or
both with a value which is Sh 5 million or more in a period of 12 months should apply for registration.
Suppliers with turnover of less than Sh 5 million in a period of 12 months are required to pay turnover tax. Y T
EXT
Types of Registrations
1. Normal Registration:
 This occurs when a trader who meets the registration requirements applies for registration and is duly
registered and issued with a registration certificate.
Page 64 of 88
2.
3.
4.
5.
Voluntary Registration:
 It occurs when a trader who is not qualified for registration applies for registration so as to enjoy the
benefits of a registered person. It is subject to the approval of the Commissioner.
Intending Trader Registration:
 It occurs when a trader who expects to deal in taxable goods and services applies for registration before he
commences trading.
Compulsory Registration:
 It occurs when a trader who qualifies to register fails to do so. In such a case, the trader once he is
identified is issued with a registration certificate without his application. Tax can also be demanded from
him on any sale made in the past.
Temporary Registration:
 This occurs when a trader who has not been registered applies to be registered so as to undertake certain
business transactions. He is issue with a temporary registration number.
DEREGISTRATION
 It is the process of removing a registered trader from the VAT register. Any trader wishing to be de-registered
for any reason may apply to the commissioner of Domestic Taxes.
 De-registration may be requested on the following grounds
- Closure of business.
- Sale/transfer of business.
- Death of a trader.
- Legal incapacitation (Bankruptcy).
- Insolvency.
- Change of business status e.g. Partnership to limited company.
- If the turnover falls below the prescribed limit.
Value of VAT (Taxable Value)
 Value for VAT or value for tax is the value on which VAT is charged i.e.
- Consideration paid or received for the goods or services by selling price or buying price.
- Where customers are granted cash discount value for tax is discounted price i.e. price after discounts
- Where customers are allowed to pay by installment, value for VAT is the total installment i.e. hire purchase
price.
- If the consideration is not money worth, value for tax is the market value i.e. fair market value
- For warehoused goods value for VAT is the value for duty plus his duty of the time of release from the
bonded warehouse.
- Value for VAT in case of imported goods is the value of duty plus the duty i.e. cost, freight, carriage
inwards, insurance.
Classification of taxable goods and services
 Supplies of goods and services made by registered persons are either;
a) Standard rated goods/services –These are goods/services charged to tax at 16%. Persons dealing
with this supply is required to register with VAT if he meets the registration criteria. Input tax suffered
is deductible against output tax.
b) Zero rated supplies – Charged for tax at 0%. They are taxable supplies. Input tax suffered on these
supplies is claimable as a refund from the commissioner of VAT. Zero rated goods as per the 8 th
schedule of the VAT act includes;
 Laboratory equipment’s
 Milk containers
 Agricultural or forestry machinery for soil preservation or cultivation.
 Parts of agricultural, horticultural and forestry machinery.
 Computer software.
 Napkins, sanitary towel, pampers etc.
 Feeding bottles for babies
 Agricultural tractor, semi-trailers for agricultural tractor and agricultural tractor tyres.
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
 Locally assembled bodies for motor vehicles of more than 25 passengers.
 Locally assembled motor boats and motor cycles.
 Wooden school rulers
 Writing and drawing charts
Public bodies, privileged persons and institutions with zero rated status include;
 Charitable institutions
 AID agencies e.g. Kenya red cross
 Disabled, blind and physically challenged persons
 Museums exhibits and equipment’s
 Sports equipment’s
 One motor cycle for motor cycle rallies
 Kenya armed forces for official use
 One motor vehicle for safari rally drivers
c) Exempt services and supplies – They are taxable supplies i.e. don’t fall under VAT provisions.
Require no registration for VAT. Input tax suffered on them is not claimable. Input tax is absorbed to
the cost of the products. Exempt services include;
 Financial services provided by postal corporation of Kenya, banks, and financial institutions
excluding the following
 Financial and management advisory services.
 Safe custody services
 Executorship and trust-ships services
 Educational and training services offered to students by institutions and establishments
registered by government.
 Medical, vetenary, dental and nursing services.
 Sanitary and pest control services especially rendered to domestic households.
 Burial and cremation services
 Social welfare services provided by charitable organizations
 Community social welfare services provided by the county governments
 Agricultural, animal husbandry and horticultural services
 Renting, hiring, leasing of land or building for residential purposes but for commercial are
vatable
Notification of Changes in Registration Details
 Under paragraph 19 of the sixth schedule to the Act, a registered person is required to notify details to the
Commissioner within fourteen days of the following changes:
 Change of address of the place of business; or
 Additional premises are, or will be used for the purpose of the business; or
 Premises used for the business cease to be used; or
 Business or trading name is changed; or
 An interest of more than thirty percent of the share capital of a limited company has been acquired by
a person or group of persons; or
 The person authorized to sign returns is changed;
 The partners in a partnership are changed;
 A change in the trade classification of the goods or services supplied.
RIGHTS AND PRIVILEGES OF A VAT REGISTERED PERSON
RIGHTS OF A REGISTERED TRADER
1. To deduct allowable input tax
2. To get refund where input tax exceeds output tax as a result of other dealing with zero-rated supplies or
making heavy capital investment.
3. To get relief for stock in trade as at the time of registration.
4. To get relief or refund on capital goods (Including buildings) acquired or put up within twelve (12) months
prior to the date of registration.
5. To get a refund of bad debts.
Page 66 of 88
6.
7.
8.
9.
10.
11.
12.
13.
14.
To defer payments of tax due to a date not later than 20th day of the month succeeding that in which tax is
charged.
To request for reconsideration of an assessment.
To appeal to the tribunal
To demand that every authorized officer identifies himself/herself.
Have free access to the Commissioner or any other authorized officer.
To expect that information obtained in the course of duty by the VAT officers shall be treated in confidence
To expect minimum interference
To be treated fairly and with equity.
To be given assistance in understanding their obligations.
OBLIGATIONS OF A TAX PAYER. (REGISTERED TRADER)
1. To apply for registration.
2. To charge VAT at the right rate on all his taxable supplies
3. to pay tax to his registered suppliers
4. To issue a tax invoice for every supply made by him.
5. To submit monthly returns to the VAT department.
6. To pay to the Commissioner any amount he may have charged on an invoice by error
7. To keep full and true records written up to date and retain for 5 years.
8. To avail records to authorize officers of the department at any reasonable time for inspection.
9. To produce for examination by the Commissioner or an authorized officer any records, books of account,
balance sheets or other documents as may be required.
10. To allow an authorized officer to enter premises upon which he carries on business:
11. To notify details to the commissioner of any changes affecting his business.
CHARGE TO TAX, DEDUCTIONS OF INPUT TAX, APPORTIONMENT OF INPUT TAX
INPUT TAX DEDUCTION
 Traders registered for VAT are entitled to claim all the VAT they incur on purchase of supplies for use in the
furtherance of their businesses. This VAT (Input Tax) is claimed by deducting it from the Output tax.
 However for Input Tax to be deducted it must fulfill the following conditions:
 It must relate to taxable supplies for use in the furtherance of business.
 The trader must be registered for VAT.

It must be claimed within 12 months from the month it is incurred.
 The Input Tax must be evidenced by a tax invoice.
 Input Tax claimed must be shown in the monthly VAT payment document (VAT return).
INPUT TAX APPROTIONEMENT
 Where a registered trader deals with all three supplies (standard rate, zero rate and exempt supplies) only the
input tax that relates to the taxable supplies can be claimed. The following formula is used to restrict the
deductible input tax;
Deductible Input Tax =
Taxable Supplies (SR + ZR) x Input Tax suffered.
Total Supplies (SR+ZR+ER)
Example
Mr. Y a registered trader incurred input tax of Sh.5000 on purchase of his stock. Out of this stock, he sold as follows:
Goods taxable at 16% worth Sh. 20,000, zero rate goods worth Sh.20, 000, and exempt goods worth Sh.10, 000. He will
claim the following Input Tax.
Deductible Input Tax = Taxable supplies x Input Tax
Total supplies
20,000 + 20,000
x 5000 = Sh 4, 000
20,000 + 20,000 + 10,000
Page 67 of 88
VAT RECORDSS 6.8 VAT RECORDS
RECORDS AND ACCOUNTS
a) Tax invoices
 Is a document providing documentary evidence of goods and services supplied and will be indispensable
to the persons acquiring goods and services when claiming relief for input tax suffered
 The tax invoice must be issued at the time of the supply or within 14 days of the completion of that supply
 Contents of Tax Invoice
- The name, address, VAT registration number and PIN of the person making the supply
- The serial number of the invoice;
- The date of the invoice;
- The date of the supply, if different from (iii) above;
- The name, address and VAT registration number, if any, of the person to whom the supply was made, if
known to the supplier;
- The description, quantity and price of goods or services being supplied;
- The taxable value of the goods or services, if different from the price charged;
- The rate and amount of tax charged on each of those goods and services;
- Details of whether the supply is a cash or credit sale and details of cash or other discounts, if any;
- The total value of the supply and the total amount of VAT charged.
 Other records to be kept by a taxable person
 A record of all the taxable goods and services received or supplied by the firms, businesses, including
zero rated supplies.
 A separate record of any exempt supplies made.
 A summary of the total of input tax and output tax for each calendar month. This is called VAT
account.
 Copies of all invoices issued, in serial number order.
 Copies of all credit and debit notes issued in chronological order.
 All purchase invoices, custom entries, receipts for payment of customs duty or tax, and credit and debit
notes received. These should be fitted chronologically by date or under each supplier’s name.
 Details of goods manufactured and delivered from the factory of the taxable person.
 Details of each supply of goods and services from the business premises.
 Other business records namely—orders and delivery books relevant business correspondence,
appointment and job books purchase and sale books, cash books, petty cash vouchers, annual
accounts, import and export documents, balance statements and pay in slips, records of daily takings.

Rate and amount of tax charged on each of those goods and services provided.
 Details of cash or other discounts.
 Details as to whether the supply is for cash or credit.
 Total value of supply and total amount of VAT charged.
Value Added Tax (VAT) returns
 Registered persons are required to submit a VAT return (form VAT 3) on or before 20 th day of the month
following the month of sale. The return should show separately for each rate of tax:
 Particulars of the total value of supplies.
 The rate of tax to which the supplies are liable.
 The amount of tax payable.
 The total value of taxable supplies received.
 The rate at which tax was paid.
 The amount of tax paid in respect of which deductible input tax is claimed.
 If no transactions are carried in any month a NIL return is submitted. The taxpayer should keep a copy of
returns made for record purposes.
Page 68 of 88
VAT ACCOUNTS
Every registered person is required to submit a monthly returns to the commissioner of income tax giving the following
details:
a. Show separately for each rate of tax, the total value of supplies, rate of tax and an account of tax payable for
the supplies made during the month.
b. Show separately for each rate of tax, the total value of supplies, rate of tax and an amount of tax paid in respect
of which tax is claimable.
c. Where necessary to state the fact that no supplies are made or received during that tax period.
The following is the format for preparing VAT account
XYZ LTD
VAT ACCOUNT FOR THE MONTH OF NOVEMBER 2016
INPUT TAX
KSHS
OUTPUT TAX KSHS
Purchases
xx
Sales
xx
Imports
xx
Provided services
xx
Services (electricity) @ 12%
xx
Exports
xx
Bad debts relief
xx
Debit note issued
xx
Inventory claim (previously overstated)
xx
Credit note received (return outwards)
xx
Debit note received
xx
Credit note issued (return inwards)
xx
VAT payable
xx
VAT refundable
xx
xx
xx
N/B:
1.
2.

Bad debt relief – is where a taxpayer claims VAT paid on goods sold on credit on which bad debts has arisen
because the individual is declared bankrupt or the company is declared insolvent.
Inventory claim – this relates to the inventory held by the entity (taxpayer) at the time of registration.
Taxpayer is required to claim input VAT tax on inventory 30 days from the date of registration and this relates
to inventory held with taxpayer within the last 12 months from the date of registration.
The following are prohibited inputs i.e. you cannot claim input VAT;
 Passengers cars except for hire business
 Domestic electrical and electronic appliances
 Entertainment services
 Hotel and restaurant services
 Accommodation services
 Supplies to staff housing and other similar establishments for staff welfare.
N/B:
a) Input tax is however deductible where the mentioned goods are purchased as stock in trade.
b) Input tax on office expenses are deductible unless prohibited as given above or used in facilities related to the
welfare of the staff e.g. expenses related to staff canteen.
VAT DUE FOR PAYMENT OR CREDIT
 All registered traders are required to pay any VAT payable by the 20 th day of the month following the month to
which tax relates to.
 Payment is made together with a document known as the VAT return. The return is known as VAT 3.
 Whether there is any VAT payable or not, a VAT return must be submitted.
 Payment of VAT can be made at any VAT regional office or to the central bank of Kenya.
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REMISSION, REBATE AND REFUND OF VAT
a) Remission of VAT
- This refers to the waiver by the commissioner of income tax of any tax payable by a tax payer i.e. the
taxpayer’s tax is written off.
- Where a remission is granted under certain conditions, the tax shall become payable in the event of breach
of the condition.
- Remission can be given in the following situations;
 Purchase of goods for use in new investment aimed at net foreign exchange earnings.
 Purchase of goods for government approved projects
 Goods purchased for use in refugee camp in Kenya
 Capital equipment for use in the manufacture under bond or EPZ
 Goods purchased for use by Kenya armed forces
b) Refund of VAT
- Refers to repaying (paying back) by the commissioner of the tax that t the taxpayer had paid to the
commissioner.
- Refund of the VAT tax may occur in the following situations;
 Where payment has been made in error e.g. overpayment of VAT, use of wrong rates,
miscalculations etc.
 Where input tax persistently exceeds output tax and it’s a regular feature of the business.
 Where goods are imported, VAT charged and then exported before being used, VAT paid will be
refunded.
 When payment for supply of goods and services have not been received (bad debts) under sec 24.
A refund of bad debts is made within 5 years.
NB: - VAT refund for bad debt is claimable if;
o The debtor had been declared legally insolvent.
o The debt has been outstanding for more than three years.
 Where input VAT was charged on goods purchased, civil works, building constructed etc. for
making manufacturing taxable supplies before an individual became registered. Such claim for
refund is made in form VAT 5 within 30 days from the date of approval of registration by
commissioner of VAT.
DOCUMENTS ACCOMPANYING CLAIM FOR REFUD UNDER SEC 24 (BAD DEBTS)
i.
Confirmation from liquidator that a debtor has become insolvent and proof of debt amount.
ii.
Copies of relevant tax invoices issued at the time of supply to the insolvent debtor.
iii.
A declaration that the debtor and taxpayers are unrelated companies/parties/persons.
iv.
Records or documents showing input tax paid by the taxpayer e.g. VAT a/c, bank pay-in-slip etc.
Documents to be attached to a claim for refund of VAT sec 24(a) of the VAT Act Cap 476 requires certain documents
to be attached to a claim for a refund of VAT. These documents are as follows;
i.
ii.
iii.
iv.
v.
A copy of tax invoice provided in respect of each taxable supply upon which the claim is based.
Records or other documents showing the tax has been accounted and paid on each supply upon which the
claim for a refund of tax is based.
A declaration by him that he and the bures are independent of each other.
Evidence that every reason effort has been made to have the debt settled.
A document issued to him by the person with whom he proves
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Examples on VAT
Illustration 1
Given below were purchases and sales of ABC Ltd. for September 2015. The prices were inclusive of VAT at the
standard rate of 16%.
September 1: purchased 400 units @ kshs. 5, 600 per unit.
September 2: sold 40 units @ kshs. 7, 200 per unit.
September 5: sold 80 units @ kshs. 7, 200 per unit.
September 10: sold 200 units @ kshs. 7, 200 per unit.
September 20: purchased 300 units @ kshs. 6, 400 per unit.
September 25: sold 80 units @ kshs. 7, 200 per unit.
September 30: sold 200 units @ kshs. 8, 000 per unit.
Required:
a. VAT account for the month of September 2015.
b. On what date is VAT due for payment.
Illustration 2
The following information was extracted from the records of Panda Traders, a registered business for VAT purposes,
for the month of December 2010:
Date
Transaction
Amount (Kshs.)
2
Cash sales
400, 000
4
Credit sales
560, 000
6
Credit sales
120, 000
6
Returns inwards
80, 000
9
Credit purchases
600, 000
10
Credit note received
40, 000
13
Cash purchases
250, 000
15
Cash sales
340, 000
20
returns outwards
60, 000
23
debit note issued
35, 000
29
cash received from debtors
220, 000
Required: A VAT account for the month of December 2010 showing the VAT payable by or refundable to panda
traders. (Assume transactions are quoted as exclusive of VAT at the rate of 16%).
Illustration 3
MetaMeta Traders Ltd. deals in a wide variety of taxable and non-taxable supplies. During the month of December
2013, the company recorded the following transactions:
December 2: Purchased goods on credit from BB Ltd. for Kshs. 150, 000 at standard rate.
December 3: Received credit note from BB Ltd. for Kshs. 30, 000.
December 8: Sold computer spare parts to the Ministry of Finance for Kshs. 200, 000.
December 10: Paid Kshs. 50, 000 to Benki Ltd. for safe custody of business documents.
December 18: Exported goods for Kshs. 800, 000 to Malawi; a country in the Southern Africa region.
December 21: Supplied standard rated goods for Kshs. 1, 380, 000 to Webu Ltd. on credit.
December 22: Exempt supplies amounted to Kshs. 60, 000.
December 24: Paid electricity and water expenses for Kshs. 48, 000 and Kshs. 10, 000 respectively.
December 28: Paid Kshs. 80, 000 for management and financial services to Benki Ltd.
December 30: Purchased goods at standard rate for Kshs. 400, 000.
The above transactions were reported as exclusive of value added tax (VAT) at the rate of 16% where applicable.
Required: Prepare a VAT account for the month of September 2013.
Page 71 of 88
Illustration 4
KK Ltd operates electronic shop in Nairobi town. The following transactions took place during the month of March
2016:
March 1: Purchased 10 cameras for a total of kshs. 500, 000.
March 4: purchased flash bulb for a total of kshs. 200, 000.
March 4: purchased slide projectors for kshs. 1, 000, 000.
March 5: sold 5 cameras each @ 25% above cost price.
March 6: purchased 200 watches at kshs. 1, 500 each.
March 8: sold 2 slide projectors for a total of kshs. 500, 000.
March 9: sold flash bulb that cost kshs. 100, 000 for kshs. 150, 000.
March 12: purchased 50 stop watches for a total of kshs. 50, 000.
March 15: purchased 100 alarm clocks at a total value of kshs. 80, 000.
March 18: sold the remaining 5 cameras each at 25% above cost price.
March 20: sold 3 slide projectors for a total value of kshs. 750, 000.
March 22: sold 100 watches at kshs. 2, 000 per watch.
March 25: sold 70 alarm clock each at 30% above cost.
March 27: sold 50 stop watches for a total of kshs. 75, 000.
Required: Prepare VAT account for KK Ltd given that prices are exclusive of VAT.
Page 72 of 88
ADMINISTRATION OF INCOME TAX
 The constitution of Kenya authorizes the government to levy taxes. The government imposes taxes though
statutes and therefore taxes are creatures of statute. Taxing powers are delegated by the people to the
representative legislative bodies which include;
 The Central government and local bodies e.g. Counties, Corporations, town committees are authorize to
impose taxes.
 Each June of the year, the Cabinet Secretary for Finance makes budget proposals in Parliament which deal with
the means of financing public expenditure and changes in taxation.
 These proposals will then be debated upon by Parliament i.e. the Finance bill goes through the parliamentary
procedures and becomes the Finance Act on the day it passes in Parliament (Doesn’t require presidential
assent).
 No person has got authority to impose taxes except the government or a public authority that has got authority
through parliament.
Tax Administration in Kenya
 The collection of Public Revenue is administered under the Treasury through various revenue departments
operating under the Kenya Revenue Authority (KRA).
 The Kenya Revenue Authority was established by an Act of Parliament on July 1st 1995 Cap 469 for the
purpose of enhancing the mobilization of Government revenue, while providing effective tax administration
and sustainability in revenue collection.
 The Board and Management of KRA have since its inception spent time and resources setting up systems,
procedures and the adoption of new strategies aimed at enhancing the operational efficiency of the Authority’s
processes.
KRA VISION AND MISSION
Mission Statement
 To promote compliance with Kenya’s tax, trade and border legislation and regulation by promoting the
standards set out in the Taxpayers Charter and responsible enforcement by highly motivated and professional
staff thereby maximizing revenue collection at the least possible cost for the socio-economic wellbeing of
Kenyans.
KRA Vision
 “To be the leading Revenue Authority in the world respected for Professionalism Integrity and Fairness.”
Professionalism
 To be committed to the highest standards of achievement obtainable through dedication and skill.
Integrity
 To be committed to treating people fairly and applying the law fairly through honesty and openness.
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Fairness
 To be committed to applying the law consistently and responsibly as well as administering our requirements
reasonably.
Core Values

Integrity

Professionalism

Equity

Corporate and Social Responsibility
PURPOSE OF KRA
Assessment, Collection, Administration and Enforcement of laws relating to revenue
ORGANIZATION
 The Kenya Revenue Authority (KRA) is charged with the responsibility of collecting revenue on behalf of
the Government of Kenya. In particular, the functions of the Authority are:
o
To assess, collect and account for all revenues in accordance with the written laws and the
specified provisions of the written laws.
o
To advice on matters relating to the administration of and collection of revenue under the written
laws or the specified provisions of the written laws.
o
To perform such other functions in relation to revenue as the Minister may direct.
 A Board of Directors, consisting of both public and private sector experts, makes policy decisions to be
implemented by KRA Management. The Chairman of the Board is appointed by the President of the Republic
of Kenya. The Chief Executive of the Authority is the Commissioner General who is appointed by the Minister
for Finance.
 The Authority is a Government agency that runs its operations in the same way as a private enterprise. In order
to offer better single-window services to taxpayers, KRA is divided into five regions as follows:
 Rift Valley Region
 Western Region

Southern Region

Northern Region
 Central Region
 In terms of revenue collection and other support functions, the Authority is divided into the following
departments:
 Customs Services Department
 Domestic Taxes Department- headed by the Commissioner of Domestic Taxes
 Road Transport Department

Support Services Department
 Each department is headed by a Commissioners T U D Y T E X T
 In addition to the four divisions, the Authority had seven service Departments that enhance its operational
efficiency. These are as follows:
 Investigations and Enforcement Department
 Human Resources Department
 Finance Department
 Board Corporate Services and Administration Department
 Internal Audit Department
Page 74 of 88


Management Information Services Department
Research and Corporate Planning Department
Role of KRA in the economy
i.
To administer and to enforce written laws or specified provisions of written laws pertaining to assessment,
collection and accounting for all revenues in accordance with these laws.
ii.
Advise on matters pertaining to the administration or and the collection of revenue under written laws.
iii.
Enhance efficiency and effectiveness of tax administration by eliminating Bureaucracy, Procurement,
Promotion, Training and Discipline.
iv.
Eliminate tax evasion by simplifying and streamlining procedures and improving tax payer service and
education thereby increasing the rate of compliance.
v.
Promote professionalism and eradicate corruption amongst KRA employee by paying adequate salaries
that enables the institution to attract and retain competent professionals of integrity and sound ethical
morals.
vi.
Restore Economic Independence and Sovereign pride of Kenya by eventually eliminating the perennial
budget deficits by creating organizational structures that maximize revenue collection.
vii.
Ensure protection of local industries and facilitate economic growth through effective administration of
tax laws relating to trade.
viii.
Ensure effective allocation of scarce resources in the economy by effectively enforcing tax policies
thereby sending the desired incentives and shift signals throughout the county.
ix.
Facilitate distribution of income in socially acceptable ways by effectively enforcing tax laws affecting
income in various ways.
x.
Facilitate economic stability and moderate cyclic fluctuations in the economy by providing effective tax
administration as an implementation instrument of the fiscal and stabilization policies.
xi.
Be a ‘watchdog’ for the Government agencies (such as Ministries of Health, Finance, etc) by controlling
exit and entry points to the country to ensure that prohibited and illegal goods do not pass through
Kenyan borders.
Legal Structure
 In order to realize its mandates, the Authority administers the following written laws relating to revenue:















The Income Tax Act (Cap. 470)
The Customs and Excise Act (Cap. 472)
The East Africa Customs and Management Act
The Value Added Tax Act (Cap 476)
The Road Maintenance Levy Fund Act 1993 (No. 9 of 1993)
The Air Passenger Service Charge Act (Cap. 475)
The Entertainment Tax Act (Cap. 479)
The Traffic Act (Cap. 403)
The Transport Licensing Act (Cap. 404)
The Second Hand Motor Vehicle Purchase Tax Act (Cap. 484)
The Widows and Children’s Pensions Act (Cap. 195)
The Parliamentary Pensions Act (Cap. 196)
The Stamp Duty Act (Cap. 480)
The Betting, Lotteries and Gaming Act (Cap. 131).
The Directorate of Civil Aviation Act (Cap. 394).
Page 75 of 88
PROCEDURE
 To enable the Domestic Tax Department to carry out the administration of tax, the Legislation contains a
series of provisions which enable the tax office to obtain information about tax payers, i.e. persons who are, or
may be liable to tax (income tax). This is a very important requirement for any effective system of taxation.
This is fulfilled by the requirement of the law that any liable person must submit a return of Income.
 It is a fact in Kenya that there are very many liable persons who are not at present within the tax net. In order
to identify these persons and often potential taxpayers, the system of Personal Identification Number was
introduced in 1992. At the time of its introduction the following transactions with the relevant departments
required the production of PIN.
i.
Commissioner of Lands:- Registration of title, and stamping of Instruments
ii.
Local Authorities:- Approval of plans and payment of water deposit
iii.
Registrar of Motor Vehicles: - Registration, transfer and licensing of motor vehicles.
iv.
Registrar of Business Names:- New registration
v.
Registrar of Companies:- New registrations
vi.
Insurance Companies:- Underwriting of policies
vii.
Ministry of Commerce:- Import and Trade licensing
viii.
Commissioner of Domestic Taxes:- Application for Registration
ix.
Central Bank of Kenya: - Licensing and control of activities of financial institutions.
IDENTIFICATION OF NEW TAX PAYERS
 Some of the sources of information to the Commissioner of Domestic Taxes regarding chargeable
incomes are:

Self-confession.

Informers e.g. friend, a wife, ex-wife.

Public media (TC, Newspapers, magazines)

Registrar of companies or business names.

Large public company e.g. KCC

Government parastatals.

Local authorities.

PIN. Number
Who is required to get PIN?
Employees, employers, businessmen, landlords, farmers, etc
Where is PIN Required

When registering a motor vehicle.

When applying for imports and exports license.

Applying for water, telephone, electricity connections etc.

When applying for VAT.
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
Applying for insurance covers.

Applying for land transfers.
Purpose of PIN

To bring more persons to taxation and as such to improve tax compliance.

To assist in the reduction of tax evasion.

To link employee file or return with employers returns.
TAX ASSESSMENT AND RETURNS
Returns
 There are three main categories of returns:

Installment tax return.

Self-assessment tax return

Compensating tax return.
 The first two returns will be required from all tax payers whether individual or body corporate while the
compensating return is required only from a body corporate.
a.
Installment tax return
 Was introduced 1st January, 1991 to replace or modify what was called the provision return which was
required after year end. Installment return is required as the year progresses. It shall be submitted by
both individual and body corporate liable to tax.
 There are 4 installment returns that require to be submitted by the 20th of the 4th, 6th, 9th, 12th month
as financial year progresses.
 A tax payer won’t be required to pay installment tax if:
o
To the best of his judgement and belief, he will have no income chargeable to tax.
o
He has reasonable ground to believe that the whole of the tax he is to pay will be recovered
through PAYE.
 Since installment return and the tax are required before year end, the estimate income and tax thereon:
o
Would be based on last year’s performance raised by 10%.
o
Current year’s performance plus an estimate for the unexpired period of the year.
 The amount of installment tax payable by the person for the current year would be lesser of:
o
The amount equal to the tax that would be payable by that person if his total income for the
current year was an amount equal to the installment income, or
o
The amount specified in the preceding years assessment multiplied by 110%.
 General penalties

Failure to pay tax by the due date attracts a penalty of 20% of that outstanding tax.

If that tax isn’t paid by the due date then interest at the rate of 2% per month is payable for each
month the tax remains outstanding.
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 N/B: For agricultural tax payers, they are required to pay installment tax as follows 75% by the 20th of
the 9th month, 25% by the 20th of the 12th month.
 Advantages of installment tax
o
Early collection of taxes from the government.
o
It is convenient to the tax payer to pay tax in bits.
o
It reduces tax evasion.
b. SELF ASSESSMENT RETURN
 It is replaced or modified with what used to be known as a final return (w.e.f. 1992).With a self-assessment a tax
is required:
o
To complete his return fully for the year of income under consideration with respect to all
sources of income.
o
To complete taxable chargeable income and a tax payable.
o
To remit the tax payable or balance after installment by the due date i.e. by the end of the 4th
month after the year end.
o
However, the self-assessment return itself is to be submitted by the end of the 6th month after
year end.
o
A self-assessment return is to be submitted by employees other individuals not in employment,
body corporate, partnership. In the case of partnership, no tax computation is required since tax
is payable by individual partners.
 Contents of Returns
a)
For individuals
o
Residence status.
o
Details of income from various sources.
o
Details of expenses allowable.
o
Savings up to sh. 48,000 to specified financial instaurations under HOSP.
o
Details of landlord and rent paid.
b) For Bodies Corporate
o
Principal activity of the body corporate.
o
Registered office of the company.
o
Share capital and shareholding of the shareholder’s details.
o
Income details and expenses allowable.
o
Compensating tax.
o
Payments to non-residents.
o
Payment of non-cash benefits, wages, salaries and PAYE tax.
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Compensating tax Return
 It was introduced in 1993 and is applicable to bodies corporate only. Every company liable to tax is required to
maintain a dividend tax account so that any tax paid including compensating tax paid is credited to this account.
Any dividend received is credited to this account after multiplying it by the factor t/ (1-t).
 Any tax refunded is debited to this account. Any dividend paid out is debited to this account. If debits are more
than the credits a compensating tax arises and must be paid.
Income tax department procedure on receipt of self-assessment returns
a)
The returns will be received at the income tax registry.
b) Returns are sent to the screening department where checks on arithmetic accuracy will be carried out.
c)
15% of the total population of the total cases is selected for an in-depth examination.
d) Other cases are then filed away after the details have been entered in the computer.
In-depth Examination
a)
Involves a thorough investigation and scrutiny of the tax payer’s return and his affairs.
b) The department will request for all accounting records e.g. check counterfoils, banking slips, payrolls etc.
c)
Income tax department may decide to communicate with 3rd parties, to visit the tax payer’s premises and
interview the tax payer or his agent.
d) Note that if any undeclared income is identified or expenses claimed erroneously are identified then an
additional assessment will be issued plus relevant penalties by the Income Tax department
 When a person has substituted a return of income, the commissioner may,
o
Accept the return and deem tax assessed as correct and that no further notification is required.
o
If he has reasonable cause to believe that the return is not true and correct, he may determine to the
best of his judgement, the mount of income of such person and assess him accordingly.
o
Institute in-depth examination.
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ASSESSMENT
An assessment is the determination or ascertainment of total chargeable income chargeable to tax and computation of
tax thereon.
KINDS OF ASSESSMENT
i.
Installment assessment
 This assessment based on estimate income for the year under consideration for the purpose of ascertaining
installment tax payable in the course of year in equal installments.
ii.
Self-assessment
 It’s an assessment by a tax payer himself whereby he declares his taxable income and computes tax
thereof. The due date for payment of self-assessment tax (or balance after installment taxes) is by the end
of the 4th month of the following year.
 Self-assessment tax return is to be submitted by the end of the 6th month of the year.
iii.
Normal assessment
 This assessment is issued by CDT on the basis of final return of income submitted. CDT may call for
additional information, documents, schedules etc before accepting the income/loss per final return or as
adjusted.
 Note that with effect from year of income ended 31st December, 1992 the normal assessment became a
self-assessment based on self-assessment return.
iv.
Estimated assessment
 Is an assessment issued by the Income tax Department where:
o
A tax payer has failed to submit a self-assessment return.
o
When the CDT doesn’t agree with the return furnished by the tax payer.
 The estimated assessment will contain estimates using the commissioner best of judgement.
v.
Amendment assessment
 It is not a new assessment as such rather it is an assessment used to correct an error on earlier assessment
and will normally arise after an objection has been made.
vi.
Additional assessment
 It is used by the Income tax department when they notice additional income not disclosed or the tax payer
under assessed himself. This normally follows an in-depth examination into the tax payer’s affairs when tax
department receives information from another source where tax payer claims relief which he is entitled to.
 NB. In case of fraud or willful negligence on the part of the tax payer, penalties could be charged up to
200% on the tax of such income declared.
Assessment under section 35 of I.T.A
These are raised by I.T.D to charge tax arising on shortfall distribution of dividends.
Returns of Incomes and Notices
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It is important that a taxpayer informs the commissioner of income tax about the details of the tax
position on the following matters:
i.
Taxable income or loss;
ii.
Sources of income e.g. business, employment rent, etc.;
iii.
Claims of tax relief in case of individuals only;
iv.
Payment of tax at source.
A taxpayer informs the Domestic Tax Department about the details of the tax position through the submission of
annual returns of income. The returns of income are forms issued by the Domestic Tax Department for completing
annual details of income or loss.
The following are different kinds of taxpayers that may submit returns of income to the commissioner of income tax:
a)
Individuals (natural persons)
b) Legal persons such as companies, trusts, clubs, co-operatives, corporations, etc. (persons created by law)
generally referred to as company or corporation.
c)
Partnerships.
Page 81 of 88
Types of Returns of Income: At present, two types of return are in use:
a.
Self-Assessment Return of Income (SAR)

The return was introduced for the year of income 1992. It is required to be submitted by all companies and
individuals with taxable income. Partnerships also file a Partnership Return it is due for submission to the
Domestic Tax Department by the end of the sixth month after the accounting year end. The self-assessment
tax, if any, is due for payment by the end of the fourth month after the accounting year end.
b. Compensating Tax Return of Income (CTR)

The return was introduced with effect from accounting year ended in 1993 and later years. It is required to be
submitted by resident companies only. It is due for submission to the Domestic Tax Department by the end
of the sixth month after the accounting year end.

The compensating tax, if any, is due and payable by the end of the fourth month after the accounting date. The
CTR is a form issued by the Domestic Tax Department to enable companies to pay compensating tax. The
CTR and the SAR are due at the same date.
OBJECTIONS, APPEALS AND RELIEF OF MISTAKE
NOTICE OF OBJECTION
A taxpayer who disputes or who does not agree with an assessment for any year of income has a right to lodge an
objection (or to object) against such an assessment. Such an objection is referred to as a "notice of objection". For the
objection to be "a valid notice of objection" it must:
i.
Be in writing.
ii.
State the grounds of objection (or the reasons why the objection is lodged).
iii.
Be made within 30 days after the date of service of the notice of assessment i.e. within 40 days. (30 days of
notice + 10 days of service within Kenya = 40 days)
iv.
The return of income and any supporting schedules must be submitted before the appeal is accepted. A
taxpayer will dispute or will not agree with a notice of assessment because of mistakes or errors relating to:
o
Amount of income/loss assessed
o
Amount of tax payable
o
Allowance or deduction made or omitted to be made in computing chargeable income/loss.
o
Imposition of interest penalties under Section 72 of ITA. There is no right to object to Section
95 of ITA interest. A tax payer applies for remission of the interest under S.95.
o
Relief granted or omitted to be granted for individuals.
o
Rates of tax used.
o
Assessment being time barred. An assessment is time barred if issued 7 years after the year of
income to which it relates.
Late notice of objection
Where a taxpayer who disputes an assessment fails to object against the assessment within the time allowed 30 days of
notice plus 10 days of service of the notice of assessment in Kenya) the taxpayer can lodge a notice of late objection.
The late notice of objection must:
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i.
Be in writing.
ii.
State the grounds or reasons for objecting, and
iii. State the reasons for objecting late.
A commissioner of income tax can accept the late notice of objection under the following conditions:
i.
Return of income for the year, and accounts where applicable have been submitted to CDT.
ii.
If the lateness is due to the taxpayer being absent from Kenya, being sick, or other reasonable cause e.g. death
in a family sickness in the family etc. proof of this would be required by CDT.
iii. There is no unreasonable delay on the part of the taxpayer in lodging the late objection e.g. the notice was lost
at post office.
iv. Tax due is paid together with any late payment interest. CDT can waive this condition if he is satisfied that the
tax due is excessive.
If the late objection is accepted by CDT, it becomes a valid notice of objection. If the late objection is not accepted,
the notice of assessment objected to remains in force. The taxpayer however has a right to appeal to the local committee
(an appeal body) against CDT refusal to accept a late objection, and the decision of the local committee is final on the
matter.
Where a taxpayer has lodged a valid notice of objection against an assessment for any year of income the objection
would be dealt with by CDT in any of the following ways:
a.
Amend (change) the assessment to be in accordance with the objection i.e. CDT agreeing with the grounds of
the objection.
b.
Amend the assessment in the light of the objection (with some adjustments) and taxpayer or the person
objecting agreeing to the adjustments. An agreed amended assessment would be issued by CDT i.e. an
assessment agreed by both parties.
c.
Amend (change) the assessment in the light of the objection (with some adjustments) and the taxpayer or the
person objecting not agreeing to the adjustments. A non-agreed amended assessment would be issued by CDT.
The taxpayer is notified of the right to appeal to the local committee if he disputes the non-agreed amended
assessment.
d.
Refuse to amend (change) the assessment and issue a notice to the taxpayer confirming the disputed
assessment. The taxpayer has a right to appeal to the local committee against the confirming notice.
e.
Take no action where the taxpayer withdraws the notice of objection.
f.
Take no action where, with effect from 13.6.91, an objection becomes invalid and the assessment objected
against final and conclusive. Where the return and accounts for the year have not been submitted within 30
days from the date of objection.
APPELLANT BODIES
A taxpayer has a right to appeal against some decisions made by CDT regarding assessment which the taxpayer does not
agree with. The appeal is made to appeal bodies established under the Act.
a) Local committee
The local committee is an appeal body. It is an independent body and not part of the Domestic Taxes Department. The
Minister in charge of Finance, by a notice in the gazette appoints a local committee for any given area eg Kisumu Local
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Committee, Mombasa local Committee, Nyeri Local Committee etc. The duties of a local committee are to hear and
determine appeals lodged by taxpayers on matters of tax dispute. Note that only a taxpayer can appeal to the local
committee
The members of the local committee are appointed by the minister in charge of Finance and consist of:
i.
The chairman and
ii.
Not more than eight other members—the quorum for a meeting of the Local Committee is the chairman and
two other members
A member of the local committee holds office for a period of two years unless:
i.
The member tenders a resignation, or
ii.
The minister revokes the appointment:
o
For failure to attend three consecutive local committee meetings; or
o
For being unfit to perform the duties of his office by reason of mental or physical disability.
The Cabinet Secretary has made and can make rules under the income tax act referred to as the Income Tax (Local
Committees) Rules for the Local Committees to follow relating to:
o
The manner in which an appeal may be made to the Local Committee.
o
The procedure for hearing an appeal and the records to be kept by the Local Committee.
o
The manner to convene, the place, date and time to hold a Local Committee meeting. d)
Scale of costs that
may be awarded by the Local Committee.
o
General matters for the better carrying out of Local Committee appeal.
Procedure for an appeal to local committee
A taxpayer has a right to appeal to the local committee against some decisions made by Commissioner of Domestic
Taxes affecting tax such as:
i.
CDT refusing to amend an assessment after the taxpayer has lodged a valid notice of objection. The CDT
would issue a notice confirming such an assessment and the taxpayer would have a right to appeal to the
local committee against such confirming notice.
ii.
CDT issuing a non-agreed amended assessment. This arises where CDT has adjusted taxable income in the
light of the objection, but the taxpayer does not accept the adjusted income/loss and the subsequent
assessment.
iii.
CDT refusing to accept a late notice of objection. This is an objection which is lodged after the period
allowed for submission of a normal objection. The taxpayer has a right to appeal to the local committee
against the decision of CDT to refuse to accept a late notice of objection.
iv.
CDT issuing a notice requiring books records and accounts to be kept in a specific language. The taxpayer
has a right to appeal to the local committee against such a notice.
v.
CDT refusing to make a repayment of tax overpaid. The taxpayer has a right to appeal to local committee
to enforce repayment of overpaid tax.
When considering any appeal procedure, one must bear in mind the three parties involved in any appeal namely, the
taxpayer, the CDT and the appeal body. The appeal documents must be filed to the three parties in the procedure for
appeals as follows:
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1.
To Commissioner of Domestic Taxes
The taxpayer is required to notify the CDT of his intention to appeal to the local committee against any of the above
notices or decision within 30 days from the date of service of the notices or decision. The notice of intention to appeal
must be copied to the clerk of the local committee and copies of memorandum of appeal and statement of facts must be
sent to Commissioner of Income Taxes.
2.
To Clerk of Local Committee
The appeal is to the local committee and the following documents must be submitted to the clerk of the local
committee:
o
Memorandum of Appeal—document stating the grounds of appeal—(original + 9 copies for the members of
the local committee).
o
Statement of Facts—a document giving sequence of events on the assessment before appeal to the local
committee i.e. date assessment issued objected to, confirmed, non- agreed amended assessment issued, etc.
(original plus 9 copies for the members of the Local Committee).
o
A copy of the letter (notice) of intention to appeal to the local committee which was sent to CIT.
o
A copy of CDT decision against which an appeal is being lodged to the local committee e.g. copy of nonagreed amended assessment or a copy of the confirming notice.
Registering an Appeal for Hearing by the Local Committee
Where proper appeal documents have been filed in time to the clerk of the local committee the clerk will register the
appeal for hearing by the local committee. The clerk of the local committee will not register an appeal for hearing by the
local committee unless the return of income, and the accounts where applicable for the year of income under appeal, are
submitted to the CDT.
Late Appeal to the Local Committee
Where a taxpayer is prevented from lodging an appeal, in time, to the local committee by either absence from Kenya,
sickness, or other reasonable causes; the taxpayer can appeal to the local committee for extension of time within which
to lodge an appeal. Such an appeal is referred to as a late appeal. Appeal documents as for normal appeal will also be
filed i.e. memorandum of appeal and statement of facts. The application for extension of time within which to appeal
must state the reasons why the appeal was not lodged within the time allowed
Valid Appeal
Where all the appeal documents have been filed in time, there is a valid appeal to the Local Committee. The clerk of the
local committee will register any valid appeal for hearing by the Local Committee. The date and place of hearing of the
appeal is notified to both the taxpayer (appellant) and the CDT (respondent). The local committee will then meet and
hear the appeal and make a decision on the matters disputed. The decision of the local committee is communicated to
both the taxpayer (the appellant) and the CDT (respondent).
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Appeal to Courts of Law
If the taxpayer or CDT disputes the decision of the local committee, they can appeal to the high court and then to the
court of appeal. The appeal to courts must be only on question of law or mixed law and fact. For the appeal to the
courts, the appellant (taxpayer or CDT) must serve the respondent with a notice of intention to appeal to the court
within 30 days from the date of service of the decision of the local committee. The appellant must also file in court the
following:
o
Memorandum of appeal listing the grounds of appeal.
o
Statement of facts giving a sequence of events leading to the decision or notice under appeal.
o
Copy of the decision or notice appealed against.
o
Copy of notice of intention to appeal served on the respondent.
Tribunal
A tribunal is an appeal body established by the Minister in charge of Finance by a notice in the gazette. The tribunal
consists of: The chairman, and not less than two and not more than 4 other members (minimum 3 members and
maximum 5 members). The duties of the tribunal are to hear appeals on assessment based on CDT direction under sec.
23 and sec. 24 of the income tax act.
OFFENCES, FINES, PENALTIES AND INTEREST
1.
Any person who makes false statements, false documents, false returns, a non - registered person,
fraudulent evasion of tax:o
Fine not exceeding Sh.400, 000 or double the tax evaded, whichever is the greater and/or
imprisonment for a term not exceeding three years.
o
2.
Forfeiture of any goods which have passed with the commission of the offence.
Failure to submit a return: Penalty of Shs.10, 000 or 5% of VAT due whichever is higher (Sh. 10,000 if a
refund is due).
3.
Failure to keep proper records: Penalty of between Shs.10,000 and Shs.200,000
4.
Failure to supply a tax invoice: Penalty of between Sh 10,000 and Sh 200,000. Any goods connected with the
offence are liable to forfeiture.
5.
Later registration: Penalty of up to Sh.20,000
6.
Failure to display registration certificate: Penalty of up to Sh.20, 000 and a fine of up to Shs.200, 000
and/or imprisonment for up to two years.
7.
Late payment of tax – 2% per month interest penalty compounded.
Liability of employers and officers of companies
Where an offence is committed by an employee or agent, the employer shall be guilty of the offence unless he proves
otherwise. Where an offence is committed by a company every director and officer of the company concerned in the
management thereof shall be guilty of an offence unless he proves the offence took place without his knowledge or
consent. Any person who without reasonable excuse fails to produce books, records, or provide information as required
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by the Commissioner or an authorized officer shall be guilty of an offence and liable to a fine not exceeding Sh 6,000 or
twelve months imprisonment or both.
General Penalty
For offences under the VAT Act for which no other penalty is provided; a maximum of Sh. 500,000 and/or three-year
imprisonment
Late payment: - Late payment of tax produces additional tax equal to 2% per month of the unpaid tax compounded.
Penalties imposed under the VAT Act include the following:
i.
Late payment of tax attracts an additional tax equal to 2% compounded per month or part thereof of the
unpaid amount. The additional amount shall be deemed to be tax and shall attract further additional tax if not
paid after becoming due and payable.
ii.
Failure to comply with the Commissioner’s notice to pay to the Commissioner, money owed to a taxable
person from whom tax is due, or furnishes a return showing moneys held for or due to a taxable person from
whom tax is due-fine not exceeding Shs. 15,000 and/or up to six months imprisonment and liability to pay the
amount discharged.
iii. Failure to produce books, records or provide information as required by an authorized officer-fine not
exceeding Shs. 15,000 and/or up to six months imprisonment
iv. Failure to produce books, records, statements or other documents or to attend summons or to answer
questions put by the VAT Tribunal –fine not exceeding Sh 15,000 and/or up to two years imprisonment.
v.
Making false statements, producing false documents providing false information, involvement in fraudulent
evasion of tax, a non-registered person who holds himself out as a registered person –fine of up to Sh 400,000
or double the tax evaded, whichever is the greater. In addition, any taxable goods connected with the
commission of the offence may be forfeited.
vi. Failure to display registration certificate in a visible place in the business premises default penalty of up to Sh
20, 000 and a fine of up to Sh 200, 000 and/or imprisonment for up to two year.
vii. Late submission of application for registration -penalty of Sh 20, 000
viii. Failure to register – Fine not exceeding Sh. 20,000 or imprisonment for a term not exceeding six months or
both. Enforce registration
ix. Failure to issue a tax invoice as required: - Penalty of between Sh 10, 000 and Sh 200, 000. Any goods
connected with the offence are liable to forfeiture.
x.
Failure to keep proper books or records - penalty of between Sh 10, 000 and Sh
xi. Failure to submit a return - penalty of Sh 10,000 or 5% of tax due whichever is higher.
xii. General penalty - offences under the Act for which no other penalty is provided are subject to a maximum fine
of Sh 500,000 and/or up to three years imprisonment.
xiii. Where an employee or agent commits an offence, the employer shall also be guilty of the offence unless he
proves his innocence.
xiv. Where a company commits an offence, every director and officer of the company concerned with the
management of the company shall also be guilty of the offence unless he proves his innocence.
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xv. The Commissioner is empowered, subject to specified conditions, to compound offences under the Act. The
order issued by the Commissioner in such a case can be enforced as if it were a decree or order of the High
Court. The taxpayer whose offences have been compounded is not liable to prosecution except with the
express consent of the Attorney General.
xvi. Failure to withhold VAT, remit withheld VAT Sh.10, 000 or 10% of tax due whichever is higher. Same applies
to any person withholding VAT when not appointed to do so.
xvii. Making fraudulent VAT claims for refund attracts double the amount claimed or imprisonment for a period
not exceeding 3 years or both.
POWERS OF THE COMMISSIONER
Legal authority is given to the commissioner in the law to administer to tax and the commissioner’s powers are delegated
to the authorized officers of the department appointed under the VAT Act.
These include:
i.
To enter business premises without any warrant during normal working hours or at any time when there is
evidence of fraud.
ii.
To examine premises, books, documents and records.
iii. To have and exercise all the rights, powers, privileges and protection of a police officer.
iv. To require security for VAT liability.
v.
To levy distress or goods and chattels
vi. To take samples
vii. To have priority of tax in bankruptcy, winding up, receivership and distribution of assets in death.
viii. To require production of any documents useful for investigations with regard to assessment, refund and
offences.
ix. To apply for an order to charge the VAT debt against land or property owned by a registered person.
x.
To assess the amount of tax due in case of failure by the taxable person to do so.
xi. To collect the tax due.
LIABILITY FOR OFFENCES
i.
Where an employee or agent commits an offence, the employer shall also be guilty of the offence unless he
proves his innocence.
ii.
Where a company commits an offence, every director, general manager, secretary and officer of the company
concerned with management of the company shall be guilty of the offence unless he proves his innocence.
iii. The Commissioner is empowered, subject to specified conditions, to compound offences under the Act.
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