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Chapter One Introduction to Taxation…………………………………….. …………………......2
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CHAPTER ONE
INTRODUCTION TO TAXATION
Taxes are meant to cover the expenses of the government and as such they are not levied for any
particular purpose. The government makes no promise to perform a specific service in return of taxes
paid.
a) Protection Function
It is the responsibility of the government to maintain peace, order and security in the country.
The state is charged with the responsibility of defending its citizens and borders against external
aggression. For this purpose the government maintains a police force and armed forces.
b) Administrative Function
The government is responsible for the proper administration of the country. For this purpose
various ministries, departments, sections etc have been set up in the government to ensure proper
and efficient administration.
c) Social Function
The government provides social amenities to its citizens such as education, health, transport and
communication, housing, entertainment etc.
d) Development Function
The development of the various sections of the country and infrastructure is not possible without
government’s intervention. For this purpose the government undertakes the development of
agriculture, commerce, industry, transport and communication etc. All such developments
significantly contribute to the rapid growth of the economy of the country.
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To perform the above functions effectively and efficiently, the government requires funding
which is primarily sourced from taxation. Taxation therefore becomes a very important source of
revenue to the government. The income that the government derives from taxes and other sources
is known as Public Revenue.
1) Taxation
This is the most important and largest source of public revenue (already defined)
Examples of taxes are:
(a) Income tax- this is levied on individuals-PAYE on employment income.
(b) Income tax- this is levied on corporations-corporation tax
(c) VAT- this is imposed on value added on the supply of goods and services in Kenya
(d) Excise duty- it is imposed on the production of certain commodities.
(e) Customs duty: It is imposed on the importation of goods in the country.
(f) Stamp duties
(g) Trade licences
(h) Airport taxes
(i) Motor Vehicles Taxes and Licences
(j) Property taxes
(k) Petroleum levy
2. Fees
These are amounts that are recovered by the government for rendering certain services or as the
price paid to receive an official permission e.g. Trade license fees, driving license fees and import
license fees.
3. Prices
These are amounts recovered by the government when it renders commercial services e.g. sale of
publications by government printer.
4. Fines
Lawbreakers in the country receive punishment in the form of fines and sentences to
imprisonment. Fines constitute a significant source of revenue to the government.
5. State Property
The government is the custodian of all state property such as mines and other natural resources,
investments in other companies etc. The income received from such property constitutes a
significant source of revenue of the government.
Purposes of Taxation
Taxes are mostly levied with the objective of raising public revenue. However there are other
subsidiary purposes of taxation.
b) Economic Stability
Taxes are imposed with a purpose of maintaining economic stability I that during inflation, the
government increases the levels of taxation to discourage unnecessary expenditure and take away
excess money supply. In times of depression, the government reduces the level of taxation to
encourage individuals to spend more. In this way, taxes become an important tool of economic
stability.
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c) Fair Distribution of Resources / Incomes
Taxes are imposed to achieve equality in the distribution of national income. Taxes are imposed
at higher rates on those people with higher disposal income and used to provide welfare facilities
to poor people. In this way, taxes become a vehicle for the redistribution of national resources.
d) Protection Policy
Taxes are imposed to implement the protection policy of the government. In order to give
protection to commodities produced in the country, the government raises taxes on imports. This
causes such imports to be more expensive and thus people will resort to locally manufactured
goods that may subsequently boost local infant industries.
e) Social Welfare
Taxes are imposed on the production, consumption and importation of commodities, which are
harmful to human health e.g. the customs and excise duties on cigarettes, beer, cosmetics and
other harmful products. This raises their prices and discourages their production and
consumption.
Taxation Powers
The management of public finance is the responsibility of the government. The Constitution of the
Republic of Kenya authorizes the government to levy taxes. Taxes are therefore obligatory upon all
individuals who come under their jurisdiction. Additionally, local governments e.g. Municipalities
and County Councils have been given delegated powers that permit them to levy taxes such as
municipal rates and taxes.
Canons of Taxation
The government imposes taxes and they create burdens to taxpayers. However, the same taxes are
used for the welfare of all citizens. This means that taxes have both good and bad effects. An
optimum or a good tax system is defined as one, which helps to achieve the maximum possible
number of principles of taxation. Adam Smith was the first economist who laid down the first four
important Canons of taxation.
2) Canon of Certainty
According to Adam Smith, there should be certainty in taxation since uncertainty breeds
corruption. Certainty means that every taxpayer ought to be sure of how much they ought to pay,
the time of payment, the manner of payment, the procedures involved etc. It also means that the
government should be sure as to the amount of tax revenue it should collect, the time and manner
that such amounts shall be received by the exchequer.
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3) Canon of Convenience
This canon states that both the time and mode of payment of tax should be convenient to the
taxpayer. In the words of Adam Smith, ”every tax ought to be designed so as to be levied at the
time or in the manner it is most likely to be convenient for the taxpayer to pay”, e.g. VAT is
conveniently paid only when the person has the means to spend. It is also convenient in the sense
that it is included in the price of a commodity. PAYE is conveniently paid when an employee has
earned income at the end of the month. Custom duty is conveniently payable only when a person
is able to import.
4) Canon of Economy
A good tax system should attain economy in two ways:
a) Economy in collection
Where collection costs of tax outweigh the tax collected by way of salaries, allowances,
administrative and secretariat charges or expenses etc such a tax should not be levied in the
first place.
b) A tax should be economical to the taxpayer i.e. a taxpayer should afford to pay all the taxes
levied on him and afterwards have sufficient cash left with him to cater for his consumption,
savings and investment needs. Heavy taxes discourage saving and investment and end up
undermining the productive capacity of a person.
5) Canon of Productivity
A tax should be productive in that it should bring in more revenue to the government. However
in its quest for more revenue, the government should not overburden its citizens with many or
heavy taxes since such a move will be counter productive. One tax that brings in more revenue is
better than a multiplicity of taxes that are expensive to operate and thus uneconomical.
6) Canon of Elasticity
This Canon is closely related to that of productivity. It requires the government should be able to
raise rates of taxes when it needs more revenue. In other words a tax would be elastic e.g. excise
duty can be levied on a number of commodities and their rates can be increased every year to
raise more revenue. However care must be taken to ensure that the rates are not raised unduly
high since they will result in inflationary pressure in the economy.
7) Canon of Flexibility
Flexibility means that there should be no rigidity in the tax system. A tax system should be
changed to meet the revenue requirements of the state while elasticity means that the revenue can
be increase under the existing tax system as a result of changes in tax rates. However there cannot
be elasticity in a tax system without flexibility since some changes being made on the tax rates
may alter the tax structure.
8) Canon of Simplicity
A tax system should be simple, plain and intelligible to a common taxpayer. It should be simple
to understand how it is computed and how much is to be paid, when it is to be paid and where.
The forms to be filled in for calculation and payment of tax should be simple and intelligible to all
taxpayers.
9) Canon of Diversity
Every tax system should be diverse in the sense that a single or few taxes will neither meet the
revenue requirement of the state nor will they be equitable. An economy should have a variety of
taxes so that all citizens contribute towards state revenue according to their various abilities to
pay. Broadly there should be direct and indirect taxes. However, a large multiplicity of taxes
becomes difficult to administer and uneconomical.
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Problems of Justice in Taxation
Equity is the most important canon of taxation since it helps to achieve justice in taxation. Equity means
that the burden of tax being the fundamental problem in public finance is addressed from the point of
how vital the burden can be redistributed. For this purpose, both direct and indirect effects of a given
tax must be closely studied otherwise the question of justice will not be understood. It must also be
understood that the public burden cannot be fairly apportioned amongst the citizens. A number of
principles have been advanced to try to explain the question of justice in the tax system.
d) Ability Theory
The solution to the question of justice in modern taxation will depend on the concept of the ability
to pay. However, there is difficulty in measuring the ability to pay: For instance, should the ability
to pay be viewed in terms of expenditure or property? A single best test for a person’s ability to pay
is his income and therefore taxes should be levied on the incomes earned. For the purpose of this
theory, a tax should not be based on one single test. When taxing a person, more than the person’s
property, savings and expenditure should be considered.
Effects of Taxation
Every tax system produces various types of consequences on production, consumption, national
income distribution and the level of economic activities. The effects of every tax are both good and
bad. However the best tax system from an economic point of view is the one that has the least effect
negative effects on economic activities.
The effect of taxation can be viewed from two points:
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i) Its effect on production\productivity.
ii) Its effect on distribution of income.
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taxation in a country tends to reduce the returns on foreign investments and this will lead to capital
flight to other countries. This will adversely affect local industries where production will fall due to
lack of capital. Heavy taxation on the production of necessities will cause an increase in price and a
decrease in demand and ultimately production. When this happens, the factors of production will be
diverted to the production of non-essential goods where taxes are low.
a) Nature of Tax
Taxes that are regressive or proportional in nature tend to increase the inequalities of income and
wealth since they adversely affect the lower income groups. From a distribution point of view, the
best taxes are progressive taxes. Accordingly the rich are required to pay more and the lower income
groups less; e.g. PAYE in Kenya
b) Types of Taxes
Taxes, according to their impact (direct or indirect) will affect the distribution of income and wealth.
Indirect taxes on necessities e.g. VAT and excise duty, are regressive in nature because the low
income groups spend a high percentage of their incomes on necessities while the high income groups
are likely to spend a smaller percentage. Therefore, when a tax on necessities raises their prices, their
consumption is likely to decline especially on the part of low the income groups which will cause an
increase in inequalities. On the other hand, taxes on luxuries will affect the rich more. This will imply
that highly priced goods may be taxed at higher rates and that there is a broad element of progression.
Therefore higher tax rates on luxuries and lower tax rates on necessities will have a beneficial
redistributions effect. A highly progressive direct taxation will reduce the circulation of income and
wealth and will also reduce the concentration of wealth in the hands of the few rich persons. However
this should not be an excuse to tax the rich heavily since this will affect savings, investments and
hence production.
Tax Impact
This is the first point of contact of tax on the taxpayers. It’s upon those persons who bear the first
responsibility of paying it to the government.
Tax Incidence
This is the final resting place of tax. It’s upon those economic units which finally bear the money
burden of it and which the tax money comes from. It involves the transfer from one person on whom
the tax is imposed initially to the ultimate taxpayer who bears the ultimate money burden of the tax.
The tax transfer process is known as the tax shifting while the settlement of the burden on the
ultimate taxpayer is known as tax incidence.
Tax shifting
It is the process of transferring the tax liability to other people through transactions. Tax shifting can
be backward or forward.
Forward Shifting
It occurs when an initial taxpayer passes the tax in part or as a whole to the buyer of his product
which was taxable. This occurs by the inclusion of the tax element in the product’s price e.g. sales
tax, VAT, customs and excise duty etc.
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Backward Shifting
It occurs when the producer shifts the money burden of the tax onto the suppliers of the factors of
production by urging them to accept lower wages or prices for their services.
Taxes may be shifted depending on the extent of the rise in the price of the commodity. If the price of
the commodity rises in equal to the amount of the tax, the entire money burden of the tax is shifted
from the producer to the consumer. If the price of the commodity does not rise with the entire money
burden of the tax, the consumer will only pay part of the tax (partial shifting) which is equal to the
difference between the new price and the price before tax price of the commodity. If the price doesn’t
rise even after the tax levy, the tax incidence will remain with the producer or there will have been a
backward shifting. It’s very uncommon that backward shifting will occur.
b) Nature of Markets
In an oligopolistic market, tax shifting to buyers is higher since few sellers can team up to
determine the market price. For a monopoly, the entire tax burden is borne by the buyer.
d) Geographical Location
If taxes are imposed in certain regions, it’s hard to shift to consumers since they will move to
regions of low tax.
f) Nature of Tax
Whether direct or indirect tax? Direct taxes such as PAYE and corporation tax cannot be shifted
whatsoever. For indirect taxes, these can be shifted through price increases.
g) Rate of Tax
If too low, the producer may absorb it and retain his customers. If too high, it can be partially or
fully shifted to consumers
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CHAPTER TWO
CLASSIFICATION OF TAXES
1) Direct Taxes
This is a tax that requires a taxpayer to remit his tax to the tax authority directly. It is levied on
persons and it can vary with the status of taxpayers. Its impact and incidence fall on the same person.
This implies that such a tax neither be shifted forward nor backward.
Merits
a) Direct taxes are related to the ability to pay since the tax rates are chosen with respect to
taxpayer’s ability. Consequently they are suitable in achieving income and wealth re-distribution
purpose of the state.
b) Direct taxes are revenue elastic in that as income of the community goes up; the tax yield also
goes up.
c) Direct taxes fulfil the central authority’s need for social and economic justice since taxpayers are
taxed fairly with continued change in their incomes.
d) Direct taxes do not cause distortion in resource allocations thus leaving taxpayers better off than
indirect taxes. This is a suitable attitude towards resource allocation because it leaves taxpayers
neutral.
e) Direct taxes inculcate a spirit of civic responsibility among the taxpayers.
Demerits
a) Direct taxes violate the principle of convenience since they are paid in lump sum.
b) Direct taxes are a disincentive to work extra hours i.e. it limits the supply of labour and thus
limiting investments and savings.
c) It is not easy to attain the principle of vertical equity. The progressive tax can either be too heavy
or too low on the various income levels. The basic difficulty lies with the inability to determine
taxpayers’ ability to pay.
d) It discourages capital accumulation.
e) Direct taxes are easy to evade.
f) It is expensive to collect because of the many collection points
2) Indirect Taxes
This is a tax levied on a ‘thing” and paid by an individual by virtue of his association with that
“thing”. It is included in the product’s price / service and is unknown to the buyer. The impact could
be on one person and the incidence on another through tax shifting, e.g. customs duty, VAT and
excise duty.
Merits
a) Indirect taxes have fewer collection points and making it convenient to collect them
b) It is not easy to evade as they are included in the product’s price / service.
c) They present no difficulty in definition i.e. there is no room for manipulation of the tax base.
d) Since indirect taxes are related to consumption of luxury and semi-luxury goods, increases in such
taxes may give incentives to save more and consume less thus providing funds for capital
accumulation / formation. Such taxes may free foreign exchange for importing capital goods for
development and minimize foreign exchange crisis.
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e) Indirect taxes are convenient since they are paid in small instalments at times of sale or purchase
and therefore it may be argued that they are not burdensome since they are not felt directly.
f) They are most relevant to developing countries because the revenue turnover from them is high.
g) It is a flexible tax system that can be applied selectively. The rates can easily be modified to suit
the central authority’s wishes to steer the economy in the desired direction.
h) They are imposed on different types of products consumed by different consumers differently /
selectively.
i) Indirect taxes can be used as an economic tool in moulding the production and investment
activities of the economy by guiding the economic resource allocation to remedy the defects of
price mechanism.
Demerits
a) They negate the principle of ability to pay and are unjust to the poor. By their nature, they are
spread over to cover items that are purchased generally by the poor thus making them regressive
in nature.
b) They militate against the objective of least aggregate sacrifice. This ill effect of indirect taxes is
sought to be corrected by heavily taxing luxury items. However, such a correction can only be
partial since taxing luxuries alone will not yield adequate revenue for the state.
c) They feed inflationary forces. They begin by adding to selling prices of the taxed goods without
touching on the purchasing power of the taxpayer. The result is that in their case inflationary
forces are fed through higher prices, higher cost and wages and again higher prices (cyclical effect
of taxes).
1) Progressive Taxes
These taxes that take a larger proportion of people’s income when their incomes are increased. It is a
tax where, with increased income the tax liability not only increases in absolute terms but also as a
proportion of the increased income. The graduated scale rates used in taxing individuals in Kenya are
based on this system.
Advantages
a) It conforms to the canon of ability to pay.
b) It helps in the achievement of social justice by endeavouring to achieve least aggregate sacrifice
of taxpayers’ resources.
c) It helps to redistribute economic resources by taxing the rich and applying their excessive wealth
on essential services that benefit the poor. This reduces the gap between the rich and the poor.
d) It deters the rich from misusing economic resources of luxuries, non-essential goods and services
that do not have productive benefit to the society.
e) It helps to achieve a state of good health and productivity of masses thereby avoiding a state of
civil unrest or social disorder.
f) It helps the economy to have firm/stable demand because the rich are heavily taxed during boom
periods and also they get high tax credits during the depressed periods.
g) It is administered conveniently resulting in less administrative and collection costs.
Disadvantages
a) It kills the incentive to work harder because extra earnings are taxed off thereby leaving no
benefits to hard workers who would prefer leisure.
b) It reduces savings ability. The rich save from their excesses to facilitate capital accumulation.
However progressive taxes draw all the would be savings to the public spending, thus denying the
private sector from saving to invest for further economic growth.
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2) Proportional Taxes
These are taxes that take the same percentage of peoples’ incomes irrespective of their levels of
income. The tax increases in the same proportion as the increase in income. This implies a direct
linear relationship between the tax payable and amount of income.
Advantages
a) Basing on the human inability to determine the correct degree of progression, proportional tax is
assumed to be better.
b) It is simple to administer because it is easy to be decided and enforced without requiring
complicated rates.
c) It does not change the relative position of different taxpayers since each is subjected to the same
proportion of tax on his earnings. This implies a quality of neutrality to the allocation of
resources.
Disadvantages
a) It is a regressive tax because it weights heavily upon the poor and leaves the very rich to pay little
tax with continued increases in their wealth.
b) It negates the principle of least aggregate sacrifice.
3) Regressive Taxes
This is a tax, which takes a smaller percentage of peoples’ incomes when their incomes increase.
People who earn lower incomes are taxed heavily than those who earn higher incomes in relative
terms. It implies that the tax rates increase at decreasing rate with increase in income consequently
the poor are taxed heavily than the rich on their additional earnings.
Advantages
a) It results in increased earnings of government revenue since the tax base is broadest being based
on the majority poor.
b) It forces the accumulation of capital formation and savings which the poor would not otherwise
save being with a higher propensity to consume. Such capital accumulated may be invested in
strategic projects for the benefit of all.
c) Wealth is left with the rich to save and invest in strategic private enterprises that promotes the
private sector and creates more employment.
d) It motivates people to work harder and enter higher income brackets thereby increasing economic
wealth.
4) Digressive Taxes
The tax is called digressive when the higher income earners do not make a due contribution or when
the burden imposed on them is relatively less. This will happen when a tax is only mildly progressive
i.e. when the rate of progression is not sufficiently steep.
A tax may be progressive up to a limit beyond which the same rate is charged. In that case, there may
be lower relative sacrifice for the larger incomes than for the smaller incomes. Another way in which
a digressive tax may occur is when the highest percentage is set for that given type of income on
which it is intended to exert most pressure; and from this point onwards the rate is applied
proportionately on higher incomes and decreasing on lower income, falling to zero on the lowest
incomes.
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c) Taxes on imports or exports e.g. import duty and export duty.
Each tax base has to be defined legally and it is to be quantified for determining tax liability of
taxpayers. When determining a tax base, the cost of collection, administration cost and the tax effect
on the economy are put into consideration.
Tax bases can be extended or narrowed by including certain new items that previously were not
included or excluding old items that were previously included respectively e.g. VAT.
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CHAPTER THREE
The government, for the purpose of economic stability and acceleration of economic growth adopts
budgetary and fiscal measures.
1) Budget
A budget is an annual statement tabled before the National Assembly by the Minister of Finance,
which consists of revenue and expenditure estimates for a particular fiscal year.
a) Long term loans from external international financial institutions such as IMF, World Bank,
African Development Bank etc.
b) Aid or donations from friendly countries and from Aid Agencies such as; JAICA, USAID, GTZ,
DANIDA, WORRLD VISION, KEFINCO, OXFAM etc.
c) Public debt e.g. sale of treasury bills or treasury bonds.
d) Sale of state property.
e) Privatisation of state corporations.
The main expenditure heads under this budget include development projects such as construction of
roads, airports, state building, establishment of new agricultural projects etc.
When the budget is presented before the government, it is deliberated on by members of parliament
and once approved it becomes a law of the land.
A budget plays an important role as an instrument of development planning. A budget is a plan of the
use of the national resources plus the nation’s output capacity. The budget does not confine itself to
the review of public sector but also addresses the private sector and the informal sectors. Thus the
budget becomes an overall regulator of all the determinants of economic growth. Through a budget
the government is able to encourage / discourage private expenditure.
An annual budget is usually prepared in terms of a 5-year development plan. The 5-year plan is a
framework of a 20-year plan.
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Budgetary policies measures designed to achieve specifically defined budgetary objectives such as
price stability, acceleration of employment levels, investment acceleration etc. A budget is thus a
major measure by which the government is able to regulate the economy towards the desired
direction.
2) Fiscal Policy
The issues of fiscal policy are relatively modern thoughts in economics and were as a result of a work
of Lord Keynes who advanced the Theory of Interest, Money and Employment. The fiscal policies
can be defined as those policies according to which the government uses money and other revenue
programs to achieve economic objectives and reduce undesirable effects on the economy, on national
income, production and employment.
These policies are also concerned with determining the type, timing and procedure that shall be
followed in making government expenditure and the time of obtaining government revenue to
undertake activities that ensure economic growth.
In Lord Keynes analysis, a fiscal policy uses public finance and subsequently causes development in
the economy. Thus fiscal policies could be said to be a combination of those deliberate changes in
government expenditure programs, government revenue programs, tax programs, debt management
policies etc. to bring about economic development.
However fiscal policies are not universal worldwide since countries are not the same. Fiscal policies
of a developed country are different from those of a developing country and those of a least
developed country.
The main instruments of fiscal policy are: Public expenditure, public revenue and public debt.
A developing country must aim at raising rates of savings and diversion of resources to productive
investments. Any good tax policy must mobilize economic surpluses i.e. the excess of current output
over essential consumption for the purpose of accelerating the savings.
In an underdeveloped country greater attention needs to be paid to indirect taxes because;
a) They promote development by checking any unnecessary consumption e.g. on luxuries and semi
luxuries.
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b) They mobilize resources for the public sector
c) They increase the savings ratio
However, suitable tax policies for an under-developed country must all the time aim at:
a) Diversion of resources to the private sector
b) Reduction of consumption of goods and services
c) Encouragement of exports and import substitution
d) Increase in local and foreign investments.
Summary
There is need to understand the nature and types of taxes to be imposed when establishing a tax system.
Failure to know and understand the effects of a tax can result in very serious consequences in an
economy. To avoid this there must be a clear understanding of the types of taxes, proper planning and
thorough knowledge of the impact and incidence of any tax to be levied. Ignoring the obvious dangers of
a given tax is tantamount to "plunging headlong for disaster"
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CHAPTER FOUR
Introduction
Income Tax was introduced in Kenya in 1936. For the success of the tax system established there must
be a set of rules and regulations. The Income Tax Act, Chapter 470 of the Laws of Kenya, governs
income taxation in Kenya. The Income Tax Act (Cap 470) consists of 14 parts, 133 sections and 12
schedules.
The Kenya Revenue Authority (KRA) was established by an Act of Parliament, Chapter 469 of the
laws of Kenya, which became effective on 1st July 1995. The Authority is charged with the
responsibility of collecting revenue on behalf of the Government of Kenya.
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.
Organization
The Authority is a Government agency that runs its operations in the same was as a private enterprise.
In order to offer better single-window services to taxpayers, KRA is divided into five Regions as
follows:
In terms of revenue collection and other support functions, the Authority is divided into the following
Departments:
a) Customs Services Department
b) Domestic Taxes Department
c) Road Transport Department
d) Support Services Department
Each Department is headed by a Commissioner. In addition to the four divisions the Authority has
seven Service Departments that enhance its operational efficiency.
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d) Board Corporate Services and Administration Department
e) Internal Audit Department
f) Management Information Services Department
g) Research and Corporate Planning Department
Sec. 3(1) of the Income Tax Act Cap 470 states “subject to and in accordance with this Act, a tax to
be known as income tax shall be charged for each year of income upon all the incomes of a person
whether resident / non resident which is accrued in or was derived in Kenya”. Income tax is a tax on
income. Sec. 3(1) imposes a tax on such incomes.
The Income Tax Act has made no express definition of income. However Sec. 3(2) classifies
incomes by reference to the sources from which they are derived. It states, “subject to this Act
income upon which tax is chargeable under this Act shall be income in respect of;
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Specified Sources of Income (Sec. 15{7} [e])
a) Rights granted to other persons for use or occupation of immovable property;
b) Employment (including former employment) of personal services for wages, salary, commissions
or similar rewards(not under an independent contract or service) and self employed professional
vocation;
c) Employment the gains or profits from which is wife’s employment income, profession the gains
or profits from which is wife’s professional income and wife’s self employment the gains or
profits from which is wife’s self-employment income, (incomes of a married woman derived by
her at arm’s length);
d) Agricultural, pastoral, horticultural, forestry or similar activities, not falling in (a), (b) or (c)
above;
e) Surplus funds withdrawn by or refunded to an employer in respect of registered pension or
registered provident funds which are deemed to be income of the employer under Sec. 8(10) of
ITA; and
f) Other sources of income chargeable to tax under Sec. 3(2) (a), not falling within subparagraphs
(a), (b), (c) or (d) of this paragraph.
Tax is charged upon a person’s total income i.e. from all the sources mentioned above. Income is not
necessarily a receipt of money but rather a profit of an income nature. Thus certain benefits in kind
from employment may be taxed in the same way as cash emolument received by way of employment.
To be taxable, profit can either be money or money’s worthy but if the money worth is not capable of
being turned into money by the person receiving the benefit, such shall not be regarded as income for
tax purposes.
Income must come from a designated/specified source as per Sec.15 (7) (e) of the Act. It is on the
basis of the designated sources that most casual profits or increments are not taxed e.g. donations,
gifts of money from friends, dowry and charity winnings. To be taxable, income must arise from one
or more of the sources enumerated in Sec. 3(2). However under Sec. 3 (2) (e), legislative powers
have been given to deem something as an income which may not necessarily fall within any of the
other sources
Deemed Incomes
a) Income of a married woman shall be deemed to be the income of the husband, Sec. 45 (1)
b) Sums received from an insurance against or compensation for loss of profit shall be deemed to be
gains or profits of the year of income in respect of which they were received, Sec. 4)c).
c) Business income arising from a business that is carried on partly in Kenya and partly outside
Kenya shall be deemed to be derived in Kenya, Sec. 4 (a).
d) Sums recovered or released from previous years provisions and reserves, Sec. 4 (d)
e) On cessation of a business balancing charges which arises, Sec. 4 (e).
Income must be distinguished from capital profits. A particular receipt or expenditure must be tested
to see if it has a quality of capital or income by ascertaining whether it has been received or paid on a
fixed or circulating capital.
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g) The income of registered pension scheme.
h) The income of any registered trust fund.
i) The income from investment of any annuity fund as defined in Sec. 19 of the ITA, of an insurance
company.
j) Pension or gratuities granted in respect of wounds or disabilities.
k) Interest on a savings account held with post bank.
l) Interest paid on loans granted by the Local Government Loans Authority.
m) The income of a non-resident person who carries on the business of air transport provided the
country where that person is resident offers the same facility in the similar business.
n) The income of a registered individual retirement fund (IRF).
o) The income of a registered home ownership savings plan.
p) The allowances to the Speaker, Deputy Speaker and Members of Parliament payable under the
National Assembly Remuneration Act.
q) Partially exempt interest up to maximum of Ksh. 300,000 per individual earned on housing bonds
account.
2) Sec. 14 of Part II of the First Schedule of the ITA specifies that interest on the following
securities is exempted from income tax:
a) Kenya Government securities.
b) East African Commission securities.
c) Nairobi City Council securities
Note: This exemption applies to only non-resident persons.
3) Any class of income which accrues in or derived from Kenya can be declared exempt from tax by
the Minister of Finance in the Kenya Gazette. The Minister can withdraw any exemption
previously granted
4) If resident companies receive dividend from companies where they control more than 12.5% of
the voting power of the dividend paying company, the dividend is exempted from income tax,
Sec. 7 (2).
5) A dividend received as income under Sec. 3 (2) (a)(i) by a financial institution specified in the
Fourth Schedule of ITA Cap 470, shall be exempted from taxation.
6) The following income of individuals is exempted from taxation:
- The cost of passages to and from Kenya of non-citizen employees borne by the employers,
Sec. 5 (4) (a).
- The value of any medical services provided by the employer to full-time employees, WTSD
and Non-WTSD; but to the maximum of Ksh. 1,000,000 in the case of the Non-WTSD.
- Employer’s contribution to the pension/provident fund/schemes, Sec. 5 (4) (c).
- Benefits, advantages or facilities of an aggregate value of less than Ksh. 36,000 p.a. in respect
of employment or services rendered. This is exclusive of those benefits which are expressly
chargeable to tax, Sec. 5 (2) (b).
- The first Ksh. 180,000 p.a. of pension, retirement annuities and NSSF received by a resident
individual in Kenya from registered pension schemes only, Sec. 8(4).
Assessable Persons
Sec. 44 of the Income Tax Act states, “Where under this Act the income of a person is chargeable to
tax, that income shall, subject to this Act, be assessed on, and the tax thereon charged on, that
person”. Note: A person shall include individuals i.e. natural persons and bodies of persons (artificial
persons) i.e. companies. Company under the companies Act Cap 486 includes co-operative societies,
trade, estates, trust etc.
However partnerships are not assessable persons, since they are not separate legal entities. They are
therefore not separate taxable entities. The income from a partnership is indeed income of the
partners as individuals and thus taxed in their own names. This feature is recognized under sec 3 (3),
which states, “for the purpose of this section, a person does not include a partnership”.
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Exceptions to Sec. 44 of the Income Tax Act.
The self-assessment return will be made out of the name of the trustee or the guardian and giving the
name of the incapacitated person on whose behalf it is being assessed or charged. In the year in which
the person attains majority, the full year’s income will be computed and the tax calculated and two
self assessments will be prepared, one for the period before majority and the other one for post
majority with income divided on a time basis and the tax divided pro rata to the income. One self-
assessment will be in the name of the trustee or guardian etc while the other assessment will be in the
name of the individual who henceforth will be assessable in his own name.
Sec. 47(2) and Sec. 9 (1) Incomes of a Non-Resident Ship or Aircraft Owner
Where a non-resident person carries on the business of ship owner, a chatterer or air transport
operator and a ship or aircraft owned or chartered by him calls at any port or airport in Kenya, the
gains or profits from that business from the carriage of passengers who embark, or cargo or mail that
is embarked, in Kenya shall be that percentage of the full amount received on account of the carriage
which the Commissioner may determine to be just and reasonable: and those gains or profits shall be
deemed to be income derived from Kenya: but this sub -section shall not apply to gains or profits
from the carriage of passengers who embark or goods or mail which is embarked , in Kenya solely as
a result of transshipment.
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Residence
The residential status of a person is relevant in relation to income tax since it will affect: -
a) The scope of the charge to tax i.e. applicable rates, exemptions, tax at source and
b) The grant of relief.
Residence for tax purposes implies the physical residence or presence in Kenya in a particular year of
income. Tax residence has got nothing to do with ones nationality or citizenship or domicile. Physical
presence in Kenya means being within:
Sec 2 of the Income Tax Act defines residence when applied to an individual to mean.
a) He has a permanent home in Kenya and was present in Kenya for any period or periods in the
year of income under consideration, or
b) Has no permanent home in Kenya but was present in Kenya for a period or periods amounting in
the aggregate to 183 days or more in that year of income or,
c) Has no permanent home in Kenya but was present in Kenya in such a year of income under
consideration and in each of two preceding years of income for periods averaging more than 122
days, in each year of income.
In relation to individuals, residence is determined in relation to year of income and thus a person may
be resident in one year of income and not in another. A person for the purposes of personal relief may
be deemed resident for part of the year only. An individual must be physically present in Kenya
however short a period during a particular year of income before he’s deemed to be a resident for that
year. If an individual has a permanent home in Kenya and sets foot in Kenya in a year of income no
matter how short the time, he will be deemed to be resident for the whole year. He needs not visit his
permanent home.
The term “permanent home” has not been defined by the Act, but it should be construed in its
ordinary sense. In the Commissioner General of Income Tax Vs. Nurudin Hassan Ali Nurani an
indication is given as to how the courts would interpret the expression permanent home. This case
was concerned with whether the taxpayer “had a home in the partner state,” i.e. the definition
contained in the East African Income Tax Management Act. In interpreting home the courts
considered the following points: -
a) An individual could have more than one home and one of it could be outside the partner states
without contradicting the definition.
b) A home does not necessarily mean a house or a bungalow or flat where you live. It could even be
a hotel room.
c) The home may be owned or rented
d) The home must be available at least for a part of the year.
e) In a home one could expect to find the family and or personal belongings
f) The individual and or his family must occupy the home.
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Sec. 2 of the Act it defines residence in relation to a body of persons to mean:
a) That the body is a company incorporated under the laws of Kenya
b) That the management and control of the affairs of the body was exercised in Kenya in a particular
year of income under consideration.
c) The body has been declared by the Minister of Finance by a gazette notice to be resident in Kenya
for any year of income.
When determining the place where control and management of a company lies, this becomes a
question of fact. In each case the normal test would be to consider where meetings of the board of
directors are normally held since the management and control of a company is usually vested in its
directors.
In Respect of Individuals
a) Resident individuals are eligible to claim personal relief but non-resident individuals do not claim
such relief.
b) The total income of resident individuals is taxed as an aggregate amount at the graduated scale
rate of tax whereas for non-resident individuals certain incomes are taxed at specified rates.
c) Resident individuals are allowed on certain expenses while non-resident individuals are taxed on
the gross income i.e. no expenses allowed.
In Respect of Corporations
a) The corporation tax rate for resident bodies of persons is lower than for non-resident companies.
b) The taxable income of resident companies is taxed on the basis of aggregate amount while for
non-resident companies it is based on specified incomes at specified rates.
c) Resident companies are allowed on certain expenses (Sec. 15) whereas non-resident companies
are not allowed on such expenses.
Year of Income
Year of income is a period in reference to which income is brought to tax. It is a period of 12 months
commencing on 1st of January and ending on 31st December each year. It is the same as a calendar
year. An accounting year is a period in which the accounts of an organization are drawn up. It may
not necessarily end on same date as calendar year.
Sec 27(1) of ITA states,” where a person usually makes the accounts of his business for a period of
12 months ending on a day other than 31st December, then, for the purpose of ascertaining his total
income for a year of income, the income of an accounting period ending on that other date shall,
subject to such adjustments as the Commissioner may consider appropriate, be taken to be income of
the year of income in which the accounting period ends.
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CHAPTER FIVE
EMPLOYMENT INCOME
Introduction
This is one of the separate sources of income by itself. An employee is normally taxed on cash and non-
cash payments arising from employment. Employment income is one of the most common sources of
income and therefore requires particular attention.
The source of income is determined by residential status of the employee and where he was recruited
from. In Kenya, a resident employee is taxed on employment income earned from any place in the world
so long as he was recruited in Kenya by a resident employer or a permanent establishment in Kenya of a
non-resident employer.
The ITA does not define employment but covers any relationship between master and servant arising
from a contract or agreement. The scope of the Act extends to services rendered by one person to
another other than in the course of employment or as part of business.
Definition of Terms
Employer
An employer is taken when necessary to include:
a) Any person having the control of payment of remuneration of another.
b) Any agent, manager, or other representative in Kenya of any employer who is outside Kenya.
c) Any paying officer of the government or other public authority.
d) Any trustee or insurance company or any other body paying pensions.
An employer will thus include a manager of a branch or a firm. The employer must decide which
offices shall be the paying point and ensure that those in charge of the paying are adequately
instructed of their duties under PAYE scheme. The paying point is the place at which the
remuneration is paid.
Employee
This word is defined as inclusive of any holder of an appointment of office, whether public or
otherwise, for which remuneration is payable. “Employee should be read as including for example
minister, chief, any public servant, company director (resident or non-resident), secretary, etc, in
addition to those more commonly known as employees. It includes an employee who retires on
pension and stays in Kenya where the registered pension fund benefits exceed Ksh. 180,000 per
annum.
Cash Benefits
a) Cash payments such as salaries, wages, leave pay, sick pay, payment in lieu of leave, directors
fees, overtime, commissions, bonuses whenever paid, gratuity and compensation for termination
of a contract of employment or compensation for loss of office.
b) Cash allowance and all round sum expense, allowance paid by an employer e.g. house, hardship
and commuter allowances.
c) Any private expenditure of an employee that is paid for by the employer. Usually such expenses
are in the name of the employee but are paid for by the employer e.g. electricity bills, water bills,
shopping bills, school fees for employees’ children, insurance premiums etc.
d) An amount of subsistence, travelling, entertainment and mileage allowance. However where these
are paid to an employee as mere reimbursements (refunds) of the employer’s expenses they will
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not be taxable. All reimbursements must be documented i.e. they must be supported with
documentary evidence.
e) Amounts that are deemed to be gains or profits from employment derived from Kenya i.e. an
amount that is paid to a resident person for employment or service rendered inside or outside
Kenya. A resident individual is taxed on employment income arising in Kenya or from outside
Kenya i.e. worldwide employment Income
f) Any amount that paid for employment or services rendered to an employer who is resident in
Kenya and who has a permanent establishment in Kenya by a non-resident person will be taxed in
Kenya.
Non-Cash Benefits
Any benefits, advantages or facilities of whatever nature that arise by virtue of ones employment. The
value of benefits in kind that are taxable should aggregate to Ksh. 3,000 p.m (36,000 P.A). With
effect from1 1 2006 (previously it was Ksh. 2,000 p.m.).
1) Facilities such as free lunch, transport, gifts to employees, free meals etc.
2) Provision of Servants
This include a house servant, a cook, watchman, gardener, an Ayah (maid), bodyguard,
messenger, chauffer etc. The values of such benefits are taxed on the higher between the market
cost and actual cost incurred by the employer, the employee is taxed on the higher.
3) Provision of Services
They include water, telephone, electricity, furniture, alarm system etc. The CDT quantifies the
value of such benefits to the employee through the quantified benefits tables. Where the
quantified benefit is different from the cost of providing the service to the employer, whichever is
the greater shall be the taxable value.
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non-cash benefits).
Note: With effect from June 1998, the Commissioner introduced new provisions regarding the
value of housing for whole time service directors and directors other than WTSD. Quantification
of housing benefit for other employees remains as before.
The housing benefit shall be taken to be 15% of employment income provided that:-
- If the employer pays rent under an agreement not made at arms length with a third party the
value of the quarters shall be the fair market rental value of the premises in that year or the
rent paid by the employer which ever is greater; or
- Where the premises are owned by the employer the fair market rental value of the premises
shall be the taxable benefit.
Note: The fair market rental value should be taken to mean the amount of rent that the premises
would attract if it were floated in the open market for leasing. An independent registered land
valuer should carry out the valuation.
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Exceptional Cases on Taxation of Housing Benefits
There are certain instances that would provide a strong case for employees not to be taxed on the
benefit of a house provided by the employer; for example:
a) Where a house is provided as a basis for effective performance of the duties of an employee e.g. a
house provided to a building caretaker.
b) Where housing is of necessity to an employee’s proximity to their work e.g. matron of a school,
captain of ship etc.
c) Where an employee is under a form of threat or where the accommodation is part of a security
detail e.g. the occupation of soldiers within the barracks housing provided to researchers in
undisclosed residences.
Low interest rate on employment benefit also applies to directors and it will continue to apply even
after the employee or the director has left employment and as long as the loan remains unpaid.
Following the amendments to the law and the introduction of fringe benefit tax, which is, payable by
the employer, the determination of the chargeable benefit will now be in two categories i.e.
a) For loans provided on or before 11th June 1998. The employee will continue to be taxed on the
low interest rate benefit in respect of such loans based on Commissioner’s prescribed rate.
b) For loans provided after 11.6.1998, or loans provided on or before 11.6.1998, and whose terms
and conditions have changed after 11.6.1998, the value of fringe benefit will be the difference
between the interest that would have been paid on the loan calculated at the market rate, and the
actual interest rate. A tax known as fringe benefit tax (Sec 12 B) has been introduced on such
loans and will be payable by employers commencing 12th June 1998. The fringe benefit shall be
taxable at the corporation tax rate ruling then.
The fringe benefit tax shall be charged on the total taxable value of fringe benefit each month and
the tax payable paid on the normal PAYE date. Thus employers will be required to pool all the
fringe benefit tax in each month. The provisions for fringe benefit tax shall include any loan from
a non-registered pension fund. Market rate of interest means the average rate of interest for 91-
day treasury bills issued in the last quarter of the year. Fringe benefit tax is payable even where
corporation tax is not due from employer in question.
Where an expatriate engages in commercial or any other activity outside the terms and conditions of
employment, he may loose the passage. Where an expatriate employee receives cash either
periodically or in one amount, which he is free to save or spend on whatever passages he chooses or
for any other purposes, such shall be taken as taxable cash allowances. The provisions for passages
also include leave passages to his employees and their families. Passages are in form of air tickets
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purchased by the employer and remitted to the employee to facilitate the travel or reimbursing the
employee on amounts incurred on the passage.
2) Medical Expenses/Benefits
Where an employer has a written plan or scheme or by practice he provides free medical services to
all his employees (non-discriminatory medical scheme), the value of such medical services /benefits
is non-taxable on the ordinary employees, whole time service directors and non-whole time service
directors (but to the maximum of Ksh. 1000,000 for this last group). Where the employer has no
written plan or scheme or has a medical scheme that caters for some employee’s only e.g. senior staff
(discriminatory medical scheme), the payment of medical bills / benefits will be taxable benefits on
the recipients.
Approved Institution
The financial institution specified under the Fourth Schedule of the Income Tax Act includes:
a) A bank or a financial institution licensed under the Banking Act.
b) An insurance company licensed under the Insurance Companies Act.
c) A building society registered under the Building Societies Act.
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4) Owner Occupier Interest /Mortgage Interest on Owner Occupied Property
The interest paid by a person /individual on an amount borrowed from a specified financial institution
shall be deductible. The amount must have been borrowed to finance either:
a) The purchase of premises or
b) Improvement of premises, which he occupies for residential purposes
The amount of interest allowable under the law must not exceed Ksh.100, 000 per year (equivalent to
Ksh. 8,333 per month and Ksh. 8,337 in the month of December from 1.1.2000) and Ksh. 150,000 per
year (equivalent to Ksh. 12,500 p.m. from year 2006).
If any person occupies any premises for residential purposes for part of a year of income, the
deduction shall be reduced accordingly. On the other hand no person may claim a deduction in
respect of more than one residence. Following an amendment to Sec. 45 of the Income Tax Act
through the 1999 Finance Act, a married woman can now file her own separate return of income and
declare income from employment, professional or self-employment. In view of this, she has the
option to claim for deduction of interest paid if the property is registered in her own name. Employer
must obtain a signed declaration to the effect that she is the one claiming the deduction to avoid her
husband making a similar claim.
Employers will be required to ascertain and allow interest paid on money borrowed to finance owner
occupied residential premises under the PAYE system subject to the following conditions:
a) The amount of interest to be allowed must not exceed Ksh. 12500 p.m. (Ksh. 150,000).
b) Where the employee redeems such loan in the course of the year and no interest is subsequently
payable, such allowable deductions shall cease forthwith upon redemption of loan.
c) The employee shall sign a declaration-indemnifying employer against any false claim in this
respect.
d) The employer shall attach to P9A photostat copy of preceding years’ certificate or confirmation of
current year’s borrowing whichever is applicable from the financial institution advancing the
loan. The certificate must show the current loan balance, rate of interest, and amount of interest
paid in the preceding or current year if any.
e) Employers are expected to review their payrolls starting the month of September and make
necessary adjustment to ensure that by the end of the year correct amount of interest has been
allowed.
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e) Education fee, examination fee, subscriptions etc paid to colleges, universities and polytechnics
by an individual to improve his employment capability.
30
CHAPTER SIX
Introduction
After establishing the sources of income and obviously the administrative machinery of the Income Tax
the next task is the collection of tax. The question therefore is at what rate, and how and when do we
collect tax? The rates of tax, personal relief, set-offs and withholding tax are taken into consideration
while computing the net tax liability of taxable persons.
Rates of Tax
These are given in the Third Schedule of the Income Tax Act (Cap 470). These rates are revised from
time to time. The rates of tax are given separately for individuals and body corporate.
Personal Relief
It is relief claimed and granted to resident individuals only. A relief is a set-off against taxes payable.
The effect of a relief is to reduce one’s tax burden.
From 1.1.1997, all other relief (Family relief, Single relief, Special Single relief and Insurance relief)
were abolished and replaced with one relief that applies to all individuals equally, known as Personal
Relief. The rates are as follows: Ksh. 7,200 (1997), Ksh. 7,920 (1998), Ksh. 8,712 (1999), Ksh. 9,600
(2000), Ksh. 11,520 (2001), Ksh. 12,672 (2002), Ksh. 13,944 (2005/2006) per annum.
Note: Insurance relief has been reintroduced with effect from 1.1.2003 with special provisions as
explained below.
Insurance Relief
A resident individual shall be entitled to insurance relief at the rate of 15% of premiums paid subject
to maximum relief amount of Ksh. 5,000 per month (or Ksh. 60,000 per annum) if he proves that:
- He has paid premium for an insurance made by him on his life, or the life of his wife or of his
child and that the insurance secures a capital sum, payable in Kenya and in the lawful currency of
Kenya; or
- His employer paid premium for that insurance on the life and for the benefit of the employee
which has been charged to tax on the hands of that employee; or
- Both employee and employer have paid premiums for the insurance:
Provided that:
- No relief shall be granted in respect of part of premium for an insurance which secures a benefit
which may be withdrawn at any time at the option of the insured.
- Premiums paid for an education policy with a maturity period of at least 10 years shall qualify for
relief.
- Only premiums paid in respect of an insurance policy taken on or after 1st January 2003 shall
qualify for relief.
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Notes
- Employers must avail to the employer a certificate from insurer showing particulars of the policy
e.g. name of insured, type of policy, capital sum payable, maturity date, premiums payable and
commencement date of the policy.
- Employers should review their pay-rolls towards the end of the year and make necessary
adjustments to ensure that the correct relief had been granted. No relief is available in respect of
insurance policy that elapsed in the course of the year.
- Employer shall attach a copy of the certificate furnished by insurer confirming premiums paid and
that the policy was still in force to the employee’s P9A, P9B and P9A (HOSP) Tax Deduction
Card for that year.
- For the purposes of insurance relief “child” include a step child and an adopted child who was
under the age of eighteen years on the date the premium was paid.
Withholding Taxes
The Income Tax requires withholding taxes or taxes at source to be deducted from the point of
payment and such taxes remitted to the CDT. Examples of incomes whose taxes are deducted at
source are:
a) Employment income
b) Dividends and interest
c) Pension income.
d) Insurance commissions
e) Farming income subject to presumptive income tax.
This means that the incomes that are subject to withholding tax received by a resident or non-resident
person will be received net of taxes. Withholding tax is not an additional tax nor a separate tax nor a
special tax. It is a mere administrative procedure of deducting and remitting income tax on certain
incomes and minimizes chances of tax evasion.
Besides, it is administratively cheaper for the DTD to collect taxes through withholding tax since the
cost of collection is borne by the person who has been given the statutory obligation to collect such
taxes. Withholding tax is an advance payment of tax. The person making payment of the incomes
which are subject to withholding tax has a statutory obligation to deduct the withholding taxes at their
appropriate rates before making the payment to the person they are due and;
a) Remit the tax so deducted to the DTD, (PAYE by the 9th of the following month and for other
incomes subject to withholding tax, by the 20th of the following month following the month of
deduction).
b) To pay the payee the amount net of tax.
c) Issue the payee with the certificate of WHT or the tax paid at source.
At the end of the year the person will be assessed on the gross income but a credit will be given as a
set-off for all taxes paid in advance, except in those cases where WHT is a final tax. A set-off tax
must be made in the same year in which the deduction took place.
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Withholding Tax Rates
Resident Notes Non-Resident
Payee Payee
Management fee 5% 1 20%x
Royalties 5% 20%
Leasing equipment 15% 2 15%
Dividend <12.5% voting power 5%x 15%x
>12.5% voting power Exempt 10%
Interest from financial institutions and 2 yr. bearer bonds 15%x 3 15%x
Interest form bearer certificates 25%x 3 25%x
Housing bond interest 10%x 3 and 4 15%x
Rents – immovable property N/A 30%x
Pension and taxable withdrawals from pension/provident funds 10%-30% 5 5%x
Insurance commissions 10%x 6 20%x
Contractual fees 3% 7 20%
Consultancy and agency fees 5% 7 20%
Consultancy fee to EA Community Countries N/A 15%
Surplus pension fund withdrawals 30% 30%
Shipping Business N/A 8 2.5%
Gross amount of consideration for disposal of property 3% 9 3%
Payroll Preparation
The preparation of a Tax Deduction Card should not be confused with preparation of a Payroll. The
Tax Deduction Card is prepared to calculate how much tax should be deducted from the salary of the
employee while a Payroll is prepared to show the gross salary, deductions and net wages.
A payroll is a list of all employees showing for each employee the gross pay, various statutory and
other deductions and the net pay. Various deductions from the employee’s pay include the following:
a) P.A.Y.E tax
b) National Social Security Fund (NSSF)
c) National Hospital Insurance Fund (NHIF)
d) Other deductions for Welfare Fund, Union Fees, Salary advance, Co-operative Loans etc.
The following are the statutory deductions, which must be made where applicable, by all employees:
a) PAY As You Earn (PAYE)
b) National Social Security Fund (NSSF)
c) National Hospital Insurance Service (NHIS)
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National Social Security Fund (NSSF)
The National Social Security Fund is a Government Fund that was established in 1965 by the NSSF
1965 for the benefit of workers. It is a compulsory scheme into which the employer pays a statutory
contribution for every employee who is a member of this fund. The scheme is applicable to those
employee having more than five employees.
The average contribution is 10% of a worker’s wage, half of which is paid by the employer and half
by the worker. The Act provides that the maximum contribution payable in respect of:
a) A member paid monthly shall be Ksh. 400 of which Ksh. 200 may be recovered from the
employee’s wage.
b) A member paid fortnightly shall be Ksh. 200 of which Ksh. 100 may be recovered from the
employee’s wage; and
c) A member paid weekly shall be Ksh. 100 of which Ksh. 50 may be recovered from the
employee’s wage.
a) Age Benefits-This will be paid to a member at the age of sixty or when he ultimately retires from
paid employment, whichever is later.
b) Withdrawal Benefit-This will be paid to member who is at least fifty-five years of age and has
not engaged in paid employment during the previous three months.
c) Invalidity Benefit-This will be paid to a member who is permanently incapable of work because
of physical or mental disability.
e) Emigration Grant-This will be paid to a member who is permanently emigrating from Kenya.
Each of the above mentioned benefits will consist of the total sum outstanding to the credit of the
member at the time i.e. the member’s contributions, his employer’s contributions and the interest
earned by those combined contribution over the years of his membership.
b) Formal application through the employer is required in respect of an employee for whom
exemption is being claimed on the following grounds:
- As an employee who is not ordinary resident in Kenya
- As a person in the service of any University or College who is entitled to receive benefits
under a superannuation scheme other than the superannuation scheme for University.
34
This is a statutory deduction made under the National Hospital Insurance Act. The Act requires every
employee earning Ksh. 1,000 or more per month to contribute Sh.20 per month towards this fund.
The stamps are to be affixed on each contributor’s cards, which are provided by the NHIS. The
stamps are then cancelled either by employer’s rubber stamp or by initialing across the face.
Married women and employees earning less than Ksh.1, 000 are exempt from this contribution.
However, an employee earning less than Ksh. 1, 000 can become a member of the voluntary scheme.
Members or contributors and their families (husband, wife or children) are given certain refunds
when they are hospitalized. The refund depends upon the grade of the hospital and the nights spent in
the hospitals.
It should be noted that refunds are applicable to in- patient hospital expenses and not outpatient
expenses.
35
CHAPTER SEVEN
Note: Mere physical detachment of spouses due to the demands of work does not constitute a
separation.
a) Medical profession under the Medical Practitioners and Dentists Act Cap 253.
b) Dental profession under the Medical Practitioners and Dentists Act. Act Cap 253.
c) Legal profession under the Advocate’s Act Cap 16.
36
d) Surveyor; either a land surveyor registered under the Surveyors Act Cap 299; qualified and
registered as a fellow, a profession of the Royal Institute of Chartered Surveyors.
e) An architect or quantity surveyor, registered under the Architect and Quantity Surveyors Act Cap
525.
f) Veterinary surgeon registered under the Veterinary Surgeons Act Cap 366.
g) An engineer under the Engineers Registration Act Cap 530.
h) An accountant or an auditor registered under the Accountants Act Cap 531.
i) Certified Public Secretary registered under the CPS Act Cap 534.
Where a married woman derives professional income from a professional practice where the husband
is a partner or has control, such income will not be assessed on her separately. The loss of the wife is
deemed to be the loss of the husband. A deficit at the time of marriage becomes the husband’s deficit
to be offset against future income of the wife, which will be taxed on the husband. Where a man is
married to more than one wife, the incomes of the wives are still deemed to be the incomes of the
husband. Where the husband fails or is unable to pay tax due, the CDT will collect the proportion of
such taxes from the wife that relates to her income taxed on her husband.
4) Wife’s Income
The Act gives no express definition of the term wife’s income but it is implied to be the income
derived by a married woman living with her husband derived from other sources not fitting the above
descriptions, and include;
(i) Employment income where the husband has control.
(ii) Self-employment income where the husband has control.
(iii) Professional income where the husband has control.
(iv) Dividends and interest (incomes from investments).
(v) Rent and royalties (income from use of property).
(vi) Farming income.
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CHAPTER EIGHT
Pensions and provident funds may or may not be registered with the Commissioner of Domestic
Taxes. However some tax advantages accrue both for contributions made to registered schemes as
well as payment received from registered schemes and also the incomes of such schemes.
a) Pension Fund
It is created by contributions of both the employer and/or employee usually in equal amounts. The
purpose of such contributions is to make a lump sum payment to the employee on retirement.
b) Provident Fund
It is created by contributions of the employer and/or employee to provide lump sum benefits to the
employee when he leaves employment for other reasons besides retirement, such as better
opportunities, illness, disablement at work place or early retirement.
An individual who contributes to individual retirement fund wishes to receive a retirement benefit
after a date he may enumerate to be a retirement date. Individual retirement funds are required by law
to be operated either by banks or insurance companies.
NB. Contributions by an employer to a pension or provident fund, whether registered or unregistered,
are not chargeable to tax on the employee.
Pensionable Income
Implies that income upon which a pension is payable. The Income Tax Act enumerates pensionable
income to mean:
a) The employment income of a person (including all benefits that an employee will receive from
employment) i.e. emoluments/benefits that are subject to PAYE.
b) Gains/profits from a business run by a sole proprietor or a partner in the case of an individual who
makes contributions to a registered individual retirement fund. It covers the self-employed
persons for the purposes of determining the deductible contributions to such funds.
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Note: The employee’s own contribution is not income to him/her but merely a saving. Indeed such
savings are deducted on the employee’s income, provided the provident/pension fund to which such
were made is registered.
Taxation of Pensions
Pension income received by an individual whether resident or non-resident from pension/provident
fund is taxable in Kenya. Similarly pension income received by a resident individual from any
pension scheme outside Kenya in respect of employment/services rendered in Kenya shall be taxed in
Kenya.
The taxable amount of pension income shall constitute the employers contribution which previously
had been exempted from tax when contributed and interest element that is borne on both the
employee’s and employers contribution:
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c) For lump sum received from a registered provident fund the exempt amount shall be the lower of:
- Ksh. 480,000; or
- Ksh. 48,000 x no. of years of service in that employment if less than ten years
- Any amounts in excess of this limit shall be taxed with other incomes.
- Any withdrawals from unregistered provident funds shall be taxed with other incomes.
From 1.1.1993, the first Ksh. 1,400,000 payable to the estate of a deceased employee from a
registered fund, where the estate is eligible for no benefit other than a lump sum payment, shall be
exempted from taxation.
Notification
Employers are no longer required to notify the DTD before making payments of terminal benefits to
the employees upon their leaving employment. Every employer has an obligation under Sec. 37 of
the Income Tax Act to recover appropriate taxes from any lump sum amount before releasing the
same to the employee. The following is a guide to employers on how to compute tax on lump sum
payments;-
Points to Note
a) Pay in lieu of notice (i.e. notice pay) is assessable in the period immediately after the date of
termination of employment.
b) Leave pay should be assessed in year to which it relates.
c) If termination of employment occurs in the course of the year, the portion of lump sum payment
for that period is taxable in that particular year.
d) Calculate the tax for each year using annual rates of tax and then add up tax for all the years
involved to arrive at total tax to be deducted from the lump sum payment.
e) It should be noted that any lump sum payment relating to the year of income 2000 and prior years
is assessable in 2001 being the 5th year prior to the year of receipt (2006).
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Compensation for Termination of Employment
Liability extend to any payment, whether voluntary or obligatory made to a person to compensate
him for the termination of his contract of employment or services, whether the contract is written or
verbal and whether or not there is provision in the contract for such payment.
a) Where the Contract is for Specified Term, amount received as compensation on termination of
the contract shall be deemed to have accrued evenly and assessed over the un-expired period.
Example: A contract for five years is terminated on 31/12/05 after it has run for 3 years.
Compensation of K£6,000 is paid. The compensation will be spread evenly and assessed in the
remaining two years as follows;-
Year Amount
2006 - K£3,000
2007 - K£3,000
b) Where the Contract is for an Unspecified Term and Provides for Terminal Payment, the
compensation is to be spread forward and assessed at the rate of employee’s remuneration per
annum immediately before termination.
Example: A contract for an unspecified term provides for payment of K£5,000 as compensation
in the event of termination. It is terminated on 31/12/05 and the employee’s rate of earning was
K£2,000 per annum. The compensation is spread forward and assessed as follows:
Year Amount
2006 - K£2,000
2007 - K£2,000
2008 - K£1,000
c) Where the Contract is for an Unspecified Term and Does Not Provide for a Terminal
Compensation, amount received as compensation shall be deemed to have accrued evenly over
three years period immediately following termination of contract.
Example: A contract for an unspecified term provides no provision for payment of compensation.
The contract is terminated on 31/12/05 and K£9,000 compensation is paid. The compensation is
spread forward and assessed as follows:
Year Amount
2006 - K£3,000
2007 - K£3,000
2008 - K£3,000
Points to Note
a) The methods outlined above apply to all employees including whole time service directors.
b) The value of quarters or any benefits in kind, though assessable, do not play any part in
determining the rate of remuneration for the purposes of spreading forward the amount of
compensation assessable.
c) If an ex-gratia is paid it would be assessable in the year of receipt.
d) Use the current rates of tax until further years rates are enacted.
e) Personal relief should not be granted in an advance before commencement of any year of income.
(B) Employers are required to submit a list of names of all the employees who have received lump
sum payments within 14 days after making payment indicating;-
a) Names of employees.
b) Gross amount paid to each employee.
c) Nature of payment and the period to which it relates.
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d) Amount of tax deducted and paid (attach a “Lump sum’ Photostat copy of the relevant P 11)
e) Employees last date of service
f) Employee’s gross earnings per annum and P.A.Y.E deducted for the period to which the lump
sum payment relate (subject to a limit of 5 years).
g) In respect of compensation for loss of office, employer should state the employee’s rate of
earning per month/per annum for the period immediately prior to termination of employment.
Note
Other advances of cash, e.g. salary advances to an employee, will not normally be subject to deduction of
tax when made; in the month when advances are recovered, however, the tax deductions will be
calculated on the full pay of the month before deduction of the amount to be recovered.
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CHAPTER NINE
INVESTMENT INCOMES
Introduction
These are specified sources of incomes, which are taxed according to the income tax rules. The tax rules
governing the taxation of these incomes, as in other cases of income, are revised from time to time.
Topic 1
Dividend Income
Ref. Sec. 7 of ITA Cap 470
A dividend is a distribution of profits of a company in which one has invested. A dividend is received
by a shareholder as a proportion of one’s shareholding in a company. A dividend is income of the
receiver. However, a distribution that is made by a company during a complete liquidation of a
company is not treated as a dividend but simply a return of capital, which was originally invested in
that company and therefore not taxable.
Deemed Dividends
a) In a voluntary winding up of a company, such amounts distributed as profits including any profits
realized on the disposal of fixed assets of a company, whether before or during the winding up
and whether paid in cash or otherwise.
b) The issue of debentures or redeemable preference shares or ordinary shares for free. The dividend
amount shall be taken to be the greater of nominal or redeemable value and the market value.
c) The issue of debentures or redeemable preference shares or ordinary shares at a discount provided
the discount factor exceeds 5% of the nominal/par value. In this case the discount amount shall be
taken as the dividend and taxed accordingly.
Exempt Dividends
a) Dividends received by a company that owns or controls 12.5% or more of the voting powers of
the paying company.
b) Dividends received from outside Kenya or from non-resident companies.
c) Dividends received by a resident insurance company from its investment income of the life
insurance fund.
d) Dividends amount being the discount factor on the issue of debentures or redeemable preference
shares or ordinary shares provided the discount factor is less than 5% of the par value.
e) Dividends received by financial institutions specified in the 4th Schedule to the ITA which
include: Banks, Financial Institution and Mortgage Finance Companies registered under the
Banking Act; Insurance Companies under the Insurance Companies Act; Building Society under
the Building Societies Act; Co-operative Society under the Co operative Societies Act, Post Bank,
AFC and HP companies.
Points to Note
a) Dividends are taxable in the hand of the recipient in the year such are received.
b) Dividends are subject to withholding tax.
Qualifying Dividends
As from 1.1.1991 dividends taxed at source and referred to as qualifying dividends have a final
withholding tax. This means that such dividends will not attract any more tax than the withholding
tax. The purpose of this is to encourage the growth in capital markets whereby dividends are not
subjected to double taxation i.e. at withholding tax point and the income tax point/corporation tax
point. The current withholding tax rate on these dividends is 5%. Qualifying dividends are paid by
limited companies and SACCOS.
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Non-Qualifying Dividends
These are dividends whose withholding tax is not a final tax, i.e. they are availed for further taxation
when a return of income is being prepared and then given a tax credit on advance tax. These are
dividends paid by designated co-operative societies other than SACCOS. The withholding tax rate is
15%.
Topic 2
Income from Interest
Interest is any amount payable for use of money and it includes;
- A charge in respect of any loan, debt, claim or other obligation.
- Premium or discount by way of interest.
- Commitment or service fees paid in respect of any loan or credit.
- Discount upon the final redemption of a bond, loan or other obligation.
Interest is income of the recipient and is taxed on the accrual basis i.e. it is taxed when earned and not
necessarily when received.
Exempt Interest
a) Interest earned from a saving held in an account in the post bank.
b) Interest earned from Tax Reserve Certificates issued by the Kenya government. Tax reserve
certificates are issued by the government through the treasury as a form of borrowing by the
government and also a form of investment and saving to the bearer. It is a saving in the sense that
such monies are used to pay subsequent tax liability of the taxpayer and investment in the sense
that the government pays interest on such amounts which is exempted from taxation.
c) Any interest that is earned from outside Kenya.
d) The partly exempt interest of up to Ksh. 300, 000 from housing development bonds. This interest
is also referred to as qualifying interest and is receivable by an individual that buys housing
development bonds issued by;
- A financial institution licensed under the Banking Act;
- A building society registered under the Building Societies Act and approved to issue HDB
and receives interest from such bonds.
The above limit is partially exempted from taxation in that the withholding tax at 10% on it is the
final tax. Such financial institution issues HDB for the purposes of enabling the bearer to redeem
them at a certain given time in future and use the amount for acquisition, development or
improvement of a residential building.
e) Interest on Government Stocks (non-residents only).
f) Interest on Nairobi City Council Stocks (non-residents only).
Interest is income subject to withholding tax. As from 1.7.1996, w/holding tax deducted on interest
received by an individual from the following institutions shall be final tax:
- Banks and financial institutions 15%
- Buildings societies 15%
- Central Bank 15%
- Bearer Instruments 25%
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CHAPTER TEN
Rents are defined as income from rights granted to any other person for use or occupation of any
property. It includes premium, key money and royalties.
Royalties are a special class of income paid in relation to the use or right to use any copyright of
literary, scientific or artistic work including cinematography material such as videos, films, tapes etc,
and use of any patents and trademarks. Rent income received by a non-resident person is taxable in
full through withholding tax. Rent income but is subject to an annual tax return if received by a
resident person.
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Points to Note
a) Where property is let for a short period other than 12 months, the expense will be apportioned.
b) Rent income is taxed in the year of receipt since accruals not taxed.
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CHAPTER ELEVEN
BUSINESS INCOME 1
Business income is generally taxed through an annual tax return whether earned by a resident or non-
resident. Taxes are imposed on business entities under Sec. 3(2)(a)(I) of the Income Tax Act, which
reads, " Subject to the Act income upon which tax is chargeable under this Act is income in respect of a
business for whatever period of time carried on".
When considering how such income shall be taxed it is important to consider the form of business
organization. A business can either be run as incorporated (registered) or un-incorporated (unregistered).
The period a business is carried on does not matter in taxing business income. In either case, the
allowable and disallowable deductions are generally the same; the main difference being in the
application of tax rates and certain rules relating to different forms of business organization.
Definition of Business
Under Sec. 2 of the ITA, "Business includes any trade, profession, or vocation and every manufacture
and adventure and concern in the nature of trade but does not include employment."
Any business in the nature of trade will usually involve the buying and selling of goods and services.
However, the process of selling goods or services may not on its own constitute a trade e.g. where a
person undertakes to sell his personal property for profit or not, this does not constitute a business. Trade
constitutes the activities of commerce.
Going by the definition of business,
Profession - means practising as a professional person, qualified upon undergoing qualified exams.
Vocation - means passing ones life in earning a living e.g. self-employment.
Adventure - means any business adventure such as smuggling, poaching, etc (illegal business)
Concern - means any commercial enterprise.
A business may be carried on for a short time or for a full year. The period that it is carried on is
irrelevant in taxing such incomes and thus the use of the phrase "for whatever period of time." Similarly,
the Act is not concerned with the legality of the income or of the business and therefore incomes from
business adventures such as smuggling, poaching, drug dealing etc are all taxable.
Factors to Consider when Ascertaining Whether a Business in the Nature of Trade is carried on
a) Profit Motive; this is the "reason to be" for any trading concern. This must be the overriding and not
the incidental motive of the existence of a business.
b) Number of Transactions; a transaction that is of a series indicates that it constitutes trade. However
it is quite possible that a single isolated transaction may constitute trade.
c) Method of Financing; where the proceeds from the sale of goods are used to acquire more goods for
resale, it indicates that the goods are in a trade cycle and therefore implying a business in the nature
of trade being carried on.
d) Method used to Generate Sales; most businesses in the nature of trade promote sales through
advertisement, publicity and other forms of promotion.
e) Nature of assets acquired and the quantities involved e.g. a person who owns a lorry cannot deny that
he is doing transport business.
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f) Mode of Acquisition of an Asset e.g. if a gift or inherited goods are sold, this may not constitute a
trade. If items are purchased for resale, this will constitute a trade. If items are bought for private use
but at a later date disposed off, this may not constitute a trade.
g) Length of Time the Asset is Held and How it is Used. e.g. if a car is bought and used for
sometimes before it is sold, the sale may be construed as a realisation of a capital asset. However, if
it is bought and sold before use, the sale may be taken as a trade.
Expenses or Deductions Allowed Against Income under Sec. 15, Second Schedule, and Ninth
Schedule of the Income Tax Act
Introduction
Any item of income is either taxable as defined in the Income Tax Act or not taxable if it is left out in the
list of taxable incomes. When it comes to expenditure, it can be similarly stated that an item of
expenditure is either allowable against taxable income or not allowable. The expenses or deductions,
which are not allowable against taxable income, are listed in the Income Tax Act. These expenses are
looked at in more detail below.
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Sec. 15 (1): For the purpose of ascertaining total assessable income of a person, there shall be deducted
all expenditure, which is expenditure wholly and exclusively, incurred (by the person) in the production
of that income.
This can be said to be a general provision for allowing expenses of a business:
a) Which are charged in the profit and loss account under normal accounting practice subject to any
prohibition or extension made by the Income Tax Act.
b) Which are the usual commercial/operating expenses of a business e.g. wages, rent, purchases,
transport, salary, water.
The nature of the business is very important in determining the expenditure, which is wholly and
exclusively incurred in the production of income. Given the type of business, there are expenses that are
certainly expected to be incurred in the production of income for example;
This is the nature of expenditure wholly and exclusively incurred in the production of taxable income
that is allowed.
Expenses Specifically Allowed against Taxable Income (Sec. 15 of ITA Cap 470)
In addition to Sec. 15(1) allowing expenditure, which is wholly and exclusively incurred in the
production of taxable income, Sec. 15(2) allows specific items of expenditure against taxable income.
The items of expenditure listed below must be allowed against taxable income where the expenditure is
incurred;
a) Trade bad and doubtful debts. Trade debts arise in the course of trade e.g. on the sale of trading
stock or service on credit. The following are allowable against taxable income:
- By an identified individual or legal person.
- The amount of trade bad debts written off
The amount of provision of specific doubtful trade debts. This is a provision of a debt owed. The
following are not allowable against taxable income:
- The amount of general provision for bad debts e.g. provision of 5% on all debts.
- The amount of any bad debt on sale of capital item and any other non-trade activities like
friendly loans.
Arising form the above, the following should be noted:
- If a trade debt was previously written off and is recovered, it becomes a taxable income for the
year in which it is recovered.
- A debt previously not allowed as a write off (non-trade bad debt) is not taxed when recovered.
- Allowed provisions no longer required or no longer necessary are taxed in the year they are no
longer required e.g. if a specific doubtful debt is provided for in full in a given year and one half
of the debt is paid in the following year, then 50% of the provision would not be required and the
amount would be taxed.
b) Capital expenditure for the prevention of soil erosion in a farmland. The capital expenditure should
be incurred by the farmer or occupier of the farmland for example on construction of gabion,
terraces, contours windbreaks etc.
c) Capital expenditure on clearing and planting permanent or semi-permanent crops. The common
examples of permanent crops are cashew nuts, citrus, coconuts, coffee, passion fruits, paw-paw,
pineapples, pyrethrum, sisal, sugar-cane, tea, apples, pears, peaches, plums, bananas, roses etc.
d) Pre-trading expenses; this is expenditure incurred before the commencement of business, which
would be allowable, if the business was operating. The pre-trading expenses are allowable when
business commences. Two examples of pre-trading expenses will suffice here:
- In case of a new hotel - the cost of recruiting and training of staff before the hotel opens for
business
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- In case of new coffee or tea farmer – the cost of cultivation, fertiliser, and other farm expenses
for two to three years before picking commences.
e) Legal costs and stamp duty for registration of a lease of business premises. The lease period must not
be in excess of or capital of extension beyond 99 years.
f) Legal costs and other expenditure including capital expenses related to the issues of shares,
debentures or similar securities offered for purchase to the general public. This is the expenditure for
turning a company public and thus enabling it to be quoted on the Nairobi Stock Exchange. The
allowance of these expenses is intended to boost the capital market (buying and selling of shares) on
the bourse.
g) Expenditure on structural alterations to enable premises to be let e.g. subdivision of open rooms in a
house, which is necessary to maintain existing rent. The expenses relating to extension or
replacement of premises are not part of structural alterations and are therefore not allowed against
rent income. If there is a rent increase as a result of structural alterations, the expenditure is
disallowed against rent income.
h) 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, hoes,
pangas, etc in a farm. These are not machinery or plant for which wear and tear allowance is given.
In practice, the DTD accepts a taxpayer's valuation of tools and implements. Most taxpayers take the
life of loose tools to be about three years thus writing of their cost over that period.
i) Entrance fee or annual subscription paid to a trade association e.g. Kenya Chamber of Commerce
and Industry and Kenya Association of Manufacturers. The trade association must have elected to be
treated as trading by giving notice to the Commissioner of Domestic Taxes under Sec. 21 (2) of the
Income Tax Act. Members clubs and trade associations are deemed not to be trading but if 75% or
more of their gross receipts other that gross investment receipts (interest, dividends, royalties, rents,
etc) are from members, they are deemed to be trading. They can then elect by notice to CDT to be
treated as trading and entrances fee deemed income from business Sec 21(1) (2).
j) Expenditure incurred for scientific research whether of capital or revenue nature.
k) Amount of contribution to a scientific research association, which undertakes research, related to the
class of business of the contributor. The research association must be approved by the CDT. For
example, Ruiru Coffee Research, Friesian Cattle Society etc.
l) Amount of contribution to a university, college or research institution approved by CDT for scientific
research e.g. University of Nairobi, Kenya Polytechnic, AMREF, KEMRI, KARI, ICIPE, ILRI,
KETRI etc. The research must be related to the class of business of the contributor.
m) Contributions by employer on behalf of employees to national social security fund (NSSF).
n) Expenditure on advertising. This includes expenditure intended to advertise or promote directly, or
indirectly, the sale of goods or services provided by a given business e.g. advertisement in television,
radio, press, calendars, sports like football clubs, golf tournament, rally cars, horse races, Olympic
teams etc. Advertisement in the form of passengers sheds at bus stops, neon signs, billboards and
signboards are capital expenditure and not allowable, but the expenditure qualifies for wear and tear
allowance.
o) Mortgage interest (also called owner-occupier interest) to the maximum of 150,000 from 2006 (this
was explained earlier).
p) Club subscription for use by employees
q) The amount of loss brought forward from previous year’s income. The losses should be on the basis
of specified sources of income. Sec. 15 (7) (e).
r) Amount of trading loss that arises the where business is continuing and all the assets in a class of
wear and tear allowance are sold for less than the written down value (see chapter on capital
allowances).
s) Amount of balancing deduction. The balancing deduction arises where a business has ceased and all
the assets of a class of wear and tear allowance are sold for less than the written down value (see
chapter on capital allowances).
t) Amount of interest on money borrowed and used in the production of income e.g. interests on loan,
overdraft, debentures etc.
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u) Amount of realised foreign exchange loss (capital or revenue) with effect 1.1.89. If the foreign
exchange loss is not realised or incurred, it is not allowed against taxable income.
v) Capital deductions under the Second Schedule of the Act (see chapter on capital allowances).
w) Where a sum is paid by a person after the cessation of his business, which if it had been paid prior to
the cessation, would have been deductible in computing his gains or profits from that business, it
shall be deducted in ascertaining his total income for the year of income in which it paid. (Sec. 28[2])
Specific Items of Expenditure Not Allowable Against Taxable Income (Sec. 16[2]) of ITA Cap 470)
In addition to Sec.16 (I) generally disallowing expenditure, which is not wholly and exclusively incurred
in the production of taxable income, Sec.16 (2) disallows specific items of expenditure if charged against
taxable income. The items of expenditure listed below must be disallowed where charged against taxable
income.
a) Amount of capital expenditure, loss, diminution or exhaustion of capital e.g. depreciation,
amortisation, write-off of assets, loss on sale of fixed asset etc. These are disallowed unless
specifically allowed in the Income Tax Act.
b) Amount of personal expenditure incurred by an individual in the maintenance of himself, his family
or for domestic purpose. With effect from 1.6.91 the disallowed expenditure includes;
- Entertainment expenses for personal purposes;
- Hotel, restaurant, or catering expenses except; on business trip, during training or work related
convention or conferences;
- Meals provided to low income employees on employer’s premises.
- Vocational trips except those provided to expatriates;
- Education fee;
c) Amount of expenditure or loss recoverable under insurance contract or indemnity.
d) Amount of income TAX paid and any other taxes paid including expenses relating to taxes such as
costs of tax appeal, interest on money borrowed to pay tax etc.
e) Up to 31.12.90, the amount of contribution to pension and provident schemes, savings or funds,
which were not registered with Commissioner of Domestic Taxes (this was covered earlier).
f) Amount of premium paid under an annuity contract. This is paid to an insurance company for the
purpose of receiving annuities (regular amounts annually) in future especially for retirees.
g) The amount of expenditure in the production of income by a non-resident person with no permanent
establishment in Kenya. The income is taxable at source at non-resident rates of tax. The expression
of a permanent establishment is defined by the Act as a fixed place of business in which that person
carries on business. A fixed place means building site or a construction or assembling project that has
existed for six months or more in relation to a person.
h) Amount of loss from hobby business. This is business is not carried on with a view to making profit
e.g. keeping of three cows on the estates of a Nairobi suburb. The issue of losses from hobby
business has been weakened by the concept of specified sources of income. Sec. 16(2) (h). Where
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more than 25% of the business expenditure is for personal or domestic nature, the business is outright
hobby business.
i) The amounts of lease hire rentals relating to lease hire agreements entered into with effect form
17.6.88. The lease hire agreements entered into before the above date were allowable.
j) Amount of appropriations of profits to reserves, provisions, dividends and other appropriations. It
should be noted that the provision for specific trade bad debts is specifically stated to be allowable
expenditure.
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CHAPTER TWELVE
BUSINESS INCOME 2
K£ K£
Net profit as per accounts xx
CHAPTER THIRTEEN
BUSINESS INCOME 3
Taxation of Partnerships
A Partnership Business Is Not Recognised In Law As A Legal Entity. This Applies Equally As Far As
Tax Law Is Concerned (Income Tax Act Cap 470). A partnership is a business relationship that subsists
between two or more persons carrying on a business with view of making profits/sharing losses. The
adjusted income from the partnership (for tax purposes) shall be allocated amongst partners at their profit
sharing ratios as stipulated in the partnership deed. Each of the partners shall then be taxed on his share
of partnership income as a distinct individual.
A partner shall be taxed on the aggregate of the following incomes from a partnership Sec. 4(b):
a) Remuneration paid to him by the partnership; and
b) Any interest on capital paid to him by the partnership i.e. interest on capital, less any interest paid by
him to the partnership, i.e. interest on drawings; and
c) Share of the adjusted partnership income, adjusted with (i) and (ii) above.
The income from partnership will be added to the partner’s assessable incomes from other sources and
tax on them calculated on the partner as an individual at the personal/graduated scale rate of tax. Where a
partner’s adjusted share is a loss, this can be offset against any other income that he may have in that
year or be carried forward and offset on any other income in future years without any limit.
All provisions for Sec. 15 (allowable deductions) and Sec. 16 (disallowable deductions) of the Income
Tax Act shall apply accordingly. The specific disallowable deductions of a partnership are interest on
capital, salaries paid to partners and any other form of appropriation.
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Distribution of Profit Schedule
A B C Total
Salaries xx xx xx xx
Interest on capital less interest on drawings xx xx xx xx
Profit/loss share (using profit ratio) xx xx xx xx
CHAPTER FOURTEEN
BUSINESS INCOME 4
The rules of ascertaining taxable income for sole traders and partnership will be applied. Attention will
be paid to the following:
a) Salaries and allowances paid to directors are allowable.
b) Transactions between the company and directors or shareholders are treated as business for tax
purposes.
Where a company derives income from other sources other than from its principal activity (trading), this
shall be taken to be incomes of the company and will be taxed in aggregate at the corporation tax rate.
The rules for final tax on dividends shall apply.
Other corporations include: trusts, co-operative societies, insurance companies, charitable organisations,
members clubs, sporting associations etc. the incomes of such entities will be taxed at the corporation tax
rates
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CHAPTER FIFTEEN
BUSINESS INCOME 5
Introduction
Farming (and market gardening to some extent) has been recognised by most legislatures as a
somewhat special operation. It derives its profits from the soil and is in the unique position of buying
its materials retail and selling its produce wholesale. It may confine its operations to one crop – tea,
coffee, sisal, sugar, rice, cotton etc, or mix one or more. It may confine itself to cattle ranching, fruit
and/or flower growing. It is subject to more natural hazards, to economic and social pressures –
subsides, quotas, marketing boards – etc. Its produce is a chattel in international bargaining;- import
duties, common market, commonwealth preference etc.
Legislation
In the Income Tax Legislation of most countries, farming, while subject to the legislation as a whole,
has devoted to its special sections of the Acts and the legislation of Kenya is no exception. The
sections of the Act are dealt with in the following pattern:
a) Definition
b) Charge to tax
c) Computation of gains and profits
d) Capital expenditure
e) Revenue expenditure
f) Capital deductions.
a) Definition
Farming is not defined by the ITA but a farmer is defined as “any person who carries on pastoral,
agricultural, or other similar operations”. “Agricultural Land” is defined in the Second Schedule
paragraph 24 as land occupied wholly or mainly for the purposes of a “trade” or husbandry: crop and
animal husbandry.
b) Charge to Tax
Sec. 3 of ITA charges the income derived from Kenya by a person (whether resident or non-resident)
in respect of gains or profit from “business” etc. Sec. 2 defines “business” as including any trade,
profession or vocation, and every manufacture, adventure and concern in the nature of trade, but does
not include employment. Farming is not one of these activities but is included in the general term
“business” e.g. Sec. 17(7)(e) mentions a farmer making up accounts of his farming “business”. It
might be of interest to say that the Kenyan legislation has had to “deem” farming to be a “trade” to
bring it within the Kenya charging section.
d) Capital Expenditure
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tenant or agricultural land on clearing such land or on clearing and planting on it permanent or semi-
permanent crops which are defined in Sec. 2 and include: cashew nuts, citrus, coconuts, coffee, passion
fruits, paw-paw, pineapples, pyrethrum, sisal, sugar-cane, tea, apples, pears, peaches, plums, bananas,
roses etc
e) Hobby Farmers
Before 1st January 1961, there was no legislation on the subject and the only way to reject a claim to
relief in respect of a loss in “Hobby Farming” was to prove that the activities did not come within the
charging section. Sec. 16 (2) (g) of the Income Tax Act excludes losses incurred in any business
which the Commissioner considers it reasonable to regard as not being carried on mainly with a view
to the realisation of profits, having regard to the nature of the business, the principal occupation of the
persons interested in it, its relationship to the domestic establishment of any such person or to any
other relevant factor. Further, the sub-section rejects a loss where in any business more than one-
quarter of the revenue expenditure relates to the production of goods and services, amenities or
benefits which are of a personal or domestic nature enjoyed by the owner, partners, share-holders or
other persons having a beneficial interest in the business or a member of the family or the domestic
establishment of such person.
f) Own Consumption
Farming is a type of business where the question of own, domestic servant’s consumption of farm
produce must be taken up. Kenya has a climate, which promotes the growth of every conceivable type
of foodstuff, and it is possible for a farmer to live completely off the soil as regards food. In “own
consumption” might be included gardens, orchards etc., which are usually looked after by farm
servants with wages and materials included in the general debits in the farm accounts.
g) Stock
Stock from the point of view of farming includes livestock, produce and harvested crops owned by
the farmer. For accounts purposes, the valuation of stock follows the usual method, i.e. the cost or
market value whichever is lower. The law requires stock to be valued in a manner the CDT considers
to be just and reasonable, Sec. 17(1). Under Sec. 16 of the Management Act, a farmer was required to
make an election whether to take into account the value of stock for the purposes of calculating his
gains or profits. Under the new Act, however, one can request for a change under Sec. 17(2) provided
he applies to the CDT. The paragraphs which follow refer to the position where no election under
Sec. 17(1) provision was made.
h) Livestock
Where homebred, the cost may be difficult to compute, but the DTD suggests a basis of taking 75%
of the market value at the time of valuation unless the animal is of pedigree stock, when a lower
percentage might be adopted. In the case of purchased stock, the valuation should be cost plus upkeep
to the time of valuation.
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i) Produce and Crops Harvested
The DTD suggests 85% of the market (or controlled price at time of valuation). If a farmer adopts
sale price less selling expenses of such crops as tea or coffee etc, this basis may be accepted if applied
consistently.
l) Sale of a Farm
Permanent or semi-permanent crops are regarded as part of the land on which they are growing
(fructus naturals) and, in accordance with normal legal principles, as supported by the case of
C.I.R.V. (31.IC. 314) any sum paid for such crops should be excluded from the final accounts of the
vendor and the first accounts of the purchaser as being capital items.
On the other hand, annual crops, which are still growing at the date of sale, are revenue items (fructus
industriales) and the part of the sale and purchase price relating to these should be included in the
relevant account of the vendor and buyer.
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For year of income 1974 and subsequent years the opening and closing stock are brought into
account for taxation purposes for the six years of income 1968 to 1973 are to be raised on 1/6 x
K£4,200 = K£700 p.a. Although this example is practical, the tax department has also suggested
that a claim might be made to adjust only for the increase in the valuation of stock in the six
years period. Thus, if the value of stock in the above example was established as K£600 at
31/12/67 the additional assessment for the six years period 1968 to 1973 could be K£4200 –
600) K£3600 x 1/6 = K£600 p.a. It is assumed that any claim for an “opening stock” adjustment
should be referred to head office.
(v) For the purpose of Sec. 17 “stock” includes livestock, product and crops harvested.
(vi) Where, in an ‘election’ case the farmer ceases to farm, the Commissioner may make such
adjustments as he may determine to be just and reasonable in respect of the value of the stock
held at 1st January 1936 (this being the date on which income tax was first introduced in
Kenya) or the date on which the farmer commenced business, if later (Sec. 17 (4).
n) Cessation of Farming
Sec. 7 (4) states that for the year of income in which the cessation takes place the Commissioner may
make a “just and reasonable” adjustment in respect of stock held at: 1st January 1936 (farms in
Kenya) or, if later, the date on which farming commenced. The relevant instruction on “spread-back”
for six years is not mentioned, in the Act. However, the DTD holds the view that no “spread-back”
should be given.
If, therefore, a Kenyan farmer ceased farming on 30th September, 1974, and sold his stock for
K£5,000 in the open market (Sec. 17 [3] ) such sale price of course should be included in his final
accounts. If his opening stock at 1st January, 1936 was valued at K£5,000, and no deduction was
allowed in his first accounts for this amount, then is to be deducted in arriving at the adjusted profit
for year of income 1974.
o) Death of a Farmer
Sec. 17 (6) states that where a farmer who made an election under Sec. 17 (1) provision dies while
carrying on the business, his executors or administrators are to be charged on the sale price or if
higher, open market value, of the closing stock. Such an adjustment would be straight forward were
it not for the reference in this subsection, under Sec. 17 (2) and (4).
From the two examples above, it can be seen that the adjustment to be made under Sec. 17 (2) is
different from that under Sec.17 (4) and therefore, confusion can arise where Sec. 17 (6) is to be
applied. The Income Tax Act throws no light on this apparent conflict. The reference to Sec. 17 (4)
is reasonable enough and simply allows a deduction for “Opening Stock” in the final tax
computation. The reference to Sec. 17 (20) was included on the recommendation of the Coates
Commission in order to give executors or administrators the right to make an application under the
provision to that sub-section to revoke the original election. This in turn gives a possible “spread-
back” for six years (see example above). Thus, in the case of death, the possibilities are:
i) Election by beneficiaries under Sec. 17 (6) (b) provision is to continue to leave stock out of
account, or
ii) Application to make “appropriate” adjustments as though Sec. 17(2) provision revocation had
been made (presumably the adjustments will be for the year of death and the six preceding years,
as in example)
iii) Failing election or application under (i) and (ii) above an adjustment under Sec. 17 (4), as in
example 2 above.
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p) Standing Timber
The Act deals with two aspects of gains or profits from timber:
Sec. 15 (2) (I) deals with the case of the owner of land who sells standing timber or sells the right to
fell standing timber, which was growing on the land when the owner acquired it.
It provides for the setting against the sale price of the timber its cost as determined by the
Commissioner to be just and reasonable or, its value when the owner acquired the land if for no
valuable consideration.
Sec.15 (2) (i) deals with the gains or profits of a person acquiring the right to fell timber and selling
it. It provides for the Commissioner to determine the proportion of the price paid for such right,
attributable to the timber sold in the particular year of income. Without Sec. 15 (2) (i), the owner of
land, which had thereon growing timber when acquired, could get no deduction for the cost of timber
when sold. The land is capital and timber is also capital “fractus naturales”. Similarly, the cost of the
right to fell timber under Sec. 15 (2) (i) is capital.
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CHAPTER SIXTEEN
BUSINESS INCOME 6
Basic Principles
The basic notion underlying the new code of taxation is that a co-operative society is a body corporate
having its own existence, separate from that of its members. A co-operative society is therefore deemed
to have its own income, regardless of the consideration that some of that income may be derived from
transactions with its own members. This initial premise was however modified by a special provision in
the law which sanctions the deduction from the income of the co-operative, appropriations of profits
made by it to its members. A different basis of taxation has been laid down for credit and savings
societies. These societies will be liable to tax generally, on only their gross investment income i.e. on
interest and dividends derived from normal investment of surpluses.
Basis of Taxation
The new (Sec. 19A) contains three sub-sections dealing with:-
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Capital losses .....
Provisions and reserves .....
Income tax .....
Pension fund contributions .....
Donations and subscriptions .....
Legal expenses .....
Depreciation .....
Balancing charges .....
Other items (specify) disallowable expenses
Deduct: Wear and tear allowances (.....)
Balancing allowances/deductions (.....)
Investment deductions (.....)
Other items (specify) allowable expenses (.....)
Total taxable income/loss =====
Having thus computed income, a deduction is made for the bonuses and dividends declared for that year
and paid out to its members. A few points need emphasis here:-
a) The deductions for bonuses and dividends are deductions from total income, they are not deductions
made in ascertaining total income. In effect these deductions for bonuses and dividends are made to
ascertain the income which is to be subjected to tax at 30%.
b) The deductions shall not exceed total income of the society for that year of income.
c) The deductions permitted are for bonuses and dividends declared in conformity with the co-operative
Societies Act i.e. in accordance with Sec. 33 of that Act.
d) Most importantly, to qualify, the dividends and bonuses must be paid out to the member, in cash,
cheques or dividend warrants. No deduction will be allowed if it is found that these amounts have
not actually been paid out to the members. Mere crediting of members accounts is insufficient.
However, as at the time accounts are finalised, payment of bonuses and dividends could not have been
effected The DTD will provisionally allow bonuses and dividends declared and provided for in the
accounts if the following documents are furnished with the returns of income:
a) A copy of the society's resolution to pay the bonuses and dividends;
b) A copy of the approval for payment of bonuses and dividends, given by the Commissioner of Co-
operatives Development as required by Sec. 44 (2) of the Cooperative Societies Act.
c) A certificate from the auditors to the effect that the bonuses and dividends have since been paid in
cash, cheque or dividend warrants.
d) The final accounts of the society must be so presented that the provision accounts for bonuses and
dividends are shown separately in the Balance Sheet
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b) Its gross income from any right granted for the use or occupation of any property, not being a
royalty, ascertained in accordance with provisions of ITA Cap 470.
c) Gains chargeable to tax under Sec. 3(2) (f) i.e. gains accruing in the circumstances prescribed in, and
computed in accordance with, the 8th Schedule of ITA Cap 470.
d) Any other income (excluding royalties) chargeable to tax under this Act not mentioned under this
subsection.
Assessable Incomes
- Interest income from the investment of life premiums less:
Allowable deductions
- Relevant management expenses
- Relevant commissions
- Interest paid by the company from its annuity fund on surrender of policies or on return of
premiums, other than interest on premiums paid under a registered annuity contract, trust scheme,
pension fund or scheme.
Such income is taxed the relevant corporate rate, 30% (2006)
Allowable deductions
- Claims admitted less amounts recovered under re-insurance
- Agency expenses
- Other allowable expenses under the ITA – Sec. 15
- Amounts appropriated into the reserve for un expired risks less the reserve deducted for un
expired risk at the end of the previous year.
The corporate rate prevailing in that year is used, 30% (2006).
Assessable Incomes
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- Taking the proportion of investment income from life insurance fund. Proportion means the life
insurance premiums in Kenya as a proportion to total life insurance premiums received, or other
proportions determined by the CDT as just and reasonable.
Allowable deductions
- Agency expenses
- Interest paid from its annuity on surrender of policies whose premiums were received in Kenya,
excepting interest which relates to premiums paid under a registered annuity contract, registered
trust fund, registered pension fund or scheme.
The resultant income is taxed at the non-resident corporate rate, 37.5% (2006)
Assessable Incomes
- Premiums received or receivable in Kenya from that business (less such premiums paid at the
head-office of the company as relates to that business).
- Other income from that business including commissions, expenses allowances from reinsurance
except reinsurance from head office of the company) but excluding investment income.
- Income from investment out of investing general insurance business funds referable to the
business done in Kenya
Allowable deductions
- Reserves of un expired risk in relation to risk on the business done in Kenya plus similar un
expired risk deducted at end of the previous year.
- Claims admitted less any amounts recovered under reinsurance.
- Agency expenses
- Reasonable proportion of head-office expenses on service rendered to their branch in Kenya.
Use non-resident corporate tax rate, 37.5% (2006)
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The income, other than investment income of an amateur sporting association is exempted from tax.
To merit for this consideration, the association must be such that:
a) Its sole or main object is to foster and control any outdoor sports and
b) Its members consist only or amateurs of affiliated associations the members of which consist only
of amateurs and
c) Its Memorandum of Association or by laws have provisions defining an amateur or a professional
and provides that no person may be or continue to be a member of such an association if such a
person is not an amateur.
Any income of such association that is chargeable to tax, is taxed at the resident corporate rate.
b) During the period in which an export processing zone enterprise is exempt from corporation tax the
enterprise shall be deemed to be subject to a non-resident withholding tax on payments made to such
enterprises and where such payments are made by a person who is not an export processing zone
enterprise, the tax shall be a final tax.
c) Where an EPZ enterprise contracts such manufacturing services to a non EPZ but related resident
enterprise, all income derived from the transaction by the EPZ enterprise will be treated as income to
the resident enterprise unless the transaction is at fair market prices and the Commissioner is
convinced. Where a resident (non-EPZ) enterprise provides other non-manufacturing services to a
related EPZ enterprise, the cost of providing such services will not be deductible (i.e. allowable)
expenses in determining the tax liability of the resident enterprise unless the transaction is at fair
market prices.
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(a) Assessment of Charitable Trust
Ref: Sec. 20 and 25
The income of a charitable trust is exempted from tax, subject to these conditions:
a) That the trust is public in character
b) It is established for relief of distress or poverty to the public
c) It is established for the advancement of religion or education.
d) Its total income must be spend for charitable purposes. In Kenya where a charitable trust is
running a business, then this business income will be exempted from tax if this trust business
relates to (b) and (c).
Any rental income of such a trust building and chattels is not subject to tax.
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CHAPTER SEVENTEEN
CAPITAL ALLOWANCES
Introduction
The Second Schedule to the Income Tax Act enumerates all capital deductions that are granted to a
taxpayer in respect of capital expenditure incurred by a person on the production of taxable income.
Capital expenditure, losses, diminution, exhaustion of capital, depreciation, amortisation, loss on sale of
an asset, obsolescence, provision for replacement of an asset etc, are all not allowable for tax purposes.
In the generation of taxable income, taxpayers invest in fixed assets. These assets suffer loss in value due
to reasons such as wear and tear allowance, out of usage breakdown, inadequacies, economic factors etc
(factors that cause depreciation).
For this purpose, the Income Tax Act seeks to standardise the charge in respect of losses of capital assets
by granting uniform capital allowances in respect of capital expenditure. Capital allowances are also
granted for other purposes such as an incentive to investors who would make investment in capital items
e.g. buildings and machinery used for manufacturing. In earlier years up to 1994, higher capital
deductions were granted to investors invested in buildings and machinery outside the principal
municipalities of Nairobi and Mombasa to encourage rural industrialisation. However as from 1st of
January 1995, capital deduction rates were harmonised by the CDT for all taxpayers irrespective of the
location of the investment.
Topic 1
Wear and Tear Allowance
This is a capital allowance granted in respect of machinery. It is given on account that machinery used
for business will loose in value and subsequently a standardised charge other than depreciation is
granted.
Paragraph 7 of the 2nd Schedule reads, "Where during the year of income, machinery owned by a person
is used by the person for the purpose of his business, there shall be made in computing the persons gains
or profits a deduction referred to as wear and tear allowance ".
Note: Wear and tear allowance is granted in respect of machinery owned by a taxpayer who uses it for
his business at any time in a year of income.
For the purposes of wear and tear allowance, the term machinery has not defined by the Act, but it has
been given a very wide meaning in practice and includes fixed assets such as tractors, lorries, motorcars,
buses, plant and machinery, furniture and fittings, equipment, aircraft, ships, carpets, partitions etc.
For the purpose of wear and tear allowance, machinery is categorised by being placed into four distinct
classes i.e. pools. Each of the pools/classes will be granted wear and tear allowance on a given
percentage on a reducing balance basis. The pools/classes are as follows.
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Class I, 37½%
This is a class for heavy earth moving equipment and heavy self-propelled machinery such as tractors,
combine harvesters, lorries of a load capacity of 3 tonnes and over, buses, loaders, bulldozers,
caterpillars, fork lifts, mounted cranes, break downs, tippers trucks, graders, trains, airbus etc.
XYZ LIMITED
WEAR AND TEAR ALLOWANCE COMPUTATION
YEAR OF INCOME, 20XX
CLASS I CLASS II CLASS III CLASS IV
1
37 /2% 30% 25% 121/2%
000 000 000 000
Wdv. b/d 1:1:20xx - - - -
Add: Additions in current year
Processing machinery - - - xx
Fork-lift xx - - -
Motor vehicles - - xx -
Computers - xx - -
Furniture - - - xx
Less: Disposals in current year
Printers - (xx) - -
Tractors (xx) - - -
Motor vans - - (xx) -
Furniture and fittings - - - (xx)
xx xx xx xx
Less: Wear and tear allow. (xx) (xx) (xx) (xx)
Wdv. c/d 31.12.20xx xx xx xx xx
2) Additions
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This represents fixed assets qualifying for wear and tear allowance acquired in the current year of
income. The cost of an asset which qualifies for wear and tear allowance as an addition is:
a) The historical cost of the qualifying asset, (actual cost) whether new or old and whether assembled
/made in the business or purchased from a third party.
b) The expenses after purchase (incidental expenses) but before the use of a machinery shall be
capitalised alongside the cost of machinery e.g. custom duty, installation expenses, alteration that are
incidental to installation and commissioning costs. Note that operating costs of the machine after
commissioning are expensed in the profit and loss account.
c) In a trade-in or part-exchange situation, the trade-in or part exchange value plus the cash paid shall
be considered as an addition for wear and tear allowance i.e. the full value of an asset shall be
considered.
d) In hire purchase transaction, the cash price of an asset shall be considered. The hire purchase interest
is allowed as an expense in the profit and loss account.
e) For assets brought into the business without being purchased e.g. through donations, grants, gifts etc,
the most likely open market value of such assets shall be considered.. In this case the CDT will
normally accept the taxpayers own valuation unless he feels it is unreasonable. Any asset donated by
any government will not qualify for the deductions.
f) For non-commercial vehicles i.e. some vehicles in class III (25%) their cost is restricted for additions
as follows.
Years of income Restricted amounts Ksh.
Up to 31.12.1980 30,000
From 1981 to 1989 75,000
1990 to 1996 100,000
1997 500,000
1998 to 2005 1,000,000
2006 esq. 2,000,000
g) From 1:1:1987 where machinery qualifies for wear and tear allowance and also qualifies for
investment deduction, additions for wear and tear allowance shall be the residual after investment
deduction.
3) Disposals
This represents fixed assets qualifying for wear and tear allowance disposed of in the current year of
income. The value of an asset which qualifies for a disposal is:
a) Amount of cash proceeds or cash equivalent on sale of a wear and tear allowance machine.
b) In a trade in situation the trade in or part exchange value is taken.
c) On the disposals of non-commercial vehicles the sales proceeds or cash equivalent must be
restricted by the following factors:
The following formula is used to restrict the value on disposal of non-commercial vehicle whose
acquisition cost was beyond the limits given above.
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d) The amount of insurance claim received for wear and tear allowance machinery lost through theft,
fire or accidents shall be taken as the disposal value.
e) In a continuing business:
- If all assets in a class of wear and tear allowance are sold for proceeds that are more than the
written down value, the excess is referred to as a trading receipt. This arises when wear and tear
allowance was previously over-provided and it becomes a taxable income.
- If all assets in a class of wear and tear allowance are sold for proceeds that are less than the
written down value, the deficit is referred to as a trading loss. This arises when wear and tear
allowance was previously under-provided and it becomes an allowable deduction.
f) On the cessation of a business:
- If all assets in a class for wear and tear allowance are sold for proceeds that are more than the
written down value, the excess is referred to as a balancing charge. This arises when wear and
tear allowance was previously over-provided and it becomes a taxable income.
- If all assets in a class for wear and tear allowance are sold for proceeds that are less than the
written down value, the deficit is referred to as a balancing deduction. This arises when wear and
tear allowance was previously under-provided and it becomes an allowable.
Commercial Vehicle
Motor vehicles are machinery qualifying for wear and tear allowance under Class I or Class III,
depending on their nature. For non-commercial vehicles under Class III (25%), their value for addition
for wear and tear allowance as well as on disposal is restricted. Although the Income Tax Act does not
define a non-commercial vehicle, nevertheless it defines a commercial vehicle as one that the CDT is
satisfied that:
a) It is manufactured for carrying goods and it is so used in connection with trade or business e.g. a
lorry, a pick-up, a van etc.
b) It is a motor omnibus within the meaning of that term in the Traffic Act Cap 403 e.g. all public
service vehicles such as buses, matatus etc.
c) It is used for carrying members of public for hire or reward e.g. taxis, tour operator’s vehicles, car
hire vehicles etc.
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h) Where a person purchases machinery qualifying for wear and tear allowance that were previously
owned by a person who had used them and claimed prior years wear and tear allowance, to the new
owner, the mount qualifying for wear and tear allowance shall be the amount paid for the assets
(purchase price).
Topic 2
Industrial Building Deduction
It is granted in respect of capital expenditure on industrial buildings as per paragraphs 1 of the Second
Schedule to the Income Tax Act. Paragraph 1(1) of the Second Schedule reads, “Where a person
incurs capital expenditure on the construction of an industrial building and the industrial building is
used for business carried on by the person or lessee, a deduction called industrial building deduction
shall be made in computing the person’s gains/profits from the business.”
A. A Building in use:
(i) For the purpose of a business carried on in a mill or a factory or for any other industrial purpose
e.g. paper mill, sawmill, sugar mill, coffee mill etc.
(ii) For the purpose of transport, dock, bridge, tunnel, inland navigation, water, electricity or hydro
power undertaking. A bridge means a bridge the use of which is subject to a charge or a toll; a
dock includes a harbour, a pier or a jetty or other works in which vessels can ship or unship
merchandise or passengers provided that such jetties are not used for recreation; electric
undertaking means an undertaking for the generation, transmission, conversion, or distribution of
electrical energy; hydro power undertaking means an undertaking for the supply of hydraulic
power; a water undertaking means an undertaking for the supply water for public consumption
e.g. water reservoir.
(iii) For the purpose of business which consists of the manufacture of goods or materials or the
subjection of goods to any process e.g. buildings within the EAB, EAI, BAT etc. The concept of
“subjection of goods to a process” is the subject of numerous disputes. This is because the
subjection of goods/materials to any process is not precise.
Case Studies: these cases will help make the concept of subjection of materials to a process be
clearer:
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It was held that the examination and grading of used tyres where the only alteration was marking of
defects with chalk did not amount to the subjection of tyres to any process.
From the above cases it can be seen that in deciding whether goods/materials are subjected to a
process:
- Some alteration or change in the goods/materials must be necessary
- The application of machine may not prove the existence of a process.
- The repairing of articles is not a process but the building used for such purposes may qualify for
industrial building deduction on other grounds.
(iv) For the purpose of a business which consists in the storage of goods/materials:
a) Which are to be used in the manufacture of other goods or materials, or
b) Which are to be subjected in the course of a business to any process, or
c) Which having been manufactured or produced or subjected in the course of a business to any
process have not been delivered to a purchaser, or
d) On arrival by sea/air into any part of Kenya e.g. Inland container depots at Embakasi;
container depots at the ports of Mombasa and Kisumu; go-downs, warehouses and stores
owned by clearing and forwarding agencies.
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(v) A building in use for the purpose of a business consisting of ploughing or cultivating
agricultural land but not by a farmer. An agricultural contractor uses these buildings.
(vi) A building in use for the purpose of a business, which may be declared by the Minister of
Finance in a gazette notice.
(B) A prescribed dwelling house constructed for and occupied by employees of a business carried
on by the person owning the dwelling house and which conforms to prescribed living
conditions as specified by the Ministry of Labour.
(C) A building, which is in use as a hotel or part of a hotel building which the CDT, is satisfied
that it is an industrial building. Such a building must be gazetted under the Tourist Act. As
from 1.1.1993 and for the purposes of industrial building deduction, a hotel building will
include any building(s) that are directly related to the operations of the hotel complex
including staff quarters, kitchens, entertainment, sports and fitness facilities.
(D) A building in use for the welfare of workers employed in any business or undertaking referred
in (A) above e.g. staff canteen, staff sports house, staff social hall, staff club, staff dispensary,
staff pavilion etc.
As from 1.1.1995, construction of an industrial building shall include the expansion, or substantial
renovation or rehabilitation of an industrial building but it shall not include the routine repair works.
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d) Where a building is sold before use:
(i) By a person other than a builder (contractor), the qualifying cost to the buyer shall be the
lower of the price paid and the construction cost.
(ii) By a builder, the qualifying cost shall be the price paid.
(iii) Where a building is sold more than once before use, the last price paid shall be the qualifying
cost for industrial building deduction.
e) Where a building has been put to use and subsequently disused, and then used again, for the
purposes of determining the residue of expenditure, a notional industrial building deduction shall
be computed in respect of the disused period.
Illustration
A building is purchased in 1980 for Ksh. 50m. It is used for business purposes for the first 10 years
Then disused for the next 10 years and then reused for the last 20 years. The IBD status will be as
given in the table below:
Year(s) Status of Cost of Computed IBD for the Tax Effect on Business
Building Building Period
1.1.1980- Period of Ksh. 50m 50mx2.5%x10yrs=12.5m Claimed against business
31.12.1989 Use income in the period.
1.1.1990- Period of Ksh. 50m 50mx2.5%x10yrs=12.5m Notional IBD assumed to
31.12.1999 Disuse be claimed by a taxpayer
(lost IBD).
1.1.2000- Period of Ksh. 50m 50mx2.5%x20yrs=25m Claimed against business
31.12.2019 Use income in the period.
f) As from 1.1.1987, industrial building deduction is computed on the residue after investment
deduction.
Topic 3
Investment Deduction
Investment deductions are granted as per paragraph 24-26 of the 2nd Schedule to the Income Tax Act.
Investment deductions are granted on a once and for all basis i.e. in the first year of use of the
qualifying assets.
This was prompted by the fact that most investors started to concentrate their investments around the
periphery of the two principal municipalities for obvious reasons:
a) The higher investment deduction
b) Better infrastructure that already existed, proximity to banks, labour etc.
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Definition of Terms used in Investment Deduction
a) Manufacture/Process
Manufacture means the making, including packaging of goods or raw materials from raw or partly
manufactured goods to other goods.
b) New: means not previously having been used by any person or acquired or held by any other
person except the dealer or supplier in the normal course of business.
c) Installation: means fix or affixed to the fabric of the building either on the wall, ceiling or floor
in a manner that is necessary for the proper operation of the machine.
As from 1.1.1995, machinery for the purposes of investment deductions will mean machinery and
equipment used directly or indirectly in the process of manufacture and will include machinery used
for the following auxiliary/ancillary purposes:
a) Generation, transmission and distribution of electricity.
b) Clean-up and disposal of industrial effluent and other industrial waste products
c) Reduction of environmental damage.
d) Water supply or disposal of the same.
e) Workshop machinery for the repair of machines.
Note: As from 1.1.1995, the requirement that manufacturing machinery must be fixed to the fabric of
a building for it to qualify for investment deduction was relaxed.
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1) Rates of Investment Deduction on Ordinary Manufacture
Should a manufacturer cease to manufacture under bond prior to the expiry of 3 years, the previous
deduction, which had been granted, will be clawed back i.e. withdrawn and treated as a taxable
income in the year of cessation. The qualifying costs for investment deduction bonded manufacture
were given earlier under this topic. As from 1.1.1996, investment in the purchase of machinery
whether new or old will qualify for investment deduction bonded manufacture, whether or not the
investor owns the building in which they are installed. As from 1.1.1989, an investor under bonded
manufacture will be able to recover 100% of the qualifying expenditure in buildings and machinery.
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Rates of IDBM Based on Qualifying Cost of Buildings and Machinery
The rate for shipping investment deduction (SID) is 40% of the qualifying cost, which is granted on a
once and for all basis and in the year of first use of the ship for the qualifying business. As from
1.1.1987, wear and tear allowance on the ship (12.5%) shall be granted on the residue after shipping
investment deduction.
Topic 4
Farm Works Deductions
This is an allowable capital deduction granted in respect of capital expenditure on farm structures
constructed on a commercial agricultural land as per paragraph 22 and 23 of Second Schedule of ITA
Cap 470.
Paragraph 22 reads, "Where the owner or tenant of any agricultural land incurs capital expenditure on
any agricultural land on construction of farm works, a deduction referred to as farm works deduction
shall be made in computing the gains or profits from the farm".
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FWD is granted at the rate of 33 1/3 % i.e. at 1/3rd of the total qualifying cost per annum for 3 years
on straight lines basis. With effect from 1.1.2007, the rate of FWD has been increased to 50% per
annum on straight-line basis.
Points to Note:
a) Full farm works deduction shall be made for farm works constructed during the accounting year
without restriction provided the farming business has been carried on for a full year.
b) Where items qualifying for FWD are sold to another farmer, the new farmer can only claim the
residue of expenditure of the former and thus the purchase price paid by the new farmer shall be
irrelevant for the purposes of FWD.
c) Apportionment of unclaimed deduction will be done on the basis of the period of ownership in a
year of income.
d) Other assets owned by a farmer will qualify for their relevant capital allowances.
Topic 5
Diminution
Items such as implements, loose tools such as utensils in a hotel, loose tools on a construction site,
containers, computer software etc, are not formally depreciated by use of the conventional methods of
depreciation. Such items normally represent a substantial investment of a business concern and their
nature is such that they are prone to losses, breakages, leakages. Such assets are depreciated using the
revaluation method. For tax purposes, such items do not qualify for wear and tear allowance. Capital
expenditure incurred to acquire them qualify for a diminution i.e. a loss in value at the rate of 33 .33% on
a straight-line basis for 3 years.
Topic 6
Mining Allowance
Part III of the Second Schedule grants capital allowances in respect of expenditure incurred by a
person on mining operation. These capital deductions are granted in respect of mining operations due
to their peculiar features such as:
a) The working or production life of a mine depends largely to the amounts of deposits and the
extent to which they can be won.
b) The prices of minerals largely depend on the world prices.
c) Any capital expenditure in mining operations is largely dependent on the life of the mine such
that upon exhaustion of the mine, some of the buildings and machinery would hardly be used for
any other purpose.
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A fall in the prices of minerals will cause the extraction or production unjustifiable although the mine
could still have substantial deposits. Much of the mining in Kenya is of marginal type. Such
operations are brought down by: world prices and scarce deposits whose extraction cannot justify the
cost
Non-Qualifying Costs
a) Expenditure on acquisition of the site of the deposits or the site of those buildings or works or
rights over the site.
b) Expenditure on the works constructed wholly or mainly for subjecting the raw produce of the
deposits to a process except a process designed for preparing the raw materials for use.
For the purposes of this deduction, minerals will not include: common clay, murrum, limestone,
sandstone, brine, diatomite, gypsum, anhydrite, sulphur, dolomite, kaolin, bauxite, sodium, potassium
and any other mineral substance, which is not declared to be a mineral under Sec.2 of the Mining Act.
Minerals shall include copper, gold, silver, carbon-dioxide gas, mica, etc.
The rate of mining allowance is 40% of the qualifying expenditure in the first year and 10% for the
next 6 years on a straight-line basis. A mine is deemed to have a life span of 7 years. Where a person
considers that his mine has a life of less than 7 years, he can make an official representation to the
CDT for an enhanced capital deduction rate.
An additional advantage exists where a person carrying on the mining operation is charged to tax at a
corporation tax rate of 27.5% in the first 4 years after which they revert to the normal corporation tax
ruling then.
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CHAPTER EIGHTEEN
VAT is tax on spending, which is collected by businesses as agents of the government and passed on
to the government. It is also collected on imports. VAT is a development from sales tax system,
which was abolished in 1988 and replaced with VAT in 1989. VAT is applicable to goods as well as
services mainly in the business areas such as accountancy, legal services, estate agency, management
consultancies, engineering etc.
VAT is payable if supplies of taxable goods or services are supplied:
(a) In Kenya
(b) By a taxable person
(c) In the course of furtherance of business
VAT is a multi-stage tax that is deducted at every stage of handling goods or services and passed on
to the government. The basic Kenya VAT laws are contained in VAT Act of 1989 and any
regulations arising there from.
Liability to Tax
They’re various rates of VAT:
(a) General rate, currently 16% (2006-2007)
(b) Rates specified in part II of the First Schedule
(c) Zero rate specified in the 5th schedule
Note:
The lower rate of VAT applicable to hotel and restaurant services has been abolished. The rate,
pegged at 14%, has now been removed from the Act, with the effect that there are only two VAT
rates applicable in Kenyan legislation; 0% and 16%. Zero rate is applicable to exports. No taxes are
payable on the zero-rated supplies even though such supplies are treated as taxable supplies in all
respects. Supplies of goods listed in the 2nd Schedule of VAT Act and supply of services of a type not
specified in the 3rd Schedule of the Act are exempted from taxation i.e. no VAT is charged on them.
Taxable Persons
Any person who is a manufacturer or a supplier of taxable goods or services is liable for registration
under the 6th schedule of the VAT Act. Generally any person who makes or intends to make supplies
of taxable goods or supplies will be treated as a taxable person and who may be required to register
for VAT.
Taxable Supply
It is the supply of goods or services made or provided in Kenya. The Act defines taxable goods to
include electricity and other manufactured goods other than those specified in the 2nd Schedule, which
deal with exempt supply.
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Supply of Goods
VAT is chargeable on the supply of goods or services. The supply of goods will include:
a) The sale, supply or delivery of taxable goods to another person.
b) The sale or provision of taxable services to another person.
c) Appropriation by a registered person of taxable goods or services by a registered person for his
own use outside the business.
d) The making of a gift of any taxable good/service that include the loaning of goods or any goods
supplied in satisfaction of a debt or goods retained by a taxable person when he ceases to be a
taxable person or provision of samples, unless such samples are:
- Fully distributed for the furtherance of a business
- Have a value of less than Ksh. 200 each.
- Are freely available.
- Distributed to not less than 30 persons in a month.
e) The letting of taxable goods on leasing and any other transfers.
f) The 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.
g) The receipt of a sum of money by a registered person for loss of taxable goods or services.
h) The appropriation of taxable goods by a registered person for use in a business where, if supplied
by another person, the tax charged on the supply would have been excluded from the deduction of
input tax.
i) Any other disposal of taxable goods or provision of taxable services.
Place of Supply
The place of supply is a location of the goods when they are allocated to a customer’s order. If goods
are located outside Kenya when they are being allocated to a customer’s order, the supply is deemed
to have taken place outside Kenya and is therefore outside the scope of VAT.
Tax Point
This refers to the time when a supply is deemed to have taken place and tax becomes due and payable
then. VAT becomes due and payable at the earlier of the following:
a) The goods or services are supplied to the purchaser.
b) An invoice is issued in respect of the supply.
c) Payment is received for or part of the supply.
d) Certificate is issued by an architect, surveyor or any person acting in a supervisory capacity in
respect of the service.
e) When goods are supplied on a continuous basis or metered supplies, tax is chargeable from the
date of the first determination or the first meter reading and subsequently at each determination or
meter reading.
Vat Registration
Compulsory Registration
The 6th Schedule to the VAT Act requires that any person shall be registered compulsorily for VAT
if:
a) In the course of business has manufactured and supplied or expect to manufacture and supply
taxable goods or has supplied or expects to supply taxable services or both, the value of which is
Ksh. 5,000,000 or more in a period of twelve months;
b) The person is a designated dealer dealing in designated goods other than designated jewellery,
pre-recorded music and timber and has supplied or expects to supply taxable goods or services or
both, the value of which exceeds in any of the limits in those periods as given in (a) above; or
c) The person is a designated dealer in designated jewellery, designated pre-recorded music and
designated timber; or
d) The person is a saw miller; or
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e) Any person who in any one year sells 4 or more motor vehicles; or
f) Provides accountancy services, including bookkeeping or similar services; or
g) Provides services supplied by auctioneers, estate agents and valuers; or
h) Provides legal and arbitration services; or
i) Provides reports, advice, information or similar technical services; or
j) Provides computer services; or
k) Supplies services of architects, draughtsmen and interior designers; or
l) Offers services of surveyors and assessors; or
m) Offers consulting engineering services; or
n) Is an agent, excluding insurance brokers, stock exchange brokers and tea and coffee brokers; or
o) Provides security and investigation services; or
p) Provides advertising services; or
q) Offers telecommunication services; or
r) Offers services supplied by contractors; or
s) Provides clearing and forwarding services; or
t) Provides company secretarial services.
In each of the above cases, the taxable person shall within 30 days, on which he becomes a taxable
person, apply in a described manner for registration to the Commissioner of VAT.
Voluntary Registration
Voluntary registration is permissible under the law but is granted at the discretion of the
Commissioner.
Upon registration, a person who has goods on which tax has been paid, or has constructed a building
or civil works or purchased assets within one year before registration, he may, within thirty days or
such longer period as allowed by the Commissioner, claim the input tax charged thereof. Such a
person must have submitted the application for registration within the prescribed time limit.
Note:
With effect from 16 June 2006, the period within which an application for relief of tax on stocks,
assets and buildings held as at the date of registration has been extended indefinitely, subject to
obtaining the Commissioner’s approval. Previously, the application could only be made within 30
days of registration.
Designated Dealer
This means any person who by way of business offers for sale any designated goods or offers to
repair, alter or process any designated goods or who acts as an agent of such a person. Designated
goods are those specified in the 4th Schedule of the VAT Act.
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i) To appeal to a VAT Tribunal on any matter concerning tax.
j) To demand that every authorized officer identifies himself.
k) To expect that information obtained in the course of duty by the VAT officers shall be treated in
confidence.
In determining the price of any goods for purposes of ascertaining the value for tax, the charges for
the following items must be included:-
- Wrapper, package, box, bottle or other container in which the goods are contained; and
- Any other goods contained in or attached to such wrapper, package, box, bottle or other container;
and
- Any liability the purchaser has to pay to the vendor by reason of the supply in addition to the
selling price, including any amount charged for advertising, financing, servicing, warranty,
commission, transportation, etc.
- Where taxable goods are sold in returnable containers and the containers were purchased or
imported and the input tax paid thereon, then no tax will be chargeable in respect of the
containers.
- Where tax has been charged in respect of returnable containers, which are then returned to the
supplier, the supplier will be entitled to take credit for the tax in his next succeeding return.
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Points to Note
- A taxable person who is a retailer and mainly supplies taxable goods or services to unregistered
persons is required to quote or label a price that is inclusive of VAT
- Where prices are quoted inclusive of VAT, the amount of tax is determined by applying to the
price the tax fraction, t/ (1+t), where t is the rate of tax applicable.
- Where prices are quoted exclusive of VAT, the amount of tax is determined by applying to the
price the tax rate t, where t is the rate of tax applicable.
- The value of taxable services must include any incidental costs incurred by the supplier of the
service in the course of making his supply, excluding and disbursements which the supplier has
made to a third party as an agent of his client.
- The taxable value of hotel accommodation and restaurant services shall exclude any Catering
Levy and service charge made in lieu of tips or gratuities, provided; the proceeds of the service
charge are distributed directly to the employees of the hotel or restaurant in accordance with
written agreement between the employer and the employees, and the service charge does not
exceed 10% of the value of the service, excluding such service charge.
- The taxable value of mobile cellular phone services shall be the value determined for excise duty
under the Customs Act.
- Where goods are purchased under hire purchase terms in accordance with the provisions of the
Hire Purchase Act, the consideration for the supply will represent the cash price and the
additional interest or finance charge will be disregarded in determining the value of the goods.
- Where interest is charged for late payment of the price of a taxable supply, it shall be disregarded
in determining the value of goods.
- There is no special provision in the Act for determining the value of second hand goods. But such
goods will be subjected to tax just like other normal supplies.
Supply of Services
For a person who does anything for consideration other than for the supply of goods including
granting, assigning, surrender of a whole or part of right, these shall be treated as supply of taxable
services. Such services will include the provision of professional service e.g. legal services,
accountancy, engineering, architecture, and other professional services. The Act defines services as a
supply by way of business that is not the supply of goods or money except a service provided by an
employee to his employer for a wage or salary. In the case of services, the place of supply is where
the taxpayer belongs or some fixed establishment. The tax point is taken as the same as for the supply
of goods.
Exempt Services
(Third Schedule to the VAT Act)
Following the amendments contained in the Finance Bill 2001, the services listed below shall be
exempt services for the purposes of the Act. All services that are not in this list are taxable and the
providers shall register with the VAT Department immediately-
a) Financial services excluding the following: -
- Financial and management advisory services;
- Safe custody services;
- Executorships and trusteeship services.
Note:
Only financial services offered by banks and financial institutions will be exempted from VAT.
Conversely, financial services offered by any organisation other than banks and financial
institutions will be subject to VAT (with effect from 16.6.2006).
b) Insurance and reinsurance services.
Note: Management and related insurance consultancy services, actuarial services and services of
insurance assessors and loss adjusters offered by insurance companies will now be subject to
VAT at the standard rate (with effect from 16.6.2006)
c) Education and training services offered to students by institutions and establishments registered
by the government.
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d) Medical, veterinary, dental and nursing services.
e) Sanitary and pest control services rendered to domestic households.
f) Agricultural, animal husbandry and horticultural services.
g) Social welfare services provided by charitable organizations registered as such, or which are
exempted from registration, by the registrar of Societies under the Sec. 10 of the Societies Act, or
by the Non-Governmental Organizations Coordination Board under Sec. 10 of the Non-
Governmental Organization Coordination Act, 1990 and whose income is exempt form tax under
paragraph 10 of the First Schedule to the Income Tax Act and approved by the Commissioner of
Social Services.
h) Burial and cremation services, including services provided in the making of arrangements for or
in connection with the disposal of the remains of the dead. Note: Any services rendered after
burial will be subject to VAT.
i) Transportation of passengers by any means of conveyance except where the means of conveyance
is hired chartered or leased.
j) Renting, leasing, hiring or letting of land and residential and commercial buildings.
k) Postal services provided through supply of postage stamps including rental of postal boxes and
mailbags and any subsidiary thereto.
l) Community, social and welfare services provided by Local Authorities.
m) Insurance agency, insurance brokerage, stock exchange brokerage and tea and coffee brokerage
services.
n) Hiring, leasing, or chartering of goods listed in Part I of the Second Schedule and Part B of the
Fifth Schedule but excluding chartering of aircrafts and hiring of buses. The following should be
noted:
- Chartering of aircrafts and hiring of buses will become taxable with effect from 1st September
2001.
- Chartering of aircrafts for use outside Kenya will be services exported out of Kenya and
therefore zero-rated.
- Leasing of aircraft is exempt.
o) Tour operation and travel agency services including travel, hotel, holiday and other supplies made
to travellers but excluding in-house supplies and services provided for commission earned on air
ticketing. For purposes of this paragraph in-house supplies means supplies which are either –
- Made from own resources rather than bought in from third parties; or
- Bought in from third parties but materially altered so that the supply made is different to that
purchased.
- Services rendered by trade, professional and labour association to members.
p) The following entertainment services-
- Stage plays and performances which are conducted by educational institutions, approved by
the Minister for the time being responsible for education as part of learning;
- Sports, games, or cultural performances conducted under the auspices of the Ministry of
Culture and Social Services;
- Entertainment of a charitable, educational, medical, scientific or cultural nature as may be
approved in writing by the Commissioner prior to the date of the entertainment for the benefit
of the public;
- Entertainment organized by a non-profit making charitable, educational, medical, scientific or
cultural society registered under the Societies Act where entertainment is in furtherance of the
objects of the society as may be approved in writing by Commissioner prior to the date of the
entertainment.
q) Accommodation and restaurant services provided within the premises;
- Establishments operated by charitable or religious organizations registered under the Societies
Act for charitable or religious purposes.
- Establishments operated by an educational training institutions approved by the Minister for
use of the staff and students by that institution.
- Establishments operated by a medical institution approved by the Minister for the time being
responsible for health for the use by the staff and patients of such institutions.
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- Canteens and cafeterias operated by an employer for the benefit of his low-income employees,
which the Commissioner may approve subject to such conditions as he may prescribe.
r) Conference services conducted for educational institutions as part of learning where such
institutions are approved by the Ministry for the time being responsible foe education.
s) Car park services provided by local authorities and by an employer to his employees on the
premises of the employer.
t) Entertainment services offered by local Kenyan artistes (with effect from 16.6.2006)
Imported Services
Where a person in Kenya imports a taxable service from overseas, the importer will be required to
account for the VAT to the VAT Department. This is referred to as a reverse charge. In order to assist
the collection of tax, the Central Bank is required to ensure that any person applying for foreign
exchange has remitted the fees overseas and has accounted for VAT to the department. Such person
will be required to produce a tax clearance certificate from the Commissioner of VAT certifying that
the VAT has been paid.
Input Tax
(a) A tax on the supply to a registered person of any goods or services for the purpose of a business
carried on by him.
(b) The tax paid or payable by a registered person on the importation of goods or services used or to
be used for the purpose of a business carried on by him.
(c) Tax paid on the removal of goods from a warehouse.
Thus, input tax is the VAT charged on a business purchase and expenses including goods or services
supplied in Kenya or imports of removal from a warehouse. A person carrying on a business must
pay VAT on goods or supplies of services. Where no relief is to be obtained for VAT paid (input tax),
the person will incur such liability. However, this possibility shall be removed in certain cases by a
provision in the Act which enables input tax to be deducted against output tax recovered and the
difference paid over to the government.
Output Tax
It is a tax due on a taxable supply. A registered person may make taxable supplies and therefore
charge VAT on invoice cost to his customers. Thus output tax is VAT that is recovered or received
on sales or provision of taxable services in Kenya.
Output and Input tax shall be compared and the difference is either tax payable to government or tax
carried forward or claimed as a refund from VAT Department. However, not all Input tax is
deductible. The deductible input tax will be governed by the nature of supplies made.
Types of Supplies
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2) Zero Rated Supplies (Taxable Supplies)
Zero rated supplies means;
(a) No tax will be charged on the supply, but
(b) The supply will in all other respect be treated as a taxable supply; accordingly rate of tax which is
chargeable on the supply will be zero.
(c) However such supply is taken into consideration in determining whether the supplier is a taxable
person required to be registered. A registered person making zero rated supplies will not charge
any tax on the supply, but will obtain a return of the VAT paid by him on his goods or services.
Being a zero-rated person/firm, the company will claim a refund from the CVAT.
A list of zero rated goods is provided in part B of the 5th Schedule. These are mainly essential goods,
which will include vaccines, medicines, packaging material for farming goods, dentist chairs, animal
feeds, spectacles, milk containers of up to 10 gallons etc.
3) Exempt Supplies
Where a person makes an exempt supply;
a) He is not regarded as carrying out a taxable supply.
b) VAT is not chargeable in respect of exempt supplies.
c) The value of exempt supplies is disregarded when determining the taxable turnover and the need
to be registered for VAT.
d) A person who makes only exempt supplies will not be able to deduct the input tax suffered, nor
can he carry it forward, nor can he reclaim it from the Commissioner. Such a supplier will incur
such liability in its entirety.
e) Exempt supplies include education, health services, goods such as live animals, fruits, coffee and
many foodstuffs.
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Where a person deals with all the supplies i.e. Taxable (standard rated and zero-rated) plus exempt
supplies, there will be need to determine to what extent input tax can be deducted. The deductible
input tax for which a registered person can make a deduction shall be;
a) The whole of the input tax if all the supplies are taxable.
b) Such part of the input tax that can be attributed to taxable supplies; (taxable plus zero-rated),
where only a proportion of the supplies are taxable. Input tax is deductible only where there’s a
related or attributable output tax. Thus there is no output tax for exempt supplies hence no
deduction of input tax on exempt supplies.
Zero rated supplies are taxable but the output tax is zero and therefore there is a related output tax,
hence the input tax on the zero rated supplies is deducted. For exempt supplies, these are not taxable
supplies and there is no output tax, therefore non-of the input tax on exempt supplies is deductible.
Where a person makes all types of supplies, the deductible input tax shall be limited to the proportion
of output tax that bears on the taxable supplies. A person can claim all the input tax provided the
input tax that relates to exempt supplies is always less than 5% of the total input tax.
For a person making all types of supplies, he will determine the deductible input tax by any of the
following formulas:
a) Proportionate Method
Deductible Input Tax = Value of Taxable Supplies x (Total Input Tax-Input Tax on goods for sale in same state)
Value of Total Supplies
Note: The supplies quoted in the formula above represent sales figures net of VAT if any.
Deduct all input tax attributable to taxable goods purchased and sold in the same state and non-
deduction of input tax that is attributable to exempt supplies. The remainder of the input tax is
apportioned using the formula above.
b) Allocative Method
The amount of restricted input tax to be claimed or offset against output tax is influenced by the
amount of standard rate purchases that are subsequently sold as standard rate supplies.
The following steps are used to compute the deductible input tax using the allocative method.
- Step 1
Out of the total input tax, deduct the input tax relating to standard rate purchases which were
sold as standard rate supplies.
- Step 2
Out of the total supplies, (SR+ZR+ES) deduct the standard rate supplies which were
purchased at standard rate.
- Step 3
Out of the total taxable supplies, deduct the standard rate purchases which were sold as
standard rate supplies.
- Step 4
Apply the proportional method (as given above) to determine the restricted input tax to be
offset against the output tax.
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= 7,200,000
ii. Total Supplies Value = 45,000,000+10,000,000+20,000,000
= 75,000,000 Less: 20% x 45,000,000
= 66,000,000
iii. Total Input Tax less 20% of SR Purchases
= 16 %( 25,000,000+700,000+500,000)-20% x 25,000,000
= 3,392,000
= 46,000,000 x 3,392,000
66,000,000
= 2,364,141.2
A person can reclaim the input tax on each monthly return using any of the above methods. However
the input tax determined by the above methods is usually a provisional amount, which can be affected
by seasonal variations during the year of purchases and sales. Therefore at the end of the year, the
registered person will be required to make an annual adjustment to recalculate amount of input tax
claimable using annual figures. Any differences between the amount reclaimable as input tax
calculated at the end of the year and the total amount computed on a monthly basis (just like
computation of income tax at the end of the year as compared to the total PAYE calculated monthly)
computed monthly will either be an over or under declaration and this amount must be entered in the
VAT Account for the VAT period of 12 months.
The VAT Order, 2002 specifies items for which tax paid may not be deducted, except where such
goods are sock in trade. The Items covered in the order include:
a) Fuels and oils to be used in vehicles, ships and other vessels other than fuel used in the
manufacture of other taxable fuels and oils;
b) Passenger vehicles and minibuses, except where such vehicles and minibuses are used for leasing
or hiring services;
c) Bodies, parts and services for the repair of passenger vehicles and minibuses except where these
are used in the supply of repair and maintenance services or other taxable goods or services;
d) The leasing or hiring of passenger vehicles and minibuses;
e) Furniture, fittings and ornaments of decorative nature, except where such items are permanently
attached to buildings, or for use in hotels and restaurants (subject to the approval of the
Commissioner);
f) Household or domestic electrical appliances other than those approved by the Commissioner for
use in the manufacture of other taxable goods or supply of taxable services;
g) Liqueurs and other alcoholic beverages, non-alcoholic beverages and soft drinks;
h) Entertainment services;
i) Restaurant services;
j) Returnable containers, crates, bottles and similar goods for packing beverages;
k) Returnable containers, cylinders, and similar taxable goods used for packing liquid petroleum gas.
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VAT Records and Accounts
The VAT Act enumerates all he records and documents including accounts that a registered person
shall keep and these will include:
This public notice only specifies the minimum records that taxpayers should maintain. It does not
prevent any enterprise from maintaining any additional records that it deems essential for its own
business operation and control.
b) Stock Records
For purposes of regulation 7(2) of VAT Tax Regulations, stock records will constitute the following:-
- A list of stock items (Stock sheets) physically counted periodically at least once a year to coincide
with the taxpayers financial year end.
- Original documents received and copies of original documents issued indicating movements in
quantities of stock items in and out of the business premises, and within the premises such as;
purchase invoices, cash sales and/or goods received notes, goods issued notes, delivery notes, etc;
and
- Production records of manufactured goods; and
- Any other records, if maintained by the business to account for stocks such as stock ledgers, stock
summaries, stock variance records; etc.
c) Items Included
Taxpayers are required to maintain stock records of all items of stock-in-trade except those exempted
from this requirement. For this purpose, stock in trade shall mean only those items sold by the
business; whether purchased and sold in the same condition; or manufactured, processed or repacked
for sale by the business. However, if the taxpayer maintains stock records in respect of other items
e.g. raw materials, then VAT inspectors may inspect the same in the course of an audit.
d) Items Excluded
For purposes of Regulation 7(2) of the VAT Regulations, stock records in respect of items specified
in the schedule below are not required. However, all other records required under the VAT
Regulations in respect of taxpayers activities must be maintained in respect hereto:-
- Raw materials
- Scrap Metal
- Second hand motor vehicle spare parts.
- Where the value of an individual stock item is below Ksh 100 selling price. Stocks of such goods
sold in packs of more than one item must be accounted for if the value is more than Ksh 100.
- Unprocessed timber (logs and beams).
- Unprocessed agricultural produce e.g. raw milk, vegetables produce etc.
- Sand, ballast, quarry and other materials on building sites.
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- Items manufactured on order. However, production records must be availed when required or on
demand.
- Any other items that are not produced to standard measurements subject to the approval of the
Commissioner.
Where the taxpayer maintains stock records in respect of the above items, then VAT inspectors may
inspect the same in the course of an audit.
g) Purpose of Regulation
For purposes of this regulation no explanation will be required for stock quantity variances not
exceeding 10% loss. However, stock losses exceeding 10% may be assessed to tax unless adequate
evidence is availed indicating loss or destruction of the same. Stock losses in this case mean
theoretical stock balance minus actual stock as at the date of stock count.
h) Stock Variances
Where in the course of their audits, VAT Inspectors are unable to reconcile any stock differences
noted, the Commissioner may require an actual count of any item to be carried out by the
trader in the presence of VAT Inspectors for purposes of such reconciliation.
i) In situation where stock variances exceed 10% (in quantities) and are consequential to such
factors as thefts, pilferage, breakages, destruction, fire, obsolescence, etc; the same shall be
supported by evidence such as:-
- Police abstract: or
- Insurance claim certificates; or
- Court conviction cases; or
- Physical evidence of destruction or return of the goods to the vendor.
Where such evidence as required cannot be availed, the Commissioner shall exercise discretion based
on the merits of each case. Factors such as the magnitude of the loss, frequency and preventive
measures taken against the recurrence of losses will be taken into account in determining the extent of
merit thereof.
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The Authority is aware that most taxable persons keep stock records for their own business purposes
and the aim is to avoid interference with their current systems as much as possible.
However, taxpayers must be open and ready to share such records with VAT Department to ensure
that they are kept in the correct manner as required by the law. The basic records expected from
various business types to keep include:
a) Manufacture
i) Store records (raw materials)
- Goods received into the premises and taken to the store.
- Goods received into the premises and taken direct to the manufacturing line.
- Goods issued from the store to the manufacturing line.
- Stock balances
- Details of goods delivered into the premises and sent out again.
c) Wholesaler
- Goods delivered into the premises
- Goods delivered from the premises
- Stock balances
- Details of breakages, expired goods, thefts (if substantial) and destroyed goods e.g. by fire.
- Details of sales documents (delivery notes, invoices or cash sales) if possible.
- Goods delivered from the premises and returned into the premises.
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The Authority is therefore ready to accept periodic update provided that the same is done at least once
every month.
g) Verification of Stocks
An authorized officer may physically count the existing stock where he believes that it is necessary to
do so.
h) Stock Variances
The Authority appreciates the fact that physical stock will not reconcile to the last unit with the stock
records, due to such factors as thefts, pilferage, breakages, destruction etc. A reasonable level of
variance (below 5%) may therefore be allowed. Substantial variances shall be supported by
acceptable documentary proof of causes.
i) Effective Date
Although the amendment to the VAT Regulations was effective from 15th June 2001, the VAT
Department appreciates the fact that some taxpayers need time to put their records in order. Such
taxpayers will therefore be allowed up-to 31st August 2001 to ensure that they have up to date stock
records. Any taxpayer who requires assistance may call at his/her nearest VAT office.
Tax Invoice
Whenever a taxable person supplies taxable goods or services, he must furnish the purchaser with tax
invoice within14 days of the completion of supply. However where cash sales are made from retail
premises, the Commissioner may allow other methods for accounting. The buyer will need such tax
invoices to reclaim any input tax that they may have been charged by the seller. Similarly, when a
taxable person purchases taxable goods or services from a registered person, he should obtain a tax
invoice, which will support a reclaim of input tax. A person cannot issue a tax invoice for any supply:
a) Which is not a supply of taxable goods or services, and
b) If the person is not registered.
If such invoices are issued, the person will be liable to pay the tax to the Commissioner of VAT
within 7 days.
If cash sales are made from the retail premises and provided such are not for than 500/= to any one
person, the Commissioner may authorize alternative accounting methods as follows:
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- At the end of each day record the output tax chargeable on supplies made and the deductible input
tax in respect of supplies received.
b) In the case of services, if the supply is made for cash, a tax invoice should be issued at or before
the time the cash is received.
INVOICE No:…………………..
Date:……………………………...
Other Records
Generally a registered person must keep records and accounts of all taxable goods and services,
which are received or supplied in the course of the business. This will include the zero rated supplies
made. A registered person must keep a summary of all input tax paid and all output tax received for
each calendar month i.e. the VAT Account. All these records must be kept up to date in either Swahili
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or English and must be of sufficient detail so as to allow the calculation of any VAT payable to the
Commissioner or the VAT to be carried forward as credit to the following month.
Records should not be kept in any set way. They must be kept in a way, which will enable VAT
officers to check easily the figures that were used to fill the VAT Account/Return. If records do not
satisfy the requirements of the VAT Act and any regulations, the Commissioner has the powers to
direct that necessary changes be made. Where a person decides to keep records in a set way, this must
be done to enable them to be readily available to VAT officials on demand. Such records must be
kept in the principal place of business of a registered person unless the Commissioner allows that
they be produced elsewhere. All such records must be kept for at least five years. Other records that
are necessary are:
- Copies of all invoices issued in serial number order.
- Copies of all debit and credit notes issued in chronological order.
- All purchase invoices, copies of customs entries, receipts for the payment of duty or tax, credit
and debit notes all filed in chronological order either by the date of receipt or under the supplier’s
name.
- Details of amounts of tax charged on each supply made or received.
- Total of output tax and input tax in each period and the net amount of tax payable or excess tax
carried forward at each end of the month i.e. the VAT Account.
- 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 unless such details were
available at time of supply on invoices issued on or before that time.
- Orders delivery notes, relevant business correspondence, appointment and job books, and
purchase and sales books.
- Records of daily takings.
- Annual accounts including trading, profit and loss accounts.
- Import and export documents.
- Bank statements and paying in slips.
- Visitors’ books.
- Any record, which may be kept on the computer.
When the business of a registered person is subject to an independent audit, the audit should cover the
VAT Account and other records relating to the VAT Account.
The return should show separately for each rate of tax the;
a) Total value of supplies recovered,
b) The rate at which the tax was paid and the amount of tax paid in respect of which the deductible
input tax is claimed.
If a registered person does not make or receive any taxable supplies during the preceding month, he
must submit a “Nil Return”. A registered person should keep for record a copy of the VAT return.
Registered persons are advised to make prompt payments to avoid fines and penalties.
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Failure to make a return when due, the Commissioner may assess the amount of tax due and shall be
payable forthwith. Failure to pay the tax on time, an additional tax penalty of 2% or part thereof as
the amount is unpaid shall be due. All payments are to be made by banker’s cheque, or bank
guaranteed cheques or cash. Where payment is by cheque the cheque shall be made payable to the
Commissioner for VAT, crossed and endorsed with the words “account payee only”. Payment,
together with the return, should be made at the Central Bank of Kenya or to designated banks in areas
not served by the Central Bank of Kenya.
Where the following changes occur in the particulars of a registered person, the person must notify
the details to the Commissioner within 14 days.
a) The address of the place of business.
b) Additional premises used or to be used for the business.
c) Premises cease to be used for business.
d) If the name or trading name of the business is changed.
e) In case of a limited company, a person or a group of persons have obtained an interest of more
than 30% of the share capital.
f) Changes in persons authorized to sign returns e.g. changes in signatories.
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g) Change occurs in the trade classification of the goods or services being supplied.
h) Death, Insolvency, or Legal Incapacitation: If a registered person dies or becomes insolvent or is
legally incapacitated, the executor or liquidator or the person conducting the business must notify
the Commissioner of such changes without delay.
j) De-registration
If a registered person ceases to make taxable supplies, he should notify the Commissioner of the date
of cessation and shall furnish him with a return showing the details of all materials and other goods
in stock and their values. The registered person must pay any taxes due on such goods within 30
days from the date on which he ceased to make taxable supplies.
If the value of taxable supplies made in any 12 months does not exceed Ksh. 5,000,000, a registered
person will be subject to turnover tax under the ITA, upon notifying the Commissioner (with effect
from 1.1.2007).
If the Commissioner is satisfied that a trader should be deregistered, he will do so from the date
when that person pays the tax in respect of goods or materials on which tax has not been paid or
input tax has been claimed
Refund of Tax
Refund of tax is only given in the following circumstances: -
- Where goods are exported under customs control;
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- Where tax has been paid in error;
- Where input tax exceeds output tax continually and it is a regular feature of the business;
- Where newly registered persons have goods in stock which are intended for use in the
manufacture of taxable supplies;
- Rebate of bad debts;
- Where in the opinion of the Minister, it is in public interest to do so.
Tax Evasion
Evasion of tax by way of: -
a) Suppression of sales;
b) Over claiming of input tax;
c) Making of false document, information or statement;
d) Failure to register;
e) Holding oneself out to be a registered person, shall be guilty of an offence.
VAT Audit
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j) To the extent that claims were made before the introduction of regulation 13A but have not been
audited by the VAT department, the claim may be resubmitted with an auditor’s certificate.
We have examined the attached claim for refund of VAT amounting to Ksh. xxx made by [registered
person] for the from dd.mm.yy to dd.mm.yy to ensure compliance with the VAT Act and
Regulations, and have obtained all the information and explanations necessary for the purposes of our
examination.
Our examination was designed to enable us to obtain reasonable assurance that the claim is free from
material misstatement, and included verification, on a test basis, of evidence supporting the amount
claimed. It also included an assessment of the adequacy of the [registered person’s] system of
recording and accounting for VAT.
In our opinion the attached VAT claim gives a true and fair view of the amount claimed and is
properly refundable under the VAT Act and Regulations.
The following is a suggested program of work to be carried out by an auditor certifying a VAT
refund. It is not exhaustive and may require tailoring to circumstances.
a) Review and document the adequacy of the system of recording and accounting for VAT.
b) Ensure that the VAT 4 corresponds with the supporting VAT return and that the entries in the
return agree to the books of account.
c) Establish why the trader is in refund position (e.g. trader is an exporter, inputs taxed at higher rate
than outputs, significant capital expenditure, seasonal trading/purchases, etc). The reason for the
refund must be soundly based.
d) Check if the trader is subject to partial exemption rules, and if so, whether the rules have been
applied correctly as required by regulation 17, especially the annual adjustment.
e) Select a sample of invoices from VAT 4 and perform the following tests where applicable:
- Input tax has been claimed within twelve months after the issue of the invoice.
- The invoices meet the requirement of Regulation 4.
- Simplified tax invoices have not been used to claim relief.
- The invoices are not photocopies or fax copies.
- Ensure that input tax in respect imported goods is properly supported by a Customs Entry
form and contained within an original KRA receipt for payment of duty and VAT.
- Ensure that tax has been properly accounted for in respect of imported services (reverse
charge).
- Ensure the input tax does not relate to items scheduled on the blocking order-VAT Order,
1994.
- Ensure input tax has not been claimed in advance.
- Trace the invoices to the relevant ledger accounts.
- Confirm that the expenditure is business related and not private.
f) Obtain the workings supporting the output tax on the VAT return, if any, and select a sample and
perform the following tests where applicable:
- Check that the correct rate of VAT was applied.
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- Ensure that sales were accounted for in the correct tax period
- Trace the invoices to the relevant ledger accounts.
- In the case of exports, ensure a payment has been received in respect of the goods or services
exported and the proper documentation supporting export is in place.
- Ensure that VAT has properly been accounted for in respect of miscellaneous sales.
g) Ensure, where applicable, that VAT on intra-group transactions has been properly accounted for.
h) Ensure all VAT returns were submitted on time. If not, compute the penalties and interest to be
deducted from the claim, if the trader has not done so.
i) Prepare a statement analyzing the current claim.
Note: any registered person who knowingly makes any fraudulent claim for refund of excess VAT
will be required to pay a penalty of double the claim. The penalty is in addition to the usual penalties
specified in the VAT legislation. In addition, upon conviction, the registered person will be liable to
imprisonment for a term not exceeding three years.
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-To pay to the Commissioner that money or so much thereof as may be sufficient to pay the tax
so due and payable.
Where such a person required by the Commissioner to pay any tax on behalf of a taxpayer is
unable to do so he should inform the Commissioner within seven working days of the inability.
d) Where a person who is the owner of land or buildings situated in Kenya fails to pay tax due and
payable, the CVAT may notify that person of his intention to apply to the Registrar of Lands to
have the land and buildings to be the subject of security for the tax. If, after thirty days of issuing
the notice, the taxpayer fails to pay the tax due, the CVAT may, by notice in writing, direct the
Registrar of Lands that the land and buildings be the subject of security for the tax. Such notice
will be registered as if it were an instrument of mortgage.
e) In order to secure payments of tax by any person of any tax, the CVAT may require the person
concerned to furnish security in such manner and in such amount as may be prescribed.
Generally, the security shall be in such sum not exceeding the total tax payable. Where the
security is not in cash or equivalent securities, it shall take the form of a bond in such form and
given by such sureties as the CVAT may approve.
f) The CVAT may recover any tax due and payable as a civil debt due to the government. Where the
amount of tax does not exceed one hundred thousand shillings, the debt shall be recovered
summarily.
9 Failure to issue a tax invoice as required Penalty of between Ksh. 10,000 and Ksh. 7th Schedule
200,000. Any goods connected with the Paragraph 5
offence are liable to forfeiture
10 Failure to keep proper books or records Penalty of between Ksh. 10000 and Ksh. 7th Schedule
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200,000 paragraph 6
11 Failure to submit a return Penalty of Ksh. 10,000 7th Schedule
paragraph 9
12 General penalty for offences under the Act for A maximum fine of Ksh. 500,000 and/or up Section 43
which no specific penalty is prescribed to 3 years imprisonment
13 Failure to withhold VAT, remit withheld VAT, or Penalty of Ksh. 10,000 or 10% of tax due, 7th Schedule
submit withholding VAT Return whichever is higher paragraph 10
14 Withholding VAT without being appointed as a Penalty of Ksh. 10,000 or 10% of tax due, 7th Schedule
withholding VAT agent whichever is higher paragraph 10
15 Making a fraudulent claim for VAT refund Penalty of double the amount claimed or to Section 40
imprisonment for a period not exceeding
three years or both.
Offences and Penalties on VAT
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CHAPTER NINTEEN
Important Definitions
a) Customs Duty
This is tax paid on goods exported through the port of Kenya or imported and which are specified in the
First Schedule of the Customs and Excise Act Cap 472-Examples of goods subject to customs duty
Include: Machinery, vehicles, textiles, food commodities, electronics and others.
b) Excise Duty
This is the tax imposed on goods manufactured locally and specified on the 5th Schedule – example;
Beer, cigarettes, shoes, textile, soda, T.V, furniture etc.
c) Custom Control
This refers to any measure taken by the Commissioner of Customs and Excise (CCE) in relation to goods
specified in Sec. 12 of Cap 472 to ensure compliance with provisions of the Act.
d) Customs Warehouse
This is a place approved in CCE for deposits of
- Unentered or unclaimed goods
- Detained or seized goods.
- Goods pending payment of duty
- Good may be stored in the warehouse for security purposes.
e) Duty
Duty is defined to include; (customs duty, excise duty, levy, cess, imposition, tax, surtax- imposed on
goods by CCE.
Bonded Warehouse
This is a warehouse licensed by CCE for deposit of dutable goods on which duty has not seen paid and
they have been entered to be warehoused. A bonded warehouse includes duty free shop i.e. a room or
premises situated in a port and licensed by CCE for deposits of goods chargeable with duty on which:
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e) Goods under drawback from time of claim of drawback. Drawback refers to refund of all or part of
import duty paid in respect of exported goods or used in a manner or purpose for granting a
drawback or refund.
f) Goods subject to export duty from failure of bringing them to the port for export to the time of
exportation.
g) Goods subject to restriction on exportation (restricted export)
h) Goods pending exportation and are stored in a customed area with permission of a proper officer
Customs area is the area of deposit of goods subject to customs control. Goods that are subject to
customs control may/shall
a) Be examined by any officer any time.
b) Not be interfered with in any way by the officer
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g) Power to seal and search premises. They can seal, lock or secure:
- Buildings, rooms, place or receptacle of a plant.
- Excisable goods or material in a factory.
- Aircraft, vessels, vehicles or container.
The officer may also require the owner of goods to produce books and documents relating to
Imported/exported goods and:
- Examine the books and accounts.
- Seize and detain such books and documents.
- Require containers or envelope to be opened.
- Open and examine any package or goods or materials.
- Take reasonable samples of goods in packages.
h) Power to have, search warrant issued by the magistrates to enable the officer to enter, day or night,
the premises to seize and carry away uncustomed goods, plant or documents.
Dumping
Imported goods are deemed to have been dumped in Kenya if:
a) Goods are sold in Kenya at a price lower than the cost of importing i.e. cost of insurance, freight,
duty/taxes, cost of goods etc. in the country exporting the goods.
b) The export price in the country which is exporting the goods is less than the fair market value of
price of goods in that country.
c) If the country exporting to Kenya had imported the goods and:
- The export price of goods in the original country of export is less than fair market price in that
country.
- The export price of goods in the country which is exporting to Kenya after importing is less
than fair market price in that country.
Subsidy
This comes in form of direct or indirect reduction on:
a) Production or output by way of grants or loans.
b) Tax relief relating to the goods themselves or the material used to make the goods.
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e) Getting a clean report of finding. This is a report issued by international transporters e.g. Bureau de
veritas to certify that:
- The importer legally owns the goods.
- Those goods have been legally acquired.
- Goods are of the correct value.
- The imported goods are as per the specifications as indicated at the time of importation.
f) Filling in of import declaration forms (IDF). These are forms supplied by customs department to the
importer to ensure:
- He declares the goods he is importing
- Indicate the correct value of such imported goods.
- To enable the government to determine the value and amount of foreign currency flowing out of
the country.
g) The transporting lorries or vessels may be escorted upcountry to borders to ensure that goods
transported to another country e.g. Burundi through the Kenyan port are not dumped in Kenya.
h) Having the importers code number to restrict the imports by the importers. This in the identification
number for an importer given by the Customs and Excise Department. It's mandatory w.e.f 1.1.99
and it is used for:
- Processing of imports
- Documentation with regard to the new single entry import document (Form C.63), which
replaced the previous import document form C15. Form C 63 is mandatory and is filled in to
show; PIN and importers code details.
Individuals applying for importer code must submit a request application letter to the customs
department that must be accompanied by:
a. A copy of PIN certificate
b. National ID copy or
c. A copy of a passport
For companies applying for importers code, the application letter must be accompanied by;
a. Original certificate of registration
b. A copy of the company’s PIN
c. A copy of the current trade licence
d. A copy of a Memorandum and Articles of Association.
e. A copy of the current directors’ signatures as contained in the Articles of Association.
The importer code just like P.I.N is intended to bring many taxpayers to the tax net and eliminate
the evasion of customs duty at the port.
Preshipment Inspection
The PSI services provided by the Contractor for shipments originating in its assigned territory shall
consist of the following tasks:
(i) Process and input into a database the import Declaration Form (IDF). The processing of IDFs
is described in Appendix A. Number the IDFs serially by month of issue. Electronically
transfer to the KRA/Customs, the Ministry of Finance and the Central Bank of Kenya (and
any other organization so designated) copies of the IDF within the same working day or by
08.00 hours of the following working day of the IDF being issued. Use secure e-mail transfer
or any other mutually agreeable mechanism for conducting electronic data transfer.
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(ii) Implement an effective risk-analysis system in order to rationalize the PSI resources by
targeting mostly problematic imports for inspection, as described in the Contractor’s Proposal.
(iii) Cooperate with the GoK and the other Contractor in order to standardize both the paper and
electronic format and content of the .Customs Clean Report of Findings. (CCRF), .Non-
Negotiable Report of Findings. (NNRF) and other forms and reports used by the PSI
programme.
(iv) Make arrangements with the importer and exporter to perform the physical inspection of
shipments subject to PSI previous to their shipment. Perform the inspections within two
working days (48 hours) after the goods become available for inspection in the country for
export in accordance with the schedules of Goods, (Appendix D) and the types of inspection
to which they are subject (Appendix C) to confirm if the type, quality and quantity of the
goods conform to the importers declaration form. Use the International System of Units
(Metric System) to determine the quantity of goods. The inspections must also detect
perishable goods with short or due expiration dates, used parts and equipment too deteriorated
for further effective use, and dangerous and illegal cargoes. Laboratory analysis should be
performed when needed and the results electronically forwarded to KRA/Customs. The
contractor should witness the loading of full container loads and tamper-proof seals should be
applied to the container.
(v) Re-inspect, as requested, shipments in Kenya jointly with Customs in cases of suspected
Customs fraud.
(vi) Perform the tariff classification of the inspected goods according to the Harmonized System
Code. Compute all of the import duties and taxes applicable to the shipment as per the
currency specified in the invoice.
(vii) Expeditiously issue and disseminate paper and electronic copies of CCRFs and NNRFs to the
importer and the government, as prescribed in Appendix A. Transmit CCRF and NNRF data
to KRA/Customs and other designated organizations daily, promptly following issuance.
Maintain records on the dates of issuing IDFs, conducting inspections and issuing CCRFs and
the elapsed times between these dates.
(viii) Provide for the secure and reliable electronic transmission of inspection data to Customs and
other Government dependencies and for the storage of data in secure databases. Have systems
in place to prevent and detect any changes subsequent to an inspection being completed to
data supplied from the contractor’s bureau in the country of export without written
authorization by KRA/Customs. Ensure full compatibility of the contractor and customs
systems for the seamless sharing of data.
(ix) Issue various reports as agreed with KRA/Customs, the Ministry of Finance, and the Central
Bank of Kenya or any other organization so designated on inspection activity (over and above
the provision of electronic IDF and CCRF data) and trade and import statistics gathered
through the performance of the PSI service. Develop in conjunction with the Ministry of
Finance and KRA/Customs the modalities and formats for reporting on trade and inspection
activity and the revenue impact of the various types of PSI intervention. Initial reporting
requirements are described in Appendix B.
(x) Provide timely information, in the media and format required by the Government, to facilitate
the auditing of the contractor performance by any party appointed by the Government.
Cooperate unconditionally with the auditing efforts including making fully available the PSI
related databases to the auditors.
(xi) Provide such information, documents, and access to such information and documents arising
out of the implementation of the agreement as the Ministry of Finance may require. This
information shall include the transfer of electronic files of IDFs, CCRFs and invoices
simultaneously with transfer to the government organizations.
(xii) Expeditiously communicate to the Government any intelligence information the Contractor
might acquire regarding violation of Customs law and dangerous or illegal cargo bound for
Kenya.
(xiii) After twelve months of operation, the selected Contractors shall relocate the issuance of IDF
services to the Customs designated areas to be specified by the KRA/Customs complete with
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their equipment, hardware and soft wares. During the remaining period of the contract, the
Contractor shall in conjunction with the customs continue to issue IDF from the Customs
designated areas. At the expiry of the contract the equipment, hardware and soft wares shall
become the property of the KRA/Customs.
Quality Standards
The standards to be observed are the following:
(i) All labeling of packaging of imports shall include English and/or Kiswahili.
(ii) In the case of packaged pharmaceuticals, chemicals (including dyestuffs, paints, water
treatment chemicals, etc.), cosmetics, fertilizer and similar goods subject to quality inspection,
the PSI company shall check the number of batches, dates of expiration and integrity of the
packaging.
(iii) All imports with a limited shelf life must be subjected to quality inspection and the PSI
company shall ensure that such goods have more than three-quarters shelf life from the date of
expected landing in Kenya.
(iv) Tests of samples shall be performed upon request by KRA/Customs or a responsible
government agency, through KRA/Customs or when the PSI Company needs to ensure the
classification and quality of an item.
(v) The PSI Company shall ensure that published Kenya Bureau of Standards (KEBS) standards,
any specific laws or regulations, or any other acceptable international standards are complied
with for all goods subject to detailed quality inspections. If any goods fail to meet the
standards, a CCRF shall not be issued thereon.
(vi) All used motor vehicles shall be inspected according to the published Kenya Standard
Number KS06-1515: 2000 or any other standards issued from time to time by KEBS.
Types of Inspection
(i) Except for imports exempted from PSI (see 6 below), the PSI company shall perform pre-shipment
inspection on shipments of goods covered by the Import Declaration Form (IDF) in the country of
export prior to export to Kenya to determine the quality, quantity, value, duties and taxes as follows:
(a) Detailed Quality Inspection of goods in Schedule Two
(b) Verification of Comparative Price of goods in Schedule Three
(c) Full Detailed Inspection of goods in Schedule Four
(d) Destination Inspection of goods in Schedule Five
(e) Any type of inspection that the Commissioner may specify for the goods in Schedule Six.
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(f) An estimation of the duties and taxes payable as per currency specified in the invoice
(g) On the CCRF it shall be noted that a ‘Detailed Quality Inspection’ has been conducted.
Schedule of Goods
Schedule Two
Imports subject to Detailed Quality Inspection only
1. Pharmaceuticals, medical, dental and veterinary consumables which are duty free
2. Fertilizers which are duty free
3. Imports imported free of duty by the Government of Kenya for which an inspection is requested
4. Bulk grains (maize, wheat, barley, rice)
Schedule Three
Imports subject to Comparative Price Determination Only
1. Alcoholic beverages
2. New motor vehicles (other than duty free)
3. Rail locomotives and wagons (86.01 to 86.06) and containers (86.09)
4. Ships weighing 250 tones and above.
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Schedule Four
Imports subject to Full Detailed Inspection
1. Pharmaceuticals (if not duty free) and cosmetics
2. Foodstuffs for personal and animal consumption
3. Goods in Chapter 84 and 85 which are not included in schedules One, Two or Three
4. Worn and used clothing and footwear
5. Used motor vehicles (other than duty free)
6. All refrigerators, refrigeration equipment, and air conditioners
7. Sugar
Schedule Five
Imports subject to Destination Inspection
1. Imports traded on high seas
2. Motor vehicles which are duty free
3. Goods that have evaded proper PSI controls
4. Other consignments as determined by KRA/CUSTOMS
Schedule Six
All other imports, from Schedule Two to Five and the ones specified in 6 below, shall be subject to a
Full Detailed Inspection or Comparative Price Determination as the Commissioner may determine.
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(r) Petroleum products of headings 2709, 2710, 2711, 2713, 2714 and 2715
(s) Electric current
(t) Personal gifts sent by foreign residents to their relatives in Kenya for their personal use excluding
motor vehicles
(u) Parcel post not for trade purposes
(v) Small shipments with f.o.b. value not exceeding US $10,000 imported vide a licensed courier
company
(w) Aircraft, aircraft parts
(x) Aircraft catering stores for use in aircraft owned or operated by a designated airline
(y) Currency notes, coins, travelers’ cheques and bullion
(z) Equipment and parts for the rehabilitation of electric generation equipment exempted from duty
under Item 39 Part A of the Third Schedule to the Act
(a) Equipment for power generation for supply of power to the National Grid approved by the
Permanent Secretary to the Ministry of Energy
(b) Current newspapers (daily, weekly, monthly)
(c) Goods for official Aid-Funded Projects
The customs value of imported goods shall be the transaction value, that is the price actually payable
for the goods when sold for export to the country of importation adjusted in accordance with the
provisions of Article 8, provided: -
a) That there are no restrictions as to the disposition or use of the goods by the buyer other than
restrictions which:
- Are imposed or required by the public authorities in the country of importation;
- Limit the geographical area in which the goods may be resold; or
- Do not substantially affect the value of the goods.
b) That the sale or price is not subject to some conditions or consideration for which a value
cannot be determined with respect to the goods being valued.
c) That no part of the proceeds of any subsequent resale, disposal or use of the goods by the
buyer will accrue directly or indirectly to the seller, unless an appropriate adjustment can be
made in accordance with the provisions of Article 8; and
d) That the buyer and seller are not related, or where the buyer and seller are related, that the
transaction value is acceptable for customs purposes under the provisions of paragraph.
a) If the customs value of the imported goods cannot be determined under the provisions of
Article 1, the customs value shall be the transaction value of identical goods sold for export to
the same country of importation and exported at or about the same time as the goods being
valued.
b) In applying this article, the transaction value of identical goods is a sale at the same
commercial and in substantially the same quantity as the goods being valued shall be used to
determine the customs value. Where no such sale is found, the transaction value of identical
goods sold at a different commercial level and/ or to quantity, shall be used, provided that
such adjustments can be made on the basis of demonstrated evidence which clearly establishes
the reasonableness and accuracy of the adjustment, whether the adjustment leads to an
increase or decrease in the value.
If applying this article, more than one transaction value of identical goods is found, the lowest
such value shall be used to determine the customs value of the imported goods. Transaction
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value may have to be adjusted to take account of significant differences in distances and
modes of transport.
Valuation of Exports
The values of export goods whether exempt from duty, liable to specific duty or liable to ad-valorem
(fooled custom duty) shall include.
a) The cost of goods to the buyer outside Kenya
b) Packaging charges
c) Any levy, cess duty, tax or surtax
d) Transport and all other charges up to the time of delivery of goods on board the exporting aircraft or
vessels at the place exit from Kenya.
Sec. 127 (b) states that where goods for exportation or re-exportation are below the normal price, the
CCE or any authorized officer will course the goods to be revalued or appraised in accordance to the rate
and price at which goods of similar kind and quality have been exported or imported. Re-exportation
occurs when goods are imported from outside Kenya and then exported outside Kenya without being
used in Kenya. The value of goods for exportation purposes consists of:
a) Landed cost at the time of importation
b) Transport and all other charges up to the time of delivery of goods on board the exporting vessel or
aircraft at a place of exit from Kenya.
Once goods are revalued or appraised a certificate of appraisal shall be granted by the officer indicating
the appraised value.
When determining the import value, the following assumptions are made.
a) Imported goods are delivered to the Kenyan buyer at the port of importation.
b) The seller bears the freight, insurance, commission and other charges, expenses and costs relating to
sale of goods.
c) The buyer/importer shall bear any duty/tax chargeable in Kenya.
d) The proceeds from resale of imported goods in Kenya shall not accrue directly or indirectly to the
seller or a person related to him.
e) The price of imports is not influenced by commercial, financial or other relationship between the
seller and the buyer (importer).
For locally manufactured goods the excise duty is imposed. For the purpose of levying Ad valorem
excise duty the value of locally manufactured goods shall be the factory-selling price. Ex-factory selling
price is the price at which goods can be sold from the factory exclusive of VAT and excise duty and it
consists of;
a) Cost of wrapper, package, box bottle or other container in which excisable goods are packed.
b) Cost of any other goods contained in or attached to the wrapper, package, box, bottle etc.
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c) Any incidental costs on sale of goods e.g. transportation costs, advertising costs, financing costs,
commission given to sellers, or any cost incurred on delivery of goods to the purchaser.
Refund of Duty
The duty paid on imported goods may be refunded under the following circumstances:
a) Where goods are returned to the seller.
b) Where goods are lost or destroyed by accident.
c) Where goods are damaged, destroyed, pillaged during voyage or while under customs control.
d) Where duty has been paid in error or overpaid or there is a cancellation of a bond given as a security.
e) Where goods have been abandoned to the Customs Department by the importer who had paid the
duty.
f) Where imports are used in production of exports or specified duty exempt goods
g) Where goods are imported and duty imposed on privileged institutions and persons. Such privileged
institutions include:
- Prescribed international organisation e.g. ILO, OAU, World Bank, UNEP, FAO, W.H.O,
UNESCO, UNDP world meteorological department etc.
- Agricultural, air force institutions etc.
- The transaction between Kenyan Government and other foreign Government.
- Diplomatic mission on importation of motor spirit and lubricated oil.
- Kenya Navy and army in importation of lubricated oil and motor spirit.
Bond Security
The CCE may require a person to give a security for the following reasons.
a) Ensure due compliance by the persons/taxpayer with the Act Cap 472.
b) For protection of customs and excise revenue e.g. cess, levy, duty on imported goods etc.
c) To cover any transaction to be entered into by the person within a period specified by CCE
The security required by the Commissioner can take the following forms:
a) Bond security
This is where a person/taxpayer delivers a document indicating a legal ownership of an asset. He
will therefore enter into a binding agreement to fulfil his obligations with regard to compliance and
payment of tax. If he fails to fulfil the conditions, he loses the asset.
b) Sureties/Guarantees: This is when a third party gives his guarantee that the taxpayer will comply
with the terms and conditions of the Act, mainly by banks.
c) Cash deposit
d) Partly by bond and partly by cash deposit.
The CCE may require a fresh bond or security under the following circumstances.
a) Where 3 years have expired and deems it reasonable to ask for a new or fresh security.
b) When the surety or guarantor dies
c) When the surety is declared bankrupts or enters into a scheme of composition with his creditors.
d) When the surety depart from Kenya without leaving sufficient property to satisfy the whole amount
of the bond.
Points to Note
Where a person is acting as a surety or the principal debtor, the bond may not be discharged or his
liability affected by:
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a. Given time to make payment or honour the obligation
b. Omissions which can not discharge the bonds
c. Omission to enforce the bond or breach of any conditions relating thereto.
Prohibited Imports
a) False or counterfeit money
b) Indecent/obscene prints, books, paintings articles etc.
c) Articles marked with ceremonial ensigns or coat of arms of Kenya
d) Distilled beverage with injurious chemical products which can affect the health of individuals e.g.
hyssop, thirjone, methanol.
e) Adverts to promote sale of medicine to cure cancer, T.B etc.
Restricted Imports
a) Tear gas
b) Traps for killing or capturing game animals unless permitted by the chief game warden
c) Postal franking machine unless with permission from the manager of telecom
d) Silencers for fire arms and sound moderators unless permitted by chief game warden
e) Articles bearing boys scout, or girl guides budges, emblems or tokens.
f) Portable spirits.
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CHAPTER TWENTY ONE
TAX ADMINISTRATION
Part I
Returns, Assessments and Notices
Introduction
The DTD normally sends returns of income to all persons who are in their records to declare income
from all their sources liable to taxation at the commencement of the year. Those not in records should
inform the Department before the end of the fourth month of the following year.
A taxpayer will inform the DTD about the details of his tax position through the submission of an annual
return of income. A return of income is also referred to us a return. A return is a standard form that is
issued by the DTD for completion by the taxpayer in respect of losses/incomes for the year. Three kinds
of taxpayers are required to submit returns of income.
Types of Returns
By 1993 there were 5 types of returns, some of which now have been abolished.
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Fourth Sixth Ninth Twelfth
Month Month Month Month
1990 - - 15% -
1991 - - 30% -
1992 - - 45% -
1993 - - 60% 20%
1994 - 15% 60% 25%
1995 - 30% 45% 25%
1996/to date 25% 25% 25% 25%
Note:
Where a person derives more than 2/3rds of his total income from agriculture, pastoral, horticulture and
similar activities, he will be required to pay instalments as follows:
Matters Relating to a Return of Income Carried Under Sec 52 of Income Tax Act
A return of income is a statement of income, which accrues to a person. Sec. 52 of ITA states that the
CDT by giving a notice in writing may require any person to furnish him within a reasonable time not
later than 30 days from the date of such notice with a return of income, that he is chargeable to tax. If by
the end of the 4th month after an accounting year a person has not been requested by the CDT to make a
return of income, he must within 14 days after the expiry of the 4th month notify the Commissioner of his
chargeability to tax. The CDT may also require by notice is writing that any of the following render a
return of income at any time whether before or after the year of income for which the return was made:
a) Executors or administrators of a deceased person
b) Liquidators of a resident company
c) From a bankrupt
d) A pensioner who is about to leave Kenya
In the above 4 cases time is of essence and thus the Commissioner is empowered to act swiftly to protect
any revenue.
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f) Any interest on amounts borrowed etc.
Sec. 54 of ITA requires certain documents to accompany a return of income. Any person carrying on a
business who makes a return of income and whose accounts have been prepared and examined by an
accountant or tax consultant must accompany a return of income with following documents:
a) A copy of his accounts signed by him and by his accountant/tax consultant
b) A certificate signed by his accountant specifying:
- The nature of the books of accounts
- The extent of his examination of the above books
- Whether such accounts reflect all the transactions of the business.
- Whether the accounts present a true and fair view of the gains/profits of the business reported on.
c) In the case of a company or a partnership a certificate of all payments and benefits in kind paid to
directors and other partners or employees earnings more than Ksh. 80,000 per year.
2) Self-Assessment Returns
Introduced in 1992 and submitted in respect of the year-ended 31:12: 92 and thereafter. A self-
assessment return is a detailed return of income, which combines both a declaration of income i.e. a
return of income and assessment to tax. The self-assessment return for an individual is also a self-
assessment tax whereby the taxpayer assesses himself to tax. This return requires a taxpayer to:
a) Declare income and their sources or losses on the basis of specified sources of income as per Sec.
15(7)(e) and Sec. 3(2) of ITA Cap 470.
b) Compute the tax payable for the year
c) To claim taxes paid at source or withholding taxes
d) To show the net tax if any which is payable by the due dates.
e) Where taxes are overpaid, tax credits to be reflected.
An individual making a return must make a declaration in the self-assessment return that it contains a full
and true statement of income tax liable. Failure to submit a self-assessment return will expose the
taxpayer to penalties.
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3) Returns Submitted by Companies/ Corporations
A company or a corporation for tax purposes include company registered under the Companies Act,
clubs, trusts, co-operate societies, trade associations etc. Companies submit the following returns.
a) Instalment returns and taxes
b) SAR and tax
c) Compensating tax return (CTR) and tax.
An instalment return for a company is a standard form issued by DTD for completion by company. It
was introduced as from 1:1:1990. All companies are required to submit the IR by the due dates. Any
taxes must be payable by the same dates that the instalment return is due for submission. The basis for
calculating instalment tax is as seen before. When completing this return, the following details must be
shown.
a) The year of income for which it is submitted
b) The instalment tax payable
c) The basis of calculating the instalment tax
d) The declaration by one of the principal directors of the company making the return.
Failure or lateness in submitting an ITR will expose a taxpayer to penalties.
a) The total income/loss of the partnership and how it was shared between the partners. Supporting
documents must be submitted alongside this return.
b) A signed declaration that a return of income contains a full and true statement of partnership income
or losses.
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Sec. 52 of ITA states that the precedent resident partner will submit a return from a partnership.
Specific Penalties
Other Returns
- P.A.Y.E. Return
- Dividend Return
- Interest Return
- Rent Return
- Commission Return etc.
Notices of Assessment
A notice of assessment or merely an assessment is a tax bill, which is issued by the CDT to all taxpayers
for each year of income. Where income has been declared, the appropriate rate of taxes shall be used to
arrive at the tax payable by a taxpayer for a year of income. In case of a loss, a notice of assessment is
still issued for the year on the basis specified sources of income (Sec. 15(7)(e) and Sec. 3(2).
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A notice of assessment is also measurement of income that is issued by the Commissioner for each year
of income. Note that after the introduction of self-assessments, assessments originate only from
taxpayers as opposed to preciously when the Commissioner would originate assessments. Sec. 73 of ITA
states that the CDT will assess every person who is chargeable to tax as quickly as possible after the
submission of returns. The CDT can issue an assessment at any time before expiry of seven years after
the year of income to which an assessment relates.
The CDT will assess a person to tax on the basis of returns submitted. Where he has a reason to believe
that the return is not true/correct, he will on the basis of the best of his knowledge, determine the
person’s income and assess him accordingly.
As from 1:1: 1992 and thereafter, a person who is chargeable will be required to submit a return with a
self assessment. Where the Commissioner is satisfied that the assessment is correct, he will accept it and
issue no further modifications. From the year of income 1990 and thereafter, the Commissioner will
make an estimated instalment assessment in respect of a person concerned where the person chargeable
did not submit an instalment return. The CDT in this case can make an estimated instalment assessment
on the person on his knowledge of judgment.
Contents of an Assessment
A notice of assessment is a standard form issued by the CDT. It contains the following information:
a) A notice to the person named therein i.e. taxpayer, that he has been assessed under that ITA.
b) Information on the person assessed that he has a right to object where he does not agree with the
assessment. Note that ordinarily the Commissioner will not entertain abjection against an assessment.
c) The amount of tax assessed or the losses carried forward.
d) The amount of relief available especially for individuals
e) The amount of any taxes paid at source
f) Any interest penalties where applicable i.e. penalties as per ITA
g) The amount for tax payable, due dates and where taxes had been over paid, shall reflect a refund.
The CDT is required to issue a notice of assessment within the requisite time i.e. within seven years after
the year of income in respect to which the assessment is to be issued. Where an assessment originates
from the CDT, taxes as per the assessment are due for payment by the 20th of the following month. If the
tax is not paid by the due date, a late interest penalty of 20% shall be imposed + 2% interest p.m. of the
outstanding amount.
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paying as an agent, the tax shall be collected from him as if it were due from him initially including
the requisite penalties. Various institutions can be appointed as agents e.g. banks, marketing
organisations e.g. NCPB, KCC, KTDA, KPCU, KFA etc.
c) Destraining order against the taxpayer. In this case the CDT can seize the property of the defaulting
taxpayer, which would be auctioned so as to satisfy the tax debt.
Types of Assessments
a) Self-Assessments (covered)
b) Amended Assessment.
The CDT issues it after a taxpayer has lodged a notice of objection to the CDT against an assessment
or has applied for a relief of error or mistake or has made an appeal to Income Tax Local Committee
or Income Tax Tribunal or the Courts of law against an assessment. The amended assessment can
either be amended upwards or downwards.
c) Estimated Assessment-
It is issued by CDT on any income that CDT estimates for the best of his judgment where:
- The taxpayer has failed to submit an instalment return.
- The taxpayer had failed to submit a self-assessment return.
- The CDT does not agree with the taxpayers self-assessment return
- Returns have been made but the accompanying accounts and other documents don't satisfy the
Commissioner
d) Additional Assessment
It is issued where the Commissioner had issued the original or the first assessment and has reasons to
believe that the person has been under - assessed. It could also be issued where the Commissioner is
not satisfied with a taxpayer’s self-assessment return.
Assessment (ii), (iii) and (iv) are not mentioned by ITA but arise as result of DTD practice.
Part II
Objections, Appeals, Penalties and PIN Number
Introduction
Taxpayers are required to pay tax on their income on the basis of the assessments made on the income.
However, if they feel that they have been unfairly assessed they have a right to object to the assessment
made in the prescribed manner to the CDT.
Objections by Taxpayers
A taxpayer is required to pay taxes on the incomes as per assessments, either self-assessments or
originating from the Commissioner. However, where a taxpayer feels that the income as per an
assessment arising from the Commissioner is too high, he has a right under ITA to object to such an
assessment. An appeal shall then be registered for hearing.
Note: A taxpayer will not be allowed to appeal against his/her own self-assessment. The only remedy
against a self-assessment error would be "a relief of error or mistake", (Sec 90 of ITA). An objection
raised by a taxpayer is referred to as a "Notice of Objection". For such a notice to be treated as a valid
notice of objection it must be:
a) In writing - a taxpayer cannot object orally
b) It must state the grounds of objection i.e. the reasons why the objection is lodged.
c) Must be made within 60 days from the date of service of the notice of assessment, plus 10 more days
(days of service) to give 70 days. The 10 days of service are taken to be the maximum time that mail
will have been delivered to any address in Kenya or abroad.
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A taxpayer can dispute a notice of assessment due to mistakes or errors relating to:
a) The amount of income or loss assessed
b) The amount of tax payable
c) Allowances or deductions made or omitted to have been made when computing chargeable
income/loss.
d) Imposition of penalties under Sec. 72 of ITA
e) Relief granted or omitted to have been granted
f) The due dates for taxes.
The assessment is time barred if it is issued 7 years after the year of income to which it relates. Provided
the grounds of the objection are clearly stated, the CDT is obliged to register the objection. However,
where the grounds of objection are unfounded or not material or not fundamental due to the taxpayer’s
lack of knowledge or mere arithmetic errors, such matters can be cleared through correspondence
between the taxpayers and the Commissioner. An agreement shall be struck between the two parties
where the taxpayer withdraws the objection while the Commissioner withdraws the assessment through
an amended assessment.
There are certain instances when the taxpayer will not be able to beat the 60-day deadline that a notice of
objection should be made. Provided there being good grounds Sec. 54 of ITA provides that a taxpayer
can lodge a late notice of objection.
The CDT will only admit a late objection provided the taxpayer can demonstrate that:
a) He was prevented from objecting in time by reason of sickness
b) Absence from Kenya or other reasonable causes.
c) There was no unreasonable delay on the part of the taxpayer.
In this case the Commissioner will expect that the taxpayer had paid part of the estimated taxes.
A late notice of objection should also be served to the Commissioner within 60 days from service of
notice of assessment including 10 days of service. A taxpayer who lodges a late notice of objection
must: -
a) Put in writing
b) State the grounds of the objections
c) State the reason for objecting late
In this case the CDT will accept a late notice of objection on the grounds that;
a) The return of income for the year and the accounts where applicable had been submitted to the
Commissioner.
b) The reason for lateness is either due to the taxpayer being absent from Kenya, sickness or any other
reasonable delay. The Commissioner will require proof.
c) There was no unreasonable delay on the part of the taxpayer
d) The tax due is paid together with any late penalties.
Where the CDT is satisfied that the tax due is excessive he can waive the last condition.
Where a late objection is accepted, it becomes a valid notice of objection. If the Commissioner doesn't
accept the late notice of objection, the notice of objection objected to as per assessment shall remain in
force. However the taxpayer has a further right to appeal to the Income Tax Local Committee against the
CDT’s refusal to accept a late objection.
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b) He can amend the assessment in light of the objection with some adjustments and the taxpayer
agreeing with the adjustments i.e. an agreed amended assessment is issued by the CDT with both
parties agreeing.
c) He can amend the assessment i.e. change the assessment in light of the taxpayer’s objection with
some adjustment with taxpayer not agreeing to the adjustments i.e. a non-agreed amended
assessment is issued by the CDT. When this assessment is issued, the taxpayer must be informed of
his rights to dispute it in an Income Tax Local Committee.
d) Commissioner may refuse to amend the assessment and issue a notice to the taxpayer, which
confirms the disputed assessment. The taxpayer should be notified of his rights to appeal to the
Income Tax Local Committee against such a confirming notice.
e) He can take no action where the taxpayer decides to withdraw the notice of objection.
f) He can take no action where the objection is invalid.
A taxpayer who is aggrieved by the manner, in which a notice of objection against an assessment has
been dealt with by the Commissioner, has further recourse to appeal to appellate bodies i.e. appeal bodies
established under the ITA or through courts in Kenya.
Tax Appeals
A taxpayer has a right to appeal against any decision made by the CDT regarding an assessment, which
he has not agreed to. The appeal shall be made by the appellate against the respondent to the appellate
bodies established by Minister of Finance under the ITA.
The Income Tax Local Committee consists of 9 members, who are appointed by the Minister of Finance
consists of:
a) A chairman
b) Not more than 8 other members i.e. a full Income Tax Local Committee has 9 members.
The period of office for the Income Tax Local Committee is usually 2 years unless;
a) A member tenders a resignation or
b) The Minister revokes member's appointment for reasons of failure to attend three consecutive
Income Tax Local Committee meetings or
c) A member being unfit to perform duties of is office due to reasons of mental or physical disability.
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c) The manner in which to convene meetings, the venue and the time to hold an Income Tax Local
Committee meeting.
d) The scale of costs that may be awarded by an Income Tax Local Committee.
e) The general matters of carrying out an Income Tax Local Committee appeal.
When considering the appeal, the two parties in the appeal i.e. CDT and taxpayer, will be required to file
appeal documents as follows.
a) The taxpayer must notify the CDT of his intention to appeal to the Income Tax Local Committee by
giving a notice within 30 days after receiving the notice from the Commissioner or after receiving
the CDT’s decision.
b) The notice of intention to appeal must be copied to the clerk of the Income Tax Local Committee.
c) Copies of the memorandum of appeal and a statement of facts must be sent to the CDT.
The taxpayer will submit the following documents to the clerk of Income Tax Local Committee.
When all the appeal documents have been filed in time to the clerk of Income Tax Local Committee, the
appeal will be registered for hearing. The clerk will not register a late appeal for hearing unless the
taxpayer is prevented from lodging an appeal in time to the Income Tax Local Committee for reasons
such as absence from Kenya, sickness or any other reasonable cause. In this case the Income Tax Local
Committee can give the taxpayer an extension of time within which to lodge an appeal. On appeal of
extension of time, the taxpayer must state why the appeal was not lodged in specified time.
A Valid Appeal
Where all appeal documents have been lodged in valid time, there is said to be a "Valid Appeal". The
clerk of Income Tax Local Committee on registering the appeal will appoint a date and venue, which
will be notified to both the appellant and respondent. The Income Tax Local Committee will meet and
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hear the appeal case and a decision shall be reached which will be communicated in writing to the two
parties.
The Income Tax Tribunal is governed by the Income Tax (Tribunal) Rules. An Income Tax Tribunal
will hear appeals on assessments that are based on the CDT’s directives under Sec. 23 and Sec. 24 of
ITA. Under Sec. 23 the CDT is empowered to reject certain business transactions where he is of the
opinion that they were meant to avoid or reduce taxes. He can direct for the necessary adjustments on
taxable income and issue an assessment accordingly. If the taxpayer objects to this adjustment and
subsequent assessment he has a right to appeal to the Income Tax Tribunal. Examples of such taxes
which the taxpayer may object which the Commissioner may feel are suspect are:
- A child being paid very high salaries for performance of minor duties
- A director of a company buying a car from a company at a throw way price.
The Commissioner is empowered to reject such transactions and raise an assessment accordingly.
Under Sec. 24 of ITA, the CDT is empowered to direct that a company makes a further distribution of
dividends i.e. where the CDT is satisfied that there has been a shortfall. Where the CDT directs for the
distribution, the taxpayer can appeal against such kind of direction. Matters relating to an appeal to an
Income Tax Tribunal are normally handled at the head office. Once the case has been registered in the
respective tax district, the tax payable will be stood over i.e. suspended for being paid first and relevant
offices are informed.
The file will be sent to head office for further instruction. Where a taxpayer is not satisfied with the
decision of an Income Tax Tribunal, he can make an appeal to a high court by giving a notice within 15
days after he has been served with the decision.
For the appeal to the High Court, the appellant who could either be the CDT or taxpayer must serve the
respondent with notice of intention to appeal to the court within 30 days of being served with decision
from other appeal bodies.
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Application for Relief of Error or Mistake in a Return Sec. 90
Where the CDT has issued an assessment in accordance with a return of income submitted by
taxpayer’s self-assessment return, the taxpayer cannot subsequently object to such an assessment.
This is because the assessment has been raised in accordance with his own assessment. However, a
taxpayer can make an error on mistake when completing a return of income form, e.g. wrong figures
of income resulting in excessive taxes. The taxpayer can make an appeal to the CDT under Sec. 90 of
the Act for the error or mistake to be rectified. This application is referred to as an application for
relief of error or mistake in return. If the application is accepted, the assessment is amended
accordingly so as to rectify the error or mistake. The time limit for such an application is seven years
after the year of income to which the error or mistake relates.
No Offences Penalties
1 Failure to submit/furnish return of income - 5% of tax payable each year or part of year;
minimum for companies. Ksh. 5,000 and Ksh.
1,000 for individuals.
2 Failure to submit final return with self - - 5% of tax payable each year or part of year;
assessment minimum for companies. Ksh. 5,000 and Ksh.
1,000 for individuals
3 Failure to submit compensating tax return - 5% of compensating tax which should have been
shown for each month.
4 Unpaid tax or late payment of tax - 20% of tax unpaid plus 2% interest per month
compounded.
5 Under-estimation of tax - 20% of difference between instalment tax payable
and instalment tax paid times 1.1 or 110%.
6 Fraud or wilful omission in a return - Double the amount of tax underpaid
- Fine not exceeding Ksh. 200,000
- Imprisonment not exceeding 2 years.
7 Failure to deduct or remit PAYE - 25% of the amount of tax involved; min. Ksh.
10,000.
8 Failure to keep adequate books of - Penalty of Ksh. 20,000
account.
9 Negligence on part of an authorized agent - Penalty is ½ of the additional taxes payable up to a
Where there is gross negligence or maximum of Ksh. 50,000 for the negligence.
10 - Where there is gross or willing - A penalty of between Ksh. 50,000-Ksh. 200,000
negligence or there is fraud on part of
the authorised agent
11 - Where there is wilful omission of - The penalty will be: double the difference between
information from a tax return. tax chargeable by the return and the normal tax
properly chargeable after adjusting for the
omission.
Note: The CDT has powers to waive penalties up to a maximum of Ksh. 500,000. Waivers exceeding
this figure require the approval of the Minister of Finance.
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Personal Identification Number (PIN)
Ref. 13th Schedule of ITA Cap 470 and Sec. 132 of ITA
Sec. 132(1): Every person whose income is chargeable to tax under ITA Cap 470 shall have a PIN
number, which shall be produced when required under the rules prescribed by the CDT.
Sec. 1132(2): for the purpose of collection or protection of tax, any person whom the CDT may so
require shall have a PIN number.
Sec. 132(3): Any person required under the Act to make a return, statement or other document shall
include the PIN number in every document, return or statement for proper identification of that person.
The 13th Schedule includes the names of the institutions and purposes of transactions for which PIN
numbers are required. These include the following:
a) Commissioner of Lands- for registration of titles and stamping of instruments
b) Local Authorities- for approval of plans and payment of water deposits.
c) Registrar of Motor Vehicles- for registration of motor vehicles, transfer of motor vehicles, licensing
under the Traffic Act Cap 403.
d) Registrar of Business Names- for new registrations
e) Registrar of Companies- for new registrations.
f) Insurance Companies- for underwriting of policies.
g) Ministry of Commerce- for import licensing or trade licensing.
h) Commissioner of VAT- for application for registration.
i) Central Bank of Kenya- for application for foreign exchange allocation or licensing of financial
institutions.
j) Customs and Excise- for importation of goods, customs clearance and forwarding.
k) Kenya Power and Lighting Company Ltd. - for payment of deposits for power connections.
Sec. 132(7): a failure by the named institutions to comply with the CDT’s requirements will render such
institutions liable to a penalty of Ksh. 2,000 for every omission.
Advantages of PIN
a) Prevention of tax evasion
b) Enables the government to maximize on revenue collection
c) Eases collection of tax on imports.
d) Easier reference of taxpayers matters at KRA in case of a dispute
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CHAPTER TWENTY THREE
The government of Kenya imposes various types of taxes. The salient features of the following taxes
have already been discussed in the previous chapters:
a) Income Tax
b) Customs and Excised Duty
c) Value Added Tax (VAT)
a) Stamp Duty
Stamp duties are charged by the Government in respect of some documents, which are specified in
the Stamp Duties Act. Stamp duties are also a source of revenue to the Government. The stamp duties
law is enforced to raise revenue by requiring documents of certain kinds to be stamped. Stamp duties
are charged in Kenya in accordance with the provision of Stamps Duties Act (CAP 480). This Act
contains various Sections and Schedules that form the stamp duties law in Kenya. This Act requires
that some specific instruments must be stamped against payment of stamp duties in Kenya.
Instrument means a written document. Instrument (document) may be prepared for some specific
purposes e.g. securing the payment of money, the performance of some obligation, transfer of
property, mortgage of property and so on. The payment of stamp duties is enforced by indirect means.
The legislation makes unstamped instruments useless to the parties. An instrument, which is liable to
stamp duty, has to be taken to a stamp office where a stamp is impressed by means of a die (usually
red). In some rare cases, stamps are fixed on the instruments e.g. in the case of a contact note.
Conveyance or transfer duty is attracted, if the following three conditions are satisfied:
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- A conveyance i.e. an instrument transfers.
- Property i.e. something capable of ownership by a company by a person or persons.
- The idea of a bargain and sale with a consideration in money or in stocks and shares.
c) Entertainment Tax
This tax is charged on the admission to an entertainment. The entertainment includes an exhibition,
performance or amusement to which persons are admitted for payment. It also includes admissions in
cinema houses. This tax is charged at the rate of 18% of admission charges. This tax is charged in
accordance with the provisions of Entertainment Tax Act (Cap 479).
d) Trade Licenses
Trade license fees are charged in accordance with the provisions of Trading Licenses Act (Cap 497).
These license fees are charged by the government on annual basis to grant the permission of
conducting different types of trade activities. From year 2000, a single trade license has been
introduced which is payable to local authorities like Nairobi City Council.
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f) Motor Vehicle Taxes And Licenses
A motor vehicle license fee is charged against the issue of road licenses, driving licenses (been
abolished) etc. There is also a purchase tax on the second hand motor vehicles.
g) Poll Tax
This tax is charged by the local authorities like municipal committees, town committees etc. This tax
is charged in some towns of Kenya. This tax is payable by every male adult resident in a specific
local authority.
h) Property Rates
Property rates are also charged by the local authorities in their specific areas. These rates are charged
on land and property owned by individuals or corporate bodies. In this regard, the provisions of the
following two Acts are applied:-
- The Valuation of Rating Act (Cap 266). The main purpose of this Act is to empower local
government authorities to value land for imposing property rates.
- The Rating Act (Cap 267).
The purpose of this Act is to impose rates on land and buildings. Property rates are the major sources
of revenue for urban and local authorities.
i) Royalties
Royalties are usually attached to the production from state-owned resources e.g. mines, forest etc. In
Kenya, the Government receives royalties by permitting individuals and corporations to extract some
minerals or acquire timber from forests. These royalties are also an important source of revenue of the
Government.
j) Community Charges
The Government provides some community services like health, social security, housing, community
development, sanitary services, recreational and related cultural services. The Government also
receives some amounts against these services. These are known as community charges.
i. The valuation roll is governed by the Valuation for Rating Chapter 266-267.
ii. It is normally prepared by the Commissioner for Lands on behalf of the council which does not
have an authorized valuer
iii. The following matters must be taken into account in the Valuation Roll
- The plot number
- The location of plot
- The hectare of the plot (this assists the valuer in assessing the rate in percentage payable to the
council since valuation is done per hectare)
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