TAXATION INTRODUTION

Taxation is part of public finance. Public finance is the study of the spending and revenue raising
activities of the government.

Taxes are the most important source of public revenue. Any tax can be defined as an involuntary
payment by a taxpayer without involving a direct repayment of goods and services (as a "quid pro
quo") in return. In other words, there is no direct goods or services given to a taxpayer in return for
the tax paid. The taxpayer can, however enjoy goods or services provided by the government like
any other citizen without any preference or discrimination.

ACTIVITIES OF THE GOVERNMENT

A government is expected to carry out some activities as part of its service to the public. These
activities are generally of universal application, but where applicable, a Kenyan example is given
to drive the point home. These activities are:

1. To maintain internal security and external defence and carry out general administration.
In this respect, it will incur expenditure relating to:

 The cost of police and judiciary for maintenance of law and order.

 The cost of the armed forces such as the army, navy and air force for
defence against external aggression.

 Cost of regional administration and general administration of law and order.

To provide infrastructure and communication such as:

 Cost of constructing roads, railways, airports and harbours.

 Cost of constructing electricity and telephone networks, television and radio systems etc.

2. To provide basic social services such as the cost of:

 Medical services and medicine in hospitals.

 Education in schools, colleges and universities.

 Water supply and sewerage.

 Sports and cultural activities.

 Entertainment and information on radio and television.

3. To participate in the production and marketing of commercial goods and services:

 Cost of establishing public enterprises such as parastatals.

 Combining with private business through purchase of shares in commercial

enterprises. There is pressure all over the world for government to divest or privatise
business enterprises. The Kenya government in the 1991 budget announced its plans
to divest in 139 business enterprises.

 Providing in form of easy loans not obtainable in financial institutions, and providing
cheap business premises such as the Kenya industrial estates , export processing
zones etc.

 Guaranteeing markets through protection from competition and preferential

purchases.

4. Influencing and guiding the level and direction of economic activities through various
regulations:

 Monetary policy (relating to interest and money supply);

 Fiscal policy (deliberate manipulation of government income and expenditure so as to

achieve desired economic and social goals).

5. Redistributing income and wealth through taxation and public spending:

 Taxing the rich and those able to afford tax.

 Cost of providing basic needs to the poor such as free education, medical care and
housing.
  Cost of relief of famine and poverty which may arise from unemployment, sickness, old
age, crop failure, drought, floods, earthquakes etc.

To perform the above functions effectively and adequately, the government needs funds. Taxation is
an important source of government income. The income of the government from taxes and other
sources is known as public revenue.

TAXATION OF INDIVIDUALS
An individual is taxed in respect of the incomes he receives. There are various specified sources
of income. In this section, we will highlight the taxation of individuals receiving business income
and employment income.

Gains or Profits from Any Business, For Whatever Period of Time Carried On
The Income Tax Act has defined business to include any trade, profession or vocation, and every
manufacture, adventure and concern in the nature of trade, but does not include employment.

Trade means buying and selling for gain;

Profession means professional practice such as by a doctor, lawyer, accountant etc.;

Vocation means a calling or career;

Adventure would include smuggling and poaching;

Concern would mean any commercial enterprise.

Business may be carried on for a short time or a full year. The period a business is carried on is
irrelevant in taxing the income (gains or profits) and so the use of the phrase "for whatever
period" of time (business is) carried on.

The Act charges tax on gains or profits from any business. One person may carry on illegal
business and another one may carry on a legal business. Both would be taxed on gains or profits
from business as the Act is not concerned with the legality of the business when it comes to
taxing the business income (gains or profit).
The following items whenever they arise will form part of the gains or profits from business:
1. An amount of gains from ordinary business arising from buying and selling as a trade e.g.
butchery, grocery, manufacture, transport etc.
2. Where business is carried on partly within and partly outside Kenya, by a resident person, the
gains or profits is deemed to be derived from Kenya. A good example of this is a transporter
who transports goods from Mombasa to Kigali (trading in Kenya) and then transports goods
from Kigali to Kampala and to Mombasa (trading outside Kenya).
3. An amount of insurance claim received for loss of profit or for damage or compensation for
loss of trading stock.
4. An amount of trade debt recovered which was previously written off.
5. An amount of balancing charge. This arises where business has ceased and the machinery in
a class of wear and tear is sold for more than the written down value. For example:

Wear and tear computation

Class III

Sh.
Sale proceeds (business ceased) 25,000
Written down Value 20.000
Balancing Charge (taxable income) 5.000

6. An amount of trading receipt. This arises where business is continuing and all the machinery
in a class of wear and tear is sold for more than the written down value. For example, the
same figures as in 5 above can be used:
 Wear and tear computation Class III
Sh.
Sale proceeds (business continuing) 25,000
Written down Value 20.000
Trading receipts (taxable income) 5.000

7. An amount of realized foreign exchange gain. If the foreign exchange gain is not realized,
it is not taxable.

EMPLOYMENT INCOME
An employee can be said to be a holder of a public office or other appointment for which
remuneration is paid. The remuneration is the reward or pay for work or service rendered, for
example, in the case of a minister, civil servant, company directors, company secretary,
accountant, clerk, engineer, and all those commonly referred to as employees.

An employer will include:

a) The person having the control of payment of remuneration; or
b) Any agent, manager or other representative in Kenya of a branch of an overseas company; or
c) Any paying officer of the Government or other public authorities.

The above definitions are particularly important in relation to Pay as You Earn (PAYE)
operations.
This is the system of deducting tax, monthly, when the employer is paying emoluments.

Taxable employment income constitutes of the following:

i) Cash benefits
ii) Non cash benefits

CASH BENEFITS
These are employment benefits which are enjoyed by the employee in form of cash. They
include;-

a) Wages, salary, leave pay, sick pay, payment in lieu of leave, director's fees, overtime,
commission, bonus, gratuity, compensation for the termination of any contract of
employment or service etc.
b) Cash allowances and all round sum expense allowances, for example, house or rent
allowance, cost of living allowance, clothing allowance, etc. however named.
c) Employees' private expenditure paid by employer. The bills in this case would be in the name
of the employee who is responsible for meeting the expenses. The examples of such
expenses would include house rent, grocery bill, electricity bill, water bill, school fees,
insurance premium etc.
d) An amount of subsistence, travelling, mileage, and entertainment allowance.
When these are paid to employees as mere reimbursements (refunds) of expenses of
employer, they are not taxable employment income. As reimbursement (refund) they must
be documented, that is claimed with supporting documents.

e) Amounts deemed to be gains or profits from employment derived from Kenya:

i. An amount paid to resident person for employment or service rendered inside or outside
Kenya if resident at the time of rendering service. A resident is therefore taxed on
worldwide employment income.
ii. An amount paid for employment or service rendered to an employer who is resident in
Kenya or with a permanent establishment in Kenya. A non-resident person is therefore
taxed on income from service rendered to a resident person.

NON-CASH BENEFITS
These are employment benefits which are enjoyed in kind by the employee. They include:

1. None cash benefits whose aggregate value does not exceed Sh. 36,000 per annum or Sh.
3,000 per month.

The benefits that are taxed are:

i) Facilities e.g. free lunch, transport, gift by employer etc.
ii) Servants provided by employer, for example house servants, cooks, watchman (day
and/or night), ayah, and gardener. The Commissioner of Domestic Taxes has quantified the value
of the benefits as shown below. An employee is taxed on the cost of providing the benefit or the
quantified value of the benefit, whichever is higher. If there is no quantified value, the higher of
the market value and the cost is taken.

ILLUSTRATION
Bifwoli Wakoli was provided with the following servants by the employer in the year 2012.
1. House servants
2. Cook
3. Watchman
4. Gardener

With the employer paying Sh. 28,000, Sh. 33,000, Sh. 45,000 and Sh. 18,000 per annum
respectively. The watchman was from Mbwa Kali Security Group who pays their watchman Sh.
120,000 per annum. The market value of the other servants is Sh. 31,000.

Bifwoli Wakoli

Taxable income computation for the year 2012 Solution

Employment income
House servant; higher of: Actual 28,000} 31,000
Market value 31,000)
Cook; higher of: Actual 33,000} 33,000
Market value 31,000}
Watchman; higher of: Actual 30,000} 120,000
Market value 120,000}
Gardener; higher of Actual 18,000} 31,000
Market value 31,000}
Taxable income 215,000

i) Services provided by the employer for example, electricity, furniture and radio and
 electronic alarm system. The Commissioner of Domestic Taxes has quantified the value
of some benefits as shown below. The employee is taxed on the market value or the cost
of providing the service, whichever is the higher, except in the cases of telephone,
furniture, and electricity from a generator to agricultural employees.
Commissioner’s prescribed benefit rates
Services Monthly rates Annual rates
Sh. Sh.
Electricity (Communal or from a generator) 1,500 18,000
Water (Communal or from a borehole) 500 6,000
Provision of furniture 1% per months Telephone (Land and mobile) 30% of the bills

NB; if the furniture was hired the cost of hiring is the amount that will be charged.

Agricultural employees: Reduced rates of benefits

Water 200 2,400

Electricity 900 10,800

ILLUSTRATION
Mr. Lumadede was provided with the following services in the year 2012; water electricity and
telephone.

The employer paid Sh. 400 per months for water, Sh. 800 per months for electricity and shs.600
per months for telephone. His house was furnished by the employer at a cost of shs.80, 000 on 1 st
January 2012.

Required;
Determine the taxable
amount
SOLUTION

Mr. Lumadede taxable income computation

Sh. Sh.
Employment income
Water; Actual 400
Quantified amount 6,000 ÷12 300 400

Electricity; Actual 800

Quantified amount 18,000÷ 12 1500 1,500
Telephone 30% of 6000 1,800
Furniture benefit l% x 12x80,000 9,600
13.300

iii) Motor car provided by employer. The Commissioner of Domestic Taxes (CDT) has
quantified the value of the benefit on the basis of the engine capacity rating. Employees
are taxed at the quantified value or 24% per annum of the initial expenditure on the
motor vehicle, whichever is higher. If the motor vehicle is leased/hired by the employer,
the taxable benefit on the employee shall be the higher of:

1) 24% p.a. of cost or

2) Hire charges paid.
 Prescribed benefit rates of motor vehicles provided by employer
Monthly rates Annual rates
(Sh.) (Sh.)
i Saloon, Hatch Backs and Estates
Up to 1200 cc 3,600 43,200
1201 1500 cc 4,200 50,400
1501 1750 cc 5,800 69,600
1751 2000 cc 7,200 86,400
2001 3000 cc 8,600 103,200
Over 3000 cc 14,400 172,800
ii Pick-ups, Panel
van (Unconverted)
Up to 1750 cc 3,600 43,200
Over 1750 cc 4,200 50,400

ILLUSTRATION
Mr. Mulunjiru was provided with a saloon car of 1,750 cc whose cost in the year 2005 was

shs.2, 000,000. The value of the vehicle at the beginning of the year was Sh. 800,000. He used
the

Vehicle 40% for official purposes.

Required;

Determine the car benefit

SOLUTION
Mr. Mulunjiru
Car benefit computation
69,600x60% 41,760
Cc basis
288,000
2% x2Mx 12x60%

The car benefit will be the higher of the two amounts i.e. sh. 288,000.
Housing Benefit
A housing benefit arises where an employee is housed by the employer. The employer may own
the house or lease it from other parties.
For this purposes of computing housing benefit, employees are divided into four categories:

a) Ordinary employees and whole-time service directors.

b) Non-whole time service director.
c) Agricultural employees.
d) Employees living in a leased house

To determine the amount of housing benefit, the employees are classified into six groups and the
value of the housing benefit will depend on this classification:

The benefit is taxable as follows:

1. Director
Determination of housing benefit for whole time service directors and non-whole time service
directors was clarified in the 2008 Finance Act as:

For non-whole time service director

The benefit will higher of:
a) 15% of the total income, excluding the value of the premises,
b) market rental value and
c) Rent paid by the employer.

For whole time service director

Whole time service director a director who devotes most of his time in the management and
control of the companies affairs and is not a beneficial shareholder of more than 5% of the
company’s share capital either directly or indirectly (through wife).

Example
Dr. Pius Wafula an employee of Nuru Ltd owns 1% of the company’s share capital and his
wife Mrs. Reddpush owns 2% of the company’s share capital. The rest of the shares are
controlled by Woi Woi Ltd. Dr. Pius owns 40% of the shares in Woi Woi Ltd.
 Required;

Compute the shareholding of Dr. Pius in Nuru Ltd

SOLUTION
Dr. Pius shareholding in Nuru Ltd
Directly
Dr. Pius 1%
Wife 2% 3%
Indirectly
Through Woi Woi (40% x 97%) 38.8%
41.8%
The benefit will be higher of:

a) 15% of the total employment income, excluding the value of the premises,

b) Market rental value and

c) Rent paid by the employer

2. Ordinary employee

The benefit will be l5% of his gains or profits from employment (i.e. monthly cash pay plus benefits);
excluding the value of those premises, minus rent charged to the employee; subject to the limit of
the rent paid by the employer if that is paid under agreement made at arm’s length with a third
party.

3. Agricultural employee residing in plantation

(Including a whole-time service director) who is required by terms of employment to reside on a

plantation or farm:-10% of his gains or profits from employment - (i.e. monthly cash pay plus
benefits), minus amount of rent charged to the employee.

Notes:

• If the premises are occupied for part of the year only, the value is 15% of employment income
relative to the period of occupation less any rental charges paid by employee/ director.

• In calculating the housing benefits the employer is required to deduct rental charges recovered
from the employee or director. The amount remaining is the chargeable value to be included in
the total taxable amount.

• Any employee who provides other than normal housing to an employee should consult his local
Income Tax office regarding the value of such housing.

• Whole-time service director is a director who is required to: -

i) Devote substantially the whole of his time to the service of the company in a managerial or
technical capacity; and

ii) Does not own or control, directly or indirectly, more than 5% of the share capital or voting
power of such a company. Shares owned by spouse or own shares in the company are
included in computing the 5% control.

• Fair market rental value should be taken to mean the amount of rent the premises would attract if it
were floated in the open market for the purposes of leasing. The valuation should be carried out
by an independent registered land valuer (i.e. No relation with the employer). Any cases of doubt
should be referred to the local Income Tax Office for advice.
ILLUSTRATION

A whole-time service director who earns basic salary of Sh.90,000 per month plus other benefits -
(e.g. Motor Car, House Servants etc.) – Sh. 11,200 is housed at Lavingtone Estate - Nairobi.
Employer pays the Landlord Sh. 45,000 per month (i.e. Sh. 420,000 per annum) under an
agreement made at arm’s length.

Calculation for Quarters

KSH.
Basic Salary 90,000
Add:
Benefits 11,200
Total 101,200

15% of value of Quarters= ksh.101, 200 x 15% =Ksh.l5, 180

Rent paid by the employer Sh.45, 000 per month is the amount to be brought to charge and not
15% of value of Quarters (The higher of the two).

Total taxable income = 101,200 + 45,000 = 146,200 per month.

Education fees paid by the employer for the dependents of the employee

Where the employer pays school fees for the employee’s child, dependent or relative, such
payment becomes a taxable benefit on the employee if not already taxed on the employer i.e.
Where the employer has treated the expenses as allowable in income statement - tax the
employee Where the employer has treated the expenses as a non- allowable in income statement
- do not tax the employee.

Educational fees for dependents of low income employees paid or foregone by an educational
institutional employer are not taxable on either the employer or the employee. A low income
employee is defined as one earning not more than Sh. 29, 316 per month, i.e. employees at
income tax bracket of 20% and below. (Effective date: 13 June 2008)
Compensation for loss of office
This is compensation for termination of an employment contract. An amount received as
compensation for termination of a contract of service whether or not provision is made in the
contract for payment of that compensation is a taxable benefit on the employee.

When an employee who is employed on contract basis is fired before expiry of contract, any
compensation pay is taxable as follows:
1. Where the contract specifies the term (duration) the compensation paid should be spread over
the unexpired period and taxed evenly.
2. Where the contract does not specify the term but provides for the amount to be paid as
compensation, the amount paid should be taxed at a rate equal to the employees’ annual pay.
3. Where the contract does not provide the term or compensation the amount paid should be
spread evenly over the next 3 years and taxed.

ILLUSTRATION
Where the contract specifies the term (duration)
A contract for a 5 years period was terminated on 31st December 2010 after it had run for 3 years
and sh. 3,000,000 paid as compensation. Show how this amount will be taxed.
SOLUTION
Remaining term = 5 years – 3 years
= 2 years

Taxation amount per year = 3m = 1.5m

2 year

Year Taxable amount

2011 1.5 million
2012 1.5 million

ILLUSTRATION

Where the contract does not specify the term but provides for the amount to be paid as
compensation.
A contract of employment did not provide for the compensation to be paid or the term. The
contract was terminated 1st December 2011 and sh. 9 million paid as compensation. Show how
the amount will be taxed.
SOLUTION
Rate equal to annual pay
Year Taxable amount (Sh.)
2011 2M
2012 2M
2013 2M
6M

ILLUSTRATION
Where the contract does not provide the term or compensation
A contract of employment did not provide for the compensation to be paid or the term. The
contract was terminated on 31 December 2011 and Sh. 9 million paid as compensation. Show
how the amount will be taxed.

SOLUTION
9M = 3m
3

Year Taxable amount (Sh.)

2011 3M
2013 3M
2014 3M

Loans to employees (Low interest and fringe benefit)

Where the employer provides employee with loan at an interest below the prescribed rate, this is
taxable benefit on the employer. The employer is required to pay fringe benefit Tax (FBT)
FBT = 30% [(commissioner prescribed rate of interest - rate paid by the employee) x Amount
loaned]
Note: fringe benefit tax is payable every month together with the normal PAYE charged at
corporate rate of tax of 30%.
i) Low Interest Rate Benefit
This benefit arises from the difference between the prescribed rate and the interest rate charged
by the employer for loans provided by the employer on or before 11 June 1998. This benefit is
taxable on the employee.

ii. Fringe Benefit

This benefit arises from the difference between the Market Interest rate and the interest rate for
loans provided after 11 June 1998 or loans provided on or before 11 June terms and conditions
have changed after 11 June 1998. Such a benefit is taxable on the corporation Tax Rate.

Tax free remuneration

There are certain instances where an employer wishes to pay his employee salaries negotiated net
of tax. In such cases, the employer bears the burden on behalf of those employees. The tax so
paid by the employer on behalf of the employee becomes benefit chargeable to tax on the
employer.

Employee share option plans (ESOPS)

The granting of bonus share for better performance by the firm is a benefit in kind received for
employment services rendered thus a taxable benefit
Where the employee is issued with the shares of the company which he/she works, this is a
taxable benefit on employee as follows:
a) Shares issued for free
Taxable benefit = market price per share x number of shares allotted
b) Shares issued at preferential price
Taxable benefit = (market price per share - issue price per share) x no of shares allotted.

Nontaxable employment benefits

These are benefits received by the employee which are not subject to taxation. These include:

1. Expenditure on passage for expatriates only

This is expenditure on traveling between Kenya and any other place outside Kenya borne by the
employer for the expatriate employee and family.

Conditions for qualifying for passage:

 The employee must not be a citizen of Kenya.
 The employee must be recruited or engaged from outside Kenya. However, an expatriate
employee does not lose the free passage by changing jobs in Kenya.
 The employee must be in Kenya solely for the purpose of serving the employer. The
expatriate may fail to qualify for passage if he engages in commercial activities in
addition to employment.
 The employer obtains tickets or reimburses the expatriate or employee the passage cost.
Where cash is paid for passage and the employee does not travel or in fact uses the money for
personal expenses, and then the cash sum is taxable on the employee.

2. Medical Expenses:
Where an employer has a written plan or scheme, or by practice provides free medical services to
all the employees (non-discriminative), the value of such medical expenses is a non-taxable
benefit for employees and whole time service directors. However, for the non-whole time service
directors the medical benefit is limited to Sh. 1,000,000, effective 1st Jan 2006. Where there is
no medical scheme or plan for all employees, the payment of any medical bills is a taxable cash
payment to the beneficiary. It is permissible to have different schemes for different categories of
employees.

3. Fringe benefit
4. Benefits in kind whose value does not exceed Sh. 36,000 p.a. (3000 p.m.)
Note:
A director other than whole time service director is excluded from any tax free medical scheme.
However, w.e.f. 1/1/2006, medical benefits received by such directors is tax free as long as it
does not exceed Sh. 1,000,000 p.a.
5. The amount of contribution by an employer, on behalf of an employee, to a pension fund or
scheme whether the fund is registered with the Commissioner of Domestic Taxes or not.
6. With effect from 12.6.87, the amount contributed by an employer, on behalf of an employee,
to a provident fund which is registered with the Commissioner of Domestic Taxes.
7. Educational fees paid by the employer for the employee, as long as such fees are taxed on the
employer (disallowable expense).
8. Subscriptions paid by the employer on behalf of the employee to a professional association
e.g. ICPAK.
9. Cost of free meals provided to low income earners while at work. A low income employee is
an employee whose rate of tax does not exceed 20% i.e. 29, 316 p.m.
10. Cash allowance (per diem) paid to the employees while working out of office. The first Sh.
2000 per day is tax free.

Meaning of a whole time service director

This is a director who owns less than 5% of the ordinary share capital and denotes most his time
to serving the company in technical or managerial capacity.
Tax free employment benefits:
These are benefits received by the employee which are not subject to taxation. These include:
i) Non cash benefits whose aggregate value does not exceed sh. 36,000 per annum.
ii) Medical benefits/medical cover/scheme provided it covers all employees. If it
discriminates, it is a taxable benefit for directors, sole traders and partners; the tax free
amount is limited to sh. 1,000,000.
iii) Cost of free meals provided to low income earners while at work. A low income
employee is an employee whose rate of tax does not exceed 20% i.e. 29, 316 p.m.
iv) Cash allowance (per diem) paid to the employees while working out of office. The first
Sh. 2000 per day is tax free
v) Employer’s contribution to a pension scheme on behalf of employees.

Note: where the employee works for a non-taxable entity e.g. a charitable trust, the employer’s
contribution to unregistered scheme of any excess contribution by the employer on a registered
scheme is taxable on the employee.
 vi) Subscriptions paid by the employer on behalf of the employee to a professional
association e.g. ICPAK.
vii) Cost of passage paid by the employer on behalf of an expatriate employee (cost of tickets
to and from Kenya) provided.
a) The employee is NOT a Kenyan
b) He/she was recruited from outside Kenya
c) He/she is sole in Kenya to serve the employer.
d) The money is actually spent on passage.
e) If the money is paid to the employee cash, he/she has to account for it.

viii) Re-imbursement of expenses incurred by employee in the course of duty.

Allowable Deductions against Employment Income

An employee is allowed to deduct the following from taxable employment income:
1. Employee’s contribution to a registered pension scheme.
The deductible amount is the lesser of:
a) 30% of employment income
b) Employee’s actual contribution.
c) The commissioner’s prescribed amount of Sh... 20,000 per month or Sh. 240,000 per
annum.
2. Employee’s contribution to a registered home ownership plan (HOSP).
The deductible amount (HOSP) is the lesser of:
a) Employee’s actual contribution.
b) The commissioner’s maximum amount of Sh. 4000 per month or Sh. 48 000 per annum.
3. Interest paid on mortgage where the loan is borrowed by employee to buy residential
premises or improve existing ones (owner occupier interest).
The deductible amount is the lesser of:
a) Actual interest paid by the employee
b) The commissioner maximum amount of Sh. 12500 per month or Sh. 15000 p.a.
4. Expenses incurred by the employee in the course of duty not reimbursed by the employer.
5. Subscription fee paid to a professional association by the employee.
Computation of taxable income
Taxable income = cash benefits + non-cash benefits - Allowable deductions.
Computation of taxable employment income

sh.
Salary xx
Bonus xx
Cash allowances xx
Commissions xx
Car benefit xx
Water, electricity and telephone xx
Furniture xx
Education fees xx
Insurance premiums paid xx
Housing benefits xx

Less: allowable deductions xx

Contribution to pension schemes xx
Contribution to HOSP (xx)
Owner occupier interest (xx)
Taxable income (xx)

Rates of taxes for individuals

Individuals are taxed at the graduated scale as follows:
Monthly rate Annual rates Rate
First sh. 10,164 First sh. 121,968 10%
Next sh. 9576 Next sh. 114,912 15%
Next Sh. 9576 „ sh. 114,912 20%
Next Sh. 9576 „ sh. 114912 25%
In excess of Sh. 38,892 In excess of Sh. 466704 30%

Tax reliefs (set offs)

These are amounts a taxpayer is allowed to deduct from the tax payable. These include:
1. Personal relief of sh. 2400 per month or sh.28, 800 per annum (currently).
2. Insurance relief of 15% of the premiums paid subject to a maximum of sh. 5000 per month
or sh. 60000 p.a.
3. PAYE (pay as you earn)
4. Withholding tax paid on qualifying income

Sh.
Gross tax payable xx
Less personal relief (xx)
Insurance relief (xx)
PAYE (xx)
Withholding tax (xx)
Net tax payable Xx

ILLUSTRATION
Mr. Osilo Wasike reported the following information relating to his income for the year ended
31 December 2011.
1. He was employed by Kalimu Ltd. as an assistant accountant at a basic salary of
Sh.720.000 per annum.
2. He received the following benefits while he worked as an employee of Kalimu Ltd:
 House allowance Sh. 120,000 per annum.
 Travelling allowance Sh.60, 000 per annum.
 Company car of 2000 cc that had cost the company Sh. 1,200,000 in year 2009.
 Medical benefits amounting to Sh. 100,000 per annum. The company has a medical
scheme for all staff members.
 3. He left Kalimu Ltd. on 1 September 2011 and was immediately employed by Green
Valley Ltd., at a basic salary of Sh.960, 000 per annum.
4. He received the following benefits from Green Valley Ltd.:
 A furnished house with the cost of furniture being Sh.200, 000.
 Company shares worth Sh. 100,000 for which he paid Sh. 10,000.
 Car benefit. The car was leased for Sh. 120,000 per annum from Bright Ways Car hire
Ltd.
 He contributed Sh.37.500 per month to a defined retirement benefits scheme and Sh.
15,000 per month to a home ownership savings plan. The employer contributed an equal
amount for him in each case.
5. On 1 October 2011 he obtained a loan of Sh.2 million at an interest rate of 5% per annum
from Green Valley Ltd. repayable in 10 years. The market interest rate was 15% per
annum.

Required:
i) Taxable income for Mr. Osilo Wasike for the year ended 3 1 December 2011.
ii) Tax payable on the income computed in (b) (i) above.
iii) Comment on the interest on the loan provided by Green Valley Ltd.
iv) . Mr. Osilo wasike
Employment income Sh.
Kalimu limited
Basic salary: 8/12 x 720,000 480,000
Benefits
House allowance 8/12 x 120,000 80,000
Travelling allowance 8/12 x 60,000 40,000

Company car i) 2,000cc: 7,200 x 8 = 57,600

Or (2% x8) = 16% x 1,200,000 = 192,000 192,000

Medical benefit (non-discriminatory therefore allowed)

Employment income 792,000
 Green valley limited
Basic salary: 4/12 x 960,000 320,000
Benefits
Furniture: 1% x 4 x 200,000 8,000
Company shares (100,000 - 10,000) 90,000
Car benefit: 4/12 x 120,000 40,000
Housing benefit: 15% x 458,000 68,700
Excess pension contribution (37,500-20,000) x 4 70,000
Contributions
Pension scheme: 37500 x 4 Actual 150,000
or: Set Iimit20000x4= 80,000 (80,000)

HOSP. 15,000 x4/12 Actual 60,000

Or: Set limit 16,000 (16, 000)
Total taxable income 1,292,700

Tax payable

First Ksh.121,968 @ 10% 12,196.8

Next Ksh.114,912 @ 15% 17,238.80
Next Ksh. 114,912 @ 20% 22,982.40
Next Ksh. 114,982 @ 25%) 28,745.50
Surplus (1,292,700– 466,704) @ 30% 247,798.8
Gross tax liability 328,962.3
Less personal relief (28,800)
Net tax liability 300,162.3

ii) Interest on the loan provided by Green valley

Interest on loan provided is fringe benefit and is taxable on the employer at the rate of 30%
Since 11 June 1998 as shown below
Amount of loan x (market rate - Prescribed rate)
2,000,000 x (15% -5%) = 200,000
2,000,000 x 30% = 60,000

ILLUSTRATION
Angela Kamidi is employed as a sales manager by Magarini Industries Ltd. For the year ended
31 December 2009, she received a basic salary of Sh. 120,000 per. month (PA YE Sh.20, 000).
The following additional information relates to her income and benefits for the year ended 31
December 2009:
1. Employment benefits:
 Company car of 2000 cc purchased by the company in year 2008 for Sh. 1,600,000.
 Servants: She was provided with a house help and a watchman. The wages paid by the
company amounted to Sh.6, 000 per month for each servant.
 Utilities: Her monthly bills for water, electricity and telephone services were paid by the
company. In total, the company paid Sh. 15, 000 per month in relation to the utilities.
 Free meals: The company paid for her lunch during working days which cost an average
of Sh.5, 000 per month.
 Insurance: Her life assurance premiums which amounted to Sh.80,000 per annum were
paid by the company.
2. Other information:
 She contributed Sh. 100,000 per annum to a registered pension scheme and Sh.60,000 per
annum to a home ownership savings plan (HOSP).
 In December 2009, she received a cash gift of Sh.50, 000 from the company for being
among the top employees of the year.
 She owns a jewellery shop which is run by her sister. The shop reported a loss of Sh
120,000 for the year ended 31 December 2009. This loss was after deducting wages paid
to the sister amounting to Sh.90, 000 for the year. In addition, she obtained jewellery
worth Sh.40,000 for free from the shop for her use during the year. The jewellery were
charged as drawings in the income statement.
Required:
i) Taxable income of Angela Kamindi for the year ended 31. December 2009.
ii) Tax liability accruing from the income computed in b (i) above.
SOLUTION
Sh.
Employment Income
Basic salary (120,000x 12) 1,440,000
Benefits
Company car 2,000 CC 86,400
Or: 2% x 12x1,600,000 384,000 384,000
Servants: Watchman (6,000 x 12) 72,000
House help (6,000 xl2) 72,000
Water, electricity and telephone (15,000 x 12) 180,000
Free meals (5,000 x 12) 60,000
Insurance 80.000
2,288,000
Less:
Pension scheme Contribution
30% x employment income 2,288,000 = 686,400
Actual: 100,000
Set limit: 240.000 (100,000)
HOSP Actual: 60,000
Or: Set limit: 48,000 (48.000')
2,140,000
Other income
Cash gift from the company 50.000
Taxable income 2.190.000

First Ksh.121,968 @ 10% 12,196.8

Next Ksh.114,912 @ 15% 17,238.80
Next Ksh. 114,912 @ 20% 22,982.40
Next Ksh. 114,982 @ 25%) 28,745.50
Surplus (2,190,000– 466,704) @ 30% 516,988.8
Gross tax liability 598,152.3
 Less personal relief (28,800)
Net tax liability 569,352.3

The following are not taxable on an employee:

 Passages between Kenya and any place outside Kenya paid for by the employer, provided
the employee is not a Kenyan citizen, was recruited outside Kenya, and is in Kenya
solely for the purposes of his employment;
 Medical services or medical insurance cover provided by an employer for a full time
employee or his beneficiaries, provided that for non-whole time service directors the
value of non-taxable benefit is up to Sh. 1,000,000;
 From 1 January 2010 medical expenses or medical insurance cover paid by a partnership
subject to a limit of Sh. 1,000,000.
 Employer’s contribution to a pension or provident fund or individual retirement fund.
However, with effect from 1st July 2004, employees of organisations not chargeable to
tax will be liable to tax on contributions the employer makes to an unregistered fund or
on the excess contribution to a registered fund; and
 Payment by an employer of education fees of an employee’s dependents or relatives if
taxed on the employer.
 From 1 January 2011, payment by an employer not exceeding Sh. 240,000 p.a. of gratuity
or similar payment which is paid into a registered pension scheme.
A low income employee is an employee whose taxable income is not subject to tax at the rate of
more than 20%.

A deduction of one-third of employment income may be claimed by a non-citizen resident

employee of a non-resident company, who is absent from Kenya for an aggregate of 120 days or
more in a year of income and whose employment income is not deductible in ascertaining the
employer’s income chargeable to Kenya tax.
From 13 June 2008, Kenya citizens are entitled to off-set tax on foreign employment income
against tax charged in Kenya on the same income to the extent of tax due in Kenya.

From 13 June 2008, Kenyan sportsmen and artists performing abroad, are entitled to off-set tax
on income earned abroad against tax charged in Kenya on such income, provided they can prove
that tax has been paid abroad.

Taxation of wife’s income

The income of a married woman living with her husband is considered that of the husband and
taxed on the husband.
However the wife’s income will be taxed separately from that of her husband under the
following circumstances.
1. Her employment income unless:
a) She is an employee of her husband
b) She is an employee of a partnership where the husband is a partner.
c) She is an employee of a company where the husband controls 12 % or more of the share
capital.
2. Her professional income unless the husband and her are partners.

3. Her business income unless the husband controls the business

4. Her investment income namely dividends, interest or rent.

A married woman shall be treated as living with her husband unless -

a) They are separated under an order of a court of competent jurisdiction or under a written
agreement of separation; or
b) They are separated in such circumstances that the separation is likely to be permanent; or
c) She is a resident person and her husband is non-resident person.

ILLUSTRATION
Mr. Alex is employed by Zintal Ltd as sales manager. He has provided the following information
relating to his income and that of his wife for year ended 31 December 2009
1. Basic monthly pay sh. 60000
 2. He was entitled to entertainment allowance of sh. 5000.
He lives in a company house and pays a nominal rent of sh. 8000. The market rental
value of house is sh. 45,000 p.m.
3. The company reimburses him of all expenses incurred on the official use of his car.
During the year, he was reimbursed sh. 90,000. He had purchased the car in 2005 at cost
of Sh.800, 000. It has an engine capacity of 1600 cc.
4. The education fees of his children amounted to sh. 200,000 was paid by employer. This
amount was not charged to the company income statement.
5. He contributed sh. 7000 pm to a registered home ownership saving plan.
6. The employer paid his life insurance premium amounting to sh. 8,000 per month.
7. His wife had invested in shares of a quoted company she received a dividend of sh.
12000 (net WT)

Required
Compute the taxable income for Mr. Alex for year ended 31 December 2009.

SOLUTION
Mr. Alex taxable income for year ended 31 December 2009.
Sh.
Employment
Salary 60,000 x 12 720,000
Entertainment allowance (5000 x 12) 60,000
Car benefit - Reimbursement ----
Education fees 200,000
Insurance premium 8,000 x 12 96,000
1,076,000
Housing benefit - higher of
15% x 1,076,000= 161,400
Or market rental value = 45000 x 12 =
540,000 444.000
Less nominal rent = 8000 x 12 = (96,000) 1.520.000
Less allowable deductions
HOSP - lesser of
Actual 7000 x 12 = 84,000 (48,000)
Or CDT prescribed amount = 48,000 1,472,000)
Total taxable income

Tax payable
First Ksh.121,968 @ 10% 12,196.8
Next Ksh.114,912 @ 15% 17,238.80
Next Ksh. 114,912 @ 20% 22,982.40
Next Ksh. 114,982 @ 25%) 28,745.50
Surplus (1,472,000– 466,704) @ 30% 301,588.8
Gross tax liability 382,732.8
Less personal relief (28,800)
Net tax liability 353,932.8

Taxation of a Deceased Person

Incomes accruing up to the time of death is taxed at a graduated scale rate and personal relief
granted up to the month of death.
Incomes accruing after death are taxed at the corporation tax rate prevailing during the year of
income under consideration and no personal relief is granted after death.
N/B: It’s the executor or administrator of the deceased person’s estate who is held responsible
for accounting & payment of taxes to the tax authorities.

Dividend income
Dividend is the amount of profit of a company which it pays to its share-holders in proportion to
their shareholding in any particular year.
It is income in the hands of the recipients.

The following are deemed to be payments of dividend to those receiving:

a) In a voluntary winding up of a company, amounts distributed as profits whether earned
before or during winding up, whether paid in cash or otherwise.
b) Issue of debentures or redeemable preference shares for no payment. The dividend is
taken to be the greater of nominal or redeemable value e.g.
Nominal value Sh. 100
Redeemable value Sh. 110
Taxable dividend is Sh. 110 (the greater of the two).

c) Payment for debentures or redeemable preference shares for less than 95% of the nominal
value and redeemable value whichever is greater e.g. payment of Sh. 70 in (b) above.
95/100 x Sh. 110 = Sh. 104.5. The payment of Sh. 70 is less than 95% of Sh. 110 which
is Sh. 104.5. The difference Sh. 40 is taxable dividend income i.e. Sh. 110 - Sh. 70 = Sh.
40

The following dividends received by a resident company are not taxed on the company:
Dividend received by a company which owns or controls 12 % or more of the voting
power (shares) of the paying company.
Note:
i) Foreign dividends not earned in Kenya are not taxable.
ii) Dividends are subject to withholding tax (tax at source) at 5% which is deducted by
the person paying and remitted to the Domestic Taxes Department. This constitutes
the final tax i.e. no further tax is chargeable for Kenya residents. Dividends are
treated as income of the year in which they are received.

With effect from 13.06.2008, Dividends received by financial institutions is subject to

withholding tax.
Interest income
This means interest payable in any manner in respect of any loan, deposit, debt, claim, or other
rights or obligations, e.g. loans by banks and financial institutions, deposits to banks and
financial institutions etc.
Interest is assessed on a cash basis, which means that it is taxed when received not when earned
if not paid.

Interest income exempted from taxation:

i) Interest from Post Office Savings Bank Account. The Post Office Savings Bank does
not accept deposits of more than Sh. 500,000. The interest from Fixed Deposit with
the Post Office Savings Bank is exempted from taxation
ii) Part exemption:
The interest of up to Shs.300,000 from housing development bonds called the "qualifying
interest' is partly exempted from taxation, i.e. the first Sh.300,000 of interest on housing bonds is
subject to 10% withholding tax as final tax.
The "qualifying interest" here means interest received by an individual which does not exceed
Sh. 300,000 in any year of income in respect of housing development bonds held by that
individual with a financial institution licensed under the Banking Act or a Building Society
registered under the Building Societies Act and which has been approved to issue housing
development bonds.

The housing development bonds are issued by a financial institution on payment of money and
the money earns interest. The money raised through issue of housing development bonds is
supposed to help in housing development.

The qualifying interest is taxed at the "qualifying interest rate of tax" which is the resident
withholding tax of 15%.

Income in respect of pension, charge or annuity

A pension fund is created by contributions from employer, or from employees, or both. An
employee receives pension from this fund when he/she retires because of old age or for any other
reason. Normally, the retiring employee is paid a lump sum on retirement, and thereafter, a stated
amount per month for life or for a stated period.
A provident fund is also created by contributions from employee or from employer or both. An
employee, on leaving employment is paid a lump sum from the fund depending on the
contributions made to the fund.

i) Pension is received for past service and after retirement.

ii) Pension annuity of up to Sh. 180,000 p.a. is exempted from taxation where received
by a resident individual.
iii) Lump sum payments from registered pension fund and registered provident fund by
resident individuals are exempted from taxation as follows:

First Sh. 480,000

Any amount received in excess of exempt amounts is taxed as follows above Sh. 480,000 tax
exempt.

1st Sh. 400,000 @10%

Next Sh. 400,000 @15%
Next Sh. 400,000 @ 20%
Next Sh. 400,000 @25%

Excess of Sh. 1,600,000 @ 30%

Pension received by a non-resident is not exempted from taxation and is in fact subject to
withholding tax of 5% of Gross Income. No portion of the income is exempted.