The nation’s tax law in detail

Kenya has a broad taxation system covering income tax, value-added tax (VAT), and Customs and excise duty. These are governed by independent legislations that make provisions for the charge, assessment and collection of the respective taxes. Corporate governance is also at the core of businesses’ operations.

Corporate Entities

The operation of corporate entities in Kenya is governed by certain rules and regulations. A corporate entity which intends to conduct business in the country can either operate as a company or a branch. The Companies Act governs the set up and operation of corporate entities.

Persons who wish to set up corporate entities in the country are required to submit the necessary documentation e.g. memorandum and articles of association, details of directors and shareholders, and so on to the registrar of companies.

The registrar of companies established under the Companies Act is responsible for registering and regulating the operations of corporate entities in the country. It is also responsible for registering incorporated trusts and business names.

A private company requires a minimum of two shareholders, while a public company requires a minimum of 50 shareholders. Foreign entities can operate in the country as a company or a branch.

Under the Companies Act, companies are required to file annual returns with the registrar. They are also required to file any changes in the corporate status, company name, share capital and directorship, among other changes.

Companies operating in certain sectors of the economy may be required to obtain additional approvals and licences from the relevant regulatory bodies governing them.

For instance, banks are regulated by the Central Bank of Kenya through the Banking Act, and insurance companies are regulated by the Insurance Regulatory Authority through the Insurance Act, while telecommunications companies are regulated by the Communication Authority of Kenya. Furthermore, county governments have certain by-laws governing businesses operating in their localities which establish levies, fees, related charges, as well as business permits.

The Capital Markets Authority (CMA) governs the issuance of shares to the general public. All companies which intend to list on the Nairobi Stock Exchange (NSE) must make an application to the CMA and the NSE. There are set terms and conditions for listing that companies must comply with to be granted the necessary approvals.

Tax laws apply to all corporate entities, both local and foreign, conducting business in the country, whether they are incorporated or operating through permanent establishments.

All corporate entities are required to register for a personal identification number (PIN) with the Kenya Revenue Authority (KRA). They are also required to register for applicable tax obligations which include income tax, pay as you earn (PAYE, or personal taxes), VAT and excise duty.

In addition, all corporate entities are required to register with the National Hospital Insurance Fund, which is mandated to collect contributions as well as run the national health coverage, and the National Social Security Fund, which is the organisation mandated with the task of collecting and administering pension contributions. In addition, all corporate entities are also required to register with the National Industrial Training Authority.

Reforms Under Way 

In a bid to attract local and foreign investment into the country by easing the cost of doing business, the Kenyan government has embarked on a raft of reforms to ease the complexity surrounding the registration of businesses.

For instance, the government has embarked on a countrywide project to establish one-stop investment centres, known as Huduma, or “service”, centres. These investment centres are supposed to facilitate investments by bringing together all of the relevant government agencies in one location. This will help to ensure the efficient and transparent provision of services to investors.

Through these investment centres, the government aims to reduce the period required to register a business down to one day by enabling investors to obtain all the necessary documents and statutory approvals necessary to set up a business.

The government has also sought to increase transparency in business undertakings by requiring taxpayers to submit up-to-date information on changes in the business and corporate structure within 30 days of the occurrence of the change.

This is in addition to the partnership formed with the Central Bank of Kenya, Capital Markets Authority and the registrar of companies to track ownership of firms and access their bank details.

Navigating the regulatory environment in the country has at times proved challenging and the assistance of professional service providers should come handy. It is the responsibility of every entity to ensure that it complies with all regulatory requirements.

Corporate Taxation

Corporate entities in Kenya are subject to Corporate Income Tax, which is governed by the Income Tax Act. This is the tax levied on the income of legal entities.

Kenyan taxes are levied on corporations’ income derived or accrued in the country. Companies that operate branches outside the country are required to report all incomes earned by those branches in the country.

Corporation tax is imposed on the taxable income which is the accounting profit/loss adjusted for certain allowable and disallowable expenses. The deductibility of expenses is premised on the fact that they were wholly and exclusively incurred in the generation of taxable income.

The corporation tax rate for resident companies in the country is 30%. In Kenya, residency for a legal entity may arise through the incorporation, management and control of an entity and the declaration by the Cabinet secretary in-charge of the Treasury that the person is a resident.

Non-resident companies with a permanent establishment (PE) in the country are taxed on their income earned or derived from Kenya at a rate of 37.5%.

There are, however, some restrictions on the deductibility of certain expenses such as management fees, interest and royalties payable by a branch to its head office.

Non-residents without a PE are taxed under the withholding tax system in cases where the payments made are eligible to withholding tax.

Resident companies or non-resident companies with a permanent establishment in Kenya are allowed to offset their taxable losses against their taxable income in the year in which they occur and the next four succeeding years of income.

A partnership is taxed at the partners level and not the entity level, whereby the partners are subject to tax on the partnership’s earnings for each year of income irrespective of whether the earnings are distributed to them or not.

The Income Tax Act provides a provision for the exemption of the income of certain entities upon satisfying the following criterion:

• It is established solely for purposes of the relief of poverty or distress of the public; or

• It is established for the advancement of religion or education. This is upon satisfying the commissioner that the income is to be expended either in Kenya or in circumstances in which the expenditure of that income is for purposes which result in the benefit of the residents of Kenya.

Tax Credits

The Income Tax Act provides for the payment of various taxes by corporations either in advance or through third parties. These include:

• Advance tax. This is paid in respect of every commercial vehicle; and

• Withholding tax. This is imposed on certain services and it is deducted on payments made to the service providers. These taxes are allowed as tax credits when entities are declaring and paying their final taxes.

Instalment Taxes

Every person who is chargeable to tax is required to pay instalment tax. The amount of instalment tax payable by any person for the current year of income shall be the lesser of:

• The amount equal to the tax that would be payable by that person if his total income for the current year was an amount equal to his instalment income; or

• The amount specified in the preceding year assessment multiplied by 110%. Instalment tax is payable in four equal instalments by the 20th of the 4th, 6th, 9th and 12th months of a year of income.

Final Tax & Self-Assessment Return

The final tax is payable by the last day of the fourth month following the end of the year of income, while the self-assessment return is due on or before the end of the sixth month following the end of the year of income.

The return should also be accompanied by the audited financial statements.

Capital Allowances

The Income Tax Act provides a range of capital allowances for persons engaged in various business activities. These include:

• Investment deduction. This is provided mainly to entities undertaking manufacturing activities;

• Industrial building allowances. This is provided on qualifying assets utilised by persons during a year of income to generate taxable income;

• Wear-and-tear allowance. This is provided on the purchase of machinery;

• Farm works allowance. This is provided on the purchase and installation of farm works in an agricultural land; and

• Shipping allowance. This is provided to persons carrying on the business of a ship owner.

Penalties

Failure to pay taxes or file returns within the time limits specified in the act attracts penalties and interest. These are assessed on the taxpayer and are deemed to be taxes due and payable.

Turnover Tax

In a bid to rope the small and medium-sized enterprises into the tax net, the government introduced a tax known as turnover tax. This tax is payable by any person whose income from business exceeds KSh500,000 ($5700) but does not exceed KSh5m ($57,000) in a year of income.

This is based on the gross income earned by these businesses and has different payment schedules from Corporate Tax.

This is usually a final tax and the eligible persons are free to apply for exemption from this tax. There are attendant penalties for failure to pay or file the returns as required by the Act.

Collection of turnover tax has, however, faced challenges due to lack of goodwill among the affected taxpayers, as well as limited capacity by KRA to enforce compliance.

Personal Taxation 

This is governed by the Income Tax Act. It entails the taxation of individuals and unincorporated entities in Kenya. Under the Income Tax Act, residency can arise where an individual has:

• A permanent home in Kenya and was present in Kenya for any period in the year of income under consideration; or

• No permanent home in Kenya, but: i) was present in Kenya for a period or periods amounting to 183 days or more in the year of income under consideration; or ii) was present in that year of income and in each of the two preceding years of income for periods averaging more than 122 days. Persons who are resident for tax purposes are taxed on their worldwide employment income, while nonresident persons are taxable on any income that is derived or deemed to be derived from Kenya.

Taxation Of Employment Income 

Income tax is charged upon the income of a person whether resident or non-resident which accrued in or was derived from Kenya. Income from employment includes wages, salary, leave pay, sick pay, payment in lieu of leave, overtime, commission and any other benefit earned or accrued by virtue of employment.

Taxable Non-Taxable Income 

Any income or benefit that an employee accrues from employment income is chargeable to tax. However, some benefits are exempt from tax. These include medical insurance provided by the employer to the employee and his dependents, reimbursement of expenses and non-cash benefits up to a maximum of KSh36,000 ($410) per annum.

Tax Relief

All company employees are eligible to a personal relief of KSh1162 ($13) per month and an insurance relief on premiums paid on life assurance and health and education insurances that meet the criteria set in the Act.

Allowable Deductions

All company employees are allowed to deduct against their gross employment income the following: contributions to a qualifying house ownership savings plan, owner-occupied mortgage interest up to the set limits and qualifying pension contributions.

Employer Obligations

An employer is defined under the Income Tax Act to include any resident person responsible for the payment of or on account of, emoluments to an employee, and an agent, manager or other representative so responsible in Kenya on behalf of a non-resident employer.

The employer is required to deduct tax from the emoluments paid to an employee on a monthly basis. Tax deducted should be remitted to the paymaster general by the 9th day of the following month.

The employer is also required to account for employment income and the tax deducted by filing the PAYE quarterly returns. However, employers who file monthly PAYE returns online are not required to file the quarterly returns.

Although it is the employee’s responsibility to obtain a PIN, an employer should ensure that all of its employees indeed have a PIN, since it is an offence to pay an employee who does not have a PIN. The penalty for such an offence is KSh2000 ($23) for every payment made.

Return Filing 

The responsibility of filing individual self-assessment returns falls on the employees themselves, that is, each employee is responsible for filing for their own returns.

Under the Income Tax Act, individual self-assessment returns should be filed with KRA by June 30th of the following year following the year of income. With the introduction of online tax filling, individuals are required to file their returns online.

Penalties & Interest Regime 

Non-compliance with personal tax (PAYE) rules attracts a penalty of 25% on the unpaid tax. In addition, an interest of 2% per month is also chargeable for the period that tax remains unpaid.

VAT

In September, 2013, the VAT Act was repealed and in its place the VAT Act, 2013 was enacted. The new law brought with it drastic changes including the removal of long lists of exempt and zero-rated supplies. This was perhaps indicative of the generalised trend towards consumption-based taxes. The scope and coverage of VAT is broad since it applies to all imports, supplies, manufactured goods and services provided in Kenya except those specifically listed as exempt or zero-rated.

VAT payable by the taxpayer is the difference between VAT charged on supply of goods and services (output VAT) and VAT incurred on purchases or imports (input VAT). There are a number of restrictions on the deductibility of input VAT in which case it may be expensed or capitalised.

VAT is administered through the VAT Act and is chargeable on the supply of goods and services in Kenya (including anything specified by the Cabinet secretary as such) and on the importation of goods and services into Kenya.

For VAT purposes, goods and services (supplies) are categorised as follows:

• Taxable supplies at standard rate (16%);

• Zero rated supplies (0%); or

• Exempt goods. VAT is charged on the supply of taxable supplies at the specified rates. The exempt supplies are not subject to VAT and are listed in the First Schedule to the VAT Act. Zero-rated supplies are listed in the Second Schedule to the VAT Act and are taxed at 0%. All other supplies are taxable at the standard rate, which is 16%.

A taxable person is required to register for VAT as soon as the registration threshold is met. Any person who in the course of business has supplied or expects to supply taxable goods or services or both with a value which is KSh5m ($57,000) or more in a period of 12 months should register for VAT.

Upon registration, the person is required to comply with the VAT Act by ensuring that:

• VAT is charged on all taxable supplies made at the specified rates;

• A tax invoice is issued on supplies made;

• VAT monthly returns are filed by due date, the 20th of the following month; and,

• Where the output tax (VAT on sales) exceeds the input tax (VAT incurred on purchases) the difference should be paid to KRA when filing the monthly VAT return. If on the other hand, the input tax exceeds the output tax, the excess amount is carried forward to be offset against future output tax.

However, if an entity is dealing with zero-rated supplies, it would always be in a VAT-refund position. The excess credit would be refunded in line with the existing VAT provisions. It is important to note that only registered traders are allowed to charge VAT on their sales. It is an offence to charge VAT if one is not registered.

Exportation of goods and taxable services are zero-rated, therefore they are not taxable to VAT where, subject to the satisfaction of the commissioner, the supply takes place in the course of a registered person’s business.

Imported & Exported Services 

As noted above, exported services are zero-rated and hence not subject to VAT. On the other hand, where imported services are made to a registered person, he is deemed to have made a taxable supply to himself. Reverse VAT is payable only to the extent that a registered person is not entitled to a credit for part of the input tax payable.

The VAT Act provides the definition of importation and export as hereunder; “export” means to take or cause to be taken from Kenya to a foreign country or to an export processing zone, while “importation” means to bring or cause to be brought into Kenya from a foreign country or from an export processing zone.

Dispute Resolution

A registered person who disputed a VAT assessment under the repealed VAT was entitled to appeal against the decision of the commissioner to the VAT Tribunal. If the taxpayer did not agree with the decision of the VAT Tribunal he was entitled to appeal to the High Court. While this may be an oversight with the drafters of the law, we note that the VAT Act 2013 does not provide taxpayers with a right of appeal. It is, however, notable that an appeal body to deal with all tax disputes is in the process of being established.

Penalties & Interest Regime

Non-payment or late payment of tax attracts interest at 2% per month compounded for the period the tax remains outstanding, up to a maximum of the principal amount.

The penalty for late filing of the monthly VAT return is KSh10,000 ($114), or 5% of the tax that is due, whichever is higher.

Following the enactment of the VAT Act 2013, the Cabinet secretary was to update VAT Regulation, to be in tandem with the VAT Act 2013. The process of issuing regulations is in progress and we expect that regulations are likely to be released later in the year.

Withholding Tax 

A resident person or a person having a PE (branch) is required to withhold tax on various payments to both residents and non-residents in line with the Income Tax Act. Withholding tax is applicable on payments such as dividends, interest, insurance commission, royalties, management, professional and training fees, sporting and entertainment income, pension retirement annuities, agency, consultancy and contractual fees.

In addition, real estate rent to non-residents is also subject to withholding tax.

Whether or not payments are subject to withholding tax depends on the nature of the payment and whether they would fall under any of the classifications listed above.

Rates of Withholding Tax

The withholding tax rates applicable for residents and non-residents, respectively, are as detailed below:

• Dividends: 5% and 10%;

• Interest, housing bonds: 10% and 15%;

• Interest, other sources: 15% and 15%;

• Insurance commission, brokers: 5% and 20%;

• Insurance commission, others: 10% and 20%;

• Royalties: 5% and 20%;

• Management and professional fees: 5% and 20%;

• Training fees: 5% and 20%;

• Sporting or entertainment income: 0% and 20%;

• Real estate rent: 0% and 30%;

• Lease of equipment: 0% and 15%;

• Pension and retirement annuities: 0-30% and 5%;

• Agency and consultancy fee: 5% and 20%;

• Contractual fee: 3% and 20%; and

• Telecommunications service fee: 0% and 5%.

Double Taxation

Lower rates of withholding tax are applicable on some payments to residents of countries that have DTAs with Kenya. Kenya has entered into DTAs with the following countries: the UK, Denmark, Norway, Germany, India, Canada, Sweden, Zambia and France.

Basis Of Computation

Withholding tax is based on gross fees before other charges such as VAT. Where the fee is negotiated net of taxes, especially by non-residents, the amount should be grossed up using the appropriate rate of tax that is applicable for the country to which the payments are being remitted.

Exempt Payments

Certain payments are exempted from withholding tax. These include:

• Payments that are not eligible to withholding tax;

• Payment to a resident person in respect of management and professional fee or training fee of aggregate value, which is less than KSh24,000 ($274) in a month;

• Payments to exempt persons who are in possession of a valid tax exemption certificate;

• Lease rentals to residents; and

• Management and professional fees, interest and royalties made by a branch to the head office.

Tax payment, Returns & Penalties

The person that is making the payment acts as an agent of the KRA by deducting the tax due and remitting the same to KRA by the 20th of the month following the deduction.

Failure to withhold and remit the tax to KRA attracts a penalty of 10% (subject to a maximum of KSh1m, $11,400) and interest at 2% per month on the tax due for the period the tax remains outstanding. Interest is, however, restricted to a maximum of the principal tax owing.

Every person who has deducted and paid tax is required to file the annual withholding tax return by the last day of February of the following year.

In addition, a certificate of withholding tax in the prescribed form should be issued to the person on whom tax has been withheld.

Customs, International Trade & Excise Duties

International trade has been on an upward trajectory in Kenya. This is primarily attributable to the developments in the oil and gas industry, as well as the regional expansion of manufacturing entities in the country.

Customs and Excise duties are administered under two Acts in Kenya: the Customs & Excise Act, 2010, and the East African Community Customs Management Act, 2004. The administration of the Customs duties in Kenya are within the mandate of the commissioner of Customs services department, whereas excise duty on imports is within the mandate of the domestic taxes department.

Customs duty is a tax levied on the movement of goods and services beyond territories of any country or any tax levied on imports and exports (export duties) through the ports of Kenya. Customs duties include import duty, excise duty, VAT, import declaration fee and railway development levy.

Customs duties are payable by importers of goods at the point of importation. Importers are required to correctly classify the goods imported and value them accurately as this is the basis of determining the duties payable.

Customs duties are based either on the number of units imported (specific) or computed as a percentage of the value of the goods (ad valorem).

The applicable tariff rates for determining the import duty payable are specified in the East African Community Common External Tariff (CET). Only licensed Customs clearing agents are authorised to clear goods through Customs on behalf of importers.

Some of the offences under the Customs & Excise Act include:

• Importing or carrying prohibited or restricted goods;

• Destroying goods, vessel or aircraft to prevent seizure;

• Making or using false documents;

• False classification of the goods for Customs valuation;

• Incorrect use of certificates of origin – certificate purportedly for preferential treatment country or goods do not meet applicable certificate rules; and

• Eligible persons importing goods duty-free (e.g. vehicles) and transferring ownership and use to others not eligible. The penalties for such offenses include imprisonment for a minimum of three year and a maximum of 20 years, or fines of minimum KSh120,000 ($1368) and maximum KSh1.5m ($171,000), or both a fine and prison time.

If the importer or manufacturer disputes the amount of duty charged, the disputed duty must be paid first and file a suit in court within six months of payment of the disputed amount.

Kenya is currently a member of the East African Community (EAC), as well as the Common Market for Eastern and Southern Africa (COMESA).

Any goods imported from an EAC or COMESA country will therefore be taxed at a lower preferential import duty rate. For EAC imports the duty rate is zero, whereas for COMESA imports the duty rates are between 0% and 4%.

Import duty rates on goods from outside the borders of the EAC and COMESA are generally between 0% and 25%. However, there is a list of sensitive items, such as sugar, milk, wheat flour, rice and maize, with import duty rates of above 25% (i.e. 35-100%).

Transfer Pricing

Kenya continues to attract foreign investment, particularly multinational corporations which are keen to make an entry into the larger East African market.

This has presented challenges to the tax collectors, who have had to contend with complicated accounting systems used by these multinationals. In a bid to ensure that they contribute their fair share of taxes from the income derived in Kenya, the KRA has intensified its efforts to curb any accounting malpractice which may result in reduced tax liabilities for these entities.

Transfer pricing in Kenya is governed by Section 18 of the Income Tax Act and the Transfer Pricing Rules, 2006 which empowers the commissioner to adjust the profits of a person who carries on business in the country with a related non-resident person, where the business is such that it produces to the resident person either no profits or less than ordinary profits.

The Income Tax Act requires that transactions between the person in Kenya and any related nonresident party should be at arm’s length, i.e. the price charged for the transactions should be the same payable between independent enterprises.

Transfer pricing rules also apply to transactions between a branch and its head office or other related branches.

The transfer pricing documentation, should, at a minimum, provide details in regard to the following:

• The details of the transaction under consideration;

• The selection of the transfer-pricing method and the reasons for the selection;

• The application of the method, including the calculations made and price adjustment factors considered;

• The assumptions, strategies and policies applied in selecting the method; and

• Such other background information as may be necessary regarding the transaction.