TAX LAWS AND PRACTICE

WRITTEN LAWS RELATING TO REVENUE

PARTI
1. The Income Tax Act (Cap. 470).
2. The Customs and Excise Act (Cap. 472).
3. The Value Added Tax Act (Cap. 476).
4. Road Maintenance Levy Fund Act, 1993 (No. 9 of 1993).
5. Air Passenger Service Charge Act (Cap. 475).
6. Entertainment Tax Act (Cap. 479).
7. East African Community Customs Management Act, 2004.
8. The Annexes to the Protocol on the Establishment of the East African Community Customs
Union

PART II
1. Traffic Act (Cap. 403).
2. Transport Licensing Act (Cap. 404).
3. Second - Hand Motor Vehicles Purchase Tax Act (Cap. 484).
4. The Civil Aviation Act (Cap. 394).
5. The Widows’ and Children’s Pensions Act (Cap. 195).
6. The Parliamentary Pensions Act (Cap. 196).
7. The Betting, Lotteries and Gaming Act (Cap. 131).
8. The Stamp Duty Act (Cap. 480).
9. The Horticultural Crops Development Authority (Imposition of Fees and Charges) Order, 1995
(L.N. 228 of 1995).
10. The Standards Levy Order, 1990 (L.N. 267 of 1990).
11. The Government Lands Act (Cap. 280)
12. The Sugar Act (No. 10 of 2001).
[Act No. 15 of 2003, L.N. 56/2004, Act No. 9 of 2007.]

PART III
1. The Income Tax Act (Cap. 470).
2. The Customs and Excise Act (Cap. 472).
3. The Value Added Tax Act (Cap. 476).
4. The Entertainment Tax Act (Cap. 479).
5. The East African Community Customs Management Act, 2004.
6. The Annexes to the Protocol on the Establishment of the East African Community Customs
Union. 12. The Sugar (Imposition of Levy) Order, 2002 (L.N. 385/2002).

MEETINGS OF THE KRA BOARD

(1) The first meeting of the Board shall be convened by the Chairman and, subsequently, the
Board shall meet as often as necessary for the transaction of business at such places and at such
times as may be decided upon by the Board but it shall meet at least once every month.
(2) The Chairman shall preside at every meeting of the Board and in his absence the members
present may appoint a member from among themselves to preside at that meeting.
(3) The Chairman or, in his absence a member appointed by the Board to act in his place, may at
any time call a special meeting upon a written request by a majority of the members.
(4) Notice of every meeting of the Board shall be given in writing to each member at least five
days before the day of the meeting.

Quorum
(1) Subject to subparagraph (2), five members, excluding the ex officio members, shall constitute
a quorum for the conduct of business at any meeting of the Board.
(2) When there is no quorum at, or for the continuation of, a meeting of the Board only because
of the exclusion of a member under section 9 of the Act from the deliberations on a matter in
which he has disclosed a personal interest, the other members present may if they deem it
expedient so to do-
(a) postpone the consideration of that matter until there is a quorum without that member; or
(b) Proceed to consider and decide the matter as if there was a quorum.

Decisions of the Board

(1) All questions proposed at a meeting of the Board shall be decided by a majority of the votes of
the members present and voting, and in the event of an equality of votes, the person presiding shall
have a casting vote in addition to his deliberative vote.
(2) A decision may be made by the Board without a meeting by circulation of the relevant papers
among the members of the Board and by the expression of the views of the majority of the
members in writing but any member shall be entitled to require that the decision be deferred and
the matter on which a decision is sought be considered at a meeting of the Board.

Minutes of proceedings
(1) The Board shall cause the minutes of all proceedings of its meetings to be recorded and kept,
and the minutes of each meeting shall be confirmed by the Board at the next meeting of the Board
and signed by the chairman or the person presiding at the meeting.
(2) The Chairman of the Board shall submit to the Minister a copy of the minutes of each
meeting of the Board as soon as the minutes have been confirmed.

Board to regulate its procedure

Subject to the provisions of the Act, the Board may regulate its own procedure.

ORGANIZATIONAL GOVERNANCE STRUCTURE OF KRA

KRA’s governance and management structure is organized as per recommended international best
practice for Semi-Autonomous Revenue Authorities (SARA’s). The Board of Directors (BOD) is
the governing body of KRA as set out in the KRA Act. It has two ex-officio members from the
Government (Permanent Secretary, Treasury and Attorney General) and six other members from
private sector. The BOD is responsible for the review and approval of policies and monitoring the
functions of KRA.
Day to day management of the Authority is the responsibility of the Commissioner General, assisted
by five Commissioners in charge of Customs Services Department (CSD), Domestic Taxes
Department (DTD), Large Taxpayer Office (LTO) and Medium and Small Taxpayer (MST),
Investigations and Enforcement (I&E) and Support Services Department (SSD). The Commissioner
for Support Services also supervises Road Transport Department (RTD). In addition, there are seven
Headquarter Departments and five Regional Offices.

ROLE OF THE KENYA REVENUE AUTHORITY IN ACHIEVING THE COUNTRY’S

DEVELOPMENT AGENDA
Over the Fifth Plan period, KRA will be central to achieving various national policy objectives and
indeed KRA’s performance will largely determine whether the Government is able to fund its policy
agenda. The key role KRA will play in achieving the country’s policy objectives include:
■ Providing the bulk (over 97%) of the Government’s Ordinary Revenues; these are targeted
to grow rapidly over the 2012/13-2014/15 period covered by the Plan,
■ Promotion of border security and regional integration through the Customs Services
Department,
■ Improving the regulatory and licensing regime in the context of improving the business
climate with an emphasis on paying taxes and facilitating trade,
 ■Facilitating improvement in SME taxation,
■As a core pillar of the fight against corruption and promotion of integrity given the
centrality of the tax regime in promotion the overall integrity in the public service.
MAIN INITIATIVES TO ACHIEVE OBJECTIVES

Expand usage of electronic tax filing:

■ Avail all planned forms on e-filing platform
* Introduce incentives to promote e-filing
■ Undertake publicity campaigns
■ Simplification of e-filing forms
■ Implementation of e-payment
■ Implement smart card driving licenses
* Improve service delivery of front line services
■ Implement a strategy to improve VAT services in line with the proposed VAT Bill
■ Tackle challenges identified in the 2011 Time Release Study (TRS) to reduce cargo
clearance time.
■ Increase the scope of payment modalities
■ Proactively engage with the MoF and stakeholders to review tax laws whose complexity is
a major hindrance to compliance
■ Enhanced stakeholder involvement and alternative dispute resolution
■ Strengthening customs consultative committees
■ Registration and use of tax agents
■ Enhance partnerships with key stakeholders, other government agencies, regional and
international bodies
■ Pursue the approval and implementation of harmonized tax appeals law i.e. Tax Appeal
Tribunal Bill
■ Provision of client server ware to act as middleware between two packages to convert and
transmit data in standard format
■ Partner with strategic technological leaders

INTEGRATED TAX MANAGEMENT SYSTEM (I. T. M. S.)

Meaning of an integrated system

It is a system which will give a single view of a Taxpayer for all the Tax obligations.

Why is I. T. M. S necessary?

I.T.M.S was found to be necessary after creation of Domestic Taxes Department. While the
merger resulted to improved services for management, it faced challenges of parallel I.C. T.
Systems. This system denied the users the benefit of integrated view of a Taxpayer. I. T. M. S will
provide a suitable environment for efficient and effective delivery of services to Taxpayers.

The objectives of I. T. M. S.

I. T. M. S will: -

▪ Provide efficient & effective services to taxpayers & public and reduce interaction with
staff.
▪ Improve tax collection
▪ Facilitate seamless sharing of information across KRA & relevant 3rd parties for data-
matching purposes in order to detect non-compliance and to facilitate combined
 enforcement actions.
▪ provide a single view of a taxpayer
▪ Reduce the cost of collection and compliance.
▪ Exploit the advancement in technology.
▪ Facilitate staff performance measurement & monitoring.

The expected benefits of I. T. M. S.

▪ Enhanced protection of revenue collection.

▪ Efficient & effective provision of services to public & taxpayers.
▪ Elimination of the tedious, costly & error-prone manual data capture operations currently
undertaken by staff who will be freed to do more productive work.
▪ Effective tax administration through enhanced control, monitoring of taxpayer activities &
enhanced taxpayer’s compliance.
▪ Reduced operational costs.
▪ Efficient utilization of KRA resources.
▪ Reduced occasions of petty graft associated with paper based & manual processes through
minimization of taxpayers & staff contact.
▪ Improved security of information.

Services available in I. T. M. S.
The following on-line services will be available in ITMS.
A) Electronic transactions: -
■ Electronic Filing.
■ Filing of Detailed Reports.
■ Electronic Payments.
B) Enquiries (consultation)
▪ Taxpayer Account.
■ Printing of Taxpayer Account Statements
■ Documents in database (returns, payments, and others).
■ Taxpayer Register.
■ Credits by PAYE, VAT Withholding, IT Withholding
▪ Status of cases on Compliance, Debt, Audit, Technical Unit.
■ Data reported by third party.
■ Instalment Payment plans.

C) Electronic applications for KRA processes: -

▪ Registration
■ Refunds
■ Taxpayer Registration Certificate (to see BUC-TRE-1050); Tax Clearance certificate.
■ Instalment Payment Plans.

However, note all the services will be launched at the same time. Initially the following service will
be available: -

▪ E-registration
▪ E-filing
▪ E-payment and enquiries.

The components of I. T. M. S.

▪ TAXPAYER REGISTER (I RE): in charge of administering all activities dealing with the
 taxpayer file, the assignment of PIN, updating of Taxpayers particulars, validation of
Taxpayer data, tax obligations.

▪ TAX RETURNS PROCESSING (TRP): receives, validates and processes all tax returns
filed, regardless of the presentation modality (Paper, diskette, Internet).

▪ BANKS COLLECTION (BCL): administers all collection, from the E-Slip generation
up to the control of each payment transferred to the central bank.

▪ DETAILED REPORTS PROCESSING: administers the information provided by the

taxpayers in the detailed reports and attachments.

▪ TAXPAYER SERVICES (TPS): administers all interactions with the taxpayers, either
for procedures carried out personally or via Internet.

▪ EXTERNAL INFORMATION MANAGEMENT (EIM): is a sub-module which

receives and processes detailed information originating from other entities. (3rd party
transactions)

▪ DATA BASE MANAGEMENT (DBM): administers the data base from the standpoint
of the functions of the ITMS, is in charge of storing all taxpayer and tax administration
documents and for carrying out store procedure operations.

▪ TAXPAYER ACCOUNT (TCA): administers debits, credits and transactions relating to

the tax returns and documents of the tax administration that affect the taxpayers’ situation,
calculates penalties.

. PAYMENT PLANS PROCESSING AND CONTROL (PPP): is an auxiliary process for

registering and controlling payments to be made with authorized plans.

▪ TAX CREDITS AND REFUNDS (TCR): processes all refund requests and administers
the credits generated during this process.

▪ COMPLIANCE MONITORING (C & M): administers the activities for supervising

formal compliance with taxpayer obligations dealing with the filing of returns, payment
and use of tax credits, processes for the issuance of tax compliance and clearance
certificates, setting off taxes, analyzing returns licensing domestic excise manufacturers,
appointment of WT vat agents and conducting mock purchases. Also includes processes
for electronic tax register operations.

The Implication of I.T.M.S on Staff Deployment

There will be a major departure from the current work Procedures and Process. This is because the
current procedures are largely manual while I.T.M.S will be mainly ICT based. These changes will
be gradual with low impact realized in first year and gaining momentum gradually. Officers shall
have less to do with clerical and non-value activities.

How can a taxpayer access on-line services on itms?

A Taxpayer can access ITMS services through KRA -On line and visiting the stations. (General
access and private access).

A) (i) Private Access

The taxpayer can access KRA - Domestic Taxes Department Website using PIN and Electronic
signature, select the option wanted e.g. Filing Return, the system will validate the operation
automatically.

ii) General Access

The Taxpayer can access KRA - Domestic Taxes Department Website and use the general access
for services that do not require a password, or

Visit to station: -

The Taxpayer can visit the KRA -Domestic Taxes Department stations and get assistance from
stations front office using his details.

What a Taxpayer Will Be Able to Do Under General Access and Private Access

A) . General Access: -

The Taxpayer accesses the services that do not require electronic signature. The services attended
include: -

-Down loading of physical Forms, Acts and Regulations, Taxpayer software, e.t.c.
-Generate E-slip (with PIN & Document number).

B) . Private Access.

The Taxpayer accesses the services using PIN and Electronic signature.

These include: -

■ Electronic transactions e.g. electronic payments, submission of Returns received by

intermediary Agents, Filing of Detailed Reports e.t.c.
■ Consultation (includes print) of! Taxpayer account, Taxpayer Account statements,
documents in the data base, e.t.c.
■ Electronic Applications for KRA processes e.g. Registration, Refunds, Certificates e.t.c.

What if it cannot transact electronically?

A). The Taxpayer presents himself to station and requests the front office for the following services:-

(1) Submission of Tax Returns on paper or on diskette, submit detailed reports on diskette, issue
E Slips, e.t.c.
(2) Submit applications for Registration, Refunds, etc.
(3) Make consultation on Taxpayer Account.

The Responsibilities of the Officers at Front Office Desk

▪ Front Desk Officer: Is responsible for attending to the Taxpayers who visit the Stations
to requesting the TRE services.

▪ Storage Area Officer: Responsible for performing verification of documents supported

by certification and the custody and administration of the support files of the TRE
documents.
 ▪ Taxpayer Services Manager: Is the officer responsible for the Front Office Desk
organization and the internal verification activities performed by the officers; distributes
the work received daily among the officers under his supervision, he should sign the Daily
Closing of Operations and review operations at each closing.

▪ Recruitment Officer: In charge of performing field verifications on, among other things,
the obligations related to the TRE, such as, correct registration of the data of the Taxpayer
in the register. In cases of inconsistencies compared with the data on record or absence of
them, a form with the correct data should be filled and signed.

▪ Recruitment Manager: In charge of supervising and coordinating the verification fields

of the officers under his charge, on Taxpayers activities that should be registered in the
TRE.

He should review the registration forms and sign them together with the Recruitment Officer, before
proceeding to incorporate the data into the system.
Details/Information That Can Be Accessed by Front Office Staff but Not Availed to The
Taxpayer

A). The Front Office staff can access the following screens which are not available to Taxpayers. -

■ Alternative address - details of all the addresses that have been registered as alternate.
■ The history of the up-dated data - data that have been changed during the updating
process and when the same was done.
How will taxpayers who cannot/unable to access kra-on line consult their taxpayer
register?

A). The taxpayer who cannot/is unable to access K. RA-DTD website can visit on line Front
Office Desk, where the officer at the Desk will on his behalf access KRA - DTD website makes
enquiries and print the documents he requires.
NOTE: A third party will NOT be allowed to make enquiries on a Taxpayer at the DTD - Front
Office.

The Process for Issuance of Tax Certificate

▪ The taxpayer must already be existing in the DTD-Taxpayer Register if not then he must
apply for the Registration first.
▪ A registered Taxpayer will complete DTD 1 form with full details required (i.e. individual
Identification Data, Company Registration Data or company Representative Data),
However, if the process is being carried out through DTD -station, then the Front Desk
Officer will print. the certificate and dispatch/hand over to the officer.

The process applies for application, printing and issuance of other similar documents.

NB; currently through i-tax tax certificates can be obtained online.

Information Is Contained in the Taxpayer Registration Certificate

The information includes:-

 ▪ Serial number
▪ Station and Date of issue and/or Expiry
▪ Name of the issuing officer (or Name of Taxpayer if the application is through the internet.

What is a taxpayer obligation vector?

Taxpayer obligation vector is a window/Screen/Document that contains the information/details of
a Taxpayer. It contents include:
▪ Taxpayer PIN.
▪ Taxpayer type (individual, Company, Partnership).
▪ Name of individual (Last, first, Middle).
▪ Type of Company (Ltd. Co, Partnership, Public Corporation, Other).
▪ VAT Number.
▪ Full address of Principal Place of Business or Tax Domicile.
▪ Main economic activity.
▪ Obligation code and description.
▪ Tax head.
▪ Form code and description
▪ Periodicity of the form: (weekly, monthly, quarterly, semester, annual).
▪ Validity dates: From-To (open until end of validity)

▪ Obligation registers date.

▪ Obligations deregister date.
▪ Obligation suspension date.

How can the taxpayer make enquire on the tax register?

▪ First, a Taxpayer must already exist in the Taxpayer Register in the KRA Data base and if
not, he has to register first.
▪ The taxpayer must have an Electronic signature if he wants to make enquiries through the
itemed and can also make enquiries through DTD - front office desk where proper
identification and validation procedures will be done.

Enquiries a Taxpayer Can Make

The taxpayer can conduct the following screens modules for enquiries.
▪ Taxpayer’s general information: Presents the Individual Identification Data information;
Companies Identification Data, Companies Representative Data, and Data Location.
▪ Partners and third person information, linked with the taxpayer: Presents the information
of the Tributary Links, ordered by Type of Link.
▪ Economic activity information: Presents the codes and description of all the registered
activities, beginning with the main one.
▪ Branches information: Presents the detail of all the registered establishments, their
location, relation with TILE, including type and serial number.
▪ Information of the obligation declared by the taxpayer: Presents the detail of the
obligations (by type), forms, and expirations.
▪ Special registries information: presents the detail of each of the special registries that the
taxpayer has.
▪ Registration Certificate
▪ Taxpayer Obligations Vector Report.

The front desk officers will be enabled to access the following modules: -
▪ Alternative address - presents the details of all addresses that have been registered.
 ▪ The history of the updated data: shows the data that have been changed during the
updating process by the Taxpayer.
▪ Updating the Taxpayer status
How Taxpayers Are Categorized
There is three categories in which all the Taxpayers will fall. These are: -
▪ Large Taxpayer -large 'taxpayer Office
▪ Domestic Revenue - Taxpayer-Domestic Revenue
▪ Turn over Tax - Domestic Revenue

PROFESSIONAL ETHICS IN TAXATION

FUNDAMENTAL PRINCIPLES OF ETHICS

The fundamental principles that govern the ethical issues should be well observed by ICPAK
members as well as students. A professional accountant is required to comply with the following
fundamental principles:

Integrity
The principle of integrity imposes an obligation on all professional accountants to be
straightforward and honest in professional and business relationships. Integrity also implies fair
dealing and truthfulness.
A member should not be associated with information if he believes that the information contains a
materially false or misleading statement, statements or information furnished recklessly, or omits
or obscures information required to be included where such omission or obscurity would be
misleading.

Objectivity
Imposes an obligation on members not to compromise their professional or business judgment
because of bias, conflict of interest or the undue influence of others. Relationships that bias or
unduly influence the professional judgment of the member should be avoided.

Professional competence and due care

Requires members to maintain professional knowledge and skill at the level required to ensure that
clients or employers receive competent professional service based on current developments in
practice, legislation and techniques; and act diligently in accordance with applicable technical and
professional standards when providing professional services
Any limitations relating to the service being provided must be made clear to clients and other users
to ensure that misinterpretation of facts or opinions does not take place.

Confidentiality
A professional accountant should respect the confidentiality of information acquired as a result of
professional and business relationships and should not disclose any such information to third parties
without proper and specific authority unless there is a legal or professional right or duty to disclose.

A member should consider the need to maintain confidentiality of information within the firm. A
member should also maintain confidentiality of information disclosed by a prospective client or
employer.
The need to maintain confidentiality continues even after the end of relationships between a
member and a client or employer. When a member changes employment or acquires a new client,
the member is entitled to use prior experience, but not confidential information obtained from the
previous relationship
Professional behaviour
The principle of professional behavior imposes an obligation on a member to comply with
relevant laws and regulations and avoid any action that may bring discredit to the profession.

This includes actions which a reasonable and informed third party, having knowledge of all
relevant information, would conclude negatively affects the good reputation of the profession.

In marketing and promoting themselves and their work, professional accountants should not bring
the profession into disrepute. Professional accountants should be honest and truthful and should
not;
i) Make exaggerated claims for the services they are able to offer, the qualifications they
possess, or experience they have gained
ii) Make disparaging references or unsubstantiated comparisons to the work of others.

TAX PRACTICE AND MATTERS RELATING THERETO

In Kenya, to form a tax practice, one has to have the requisite qualifications. It can be a company
or a partnership. In most cases, firms that offer tax services also offer audit services under a
partnership. Once the firm has been set up, the firm will hire qualified personnel and proceed with
business.
The firm will take up clients in a professional way.

OBLIGATIONS TO CLIENTS
It is advisable that the tax practice enters into a written contract with clients that provide specific
duties and rights under the contract. Some of the obligations that tax practices have to clients
include:
▪ Agents for all tax matters
▪ Agent for tax compliance matters
▪ Agent for corporate tax matters

The firm should ensure that it meets its part of the bargain to avoid misunderstanding and
unnecessary litigation.

CONFIDENTIALITY
Confidentiality as a principle does not only affect the members in provision of tax services. It also
affects the tax officers. The Income Tax Act provides that:
An officer and any other person in carrying out the provisions of this Act shall regard and deal
with all documents and information relating to the income of a person and all confidential
instructions in respect of the administration of the Income Tax Department which may come into
possession or to his knowledge in the course of his duties as secret.

In the light of this statement, any tax officer or member of ICPAK should not disclose any
information regarding income of a person unless:

▪ The recipient is an officer or person so employed in the course of his duties, or to a person
authorized in that behalf by the Minister in relation to a person resident in Kenya, or to a
court or person for the purposes of this Act;
▪ The recipient is in the service of the government, in the revenue and statistical department
and the information will be used solely for revenue or statistical purposes (official
purposes). The recipient should also have made a declaration of secrecy in relation to
information coming to his knowledge in the course of his official duties;
▪ The recipient is an officer under the Higher Education Loans Board and he requires the
name and address of any person granted education loan where such information is
required for the performance of the Board’s official duties in recovery of the education
 loans.

MATTERS RELATING TO NEW CLIENTS

Acceptance of new clients
Members invited to act as tax advisers by clients must contact the existing tax advisers to ascertain
if there are any matters they should be aware of when deciding whether to accept the appointment.
Before accepting a new client, members should consider whether acceptance of the client or the
particular engagement would create any threats to compliance with the fundamental principles.
Potential threats to integrity or professional behaviour may be created from, for example,
questionable issues associated with the client, or a threat to professional competence and due care
may be created if the engagement team does not possess the necessary skills to carry out the
engagement.
Where it is not possible to implement safeguards to reduce the threats to an acceptable level,
members should decline to enter into the relationship.

Changes in Professional Appointment

It is required that members who are asked to replace another accountant to ascertain whether there
are any professional or other reasons for not accepting the engagement. This may require direct
communication with the existing accountant to establish the facts and circumstances behind the
proposed change so that members can decide whether it is appropriate to accept the engagement.
The main purpose of communication is to enable members to ensure that there has been no action
by the client which would on ethical grounds, prevent members from accepting the appointment and
that, after considering all the facts, the client is someone for whom members would wish to act.
Thus, members must always communicate with the existing accountant on being asked to accept
appointment for any recurring work.

The extent to which a client's affairs may be discussed with a prospective accountant will depend
on the nature of the engagement and on whether the client's permission has been obtained. If the
client refuses permission, the existing accountant should inform the prospective accountant, who
should then inform the client that he is unable to accept the appointment.
If the existing accountant fails to communicate with the prospective accountant despite the client's
permission, the prospective accountant will need to make other enquiries to ensure there are no
reasons not to accept the appointment. This could be through communications with third parties,
such as banks.
Where the member is the existing accountant then, subject to obtaining the client's permission, he
should disclose all information requested without delay.

CHARGING FOR SERVICES

The firm should have a policy for charging its clients. The fee would be dependent on time taken,
on the output or deliverables, on a contingency basis or any other basis. The fee charged should be
fair and uniform for its clients. ICPAK does not regulate its fees. When entering into negotiations
regarding professional services, a professional accountant in public practice may quote whatever
fee deemed to be appropriate. The fact that one professional accountant in public practice may quote
a fee lower than another is not in itself unethical. Nevertheless, there may be threats to compliance
with the fundamental principles arising from the level of fees quoted. For example a self-interest
threat to professional competence and due care is created if the fee quoted is low that it may be
difficult to perform the engagement in accordance with applicable technical and professional
standards for that price.

Matters Giving Rise to Conflict of Interest

One should take reasonable steps to identify circumstances that could pose a conflict of interest.
These may give rise to threats to compliance with the fundamental principles. A conflict may arise
between the firm and the client or between two conflicting clients being managed by the same firm.
For example, if the firm acts for its directors in their personal capacity.
A member may evaluate the threats by considering whether he has any business interests or
relationships with the client or a third party that could give rise to threats. When the evaluation
reveals some conflict of interest, some safeguard measures should be looked into.

The safeguards ordinarily include the member in public practice:

a) Notifying the client of the firm's business interest or activities that may represent a conflict
of interest
b) Notifying all known relevant parties that the member is acting for two or more parties in
respect of a matter where their respective interests are in conflict
c) Notifying the client that the member does not act exclusively for any one client in the
provision of proposed services

The member should obtain the consent of the relevant parties to act in ways to avoid conflict of
interest.
Where a member has requested consent from a client to act for another party (which may or may
not be an existing client) and that consent has been refused, then he must not continue to act for
one of the parties in the matter giving rise to the conflict of interest.

The following additional safeguards should also be considered:

(a) The use of separate engagement teams
(b) Procedures to prevent access to information (e.g. strict physical separation of such teams,
confidential and secure data filing)
(c) Clear guidelines for members of the engagement team on issues of security and confidentiality
(d) The use of confidentiality agreements signed by employees and partners of the firm
(e) Regular review of the application of safeguards by a senior individual not involved with
relevant client engagements.
Where a conflict of interest poses a threat to one or more of the fundamental principles that cannot
be eliminated or reduced to an acceptable level through the application of safeguards, the member
should conclude that it is not appropriate to accept a specific engagement or that resignation from
one or more conflicting engagements is required.

DISCLOSURES IN TAX RETURNS, COMPUTATIONS AND CORRESPONDENCE

WITH THE REVENUE AUTHORITY
When a taxpayer or a tax practice is completing returns or making a declaration for any goods or
remittance of revenue collected on behalf of the departments, she or he has an obligation to ensure
that the return and declarations represent full and true disclosure of the transactions for the period
covered. KRA may cross-check the information you provide.

The law provides for penalty for an incorrect return and/or prosecution in case of gross negligence
or fraud. Taxpayers have an obligation to disclose and produce all relevant information, records and
documents required by KRA officials when carrying out their lawful duties. It is an offence to refuse
to give or to withhold information, records or documents. Penalties for this offence have been
prescribed under the various revenue Acts.

DEALING WITH THE REVENUE AUTHORITY

The work of a tax practice involves frequent correspondence with the Kenya Revenue
Authority officials. These may include requests to carry out audits or demand taxes from your
clients. It is important that you fully co-operate with the KRA.

You have an obligation to accord KRA officials’ co-operation, due respect and freedom to carry
out their lawful duties. You should not intimidate abuse, threaten or influence them in any
manner, whether financial or otherwise.

MORAL AND SOCIAL ISSUES IN TAXATION

During the conduct of the tax practice many moral and ethical issues will arise, for example;
▪ Should I advise my client to evade tax?
▪ Should I overcharge my client?
▪ Should I collude with the revenue authority officials to defraud my client?
▪ Should I engage in activities to get favour from the KRA on behalf of my clients?
▪ To the government; is it ethical for the government to collect revenue without using the
resources for development?

The tax practitioner should exhibit high standards of moral, ethical and social uprightness in the
discharge of his or her duties.

LIMITED COMPANIES
A limited company has a separate legal entity whose existence is distinct from that of the owners.
Therefore, a company has a separate taxable capacity and the profits of a company are taxed from
its own name and not in the name of the owners.
Where the company derives income from other sources besides the principle income, then such
incomes belong to the company and will be taxed as an aggregate.

Limited companies in Kenya can either be private or public. There are no fundamental differences
in the taxation of either private or public companies.
Companies incorporated in Kenya are expected to pay instalment tax before the end of the
accounting year. Therefore, the amount of tax payable shall be determined at the beginning of
each year. This is based on the lesser of:

▪ The budgeted profits of the year or

▪ 110% of the last year’s tax liability.

Once determined, the instalment tax is payable as follows.

1st installment 25% of tax due by 20th day of the 4th month during the year of income
2nd installment 25% of tax due by 20th day of the 6th month during the year of income
3rd installment 25% of tax due by 20th day of the 9th month during the year of income
4th installment 25% of tax due by 20th day of the 12th month during the year of income

Final tax (tax balance)

Actual tax payable minus total instalment tax paid on the last day of the fourth month after the end
of the year of income.

However, for firms in agriculture sector, instalment tax is payable as:

1st instalment 75% of tax due by 20th day of the 9th month during the year of income.
2nd instalment 25% of tax due by 20th day of the 12th month during the year of income.

Final tax (tax balance)

Actual tax payable minus total instalment tax paid on the last day of the fourth month after the end
of the year of income.
ILLUSTRATION 1
The following is the summarized balance sheet of Faraja Ltd as at 1st January 2013

Sh. Sh.
Non-current Assets
Factory building (net book value) 5,680,000
Processing machinery (net book value) 2,420,000
Motor vehicles (net book value) 1,500,000
Furniture and fittings (net book value) 840,000
Office equipment (net book value) 670,000 11,110,000
Current assets
Inventory 1,240,000
Trade receivables 760,000
Prepaid insurance 360,000
Bank balance 540,000 2,900.000
14,010.000
Financed by:
Share capital (ordinary shares of Sh.20 each) 9,000,000
10% debenture stocks 2,400,000
15% bank loan 1,500.000 12,900,000

Current liabilities
Trade payables 1,000,000
Accrued general expenses 110,000 1,110.000
Total capital liabilities 14,010.000

Additional information:
1) All the non-current assets were acquired on 1 January 2010 when the company commenced
operations. The net book value of these assets as at 1 January 2013 was the same as their
written down values for capital allowance purposes.
2) Included in the processing machinery are machinery with a net book value of Sh. 420,000 as
at 1st January 2013. This machinery are used in designing and moulding products during the
manufacturing process.

3) Office equipment as at 1 January 2013 comprised the following assets at net book value

Sh.

Computers 240,000
Telephone switchboard 96,000
Fax machines 120,000
Neon sign 36,000
Other office equipment 178,000

4) One of the motor vehicles purchased on 1 January 2010 was a saloon car acquired at a cost of
 Sh. 1,200,000.
5) The reported profit of the company for the year ended 31 December 2013 was Sh. 1,840,000
before accounting for capital allowances due for the year and interest expense. The reported
profit was based on cash sales.
6) The following transactions included in the bank statement for the year had also not been
accounted for in arriving at the reported profit:

Sh.

Receipts from trade receivables 2,800,000

Payments to trade payables 1,400,000
Return from trade payables for 360,000
purchase returned 346,400
General expenses 550,800
Insurance 140,000
Cash sales deposited directly to the
bank

Insurance paid includes a pre-payment of Sh.50, 800 for year 2014.

7) There were no closing balances of trade receivables and payables as at 31 December 2013. All
payments from/to trade receivables and payables were made through the bank account.

Required:
For the year ended 31 December 2013, determine for Faraja Ltd:
i) Capital allowances
ii) Adjusted taxable profit or loss.

SOLUTION
Capital Allowances: Wear And Tear Allowance

Class Class I Class II Class III I Class V

37 ½ % 30% 25% 12.5%
Sh. 000 Sh. 000 Sh. 000 Sh. 000

W.D.V b/f:
Computers 240
Telephone switchboard - - 96
Fax machine - - 120
Neon sign - - 36
Other office equipment - - 178
Motor vehicles - 1,500
Furniture and fittings - - 840
Processing machinery - - 2.420
Sub total 456 1,500 3,474
WTA (136.8) (375) (434.25)
319.2 1.125 3.039.75
 Summary of Capital Allowances

WTA Sh. 000

II 136.8
III 375
IV 434.25
Total capital allowance 946.05

Adjusted Taxable Profit or loss for the

Year ended 31 December 2006
Sh. ‘000’ Sh. ‘000’
Reported profit 1,840.00
Add: Credit sales omitted 2,040.00
140.00 2,180.00
Deduct 4,020.00
Purchases
General expense 400.00
Insurance (550.8 - 50.8) 346.40
Capital allowances 500.00 (2,345.96)
Adjusted taxable profit 946.05 1,674.04
Debtors Account
Sh. ‘000’ Sh. ‘000’
Balance b/d 760 Bank 2,800
Credit Sales 2,040 2,800
2,800

Creditors Account
Sh.’000’ Sh. ‘000’
Bank 14,000 Balance b/d 1,000
Balance c/d 1,400 Credit purchases 4 00
1,400
 Corporation Tax Rates
In Kenya, the corporate tax rate for a resident company is 30% whilst the tax rate for a
permanent establishment of non-resident company is 37.5%. A non-resident company can have
a permanent establishment in Kenya by opening a branch. However, different rates of taxes
apply for the following:

i. Newly listed companies

Companies newly listed on any securities exchange approved under the Capital Markets Act
enjoy favorable corporation tax rates as follows:
▪ If the company lists at least 20% of its issued share capital listed, the corporation tax rate
applicable will be 27% for the period of three years commencing immediately after the year
of income following the date of such listing.”
▪ If the company lists at least 30% of its issued share capital listed, the corporation tax rate
applicable will be 25% for the period of five years commencing immediately after the year
of income following the date of listing.”
▪ If the company lists at least 40% of its issued share capital listed, the corporation tax rate
applicable will be 20% for the period of five years commencing immediately after the year
of income following the date of such listing.
The corporate tax rate applicable to the company may therefore change if the percentage of the
listed share capital exceeds 20% of the issued share capital. The applicable tax rate will depend
on the percentage of the issued share capital listed at the Nairobi Stock Exchange.

ii. Export Processing Zone Companies

Companies operating within EPZ have the following benefits:
1. A ten-year tax holiday -This is an exemption from corporation tax for the first ten years of
trading.
2. A lower corporation tax rate of 25% for the subsequent years after the ten years tax holiday.
3. An exemption from all Withholding tax on dividends and other payments to non-residents
during the first 10 years.
4. Investment deductions are 100% of the capital expenditure claimable in the 11th year after
commencement of production.
5. Zero rated for purposes of VAT
6. There is a refund of import duty on raw materials to manufacture exports.

NOTE
EPZ enterprises must submit annually returns of income and supporting accounts to the
commissioner of income tax.
▪ Emoluments paid to employees and resident directors of EPZ enterprises must be subject to
PAYE deductions as required by law even during the period the enterprise is exempt from
tax.

iii. Resident companies mining specified minerals

Resident companies mining specified minerals under the Income fax Act - for the first 4 years
of mining operations income is taxed 27.5% per year, while normal rates shall apply from the
fifth year of operations.

TAX EFFECTS OF SHORTFALL DISTRIBUTION OF COMPANY PROFITS (SECTION

24)
The profits of a company after taxation may be distributed to the shareholders in full as dividends
or retained to provide finance, or be partly distributed and partly retained. If a company fails to
distribute as dividends that part of its income which in the opinion of the Commissioner is in excess
of its requirements within a period of twelve months after the accounting period, the
Commissioner may direct that that income be deemed to have been distributed to the shareholders
as dividends.
The Act requires that a company paying dividends to deduct tax at source and remit it to the
Commissioner. The company is entitled to recover such from the shareholder. When the profits are
subsequently distributed, they will not be taxed on the shareholders.
In practice, the Commissioner usually allows for the retention of 60% of the profits after tax derived
from trading income. Profits after tax from investment income are distributed in full. Nontaxable
dividends are also distributed in full.

ILLUSTRATION 3
A Limited made a pre-tax profit of Ksh. 100m comprising of:
a. Trading profits Shs.60m
b. Investment income Shs.30m
c. Dividends from B. Limited (a subsidiary) Shs.30m

- State how much the company should distribute as dividends in order to comply with the
Section 24 provision (Assume corporation tax is 30%)

Trading Investment Non-taxable Total

Kshs.—m Kshs.—m Kshs.—m Kshs.—in
Pre-tax profits 60 10 30 100
Corporation tax (40%) (18) (3) - (21)
Profits after tax 42 7 30 79
Distributable profits (25.2) NIL NIL (25.2)
Maximum retention 16.8 7 30 53.8
-

TAXATION OF BRANCHES OF FOREIGN COMPANIES

Non -resident companies with branches in Kenya are liable to pay corporation tax at a comparatively
higher rate of 37%% on incomes generated by their local branches. Like for resident companies,
such branches shall be allowed to deduct expenditure incurred in generation of income. In the case
of export processing zones enterprises. There is a tax holiday during the first 10 years of their
operations, followed by a lower tax rate of 25% during the next ten-year period. For mining
companies a lower tax rate of 27/4% is applicable over the first five years of production. Special
withholding tax rates exist for certain specified income sources.
For the purpose of ascertaining the gains or profits of a business canned on in Kenya no deductions
shall be allowed in respect of expenditure incurred outside Kenya by a non-resident person other
than expenditure in respect of which the commissioner determines that adequate consideration has
been given and in particular no deduction shall be made in respect of expenditure on remuneration
for services rendered by the non-resident director who is not full time director of a non-resident
company. On executive and general administrative expenses except to extent the commissioner may
determine to be just and reasonable. No deduction shall be allowed in respect of interest, royalties
or management or professional fees paid or purported to be paid by the permanent establishment to
the non-resident person. Sales abroad by a branch of goods produced in Kenya will be deemed to
generate income derived in Kenya and such income is taxable in Kenya. A branch does not suffer
any withholding tax on remittances of profits to head office

A GROUP COMPRISING THE HOLDING COMPANY AND SUBSIDIARY COMPANIES

Under the Income Tax Act, companies are treated as legal persons independently. There is no lifting
of the veil to consider them as part of one group for tax purposes. As such, the law does not permit
any form of consolidated return combining the profits and losses of affiliated companies or the
transfer of losses from loss making to profit making members of the same group of companies.
Where assets qualifying for wear and tear allowances are transferred between companies under
common control, the sale consideration is deemed for tax purposes to be the open market value of
those assets. However, if this treatment would give rise to a taxable balancing adjustment in the
computations of the transferor company, the two companies may jointly elect for tax written down
value to be substituted as the sale considerations. This election is possible only if both companies
are resident in Kenya.
Dividends paid by one resident company to another one exempted from tax in the recipients
company’s hands if it controls 12'/2% or more of the voting power of the paying company.
Real estate maybe transferred free of stamp duty where the beneficial ownership does not change.

ADVANCED ASPECTS OF THE TAXATION OF

BUSINESS INCOME

INTRODUCTION

Business Income is one of the specified sources of income under section 3(2) of the Act. When
considering how much income would be taxed, it is important to consider the form of the business
organization of which it can either be incorporated, partnership, or sole proprietorship.
Section 2 of the Act defines business as “business includes any trade, profession, vocation,
manufacture, adventure or any concern in the nature of trade but it does not include employment.”
Realization of personal goods does not represent a business transaction.
FACTORS USED IN ASCERTAINING WHETHER A BUSINESS IS BEING CARRIED
ON IN THE NATURE OF TRADE; -

a) Profit motive
This is the reason to be for any trading concern. It must be the overriding but not the incidental
motive of the existence of the business.
b) Nature of assets acquired and quantities involved
c) Number of transactions involved
A transaction that is one in a series is an indication that it constitutes a trade. However, it is possible
to have a single isolated transaction that constitutes a trade.
d) . Method of financing
Where the proceeds from the sale of goods are used to acquire more goods for resale, this indicates
that the goods are in a trade cycle and for this purpose a business in the nature of trade is being
carried on.
e) Method used to generate sales
Usually most businesses in the nature of trade are organized in a way that they promote sales
in a manner suggesting that business is in existence. This is done through advertisement,
publicity and other forms of promotion.
f) Mode of acquisition of assets
Inherited goods which are sold may not constitute a trade. If the items are purchased for sale, this
will constitute a trade. It the items are bought for private use but at a later date they are disposed off
this may not constitute a trade.
g) Length of time the asset is held and how it is used
E.g. a vehicle acquired and used for some time before it is sold may not constitute a trade but a
realization of capital asset. However, if it is sold before use, the sale may be taken to be a trade.
Taxable business income
1. Amount of gain from ordinary business arising from buying and selling.
2. Where a resident person carries on business partly in Kenya and partly outside Kenya, the
gains or profit is deemed to have been derived in Kenya and will be taxed in Kenya.
3. An amount of insurance claim received for loss of profit or damage or compensation for the
loss of trading stock.
4. An amount of trade bad debt recovered which was previously allowed when it was written
off.
5. An amount of realized foreign exchange gain. Where the gain is not realized, it is not taxable.
6. An amount of balancing charge and trading receipts.

Non- taxable income

1. Income from foreign investments-dividends and interest.
2. Reduction in general provision for bad debt.
3. Additional capital introduced by the owners of the business.
4. Recovery of bad debt which when written off was not allowed for tax purposes.
5. Any income that is exempted from taxation under the 1st schedule e.g. inheritance and dowry.

Computation of taxable profit

Reported profit xx
Add back
Disallowance expenses xx
Taxable incomes not included xx
Adjustment due to errors (xx)
Less: Allowable expenses not deducted (xx)
Non-taxable incomes (xx)
Exempt incomes (xx)
Incomes whose withholding tax is final (xx)
Adjustment due to errors xx
Adjusted taxable income
Where the income statement is not provided or prepared, the following format is used:

Computation of taxable profit

Sales xx
Less: cost of sales (xx)
Gross profit xx
Less: allowable expenses (xx)
Taxable profit from operations xx
Add: other taxable incomes xx
Total taxable profit xx
Allowable and disallowable deductions Allowable deductions
These are provided for under Section 15 of the income Tax Act. They include;
1. Expenditure incurred wholly and exclusively in the production of income.
2. Bad debts written off:
▪ Trade bad debts are allowable
▪ Bad debts recovered which were previously allowed are taxable.
▪ Increase in specific provision for bad debts is allowable
▪ Decrease in specific provision for bad debts is taxable
▪ Increase in general provision for bad debts is not allowable
▪ Decrease in general provision for bad debts is not taxable
3. Capital allowance
4. Amounts deductible under the 9th schedule of the Act i.e. by petroleum companies
5. Expenditure on legal cost and stamp duty;
(i) . In connection with acquisition of a lease of not more than 99 years
(ii) . Defending business property rights
(iii) . for other business related expenses e.g. collection of debts
6. Business pre-commencement expenses provided that the expenditure would be deductible
if incurred after the commencement of the business.
7. Entrance fees or annual subscription paid to a trade association.
8. Any expenditure of capital or revenue nature incurred on scientific research related to the
business. This would include sums paid to scientific institutions which carry out research.
9. Interest on loans for developing the business.
10. Losses brought forward from previous years for a period of up to four years.
11. Legal expenditure of capital nature incurred on the issue of shares and debentures or other
securities
offered for purchase by the general public e.g. cost of preparing a prospectus.
12. Expenses incurred by a public company in connection with authorization of increase in
share capital.
13. Expenditure of capital nature incurred in the year of income for purpose of listing any
security in the stock exchange.
14. Any expenditure incurred for the prevention of soil erosion e.g. construction of gabbions.
15. Capital expenditure incurred in clearing land and planting of permanent and semi-
permanent crops e.g. tea, coffee, cashew nuts, etc.
16. Cost of standing timber.

Disallowable deductions
1. An expenditure on loss which is not wholly and exclusively incurred in the production of
income.
2. Capital expenditure or any loss or wear and tear or depreciation other than the capital
allowances.
3. Expenditure incurred by a person in the maintenance of his family or establishment or for
any other personal or domestic purpose.
4. Income tax or taxes of similar nature.
5. Expenditure or loss recoverable under any insurance contact.
 6. Car hire expenses for non- commercial vehicles
7. Management and professional fees, royalties, rent, interest, etc. by a non-resident person
not having a permanent establishment in Kenya. Instead such incomes are subject to a final
withholding tax.
8. Any expense on rent unless the commissioner is satisfied that the whole of the income is in
the hands of the recipient. The consideration must be taken to be solely for the use or the
right to use the asset.

PARTNERSHIPS
Provisions of the Income Tax Act Cap 470 Laws of Kenya
For purposes of imposing tax a "person" does not include a partnership. The income of a
partnership is assessed on the partners.
Under Section 4(b) of the Act, "the gain or profits of a partner from a partnership shall be the sum
of-
i) remuneration payable to him by the partnership together with interest on capital so payable,
less interest on capital payable by him to the partnership; and
ii) His share of the total income of the partnership calculated after deducting the total of any
remuneration and interest on capital payable to any partner by the partnership and after
adding any interest on capital payable by any partner to the partnership".
Where a partnership makes a loss as calculated in (ii) above, the gains or profits shall be the excess,
if any of the amount set out in (i) over his share of that loss.

Determining the existence of a Partnership

Under English and Kenya law a partnership is not a person but "the relationship that subsists
between persons carrying on a business in common with a view to profit".

Whether a partnership exists or not is a question of fact. The basic criterion is whether two or
more persons carry on a business in common with a view to profits.
This suggests that the persons involved bear the attribute of a proprietor and have a profit motive.
Other useful guidelines include the following:

▪ Usually a partnership deed or written agreement will be drawn up

▪ There is a joint tenancy or tenancy in common
▪ There is sharing of gross receipts or profits
None of these circumstances of itself would constitute conclusive evidence of the existence of a
partnership.
Common situations which pose difficulties in proving a partnership are:
1. Whether joint transactions may constitute a partnership; and
2. Whether the parties concerned are partners or merely employees.

1. Joint transactions - JOHN GARDNER & BOWRING & CO V CIR

G arranged during a coal strike to buy imported coal from B. The coal was invoiced to G at
cost and the net excess of his sales were shared with B.

Judgement "whereas these cargoes of coal generally had been formally the simple transaction of
 purchase and sale between the parties, they immediately became the subject of a transaction in
which both parties were interested, and in which when one of them had sold the coal, the sale
was not on his behalf but on behalf of the two together the net profit, so obtained was equally
divisible between them".
Held: The relation between these two parties constituted a partnership.

2. Employee or partner
The Deed of partnership does not necessarily constitute partners for income tax purposes.

Dickenson V Gross (Hmit)

A farmer named Dickenson, entered into a Deed of Partnership with his three sons with the
admitted intention of reducing income tax liability in respect of the profits. The deed provided
inter alia that two farms owned by D should be left to D and his sons at stated rentals, that
accounts should be made up annually, that the net profits should be divided equally between the
partners, and that the partners shall have the right to sign and endorse cheques on behalf of the
firm. No rent was paid and no accounts or books had been kept. No distribution of profits was
made. Cheques were signed by D and some business receipts were paid to his private bank
account.
Held: That as a partnership did not exist in fact, and that there was no partnership for purposes
of income tax.

Ev CIT
E- Carried on business as a sole trader. In June 1942 he admitted his three daughters and son as
partners. A Deed was executed stating the partnership commenced on 1 June 1942.
The provision of the deed gave E sole and exclusive management and control of the business.
Neither the son nor any of the daughters contributed property, labour or skill to the partnership.
A Deed of covenant was executed whereby each of the daughters was to pay a fraction of her
partnership profits to her mother and other infant children of E.
Held: Both the local committee and the High Court ruled that there was no evidence that a
partnership in fact existed.

Sinclair J stated:
"The terms of the Deed of Partnership and the facts as a whole are, in my view, inconsistent with
the relation of a partnership. The other partners contributed neither property nor labour, nor skill.
The whole of the capital was provided by the appellant. The partners in fact drew no profit. It was
evident that the appellant intended to retain control, not only of the management of the business
but also of the share which he gave to the children.

CIT V Williamson
A farmer and his sons for several years leased and worked in a farm jointly, but without any deed
of partnership. He supplied the capital, conducted all buying and selling and controlled the bank
account which was in his name.
He made no regular payments to his sons but supplied them, on request, with such monies as were
necessary for their requirements. No record of these disbursements or the financial results of the
farm was kept.

The respondent appealed against additional assessment to income tax in respect of the farm,
raised on the basis that he alone was assessable.

Held: That the facts did not justify the inference that a partnership had existed.

Opinions
The Lord President (Clyde)
"My Lords the question before us is whether there was a partnership between the father and his
three sons in whose joint names the lease ... was taken ... No doubt the lease was in joint names ...
That it is in vain to constitute a partnership and the whole capital belonged to the respondent ...
There is no record of any kind to show the existence of any contractual relation of any sort.
The bank account was the respondent's bank account and his alone. It was never operated by
anybody but him ... The sons got no wages ... You do not constitute or create or prove a partnership
by saying that there is one. The only proof is proof of the relations of agency and of loss and profits
and of the sharing in one form or another of the capital".
Lord Sands
"Stated all the facts and circumstances of the case otherwise, except the matter of the lease, appear
to be against and, indeed almost exclusive of the idea of a partnership".

Pratt V Strick
P agreed to purchase a medical practice. A Deed of assignment was exercised on 15 July 1929
whereby the vendor agreed to stay on in the practice for three months to introduce P to his patients,
with a view to maintaining the connection of the practice and generally to aid and assist him in the
practice. It was agreed that the earnings and expenses of the practice during the three months be
borne by the vendor and purchaser in equal shares.
P contended that the practice was sold outright to him on 15th July 1929 and that his income tax
liability should be computed on the basis the practice was commenced anew by him on that date.
Held: That there was an out-and-on sale of the practice on the 15th July, 1929, and that there has
been no partnership. The practice was assessable as a new business in the name of the purchaser
only, and the vendor was in receipt of remuneration for services rendered.

Waddington V O'callag/tan (Hmit)

The appellant, who had for many years carried on, solely, a practice as solicitor, informed his son
on 31 December, 1928, that it was his intention to take him into partnership as from that date.
On 1 January, 1929, he instructed another firm of solicitors, by letter, to draft a partnership deed.
The deed was executed on 11 May 1929 to have effect from 1 January 1929.
No formal notice of the partnership was at any time given by advertisement, circular or
otherwise.
No alteration of the name under which the practice was carried on, or in the business bank
account, was made until after the date of the partnership deed. From 31 December 1928 the son
was credited with the share of profits to which he was entitled under the partnership deed.
Held: The Partnership constituted by deed commenced on the date of the deed and that there was
no knowledge of the existence of a partnership before.

Steps in Computing tax on Partnership Income

1. Determine or compute the adjusted income or loss for the partnership in the normal way,
except that: -
(a) Salary to partners is not allowable expense
(b) Interest paid to partners is not allowable
(c) Interest paid by partners is not taxable
(d) Wife’s salary is not allowable
(e) Drawings of commodities dealt with in the partnership are added back at cost. Note that no
profit is to be made from another partner.
2. Allocate the income adjusted to the partner by first isolating salaries to partners, interest on
capital (net) to partners, bonus to partners, commissions, etc. The balance is either profit or loss
to be shared out among partners according to profit sharing ratio or as per partnership agreement.

TAXATION OF PARTNERSHIP
A partnership is not a legal entity. The income of partnership is allocated among the partners in
the profit sharing ratio and taxed on them.

Non-allowable expenses for partners.

1. Partners private expenses.
2. Partners’ drawings
3. Partners’ salaries and commissions
4. Interest on partners’ capital
5. Goodwill written off.
6. Non-allowable expenses like any other business.

Allowable expenses for partners

1. Medical expenses or medical cover of up to Sh 1,000,000 per annum per partner.
2. Contribution to a registered home ownership saving plan of up to sh 48,000 per annum.
3. Contribution to a registered individual retirement scheme of up to sh 240,000 p.a.
4. Owner occupier interest of up to sh. 150,000 p.a.
The profits of the partnership are shared among the partners using the profit or loss sharing
ratio. A partner shall be taxed on the aggregate of the following;
i) . Remuneration paid to him by the partnership in the form of salary, commission and bonus.
ii) . Any interest on capital paid to him by the partnership less interest on drawing.
iii) . Share of the partnership incomes adjusted with (i). and (ii) above.

Total (sh.) Partner A(sh.) Partner B (Sh.)

Salaries xx xx xx
Commissions xx xx xx
Interest on drawings (xx) (xx) (xx)
Interest on capital xx xx xx
Share of profits (according to profit ratio) xx xx xx
Adjusted profit xx xx xx
Other taxable Incomes
Rent xx xx xx
Taxable income per partner xx xx xx
 Share of profits = Adjusted profit - Interest on drawings- Commissions -
Salaries NB:
— If the partners have withdrawn goods, they should be added back to cost price (i.e. non-
allowable).
— Interest on drawings is not taxable.
— Drawings are not included in the schedule of allocation.

ILLUSTRATION 1
Ancestor, baggy and Chotara are partners trading in a firm sharing profit and losses in the
ration 4:3:3. The income statement of the firm for the year ended 31.12.2013 showed a loss of
shs. 600,000 before adjusting the following:

Interest on capital - Ancestor Shs 120,000

- Baggy Shs 80,000
- Chotara Shs 160,000
Commission-Ancestor Shs. 40,000
Salaries to partners - Ancestor shs. 20,000
- Chotara shs. 40,000

Other incomes of the partners in the year were:

Ancestor-rental income shs.220,000
Employment shs.400,000
Baggy-Private business income shs.400,000
Dividends from shida Cooperative society shs.200,000 (net)
Chotara-charity sweepstakes win shs.600,000
Farming Income shs 500,000
Interest from Ujenzi Co Ltd shs,120,000 (gross)

Required:
Show the taxable income and tax payable by each partner

SOLUTION
Allocation to partners

Ancestor Baggy Chotara Total

Shs Shs Shs Shs
Interest capital 120,000 80,000 160,000 360,000
Commission 40,000 - - 40,000
Salaries 20,000 - 40,000 60,000
Share of profit/losses (240,000) (180,000) (180,000) (600,000)
Adjusted partners business income (60.000) (100.000) (20,000) (140,000)
Other incomes
Rental income 220,000
Employment income 400,000
Private income - 400,000 -
Dividends on cooperative society - 235,294 -
Farming income - - 500,000
Interest Ujenzi co.ltd - - 120,000
Taxable income 620,000 635,294 640,000

Tax thereon
Ancestor Baggy
Chotara
Shs Shs Shs
(121968x10%+114912x60%) 81,144 81,144 81,144
Balance (620,000 -466704) 30% 45.988.8 50.577 51.988.8
127,132.8 131,721 33,132.8
Personal relief W/T relief Tax (13,944) (13,944) (13,944)
liability “ 135.2941 118.0001
113,188.8 82,483 101,188.8