Business profit tax (BPT)

Introduction to Business profit tax

Business income tax, business profit tax, and schedule 'C income tax are synonymous terms used
interchangeably for income taxation purposes. Business income tax may be defined as a tax levied,
charged and collected by the goverment of Ethiopia on annual taxable business income of a
businessperson realized from his entrepreneurial activity. It is levied and charged by the government on
taxable profit
of a business arising each tax year in accordance with the prevailing income tax iaw of the nation. At the
end of each tax year, a business person is required to submit an
income tax return (tax declaration) to the tax authority which shall contain full and true information about
the income (profit) earned by him from hs business

Definition of Business Income Tax (Schedule 'C Income Tax)

Business income tax, or business profit tax, is the tax imposed on taxable business income
profit realized from enters prenatal activity. It is charged on the profits of business enterprises on
their activities a rising each accounting period or tax year. At the end of the each tax year or
accounting period, business income tax payers submit an income tax return (tax declaration form)
to the authority which shall contain full and true information about the income (profit) earned the
business tax payers.

All businesses must pay income taxes. Some businesses are taxed as separate entities for income
purposes, such as corporations or limited liability companies (LLCs). Other business's incomes are not
taxed separately from the incomes of their principal owners, such as a sole proprietorship.
Business income tax is a pay-as-you-go tax -- businesses usually must pay the tax as income is earned
during the year. As a business, you may be required to make estimated tax payments throughout the year
(i.e. every three months). If you are not required to make estimated tax payments, you may pay any tax
due when you file your return at the end of the tax year.

Scope of Business Income Tax

As the Ethiopian income tax system is based on the principle of residence, any businessperson who is a
resident in Ethiopia during a tax year is obligated to pay business income tax to the Ethiopian government
on his worldwide taxable business income. However, any businessperson who is a non-resident in
Ethiopia during a tax year shall pay business income tax to the Ethiopian government on his Ethiopian
source taxable business income only. For the purposes of charge of business income tax, the place where
a business income accrues or arises is crucial. Accordingly, a business income is deemed to rue or arise in
Ethiopia if it is earned or generated in Ethiopia. Such income is aside earned or generated in Ethiopia if
the activity that produces the business income is undertaken or carried out by the businessperson within
the territory of Ethiopia.
Legal form businesses and taxable entities
The Commercial Code of Ethiopia defines a business organization as follows: “A Business
organization is any association arising out of a partnership agreement.” According to this definition there
are eight forms of business organizations: Ordinary partnership; Joint venture; General partnership;
Limited partnership; Share company; Private limited company; sole proprietorship; Co-operative.
Partnership: is
where two or more persons who intend to join together make contributions for the purpose of carrying out
activities of an economic nature and of participating in the profits and losses arising out thereof, if any.

According to the Commercial Code of Ethiopia, contributions in partnership are possible in the following
conditions. Each person shall make a contribution, which may be in money, debts, other property or skill;
Property or the use of property may form a contribution; Unless otherwise
agreed, contributions shall be equal and of the nature and extent required for carrying out the purposes of
the partnership.

Joint venture: is an agreement between partners on terms mutually agreed and is subject to the
general principles of law relating to partnerships stated above.

General partnership: consists of partners who are personally, jointly, severally and fully liable between
themselves and to the partnership firm’s undertakings. This means that each partner is
responsible for and must assume the consequences of the actions of the other partner(s). All members
share the management of the business. The death or withdrawal of a general partner, or the expiration of
the term of the general partnership, will dissolve the partnership. Continuation of the partnership
following such events may be dealt with, however, in the partnership agreement. Since a partnership is
generally a “voluntary” association, any general partner who no longer desires to be associated with the
partnership may withdraw and force dissolution. Dissolution of a partnership, as a general rule, requires
the winding up of its affairs and a liquidation of the partnership’s assets.

Limited partnership: Some members are general partners who· control and manage the business and
may be entitled to a greater share of the profits, while other partners are limited and contribute only
capital. Limited partners take no part in control or management and are liable for debts to a specified
extent only. A Legal document, outlining specific requirements, must be drawn up for a limited
partnership.

Company limited: by share is a company whose capital is fixed in advance and divided into share and
whose liabilities are met only by the assets of the company. The members shall be liable only to the
extent of their shareholding. Formation of a share company shall be by a public memorandum –
memorandum of association, which consists of: Names, nationality and address of the members, the
number of shares which they have subscribed, provided that a member may not subscribe to less than one
share; Name of the company; Head office and the branches, if any; Business purpose of the company;
Amount of capital subscribed and paid up; Par value, number, form and classes of shares; Value of
contributions in kind, their objects, the price at which they are accepted, the designation of the
shareholder and the number of shares allocated to him by way of exchange; Manner of distributing
profits; Number of directors and their power.

Sole proprietorship:
This is the simplest way to set up a business. A sole proprietor is fully responsible for all debts and
obligations related to his or her business. A creditor with a claim against a sole proprietor has a right
against all of his or her assets, whether business or personal. This is known as unlimited liability. If the
proprietor chooses to carryon a business under a name other than his/her own, he/ she must register with
the concerned local authorities. Your business
name registration, or renewal of registration, will be valid for a certain period of time. A sole
proprietorship is the cheapest and easiest form 0f business where most 0f the MSEs
prefer to register their business in. Under a sole proprietorship, the entrepreneur is the owner as well as
the manager of the business.
The sole proprietorship terminates by law upon the death of \the sole proprietor, with very few
exceptions. Estate planning documents for the sole proprietor may grant the others of the sole proprietor
the right to continue the business.

Co-operatives: This is where people associate on a voluntary basis to promote their economic interests,
whereby resources are pooled together and used. People with financial constraints, especially, tend to
form co-operatives to benefit from joint efforts and external support facilities. A co-operative business
structure provides: Democratic control based on one member one vote; Open and voluntary membership;
Patronage dividends. Each form of business stated above has its own advantages and disadvantages. You
can make your choice based onthe following factors: Ease of registration; Number of owners; Financial
responsibility of owners; Degree of freedom in decision making; and. Mode of lax payment. For more
information on forms of business organizations and their establishment, refer to the Commercial Code of
Ethiopia (1960).

Legal provisions are take from ITP No 979/2016 and ITR No. 78/2002

Business profit tax is paid by business establishments regardless of :

 Ownership of business
 Forms of business
 Size of business
 Their nature
Categories of Business taxpayers in Ethiopia

Business are categorized into three for tax purpose

1. Category ‘'A'' taxpayers
2. Category ‘'B'' taxpayers
3. Category ‘'C'' taxpayers
The categorization of taxpayers based on:
-Annual turnover or annual sales
-Maintenance of accounting records or book of accounts
-Requirements for registered vouchers
- Number of types of FS to be prepared for tax purposes
-Tax year
-Declaration of Income and time of payment of tax liability

Category “A” taxpayers

Category A tax payers are large business and shall include the following persons and bodies
- Taxpayer being a company or any other person having an annual gross income of Birr 1,000,000 or
more;
-Any company incorporated under the laws of Ethiopia or in a foreign country - share companies
-They have to maintain accounting records
-They have to use registered vouchers

Category “A” taxpayers liable for business income tax are

required to keep books of account prepared in accordance
with the financial accounting reporting standards and, in particular shall keep the following:
1. A record of the business assets and liabilities of the tax payer
2. A record of all daily income and expenditures related to the taxpayer’s business.
3. A record of all purchases and sales of trading stock, and services provided and received
4. A record of trading stock, on the hand at the end of the taxpayer’s tax year including the type, quantity,
and cost of stock, and method of valuation used.
5. Any other document relevant for determining the tax liability of the taxpayer.

Category “B” taxpayers

-Category “B” taxpayer being a person, other than a Company, having an annual gross income of Birr
500,000 or more but less than 1,000,000
-They have to maintain source documents and accounting records.
-They shall submit only a profit and loss statement to the Tax Authority
-The tax year can be either the government fiscal year or the accounting year of the body
-They shall submit the Tax Declaration Form to the Tax Authority within two months

Category “B” tax payers liable for business income tax shall keep the following records:
1. A record of daily income and expenditure
2. A record of all purchases and sales of trading stock
3. A salary and wages register
4. Any other document relevant in determining the tax liability of the taxpayer. Further, Category “A” or
“B” taxpayer liable for tax under Schedule B of this proclamation shall keep the following:
1. A record of rental income received
2. A record of fees and charges paid to a state or city administration in relation to the building.
3. A record of any expenditures incurred in relation to the building
4. A register of rental buildings showing the acquisition date, cost of acquisition, any costs of
improvements in relation to the building, and the current net book value of the building
5. A record of any sub-lease arrangements in respect of the building.

Category “C” tax payers

-Category “C” taxpayer being a person other than a Company, having an annual gross income of less than
Birr 500,000.
-They shall pay tax in accordance with schedule 1 and 2 attached with Regulations number No. 78/2002.
-Maintaining books of accounts is encouraged but not mandatory
-They are not required to use registered vouchers
-They are not required to submit any FS to the tax authority
-The tax year is the government fiscal year
-They shall submit the Tax Declaration from to the Tax Authority within one month

Category “C” payers may keep a gross income and are only required to keep records as specified in the
regulation.
Tax accounting methods

What Is Tax Accounting?

Tax accounting is a structure of accounting methods focused on taxes rather than the appearance of public
financial statements. Tax accounting is governed by the Internal Revenue Code, which dictates the
specific rules that companies and individuals must follow when preparing their tax returns.

Tax accounting is the means of accounting for tax purposes. It applies to everyone—individuals,
businesses, corporations, and other entities. Even those who are exempt from paying taxes must
participate in tax accounting. The purpose of tax accounting is to be able to track funds (funds coming in
as well as funds going out) associated with individuals and entities.

Tax Accounting Principles vs. Financial Accounting (GAAP)

In the United States, there are two sets of principles that are used when it comes to accounting. The first is
tax accounting principles and the second is financial accounting, or generally accepted accounting
principles (GAAP).

Under GAAP, companies must follow a common set of accounting principles, standards, and procedures
when they compile their financial statements by accounting for any and all financial transactions.

1. Balance sheet items can be accounted for differently when preparing financial statements and tax
payables. For example, companies can prepare their financial statements implementing the first-in-first-
out (FIFO) method to record their inventory for financial purposes, yet they can implement the last-in-
first-out (LIFO) approach for tax purposes. The latter procedure reduces the current year's taxes payable.

While accounting encompasses all financial transactions to some degree, tax accounting focuses solely on
those transactions that affect an entity's tax burden, and how those items relate to proper tax calculation
and tax document preparation. Tax accounting is regulated by the Internal Revenue Service (IRS) to
ensure that all associated tax laws are adhered to by tax accounting professionals and individual
taxpayers.

2. The IRS also requires the use of specific documents and forms to properly submit tax information as
required by law.

Types of Tax Accounting

Tax Accounting for an Individual
For an individual taxpayer, tax accounting focuses solely on items such as income, qualifying deductions,
investment gains or losses, and other transactions that affect the individual’s tax burden. This limits the
amount of information that is necessary for an individual to manage an annual tax return, and while a tax
accountant can be used by an individual, it is not a legal requirement.

Meanwhile, general accounting would involve the tracking of all funds coming in and out of the persons'
possession regardless of the purpose, including personal expenses that have no tax implications.

Tax Accounting for a Business

From a business perspective, more information must be analyzed as part of the tax accounting process.
While the company’s earnings, or incoming funds, must be tracked just as they are for the individual,
there is an additional level of complexity regarding any outgoing funds directed towards certain business
obligations. This can include funds directed towards specific business expenses as well as funds directed
towards shareholders.

While it is also not required that a business use a tax accountant to perform these duties, it is fairly
common in larger organizations due to the complexity of the records involved

Tax Accounting for a Tax-Exempt Organization

Even in instances where an organization is tax-exempt, tax accounting is necessary. This is due to the fact
that most organizations must file annual returns.
3
They must provide information regarding any incoming funds, such as grants or donations, as well as
how the funds are used during the organization’s operation. This helps ensure that the organization
adheres to all laws and regulations governing the proper operation of a tax-exempt entity.
Business profit tax rate and other legal provisions on Business Profit Tax

Business Income Tax Rates

For the purposes of charge of employment income tax, only progressive tax rate structure is applicable in
our country. However, for the purposes of charge of business income tax, the Ethiopian government
employs both proportional and progressive tax rate structures. According to the Federal Income Tax
Proclamation No.979/2016 (hereinafter the Proclamation) . tax is imposed on business income for each
tax year at the rates specified below.
In accordance with this article, businesses in the form of bodies and businesses other than bodieś are
chargeable to business income tax with different tax rate structures.
Business Income Tax Rates,As per the Proclamation, the tax rates are as follows:
1. Taxable business income of bodies (e.g., PLC, Share
Company) is taxable at the rate 30%;
2. Taxable business income of other taxpayers (individuals and Micro Enterprises) is taxed in accordance
with the following Table:
Taxable Business Income
(Article 20-26 of the Proclamation) The taxable income of a taxpayer for a tax year is the total business
income of the taxpayer for the year reduced by the total deductions allowed to the taxpayer for the year.
Taxable Income= Business income - (deductions + exemptions)
The taxable income of a taxpayer for a tax year is determined in accordance with the profit and loss, or
income statement, of the taxpayer for the year prepared in accordance with the financial reporting
standards, subject to any modifications made in the Proclamation, regulations made by the Council of
Ministers, and directives issued by the Ministry. Thus the reader should consult these laws to identify the
constituents of business income, deductions and exemptions in order to accurately calculate business
income tax.

Business Income
The Proclamation under Article 21 states that business income of a taxpayer for a tax year shall include
the following: the gross amounts derived by the taxpayer during the year from the conduct of a business,
including the gross proceeds from the disposal of trading stock and the gross fees for the provision of
services (other than employment income); the gross amounts derived by the taxpayer during the year from
the investment of the capital of a business, including dividends, interest, and royalties; a gain on disposal
of a business asset (other than trading stock) made by the taxpayer during the tax year; any other amount
included in business income of the
taxpayer for the tax year under the Proclamation.

Deductions
Article 22 of the proclamation provides for expenditures that are subjected to deductions which include:
any expenditure to the extent necessarily incurred by the taxpayer during the year in deriving, securing,
and maintaining amounts included in business income; the cost of trading stock disposed of by the
taxpayer during the year as determined in accordance with the financial reporting standards; the total
amount by which the depreciable assets and business intangibles of the taxpayer have declined in value
during the year from use in deriving business income as determined under Article 25 of this
Proclamation; a loss on disposal of a business asset (other than trading stock) disposed of by the taxpayer
during the year; any other amount allowed as a deduction to the taxpayer under this Proclamation for the
year. For instance, the cumulative reading of article 24(1) and article 63 of the proclamation, stipulates
that charitable donations are deducted from the total amount of business income.

Exemptions
Article 65 of the proclamation is devoted to exempted incomes. Some of the exemptions are:
an amount paid by an employer to cover the actual cost of medical treatment of an employee; travelling
expenses paid to an employee recruited from place other than the place of employment on joining or
completion of employment, including, in the case of a foreign employee, travel expenses from and to their
country of origin, but only if the travel expenses have been paid pursuant to specific provisions of the
employee’s contract of employment; food and beverages provided for free to an employee by an
employer conducting a mining, manufacturing, or agricultural business; contributions by an employer to a
pension, provident, or other retirement fund for the benefit of an employee provided the monthly total of
contributions does not exceed 15% of the monthly employment income of the employee;
a pension to the extent exempt from tax under the Private Organizations Employees’ Pension
Proclamation.

Accounting for Other income tax

How to Account for Income Taxes

The essential accounting for income taxes is to recognize tax liabilities for estimated income taxes
payable, and determine the tax expense for the current period. Before delving further into the income
taxes topic, we must clarify several concepts that are essential to understanding the related income tax
accounting. The concepts are noted below. All of these factors can result in complex calculations to arrive
at the appropriate income tax information to recognize and report in the financial statements.

Essential Accounting for Income Taxes

Despite the complexity inherent in income taxes, the essential accounting in this area is derived from the
need to recognize two items, which are:

Current year. The recognition of a tax liability or tax asset, based on the estimated amount of income
taxes payable or refundable for the current year.

Future years. The recognition of a deferred tax liability or tax asset, based on the estimated effects in
future years of carryforwards and temporary differences.

Other income in accounting

Other income is income that does not come from a company's main business, such as interest.
Examples of other income include income from interest, rent, and gains resulting from the sale of fixed
assets.

Companies present other income in a separate section, before income from operations.

Other income is income that does not come from a company's main business, such as interest.

Accounting for Business-Profit Tax

Accounting for BPT is concerned with:

 Determination of TBP
 Computation of BPT.
 Adjusting BPT.
 Preparation of Tax Returns i.e. Profit and Loss
 Account and Balance Sheet
 Recording Transactions Related to the BPT liability
1.Determination of Taxable Business income

TBP shall be determined as:

TBP= Revenues - CGS - OE

Special items that Reduce a Business Profit Tax

 There are tax provisions to pay taxes in advance under: Tax withholding system of the country
 Tax benefit as a result of loss carry forward and loss carry back.
Thus, the BPT is adjusted for factors such as:

 Loss Cary Forward:

 Loss Cary Back:
 Withholding of Business Profit Tax
 Foreign Income Tax Credit and
 Investment Income Tax Credit.

Adjusting Business Profit Tax

1. Loss Carry Forward and Loss Carry Back

 -Loss Cary Back: is a tax provision that allows:

Operating losses to be used as tax shield to reduce taxable

income in prior years.

 Loss Carmry-Forward: is a tax provision that allow:

Operating losses to be used as a tax shield to reduce taxable income of future years.

In some countries losses can be carried back and/or forward.

2. Withholding Income Tax (Withholding Profit Tax)

1. Collection of withholding Income Tax on Imports

-The current business profit tax shall be collected as: Time of import of goods for commercial use and
treated as tax withheld that is deductible rom BPT of the current year.

>The amount of withholding shall be 36 of CIF value on

imported trading goods (whether the freight paid by theimporter or not doesn't matter).
Withholding of income Tax on Organizations:

 Having Legal Personality,

 Government Agencies,
 Private Nonprofit Institutions, and
 Non-Governmental Organizations ("NGOs")
 Shall withhold profit tax as
The time of payments at 2% of the gross amount of the payment on:

 Supply of goods exceeding Br. 1o,o00 & services Br. 3,0oo.

Withholding e Declaration

The withholder is required to declare WHIT. Declaration on monthly basis.

Withholding Tax Declaration form has four Sections:

 Taxpayer Information;
 Declaration Details;
 Tax Declaration Summations; and
 Taxpayer Certification
Foreign Tax Credit and Investment Tax Credit

 Both are direct reduction from BPT to be paid.

A. Foreign Tax Credit:

 Refers to reduction of BPT for income tax paid in foreign

country from foreign source income.

 If during tax period a resident derives foreign source

income

 The Income Tax payable by that resident in respect of that income shall be reduced by the amount
of foreign tax payable on such income.

 Amount of foreign tax payable shall be sustained (validated)by appropriate evidence such as:

 Tax assessment,
 a withholding certificate or
 Any other similar document accepted by Tax Authority.

 The reduction of tax prescribed shall be calculated separately in respect of each foreign country
from which income or profit is derived.
  Proclamation 979, Article 70 stated that a taxpayer who derives income from d/t sources subject
to the same schedule shall be assessed on the aggregate of such income.

B The Investment Tax Credit

 Refers to immediate reduction of BPT for some| investment made during the tax period.
 In Ethiopia, there is no tax provision relating to ITC
 Businesses can take advantage of foreign tax credit as per Art. 70 or Proclamation No.979/2016