Demystifying Minimum Tax

The Finance Act, 2020 which was assented on 30th June, 2020 introduced a new tax known as ‘Minimum Tax’, which will be effective as from 1st January, 2021. Minimum Tax is chargeable on the gross income of a business/entity, before deduction of any business expenses. The introductory tax rate is 1% of the gross income and the tax is due by the 20th day of the fourth, sixth, ninth and twelfth month of the accounting year just like the instalment tax payment model.

Usually, businesses are structured as companies, partnerships or at the simplest level, in the individual’s personal capacity (sole proprietorships). Minimum Tax affects each of these structures in different ways, and the grey areas created may need to be clarified by subsequent rules and legislation. Here’s why.

Minimum tax has not been classified as a final tax, and this means that other income taxes like corporation tax and pay-as-you-earn (PAYE) would still be chargeable on incomes that are subject to Minimum Tax.

For companies, the Minimum Tax would be a prepayment of tax, much like the instalment tax. The company computes its taxable income in the normal manner (Gross Taxable Incomes – Allowable Expenses), and subjects the Net Taxable Income to the applicable tax rate. The Minimum Tax paid would then be a tax credit (just like instalment tax), and would be factored in computing Balance of Tax.

{Balance of Tax = Total Tax Due – Minimum Tax – Withholding Tax – Other Tax Prepayments}

Partnerships are either general partnerships or limited liability partnerships (LLPs), and both are taxed in the same manner. The partnership is not taxed, but rather the partners are taxed on their share of profits. If the partner is a company, then corporation tax applies. On the other hand, PAYE is applicable to individuals.

For a partnership to pay the Minimum Tax dutifully, the gross income share attributable to each partner may need to be computed four times a year so that each partner can pay their tax. Whereas this would be straightforward for a company in the partnership, the same cannot be said for the individual as we shall see below.

Individuals can run businesses in their own name as sole proprietorships, or they can receive their share of profits from partnerships. Such business income is taxed under the PAYE system which has a graduated scale and is subject to tax reliefs and deductions.

The interplay between the Minimum Tax requirement and the PAYE system is not clear. Going by the maxim that ambiguities in tax legislation should be resolved in favour of the taxpayer, then the individual may opt to adopt the PAYE system and ignore the Minimum Tax requirement.

It is important to note that Minimum Tax is not applicable to:

  1. Exempt income;
  2. Employment income;
  3. Residential rental income;
  4. Income subject to Turnover Tax;
  5. Income subject to Capital Gains Tax; and
  6. Income of entities operating in the Extractive Sectors.

Conclusion

Unfortunately, the taxman has gone for the taxpayers’ jugular by imposing the Minimum Tax at a time when businesses will be struggling to recover from the COVID-19 pandemic. Beyond increasing the taxpayers’ compliance costs, this tax will negatively impact on the ease of doing business in Kenya, and the country may lose its competitive edge to other countries in the region.

It is not in contention that Kenya has a huge fiscal deficit (840 Billion in the financial year 2020/21), and the Minimum Tax is expected to reduce it by widening the tax base as well as tax deepening. However, the preferable policy would have been to check on government spending, and most importantly to slay the corruption dragon.

As we wait for a new dawn in Kenya, it is the taxpayers’ obligation to comply with tax legislation, and the highlights above will prove helpful. For additional support, you can reach us on concepts@parexcellence.co.ke

Employees: Do you have a Tax Refund?

When tax refunds are being discussed, usually what comes to mind is monies owed by the Kenya Revenue Authority (KRA) to corporates. However, even individual taxpayers are entitled to refunds from KRA when they overpay their taxes.

Every end of the month (or other period as determined by the employment contract) an employee receives salaries or wages as payment for services rendered. Ironically, the government receives its share even before the employee has an opportunity to enjoy the fruit of their labour. This is effected through the pay-as-you-earn (PAYE) system.

Under PAYE, the employer deducts the tax payable by the employee from the gross salary. The tax payable should be net of any reliefs and deductions. The employer then pays the employee their net salary, after deducting the tax remitted to the KRA.

The tax reliefs and deductions applicable to individuals are as follows:

 Relief/DeductionMonthly (Kshs.)Annual (Kshs.)
1.Personal1,40816,896
2.Insurance – Life/Educ. (15% premium)Max. 5,000Max. 60,000
3.Pension (Actual/30% pensionable income)Max. 20,000Max. 240,000
4.Mortgage Interest (owner occupier)Max. 25,000Max. 300,000
5.Home Ownership Savings PlanMax. 8,000Max. 96,000
6.Disability ExemptionMax. 150,000Max. 1,800,000
    

Where an employee is entitled to these tax reliefs but fails to get them, they end up overpaying tax. Tax overpayments may also occur where the monthly tax rates result in higher taxes as compared with the annual tax rates e.g. If an employee works for only part of the year.

Any tax overpayments should be calculated and declared by the employee in their annual return. Where the employee fails to claim the tax overpayment, an amended return can be filed at any time.

The filing of the annual return showing a tax overpayment does not result in an automatic tax refund. The employee/taxpayer should take the next step of making a tax refund application. This is done on iTax (KRA’s online platform) and an acknowledgment receipt is generated. This acknowledgment receipt should then be forwarded to KRA together with documents supporting the refund e.g. P9 form, insurance premium certificate, mortgage certificate, etc.

Upon successful application, the tax refund is paid to the taxpayer’s bank account within ninety (90) days.

A note to business owners/self-employed persons

The reliefs and deductions discussed above are also applicable to individuals who are self employed e.g. in partnerships, sole proprietorships, etc. If the business owner earns a monthly salary, the deductions should be made each month and the above section on ‘employees’ would be applicable.

If however the business owner receives their share of business profit at the end of the year, the reliefs/deductions should be subtracted from this income using the annual rates.

Wrap Up

Though individuals should be diligent in paying their taxes, they are not expected to overdo it. Fortunately, the procedure for getting a tax refund is pretty straightforward and the timelines for receiving the cash are reasonable. The tax refunds are an efficient source of cashflow and taxpayers should not shy away from claiming their entitlements.

If you require support in amending your returns or applying for a tax refund, we are ready to assist. You can reach us on concepts@parexcellence.co.ke Store your grain not in your neighbour’s granary, but in your own!