The Tax Laws (Amendment) (No. 2) Bill, 2020 (the Bill) has been gazetted with the view of making changes to various tax laws as discussed further below. Once enacted, the Bill shall come into force on 1 January 2021. However, we note that the National Assembly is currently in recess up to 8 February 2021 and it is therefore unclear whether it will be reconvened earlier to pass the Bill and have it in force by 1 January 2021.
1. Clarity on the Provisions on Minimum Tax
The Finance Act, 2020 amended the ITA to the effect of introducing Minimum Tax which will be payable at the rate of 1% of the gross turnover of a person effective 1 January 2021. Pursuant to the amendment, the ITA currently provides that Minimum Tax shall be payable by a person if the instalment tax payable by them is higher than Minimum Tax. This provision will consequently require taxpayers with instalment taxes higher than 1% of their gross turnover to additionally account for Minimum Tax.
The intention of the Minimum Tax regime, however, was such that all taxpayers would pay at least 1% of their gross turnover as tax for each year of income. The proposed amendment therefore serves to correct a manifest drafting error in the ITA to make it clear that Minimum Tax shall only be applicable to taxpayers whose instalment taxes are lower than Minimum Tax. For a year of income where a taxpayer’s instalment taxes are higher than 1% of their gross revenue, they shall only be required to account for instalment taxes but not Minimum Tax.
Despite efforts by the business community through the various industry lobby groups, it seems that Minimum Tax is here to stay, and the government is committed to implementing it.
The proposed amendment is welcome as it provides some clarity although there are still several issues that remain unclear even as the Minimum Tax provisions come into force from 1 January 2021. Taxpayers are still grappling with questions such as whether the Minimum Tax will be considered an advance tax which can be utilised in future periods or not.
Before operationalisation of the provisions, taxpayers had hoped that Minimum Tax exemptions would be given to start-ups that were in their first few years of operation or companies that have invested in significant capital expenditure and have therefore benefited from investment deductions leading to tax losses. Investors might be forced to fund the Minimum Tax from their pockets before their businesses turn a profit and some business models might not be able to survive this. For companies in tax losses due to capital allowances, paying Minimum Tax is akin to the government giving with one hand and taking with the other and this does not encourage investment into the country.
The Minimum Tax provisions as currently drafted are also expected to have far-reaching implications, especially on businesses which have been negatively impacted by the COVID-19 pandemic and are currently in financial distress as they are likely to be required to pay 1% of any income earned as Minimum Tax.
Entities with high revenues but low margins will also be adversely affected as they may be required to pay tax while they would have ordinarily either paid a lower tax or not been in a tax-paying position from a corporate tax perspective.
We expect that the Kenya Revenue Authority will issue administrative guidelines for the operationalisation of Minimum Tax and hopefully address some of the administrative uncertainties, although this is unlikely to address some of the anticipated commercial challenges noted above. It was expected that the National Treasury would have considered the input provided by various players such as exemptions or delayed implementation given the challenges currently facing businesses in the country.
2. The Double-Edged Sword of Personal Tax Changes
The Tax Laws (Amendment) Act, 2020 (the TLAA) reduced the marginal tax rate on Pay as You Earn (PAYE) from 30% to 25% as a temporary measure to minimise the economic impact of the COVID-19 pandemic on employees from 25 April 2020. Additionally, the TLAA increased the tax-free income to KES 24,000 (approx. USD 215) with a view of cushioning low-income employees. As a result, tax relief for employees was increased from KES 16,896 to (approx. USD 150) KES 28,800 (approx. USD 260) annually.
The Bill now proposes to revert the marginal tax rate on PAYE to 30% with effect from 1 January 2021. This is in view of the fact that the reduction was a temporary measure and reversion to the previous tax rates is necessary given the easing of some containment measures and subsequent resumption of normalcy (see the press release dated 4 December 2020 by the National Treasury here).
It should be noted, however, that the tax-free income of KES 24,000 (approx. USD 215) has been maintained to continue cushioning low-income earners even as economic activities continue to improve.
We also note that there have been slight changes in the individual tax rates to the effect of subjecting employees earning higher than KES 888,000 (approx. USD 7,965) a year to the higher tax rate of 30% as opposed to the previous regime where employees earning more than KES 564,708 were subject to 30%. This may be seen as a beneficial measure to further stagger the effects of PAYE on employees.
The Bill proposes to replace the current tax brackets with the following rates:
|Annual PAYE Bands|
|Current Rate of Tax %||Current Tax Band under ITA (KES)||Proposed Rate of Tax %||Proposed Tax Bands Under the Bill (KES)|
|10%||On the first 288,000||10%||On the first 288,000|
|15%||On the next 200,000||15%||On the next 200,000|
|20%||On the next 200,000||20%||On the next 200,000|
|25%||All income above 688,000||25%||On the next 200,000|
|30%||All income above 888,000|
It is important to note that as much as the highest PAYE rate has reverted to 30% from the reduced rate of 25%, the proposed rates are still more favourable compared to the rates applicable before the changes by the TLAA because of the following issues:
The above measures ensure that low-income earners will be shielded from the increase in the tax rates by ensuring their income is still taxed within the lower tax bands.
The withholding tax (WHT) rates on pension withdrawals which had also been reduced in line with the PAYE bands have also been amended. Pension withdrawals before the expiry of 15 years after joining the fund shall be subject to WHT based on graduated bands with rates similar to the proposed PAYE rates above. However, withdrawals after 15 years after joining the fund shall be subject to WHT based on the rates that applied before the TLAA as tabulated below:
|Pension Withdrawal Rates|
|Current Rate of Tax %||Current Tax Band Under ITA (KES)||Proposed Rate of Tax %||Proposed Tax Bands Under the Bill (KES)|
|10%||On the first 400,000||10%||On the first 400,000|
|15%||On the next 400,000||15%||On the next 400,000|
|20%||On the next 400,000||20%||On the next 400,000|
|25%||All income above 1,200,000 of the tax-free amounts||25%||On the next 400,000|
|30%||Income of 1,600,000 of the tax-free amounts|
3. Reversion of corporate tax rates
The TLAA reduced the rate of corporate income tax from 30% to 25% as a reprieve to businesses following the effects of the COVID-19 pandemic on the Kenyan economy. The Bill clarifies that the 25% corporate income tax rate will only apply to income earned from 25 April 2020 to 31 December 2020 with the 30% rate proposed to revert effective 1 January 2021.
The changes are likely to pose a headache to corporate taxpayers who will have to apportion their income between the rates of 25% and 30% depending on their financial year end. However, we believe the introduction of Minimum Tax will be the most significant change to corporate taxation from 1 January 2021.
4. Amendments to the Value Added Tax Act, 2013 (the VAT Act)
Pursuant to the First Schedule of the VAT Act, taxable goods imported or purchased for the implementation of official aid-funded projects upon approval by the Cabinet Secretary for National Treasury (the CS) are exempt supplies for VAT purposes.
The Bill introduces a new provision to the effect of allowing manufacturers to deduct their input VAT from their output VAT with respect to taxable supplies made to an official aid-funded project as may be approved by the CS.
Manufacturers and other taxpayers who make exempt supplies in excess of 10% of their total sales are required to ‘restrict’ their input VAT and are therefore not allowed a full claim of the input tax incurred. In this regard, a manufacturer making exempt supplies is currently not allowed to claim the input VAT utilized in making the exempt supplies. This means that the manufacturers shoulder the input VAT not claimed and, in most cases, this is passed on to consumers by way of higher prices. The proposed change is therefore welcome as it ensures that manufacturers will still be entitled to claim the input VAT incurred in making the supplies to bodies exempt for VAT purposes.
We also note that the National Treasury in its press release noted that the VAT rate will also revert to the previous rate of 16% up from the current 14%. However, this change has not been included in the Bill given the CS has powers under the VAT Act to vary the VAT rate. We therefore expect the CS will issue a Gazette Notice before the end of the year effecting the change in the VAT rate effective 1 January 2021.
ALN Kenya | Anjarwalla & Khanna
ALN Kenya | Anjarwalla & Khanna