OVERVIEW: AN ANALYSIS OF THE TAX LAWS (AMENDMENT) ACT, 2020

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The Tax Laws (Amendment) Bill, 2020 (the “Bill”) was assented to by His Excellency President Uhuru Kenyatta on 25th April 2020, a month after he announced measures to cushion citizens from the effects of the COVID-19 pandemic (the “COVID-19 measures). 

The Tax Laws (Amendment) Act, 2020 (the “Act”) amends the Income Tax Act (“ITA”), the Value Added Tax Acts (“VATA”), the Excise Duty Act (“EDA”), the Miscellaneous Fees and Levies Act (“MFLA”) and the Tax Procedures Act (“TPA”) and the Kenya Revenue Act, Act No. 2 of 1995 (the KRA Act).

This alert updates our alert of 8th April 2020 outlining the measures included in the Bill and should be read in conjunction with that alert.  The provisions of the Act are effective as of Saturday, 25th April 2020, which is the date of assent of the Act, other than the changes in respect of the taxable value of fuel and other products which will be effective from 15th May 2020.  We have raised below under the COVID-19 measures a point about effective dates.

While the Act has reduced the number of amendments that were proposed under the Bill, there remain a number that will impact the economy of the country post the pandemic, which has unusually brought global economic activity to a virtual standstill. 

A. THE COVID-19 MEASURES

The key measures announced by the President involved the reduction of various tax rates as a means to provide economic stimulus to the country by creating more disposable income for taxpayers.  The Act contains the following measures:

  1. An increase in the personal relief to KES 28,800 per annum (KES 2,400 per month) from the current KES 16,896 per annum (KES 1,408 per month).
  2. A reduction of the top rate of income tax for individuals from the current 30% to 25%. The top rate of tax will now apply on monthly income in excess of KES 57,333.
  3. A reduction in the corporation tax rate from the current 30% to 25%.
  4. A reduction in the top rate of tax for pensions.
  5. A reduction in the rate of turnover tax from the current 3% to 1%. The tax will now apply on turnover in excess of KES 1 million (the original proposal was KES 500,000) and not exceeding KES 50 million.

The reduction in the standard rate of VAT from 16% to 14% was introduced through a gazette notice, which was subsequently ratified by Parliament as required by the VATA, with effect from 1 April 2020.

Putting it into Perspective

While, these measures are welcome, it is clear that, other than the reduction of the standard rate of VAT, the income tax reductions will have more impact post the pandemic.  What is needed during the course of this crisis is financial support to the vulnerable in society which was markedly absent from the President’s announcement, although there have been subsequent attempts to address this.

A reduction in both direct and indirect tax rates should, at least in the long term, increase tax collections in Kenya as more taxpayers seek to comply rather than evade tax and face penalties.  There is empirical evidence of this going back to the nineties when our tax rates were brought down to 30%.

The Act received Presidential assent on 25th April 2020, which given the judgement in Okiya Omtatah Okoiti v Cabinet Secretary, National Treasury and 3 others, Petition 253 of 2018, should be the effective date for the measures included.  However, the Constitution of Kenya under Article 116 provides that legislation cannot take effect until an Act is gazetted in the Kenya Gazette.  Given the urgency of at least the rate changes, we note that the Act was gazetted on 27th April 2020. 

Notwithstanding the above, there is confusion of how the personal tax rate changes will take effect.  This does not present a problem for the reduction of corporate tax, which under the Act applies for the year of income 2020 and subsequent.  For personal tax and in particular application of PAYE, the tax period is the month in which the income is earned.  Therefore, the assumption is that the new rates will be applicable for the month of April, subject to the iTax system being updated for the new rates.  Given that PAYE returns and payments need to be made on or before the 9th of the following month, there should be sufficient time to address this concern.

Clearly the intention is for the change of rates to apply from 1st April 2020 and that the tax paid for the first quarter of the 2020 will be at the old rates.  The issue that arises is that on filing ones annual self-assessment return, the iTax system applies the annual rates and does note, at least currently, have a provision to have two sets of rates for a year of income.  On the assumption that the system cannot be amended for 2020, we are likely to find ourselves in the strange position of most employed people being in a refund for the year.  Again, this cannot have been the intention but a solution will need to be found.

B. MEASURES IN THE BILL THAT HAVE BEEN DELETED FROM THE ACT

The following measures that were included in the Bill have been deleted in the Act and thus remain in force:

INCOME TAX

  1. The following items have been retained as deductible expenditures:
    1. Legal costs, incidental expenses and rating costs for listing on any securities exchange operating in Kenya.
    2. Capital expenditure incurred on the construction of social infrastructure.
    3. Contributions to Registered Home Ownership Plans.
    4. Subscriptions and fees to trade associations.
    5. Club subscriptions paid by an employer on behalf of an employee.
  1. The exemption from capital gains for individuals on the sale or transfer of principal private residences, transfers of land not exceeding KES 3 million and agricultural land of less than 50 acres situate outside municipalities, gazetted townships or urban area have been retained as income exempt from capital gains tax.
  2. Exemptions for the following classes of income have been maintained:
    1. The income of a registered home ownership savings plan;
    2. Income of the National Social Security Fund;
    3. Investment income of a pooled fund or other kind of investment consisting of retirement schemes whose constituent schemes are registered by the Commissioner;
    4. Interest income accruing from listed bonds, notes or other similar securities used to raise funds for infrastructure and other social services with a maturity of at least three years;
    5. Interest income accruing from listed bonds, notes or similar securities used to raise funds for infrastructure, projects and assets defined under Green Bonds Standards and Guidelines, and other social services with a maturity of at least three years; and
    6. Monthly or lump sum pensions granted to a person who is sixty-five years of age or more; and
    7. Interest earned on deposits in a registered homeownership plan up to a maximum KES 3,000,000 are exempt to tax.

The repeal of preferential corporation tax rates for newly listed companies has been retained in the Act.

Putting it into Perspective

The maintenance of the above provisions is welcome but it is clear that there are other amendments which were included in the Bill that are counterproductive for certain industries and may not provide the right stimulus post the pandemic.

The change in respect of principal private residence being exempt from capital gains tax is an important one as its removal would have had a detrimental impact on the housing industry and discouraged home ownership.

Similarly reinstating the exemption from tax on interest earned from infrastructure and green bonds is a positive move; keeping mind that the Government is likely to issue more of such bonds, and there was some confusion as to the possibly retroactive applicability of the removal of the exemption on existing infrastructure bonds!

Value Added TAX

  1. The following items that the Bill had proposed to remove from the exempt schedule have been retained and the items thus remain exempt from VAT, which is quite welcome:
    1. fertilisers;
    2. taxable supplies for the construction of liquefied petroleum gas storage facilities;
    3. specialised equipment for the development and generation of solar and wind energy, including deep cycle batteries which use or store solar power;
    4. entry fees into national parks and national reserves/services of tour operators, excluding in-house supplies;
    5. inputs or raw materials supplied to solar equipment manufacturers for manufacture of solar equipment or deep cycle-sealed batteries which exclusively use or store solar power;
    6. plant, machinery and equipment used in the construction of a plastics recycling plant;
    7. helicopters, aeroplanes, other aircraft of unladen weight not exceeding 2,000 kg as well as other ground flying trainers and parts of aeroplanes and helicopters;
    8. made up fishing nets of man-made textile material of tariff number 5608.11.00;
    9. mosquito nets of tariff number 6304.91.10;
    10. materials, waste, residues and byproducts, whether or not in the form of pellets, and preparations of a kind used in animal feeding;
    11. tractors other than road tractors for semitrailers;
    12. inputs or raw materials locally purchased or imported by manufacturers of agricultural machinery and implements upon approval by the Cabinet Secretary for Industrialization; and
    13. inputs for the manufacture of pesticides.
  1. The following items that were proposed to be classified as exempt by the Bill have been moved back to zero rated, which is a welcome move:
    1. ordinary bread; and
    2. milk and cream, not concentrated nor containing added sugar or other sweetening matter of the specified tariffs.
  1. The following items that the Bill had proposed to remove from zero rating have been retained as zero rated:
    1. agricultural pest control product;
    2. inputs or raw materials for electric accumulators and separators including lead battery separator rolls whether or not rectangular or square supplied to manufacturers of automotive and solar batteries in Kenya; and
    3. taxable goods supplied to marine fisheries and fish processors upon recommendation by the relevant state department

Putting it into Perspective

The above are all welcome moves.  The reinstatement of agricultural products such as pesticide and machinery is important given the contribution of this sector to Kenya’s economy.  Similarly, reinstating the construction of liquefied petroleum plants and entry to national parks will benefit sectors that will need revival post the pandemic.

Reinstating bread and milk to zero rating will allow suppliers to claim refunds for their excess input tax and should result in prices being maintained for what are essential products.

Excise duty

The Bill had amended the provisions relating to the import of sugar confectionery and white chocolate by exempting them from Excise Duty.  This amendment has been reversed.

Putting it into Perspective

There is no reason for exempting these products from excise duty and this reversal is the correct move.

Miscellaneous fees and levies

The Bill had sought to remove the limit on project value of KES 200 million that had been set for exemption from Railway Development Levy (“RDL”) and allow the Cabinet Secretary responsible for the National Treasury to determine exemption on all RDL if it was in the public interest.  This has been reversed in the Act.

Putting it into Perspective

There was no reason to remove the set limit and the reversal seems to be the correct move.

C. NEW MEASURES INTRODUCED IN THE ACT

The following new measures have been introduced in the Act:

Value added tax

The Act now exempts supplies of personal protective equipment, including facemasks, for use by medical personnel in registered hospitals and clinics, or by members of the public in the case of a pandemic or a notifiable infectious disease.

Putting it into Perspective

The COVID-19 crisis has, globally, shown that health services are not at the levels they should be.  In particular the lack of availability of Personal Protective Equipment (“PPE”) has put considerable strain on the services.  The move to exempt these products is welcome although one hopes that the exemption will stay in place post the pandemic.

D. MEASURES THAT WERE PROPOSED IN THE BILL HAVE BEEN RETAINED IN THE ACT

The following measures were proposed in the Bill and have been passed with little or no amendment:

INCOME TAX

  1. withholding tax is now applicable on sales promotion, marketing, advertising services, the transportation of goods (excluding air and shipping transport services) paid to non-residents at the rate of 20%. A proviso has been introduced in the Act exempting transport services within the East African community;
  2. withholding tax is now applicable on reinsurance premiums at the rate of 5%;
  3. withholding tax rate on dividends paid to non-residents has been increased from the current 10% to 15%;
  4. the expansion of qualifying interest, received by a Kenya resident individual, rather than just bank, building society and that earned from the Central Bank;
  5. repeal of the electricity rebate provisions for manufacturers;
  6. exemptions for the following classes of income have been repealed:
    1. interest earned on contributions paid into the Deposit Protection Fund established under the Banking Act;
    2. dividends received by a registered venture capital company, special economic zone enterprises, developers and operators licensed under the Special Economic Zones Act;
    3. gains arising from trade in shares of a venture company earned by a registered venture capital company within the first ten years from the date of first investment in that venture company by the venture capital company: Provided that the venture company has not been listed in any securities exchange operating in Kenya for a period of more than two years;
    4. interest income generated from cash flows passed to investors in the form of asset-backed securities;
    5. dividends paid by special economic zone enterprises, developers or operators to non-resident persons; and
    6. compensating tax for power generating companies. This exemption was relevant when compensating tax was still in the law.
  1. repeal of the Second Part of the First Schedule to the ITA in respect of interest earned on particular securities.
  2. the revision to the capital allowances claimable under the ITA as set out in the table below:

Capital Expenditure

Current Allowance

New Allowance

Buildings

Hotel Building

100%

50% in the first year of use.

Residual value at 25% per

year on a reducing balance basis.

Hospital Buildings

-

Petroleum or gas storage facilities

150% in the first year of use

Building Used for manufacture

100% if within the municipalities of Nairobi, Mombasa or Kisumu or 150% if outside such municipalities

Educational buildings including student hostels

50% per annum in equal

instalments.

10% per year  on reducing balance.

Commercial buildings

25% per annum.

Machinery

Machinery used for manufacture

100% in the first year of use

50% in the first year of use  and then 25% per year on a reducing balance

Hospital equipment

-

Ships or aircraft

Purchase of new ship of 125

tons gross-

100% in the first

year of use.

 

Other ships-

12.5% per annum on a reducing balance basis

 

Aircraft

25% per annum on a

reducing balance basis

Motor vehicles and heavy earth moving equipment

Heavy earth moving

equipment- 37.5% on a

reducing balance

Other motor vehicles- 25%

on a reducing balance

25% per year, on a reducing balance basis

Computer and peripheral computer hardware and software, calculators, copiers and duplicating machines

30% per annum on a reducing balance basis

 

Software allowance – 20% on a straight-line basis

25% per year, on a reducing balance basis

Telecommunications Equipment

20% on a straight-line basis

10% per year, on reducing

balance basis

Furniture and fittings

12.5% per annum on a

reducing balance basis

Filming equipment by a local film producer licensed by the Cabinet Secretary responsible for filming

100% in the first year of use

25% per year, on reducing balance

Machinery used to undertake operations under a prospecting right

-        

50% in the first year of use and 25% per year, on a reducing balance basis

Machinery used to undertake exploration operations under a mining right

-        

Other machinery

12.5% per annum on a

reducing balance basis

10% per year on a reducing

balance basis

Purchase or an acquisition of an indefeasible right to use fibre optic cable by a telecommunication operator

5% on a straight-line basis

Farm works

50% in the first year of use and 25% per year thereafter on a reducing balance basis

50% in the first year of use and 25% per year thereafter on a reducing balance basis

 

Putting it into Perspective

The amendments to the capital allowance provisions significantly reduce the capital allowances amount allowed for businesses, and in particular, those with significant capital expenditures are able to claim. This had also been proposed in the yet to be enacted Income Tax Bill. Businesses incurring these capital expenditures will pay higher taxes and record lower tax losses. In our view these amendments are unlikely to lead to a significant decrease in investments provided there is tax certainty and a conducive business environment. In most cases the effect will simply be a timing difference and in any event could allow for distributions from accounting profits despite tax losses (which will reduce with reduced allowances) without attracting the 30% distribution tax.

Transfers of assets between related resident entities cannot now be done at the written down values of such assets but at the market value of such assets. This will result in asset transfers between related entities for restructuring purposes becoming quite expensive and resulting in taxes being payable.

Value added tax

  1. The change to the taxable value of petroleum and other products remains in the Act.
  2. Extension of the time line for issuing a credit note where there is a dispute that has gone to Court or arbitration.
  3. Time lines for seeking bad debt relief.
  4. The requirement for non-registered persons to maintain records for five years.
  5. The following exempt items have not been reclassified in the Act and will therefore now be subject to standard rate VAT:
    1. Plants and machinery used for the manufacture of goods;
    2. Taxable supplies in respect of construction of a power generating plant;
    3. Taxable supplies used geothermal, oil or mining prospecting or exploration ;
    4. Transfer of business as a going concern from a registered person to another registered person;
    5. Plastic bag biogas digesters;
    6. Biogas and Leasing of biogas producing equipment;
    7. Parts imported or purchased locally for the assembly of computers;
    8. Taxable goods purchased or imported for direct and exclusive use in the construction and infrastructural works in industrial parks of one hundred acres or more including those outside special economic zones;
    9. Museum and natural history exhibits and specimens and scientific equipment for public museums; and
    10. Materials and equipment for the construction of grain storage facilities.
  1. Certain medicaments were moved from zero rated to exempt and the Act has not reversed this.
  2. The following zero rated items will now be subject to standard rate VAT:
    1. asset transfers and other transactions related to the transfer of assets into real estate investment trusts and asset backed securities;
    2. insurance agency, insurance brokerage and securities brokerage services; and
    3. taxable services provided for direct and exclusive use in the construction and infrastructural works in industrial and parks of one hundred acres or more including those outside special economic zones

Putting it into Perspective

This change to taxable value will, unfortunately, make these products more expensive for the consumer but it does bring it in line with the basis of arriving at taxable values generally accepted under the VATA.

The fact that the purchase or import of plant and machinery used for manufacture of goods will now be subject to VAT at the standard rate is a concern.  Clearly, the country will need, post the pandemic, to boost manufacturing capacity both as a source of employment and to ensure that the supply chain, particularly from China, is not interrupted by future similar events. The changes will also have a negative impact on the development of renewable energy projects as well as on geothermal, oil or mining prospecting or exploration, by increasing the capital expenditure component of such projects.

Important to note for businesses is that the exemption from VAT for transfer of businesses as a going concern from one registered owner to another will no longer be exempt from VAT.  This is will adversely impact expected business sale and restructurings post COVID – something the Government seems not to have considered!  The current ITA provides for a transfer at tax written down value between related parties, which has now been repealed.

Medicaments moving from zero rated to exempt will have a significant impact on the pharmaceutical industry and result in increased prices as manufacturers will not be able to recover their input tax.

Bringing insurance related services into the tax net will no doubt make this important product more expensive and seems to go against the stated policy of deepening the availability of insurance to the public.

Miscellaneous fees and levies

The following amendments have been retained in the Act:

  1. Increase in the Import Declaration Fee (“IDF”) on raw materials and inputs from the current 1.5% to 3%.
  2. Introduction of a processing fee of KES 10,000 on motor vehicles imported or purchased locally.
  3. IDF has been introduced at 3.5% on:
    1. gifts or donations, excluding motor vehicles, by foreign residents to their relatives in Kenya for their personal use; and
    2. samples which in the opinion of the Commissioner have no commercial value.
  1. Exemption for goods imported for the construction of liquefied gas storage facilities as approved by the Cabinet Secretary responsible for liquefied petroleum gas.

Putting it into Perspective

These amendments are contrary to the President’s Big 4 Agenda which includes the promotion of the local manufacturing sector as it increases the cost of manufacturing due to the high cost of supplies. This could likely be an attempt to raise more revenue from the imports due to the substantially subdued import volumes attributable to the supply chain disruptions caused by the COVID-19 outbreak.

Special operating framework arrangements

Special Operating Framework Arrangements (“SOFA”) were introduced in 2019 as a means for government to agree favourable tax rates and arrangements on key projects in the country.  These have now been removed from all revenue laws.

Putting into Perspective

It is surprising that SOFA is being repealed as it was seem as an important provision in development projects.  There are several projects that will have long term benefits to the country that are likely to be impacted – for example various roads projects, crude oil exploration and crude oil pipeline projects.  In a post COVID 19 era, Kenya will need as much investment in infrastructure as possible – and unless the Government can grant specific tax and fiscal incentives to sponsors, they may decide to move their infrastructure spend to other countries.

Tax procedures act and Kenya revenue authority act

The measures that were included in the Bill have been retained except that the removal of the time limit for the Commissioner responding to a private ruling request has been reversed and a limit of 60 days introduced.  The current law provides for 45 days.

Putting into Perspective

Reintroducing a time limit for private rulings is important as these are needed to obtain clarity around ones tax affairs.