CPA | CIFA – Public Finance and Taxation Revised Notes

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KASNEB SYLLABUS

PAPER NO. 12 PUBLIC FINANCE AND TAXATION

UNIT DESCRIPTION

This paper is intended to equip the candidate with knowledge, skills and attitudes that will enable him/her to apply public financial management principles, implement public financial management regulations at middle management levels and to prepare non-complex tax computations for individuals and corporates.

LEARNING OUTCOMES

      A candidate who passes this paper should be able to:

  • Apply public financial management requirements in practice in non-complex environments in both the public and private sectors
  • Compute taxes for various individuals and entities
  • Apply the written taxation laws in addressing various tax issues
  • File tax returns
  • Undertake non-complex tax reviews.

CONTENT

  1. Introduction to Public Financial Management
  • Nature and scope of public finance
  • Sources of public finance
  • Objectives of the Public Financial Management Act and Financial regulations
  • Budget process for national, county and public entities, Development plan preparation, Treasury circulars, Cash flow projections, Budget estimates and revenue raising measures.
  • Role of the National Treasury and County Treasuries with respect to the management and control of public finance.
  1. Relationship between National and County Governments on budget and economic matters
  • The process of sharing revenue between national and county governments and among the county governments: Factors considered and formula used
  • Division of revenue bill and county allocation of revenue bill
  • The role of the Commission on Revenue on Allocation (COR)
  • The role of the Council of Governors in county financial management
  • National Government public funds: The Consolidated Fund; The Contingency fund; The Equalisation fund and Other National Government public funds
  • County Government public funds;County Revenue Fund; County Government Emergency Funds and other county public funds
  • County government revenue sources.
  1. Oversight Function in Public Finance Management
  • The role of National Assembly: Responsibilities of the National Assembly budget committee in public finance matters
  • The role of Senate: Responsibilities of the Senate budget committee in public finance matters
  • The role of Parliamentary Budget Office
  • The role of Auditor General
  • The role of Internal Audit
  • Role of Controller of Budget
  • The role of public sector accounting standards board
  1. Procurement in public entities
  • Introduction to Public Procurement and Disposal (PPD) Act
  • Procurement guidelines as envisaged by PPD Act
  • Procurement process by National, County and other public entities: The role of the National Treasury, Public Procurement Regulatory Authority and Public Procurement Administrative Review Board
  • Tendering process and selection of suppliers in public sector
  • Concept of e-procurement
  1. Public Private Partnerships Arrangements
  • Rationale and justification for Public Private Partnerships
  • Establishment of Public Private Partnerships (PPP) Unit in the National Treasury
  • Contract/project agreements, guidelines and standards
  • Composition and role of PPP petition committee
  • Establishment and role of PPP project facilitation fund
  1. Public Debt Management
  • Establishment of debt management office
  • Objectives of debt management in public sector
  • Sources of public debt in Kenya
  • Management of debts by county governments and other public entities
  • Role of the Cabinet Secretary of the National Treasury in public debt management
  • Measures that can be adopted to reduce public debt
  1. Introduction to Taxation
  • Definition of Tax, Taxation and Types of taxes in Kenya
  • History of taxation
  • Classification of taxes; Tax shifting and Factors that determine tax shifting
  • Principles of an optimal tax system
  • Types of tax systems; Single versus multiple tax systems
  • Purposes of taxation/Why the government levy taxes
  • Tax evasion and tax avoidance
  • Taxable capacity
  • Budgetary and Fiscal policies
  • The Revenue Authority; Structure, Functions, Large and Medium Taxpayers Office mandate
  1. Taxation of Income
  • Introduction
    • Basis of charging tax in Kenya: Section 3 of the Income Tax Act
    • Concept of residency and Criteria of taxing income in Kenya.
    • Taxable and non-taxable persons
    • Specified Sources of income
    • Incomes exempted from taxation
  • Taxation of Employment income
    • Taxable cash and non-cash benefits/rewards received from employment
    • Non-taxable cash and non-cash benefits/rewards received from employment
    • Allowable deductions against employment income
    • Tax credits (withholding tax, personal and insurance relief, others)
    • Taxation of lumpsum payment for services rendered and services that would have been rendered; Gratuity, terminal dues, compensation for loss of office.
    • Operations of PAYE systems: Preparation of PAYE returns, categories of employees, multiple sources of income, irregularly paid employees, casual workers, PAYE audit and triggers
    • Other Statutory deductions (NSSF and NHIF)
    • All these should be illustrated with relevant computations including PAYE computations
  • Taxation of Business Income
    • Introduction to taxation of business income including criteria of taxing business income
    • Income Tax Act provisions on computation of business income
    • Allowable and disallowable business expenses and taxable business income
    • Taxable business income and tax payable computations in respect of:
      • Sole proprietorship
      • Partnerships (excluding admissions, retirement of partners and conversions)
      • Incorporated entities (excluding specialised institutions)
    • Taxation of rental income and royalties
    • Taxation of Farming income
    • Taxation of Investment income (Dividend and interest income)
    • Turnover tax and Minimal tax
    • Taxation of Capital gains
    • Taxation of Digital income; digital service tax and Digital service tax agents
    • Withholding Tax
      • Income subject to withholding tax (Dividends, Interest, management and profession fees, royalties)
      • Withholding Tax Rates on Residents and non-residents
      • Introduction to Double Tax Agreements and the impact on withholding tax payments

All the above should be illustrated with relevant basic computations.

 

  1. Investment Allowances/deductions
  • Introduction to capital allowances and Rationale for capital deductions
  • Types of capital allowances; Theory and computations
  • Investment deductions; Ordinary manufacturers
  • Industrial building deductions
  • Wear and tear allowances
  • Farm works deductions
  • Shipping investment deduction
  • Other deductions

All the above should be illustrated with relevant computations

  1. Administration of Income Tax and Tax Procedures
  • Registration and deregistration of tax payers
  • Personal identification number: Issue, uses, cancellation of a PIN
  • Taxpayer’s tax representative: Appointment, liabilities and obligations
  • Tax Returns and Assessments: Self-assessment,Default assessment, Advance assessment,Amendment of assessments
  • Collection, recovery and refund of taxes
  • Tax Decisions, Objections, Appeals and Relief of mistakes
  • Voluntary Tax Disclosure Program
  • Administrative penalties and offences
  • Application of ICT in taxation: Practical use of iTax to file the returns
  1. Administration of Value Added Tax (VAT)
  • Introduction to VAT, Basis of charging VAT and VAT rates
  • Rights and obligations of VAT taxable person
  • Registration and deregistration of businesses for VAT
  • Key terms in VAT: Input tax, Output tax, Supply, Time of supply/Tax point and Taxable value of a supply/Value for VAT supported with relevant calculations
  • Deduction of input tax
  • Accounting for VAT and VAT records
  • Taxable and non-taxable supplies: Zero rated supplies, Exempt goods and exempt services including restriction of input tax claim.
  • Privileged persons and institutions
  • Withholding VAT and withholding VAT agents
  • VAT returns and assessments including VAT Auto Assessments
  • Remission, rebate and refund of VAT
  • Changes to be notified to the commissioner
  • Offences, fines, penalties and interest
  1. Customs Taxes and Excise Taxes
  • Purpose of customs and excise duties
  • Imposition of customs duty
  • Customs procedure
  • Bonded warehouse and bond securities
  • Goods subject to customs control
  • Refund of duty
  • The Simba System/Integrated Customs Management System
  • Imposition of excise duty
  • Excisable goods under excise control
  • Application for excise duty (licensing), issue of licences, Suspension and Cancellation of Licences
  • Excise stamps and Excisable goods management system
  • Refund of excise duty
  • Excise duty returns and payments
  • Offences and penalties
  1. Miscellaneous fees and levies
  • Export levy
  • Import Declaration fee (IDF)
  • Railway Development Levy (RDL)
  • Stamp duty
  • Catering levy
  • Motor vehicle advance tax
  • Betting, Lotteries & Gaming taxes

TOPIC 1

 

INTRODUCTION TO PUBLIC FINANCIAL MANAGEMENT

 

NATURE AND SCOPE OF PUBLIC FINANCE

What is Public Finance?

The word public refers to general people and the word finance means resources. So public finance means resources of the masses, how they are collected and utilized.

Different economists have defined public finance differently. Some of the definitions are given below.

  1. According to Dalton public finance is one of those subjects that lie on the border lie between economics and politics. He says, “Public finance is concerned with the income and expenditure of public authorities, and with the adjustment of the one to the other.“
  2. According to Adam Smith “public finance is an investigation into the nature and principles of the state revenue and expenditure”
  3. According to Findlay Shirras “Public finance is the study of principles underlying the spending and raising of funds by public authorities”.
  4. According to L Lutz “Public finance deals with the provision, custody and disbursement of resources needed for conduct of public or government function.”

Thus, Public Finance is seen as a branch of economics which studies income and expenditure of government.

The discipline of public finance describes and analyses government services, subsidies and welfare payments, and the methods by which the expenditures to these ends are covered through taxation, borrowing, foreign aid and the creation of money.

 

 

NATURE OF PUBLIC FINANCE

Public finance is a science as well as an art. Science is the systematic study of any subject which studies relationship between facts while, In the words of J.N. Keynes, ”Art is the application of knowledge for achieving definite objectives.”

It is a science because we study in it the various principles, problems and policies underlying the spending and raising of funds by the public authorities. It teaches how to collect taxes in the best way and how to maintain them economically and how to spend them properly.

Carl Copping Plehn (January 20, 1867 – July 21, 1945) an American economist and a professor of public finance at the University of California, Berkeley, from 1893 to 1937 advanced the following arguments in favour of public finance being science:

One.  Public finance is not a complete knowledge about human rather it is concerned with definite and limited field of human knowledge.

Two.  Public finance is a systematic study of the facts and principles relating to government revenue and expenditure.

Three. Scientific methods are used to study public finance.

Four. Principles of public finance are empirical.

 

As an art, public finance enables the concerned personnel to adopt the principles and policies in solving the financial problems of the Government in the best possible way to the maximum benefit of the society. The way to be adopted should be logical, suitable and proper according to the time. Application of various principles and policies depends much on the ability of the personnel in the Government how best he can extract from it in the public interest.

Public finance is therefore, both a science and an art. This can either be;

  • Positive science, as well as
  • Normative science.

It is a positive science as by the study of public finance factual information about the problems of government’s revenue and expenditure can be known. It also offers suggestions in this respect.

It is also normative science as study of public finance presents norms or standards of the government’s financial operations. It reveals what should be the quantum of taxes, kind of taxes and on what items less of public expenditure can be incurred.

 

SCOPE OF PUBLIC FINANCE

Public finance as a subject, which studies the income and expenditure of the government, its scope may be summarised in five (5) broad ways as follows:

  1. Public Revenue
  2. Public Expenditure
  3. Public Debt
  4. Financial Administration
  5. Economic Stabilization

 

  1. Public Revenue: Public revenue concentrates on the methods of raising public revenue, the principles of taxation and its problems. It further studies the classification of various resources of public revenue into taxes, fees and assessment etc.
  2. Public Expenditure: This part studies the fundamental principles that govern the flow of Government funds into various streams.
  3. Public Debt: This section is concerned with, the problem of raising loans. The loan raised by the government in a particular year is the part of public revenue.
  4. Financial Administration: This refers to the organisation and administration of the financial mechanism of the Government by relevant Government machinery.
  5. Economic Stabilization: This part describes the various economic policies and other measures of the government to bring about economic stability in the country.

The subject-matter of public finance is not static, but dynamic. As the economic and social responsibilities of the state are increasing day by day, the methods and techniques of raising public income, public expenditure and public borrowings are also changing.

 

 SOURCES OF PUBLIC FINANCE

Sources of government revenue

  • Taxes – these include Income Tax, Customs Duty and Value Added Tax.
  • Trade licenses.
  • Loans from World Bank and International Monetary Fund. These have to be repaid with interest.
  • Aid and grants from friendly countries. These are some form of gifts and do not need to be paid back.
  • Interest on government loans.
  • Rent paid by people occupying government houses and offices.
  • Court fines.
  • Dividends from shares bought by the government in profitable companies.
  • Rates paid by people who own property in urban areas.
  • Profits made by parastatal organisations.
  • Those in the tourism business pay some taxes to the bank.
  • Export from Kenya are sold earning the country income.
  • Profits earned on government loans
  • Profits made from sale of government property.
  • Money made from government institutions.

 

OBJECTIVES OF THE PUBLIC FINANCIAL MANAGEMENT ACT AND FINANCIAL REGULATIONS

Objectives of Public Finance Management Act, 2012

  1. Promote good financial management at the National and County Government level
  2. Facilitate effective and efficient use of limited resources
  3. Have one overarching legislation applied to both levels of governments instead of several PFM laws as was the case before.
  4. Comply with constitutional requirement to enact legislations on public finance listed in the 5th schedule and also mentioned in Chapter 12

 

  

FINANCIAL REGULATIONS 

The national treasury will manage the national government’s public finances in accordance with the constitution and the principles of fiscal responsibility set out below:

 

  • Over the medium-term, a minimum of thirty percent of the national and county government’s budgets shall be allocated to the development expenditure;
  • The national government’s expenditure on wages and benefits for its public officers shall not exceed a percentage of the national government revenue as prescribed by regulations;
  • Over the medium-term, the national government’s borrowings shall be used only for the purpose of financing development expenditure.
  • Public debt and obligations shall be managed at a sustainable level as approved by parliament for the national government and the county assembly for the county government.
  • Fiscal risks shall be managed prudently; and
  • A reasonable degree of predictability with respect to the level of tax rates and tax bases shall be maintained taking into account any tax reforms that may be made in the future.

 

Short-term borrowing shall be restricted to management of cash flows and in case of a bank overdraft facility it shall not exceed five percent of the most recent audited national government revenue.

 

The national treasury shall ensure that the level of national debt does not exceed the level specified annually in the medium-term national government debt management strategy submitted to parliament.

 

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BUDGET PROCESS FOR NATIONAL, COUNTY AND PUBLIC ENTITIES, DEVELOPMENT PLAN PREPARATION, TREASURY CIRCULARS, CASH FLOW PROJECTIONS, BUDGET ESTIMATES AND REVENUE RAISING MEASURES

 

BUDGET PROCESS FOR NATIONAL, COUNTY AND PUBLIC ENTITIES

National Government Budget Process

The National Budget Process is outlined under Part III of the Public Finance Management Act 2012 (PFM), and it provides in Section 35 (1) of the Act that, the budget process for the national government in any financial year comprises of the following stages: –

  1. Integrated development planning process which includes both long term and medium-term planning;
  2. Planning and determining financial and economic policies and priorities at the national level over the medium term;
  3. Preparing overall estimates in the form of the Budget Policy Statement of national government revenues and expenditures;
  4. Adoption of Budget Policy Statement by Parliament as a basis for future deliberations;
  5. Preparing budget estimates for the national government;
  6. Submitting those estimates to the National Assembly for approval;
  7. Enacting the appropriation Bill and any other Bills required to implement the National government’s budgetary proposals;
  8. Implementing the approved budget;
  9. Evaluating and accounting for, the national government’s budgeted revenues and expenditures; and
  10. Reviewing and reporting on those budgeted revenues and expenditures every three months.

County Government Budget Process

The County Budget Process is outlined under Part IV of the Public Finance Management Act 2012 (PFM), and it provides in Section 125 (1) of the Act that, the budget process for the county governments in any financial year shall comprise the following stages: –

  1. Integrated development planning process which shall include both long term and medium-term planning;
  2. Planning and establishing financial and economic priorities for the county over the medium term;
  3. Making an overall estimation of the county government’s revenues and expenditures;
  4. Adoption of County Fiscal Strategy Paper;
  5. Preparing budget estimates for the county government and submitting estimates to the county assembly;
  6. Approving of the estimates by the county assembly;
  7. Enacting an appropriation law and any other laws required to implement the county government’s budget;
  8. Implementing the county government’s budget; and
  9. Accounting for, and evaluating, the county government’s budgeted revenues and expenditures;

The Cabinet Secretary & The County Executive Committee member for finance MUST ensure that there is public participation in the budget process.

 

TREASURY CIRCULARS

Treasury circulars provide guidance and instructional information principally to government departments and state-owned enterprises and request financial information from those agencies. They are usually addressed to :

  • Chief executives (CEs);
  • Chief Financial Officers (CFOs);

Application

–     The main purpose of Treasury circulars is to provide guidance & instructional information and to request for financial information.

–     Treasury circulars may also cover matter which are outside the scope of treasury instructions such a budget timetable.

–     Treasury circulars may also cover matters that are to take effect immediately (but these may be incorporated within treasury instructions as part of an annual update)

 

Chapter 12 & Sec. 104 of the PFM Act allows both the National and County Treasuries to issue Treasury Circulars (See sample below)

 

CASH FLOW PROJECTIONS

Not later than the 15th June of each financial year, every county government shall prepare an annual cash flow projection for the county for the next financial year, and submit the cash flow projection to the Controller of Budget with copies to the Intergovernmental Budget and Economic Council and the National Treasury.

 

Regulations shall prescribe the format and content of the annual cash flow projections.

 

DEVELOPMENT PLAN PREPARATION

The budget process for county governments in any financial year shall consist of the following stages—

 

  1. integrated development planning process which shall include both long term and medium term planning;
  2. planning and establishing financial and economic priorities for the county over the medium term;
  3. making an overall estimation of the county government’s revenues and expenditures;
  4. adoption of County Fiscal Strategy Paper;
  5. preparing budget estimates for the county government and submitting estimates to the county assembly;
  6. approving of the estimates by the county assembly;
  7. enacting an appropriation law and any other laws required to implement the county government’s budget;
  8. implementing the county government’s budget; and
  9. accounting for, and evaluating, the county government’s budgeted revenues and expenditures;

 

The County Executive Committee member for finance shall ensure that there is public participation in the budget process.

 

County government to prepare development plan

 

Every county government shall prepare a development plan in accordance with Article 220(2) of the Constitution, that includes—

 

  1. strategic priorities for the medium term that reflect the county government’s priorities and plans;
  2. a description of how the county government is responding to changes in the financial and economic environment;
  3. programmes to be delivered with details for each programme of—
    1. the strategic priorities to which the programme will contribute;
    2. the services or goods to be provided;
  • measurable indicators of performance where feasible; and
  1. the budget allocated to the programme;
  1. payments to be made on behalf of the county government, including details of any grants, benefits and subsidies that are to be paid;
  2. a description of significant capital developments;
  3. a detailed description of proposals with respect to the development of physical, intellectual, human and other resources of the county, including measurable indicators where those are feasible;
  4. a summary budget in the format required by regulations; and (h) such other matters as may be required by the Constitution or this Act.

 

The County Executive Committee member responsible for planning shall prepare the development plan in accordance with the format prescribed by regulations.

 

The County Executive Committee member responsible for planning shall, not later than the 1st September in each year, submit the development plan to the county assembly for its approval, and send a copy to the Commission on Revenue Allocation and the National Treasury.

 

The County Executive Committee member responsible for planning shall publish and publicise the annual development plan within seven days after its submission to the county assembly.

 

 

ROLE OF THE NATIONAL TREASURY AND COUNTY TREASURIES WITH RESPECT TO THE MANAGEMENT AND CONTROL OF PUBLIC FINANCE

Role of the National Treasury

The National Treasury derives its mandate from Article 225 of the Constitution 2010, Section 11 of the Public Management Act 2012 and the Executive order No. 2/2013. It executes its mandate in consistency with any other legislation as may be developed or reviewed by Parliament from time to time.

The core functions of the National Treasury as derived from the above legal provisions include;

  1. Formulate, implement and monitor macro-economic policies involving expenditure and revenue;
  2. Manage the level and composition of national public debt, national guarantees and other financial obligations of national government;
  3. Formulate, evaluate and promote economic and financial policies that facilitate social and economic development in conjunction with other national government entities;
  4. Mobilize domestic and external resources for financing national and county government budgetary requirements;
  5. Design and prescribe an efficient financial management system for the national and county governments to ensure transparent financial management and standard financial reporting;
  6. In consultation with the Accounting Standards Board, ensure that uniform accounting standards are applied by the national government and its entities;
  7. Develop policy for the establishment, management, operation and winding up of public funds;
  8. Prepare the annual Division of Revenue Bill and the County Allocation of Revenue Bill;
  9. Strengthen financial and fiscal relations between the national government and county governments and encourage support for county governments and assist county governments to develop their capacity for efficient, effective and transparent financial management; and
  10. Prepare the National Budget, execute/implement and control approved budgetary resources to MDAs and other Government agencies/entities.

 

Responsibility of National Treasury with Respect to Public Funds

  • The National Treasury is responsible to administer the Consolidated Fund.
  • The National Treasury is responsible to administer the Equalisation Fund.
  • Cabinet Secretary is responsible to administer the Contingencies Fund.
  • Cabinet Secretary is responsible to seek Parliamentary approval for payments made from Contingencies Fund.

 

Role of the County Treasuries

The County Treasuries are established pursuant to Section 103 of the Public Management Act 2012 for each county government. The County Treasury comprise of:

  • The County Executive Committee member for finance; (Head of the County Treasury)
  • The Chief Officer; and
  • The department or departments of the County Treasury responsible for financial and fiscal matters.

The core function of a County Treasury is to monitor, evaluate and oversee the management of public finances and economic affairs of the county government including:

  1. Developing and implementing financial and economic policies in the county;
  2. Preparing the annual budget for the county and co- ordinating the preparation of estimates of revenue and expenditure of the county government;
  3. Co-coordinating the implementation of the budget of the county government;
  4. Mobilizing resources for funding the budgetary requirements of the county government and putting in place mechanisms to raise revenue and resources;
  5. Managing the county government’s public debt and other obligations and developing a framework of debt control for the county;
  6. Consolidating the annual appropriation accounts and other financial statements of the county in a format determined by the Accounting Standards Board;
  7. Acting as custodian of the inventory of the county government’s assets except where provided otherwise by other legislation or the Constitution;
  8. Ensuring compliance with accounting standards prescribed and published by the Accounting Standards Board from time to time;
  9. Ensuring proper management and control of, and accounting for the finances of the county government and its entities in order to promote efficient and effective use of the county’s budgetary resources;
  10. maintaining proper accounts and other records in respect of the County Revenue Fund, the County Emergencies Fund and other public funds administered by the county government;
  11. Monitoring the county government’s entities to ensure compliance with this Act and effective management of their funds, efficiency and transparency and, in particular, proper accountability for the expenditure of those funds;
  12. Assisting county government entities in developing their capacity for efficient, effective and transparent financial management, upon request;
  13. Providing the National Treasury with information which it may require to carry out its responsibilities under the Constitution and this Act;
  14. Issuing circulars with respect to financial matters relating to county government entities;
  15. Advising the county government entities, the County Executive Committee and the county assembly on financial matters;
  16. Strengthening financial and fiscal relations between the national government and county governments in performing their functions;
  17. Reporting regularly to the county assembly on the implementation of the annual county budget; and
  18. Taking any other action to further the implementation of this Act in relation to the county.

Responsibility of County Treasury with Respect to Public Funds

  • The County Treasury for each county government shall ensure that all money raised or received by or on behalf of the county government is paid into the established County Revenue Fund.
  • County Government Executive Committee may establish county government Emergency Fund.
  • County Executive Committee member for finance is responsible for administering the Emergency Fund
  • County Executive Committee member for finance has the responsibility to seek approval for payments from Emergency Fund from the county assembly.
  • County Treasury is to submit a report to Auditor-General in respect to Emergency Fund
  • County Treasury is responsible for preparing County Fiscal Strategy Paper.
  • County Treasury responsible for preparing a County Budget Review and Outlook Paper.
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