TAXATION REVISION KIT (QUESTIONS AND ANSWERS)

QUESTION ONE

  • Write brief notes on each of the following matters:
    • Taxation of pension income (3 marks) 
      • In case of period income, the first Ksh.180,000 p.a. (15,000 p.m) is tax exempt

      if from registered pension schemes only.

      • In case of lumpsum income, the first Ksh.48,000 p.a for each year of service up to a maximum of Ksh.480,000 is tax exempt where the income is from registered

      pension and provident funds.

      • The first Ksh.1,400,000 withdrawn by dependants of a deceased person is tax exempt.
    • Penalties for submitting fraudulent tax returns (3 marks) 
      • a fine not exceeding Ksh.200,000 and
      • additional tax equal to 200% of tax evaded/concealed and/or – 2 year imprisonment.

       

      No  balancing allowance or loss arises from disposal of assets.

    • Computation and treatment of capital deductions in respect of

                         mining operations.                                                                     (4 marks) 

  • Annual allowances are given on capital expenditure incurred in the mining of specific minerals as follows:

 

  • 1st year – 40% of total capital expenditure – year 2 – 7 – 10% p.a of total capital expenditure.

 

No balancing allowance or loss arises from disposal of assets

  • Define the term “tax avoidance.”        (2 marks)       
  •    The taxpayer will utilize loopholes in tax legislations. It is legal exercise that cannot result in penalties

                    Identify two ways in which an individual or institution could engage in the

                               practice of “tax avoidance.”                                                   (2 marks) 
  • buying assets to enjoy capital allowances instead of leasing
  • engaging in exporting business where exports are zero rated instead of

                                    domestic sales

  • use of debt capital where interest is tax allowable instead of equity capital
  • decision as to whether to operate as a partnership, sole proprietorship or limited company.
  • Being granted low interest loan to purchase a house (employer pays Fringe Benefit Tax) instead of being granted a house (taxable housing benefit)

 

     Explain the concept of the “incidence of a tax” clearly outlining its importance to policy makers.

                                                                                                                        (6 marks)

  • Implies the final resting place of tax burden. Once tax is imposed on one party, it can be shifted forward i.e. to the consumer through wholly or partial increase in selling price or backward (through partial or wholly reduction in cost of inputs).

 

-This concept is important to policy makers in the following ways:

 

  • It identifies which section of society can best bear the money tax burden
  • To evaluate whether tax system conforms to canon of equality.

 

  • It will affect elasticity of demand and supply of some commodities which will

                                    affect production and employment levels.

  • Formulation of tax policies i.e direct or indirect taxes

 

(Total: 20 marks)   

QUESTION TWO

  • In the context of the administration and recovery of income tax, write brief explanatory notes on the following:  
    • Taxation at source (2 marks)   This is where tax is withheld and the recipient only receives the income net of taxe.g. Pay As You Earn (PAYE) deducted from employment income, withholding tax on qualifying dividends and interest income etc. 

      –    The person withholding the tax is a tax agent who will remit the tax withheld to

      the government by 20th day of the following month (10th day for PAYE)

    • Taxation of wife‟s employment income (2 marks) 
    •  Taxation of wife‟s employment income-
    •    Employment income of wife is laxed on graduated scale and is assessable on thewife if it is at arm‟s length i.e. it is not derived from:
      • Ø

      A partnership in which the husband is a partner

      • Ø A trust created by the husband

      Ø

      A company in which the wife and/or husband hold 12.5% or more of voting   power

      Ø

      • Where wife is employee of the husband.

      –        If employment income is at arm‟s length, the wife will enjoy personal relief.

       

    • Back duty (2 marks) 
    •  This is tax in arrears which was not paid by a taxpayer by reason of:
      • non-payment of tax
      • non or under-declaration of taxable income
      • backdating of salary increment or gratuity received in lumpsum for services rendered in the past.

       

       

      QUESTION THREE

      • The taxation of co-operative societies in Kenya is significantly different from that of companies registered under the Companies Act (Cap. 486).

       

                              Briefly explain four main differences.    (4 marks) 

      • Differences between taxation of co-operative societies and companies:

       

      • Dividends to the extent of 80% are allowable expenses for primary co-operative (100% for         secondary co-operative) societies which is not the case for companies.
      • The societies cannot carry losses forward to be offset against future income but companies can.
      • SACCO‟s are taxed on selected incomes i.e. 85% of gross non-qualifying dividends and 70%of gross rent income but companies pay tax on all business incomes.
      • Co-operative Societies are not expected to pay instalment tax but companies must pay.
      • Expenses incurred in generating income of a company are allowable but no expenses are allowable in determining taxable income of a SACCO.
      • QUESTION FOUR
        • Identify any four instruments on which stamp duty is chargeable. (4 marks)
        • Increase of share capital – 1%
        • Transfer of securities of unquoted firms
        • Transfer of immovable property within and outside a municipality – 4% and 2% respectively
        • Lease agreement of 1 – 2 years – 1% of annual rent
        • Primary debenture/mortgage – 0.5%
        • Insurance policies
        • Hire purchase agreements
        • Agreements such as partnership deeds.
        • Write brief explanatory notes on the following miscellaneous sources of government revenue.
          • Motor vehicle licences (2 marks)        
          • A fee is charged on road and driving licences
          • The fees is based on the period (4 months or 12 months) and engine size of the vehicle determined by cylinder capacity (CC)
          •  Training levies   (2 marks) Training LevelThis is charged on the guests of hotels and clubs at 2% based on the hotel and club charges.QUESTION FIVE
            • In the context of the Customs and Excise Act (Cap. 472) what is meant by the term “dumping”?

                                                                                                                                  (4 marks)   

            • – Dumping means importing goods into Kenyan Market and selling them at a price below the fair market price of the same goods in the country from which goods were imported.

             

             

            • It does not necessarily mean sub-standard goods.

             

            It also applies to selling of imported goods at a price below the fair market value of the same goods in the country from which were first imported, then exported to another country before being exported to Kenyan

            • Identify the measures that a government may put in place to discourage dumping.

            (4 marks)   

            • high, anti-dumping duty.
            • Imposition of a quota on the quantity of goods that can be imported from a given country or foreign institution.
            • Pre-shipment inspection of goods – Adequate documentation of all imports.
          •  Outline four circumstances under which duty paid on imported goods may be refunded.      (4 marks)
      • It was paid in error (over-paid)
      • Goods are returned to the seller

      Goods are destroyed or damaged while under customs control –     If goods are used to manufacture exports

    •  

       

       

      QUESTION ONE

      • The Minister for Finance, through the budget speech of June 2004, issued an amnesty to tax defaulters in Kenya. This amnesty expires on 31 December 2004.

       

      Required:

      • Define the term „tax amnesty.‟ (2 marks)     (i)Tax amnesty – “forgiveness” of tax liability and or penalties associated with past taxthat was evaded. The tax amnesty with 31st Dec 2004 was on interest, fines and penalties on tax evaded in the past. The taxpayer has to disclose and pay such evaded tax only 
        • The amnesty was in respect of fines, interest and penalties associated with the following types of taxes evaded

         

        • Income tax for year 2003 and prior years o Customs duty on imported goods before 11/6/2004 o  Excise duty on goods manufactured and/or sold before 30/4/2004
        • A VAT on goods and services supplied before 11/6/2004
      • Explain two advantages of a tax amnesty from the viewpoints of:
        • The Kenya Revenue Authority (4 marks) Increased tax revenue to governmentHigher level of compliance in futureMore people are brought into the tax net
        • The tax payer (4 marks)   No prosecution or indepth investigation for past tax evasionNo payment of penalties, interest and fines Higher tax compliance in future

       

      • Highlight three key features of each of the following taxes;
        • Motor vehicle advance tax (3 marks)   
          • Motor vehicle advance tax (section 12 A of Cap 470)

           

          • Paid by owners of commercial vehicles and public service vehicles P.S.V – Paid

          in advance at the beginning of the year

          Based on number of passengers or weight of luggage – Can be offset against tax liability of the business 

        •       Fringe benefit tax           (3 marks) 
          • Payable together with P.A.Y.E on monthly basis
          • Based on corporate tax rate of 30%
          • Based on fringe benefit resulting from granting of low interest rate loan

          to the employee by employer below market interest

           

          Market interest  Low interest                                 

          FBT=                                                                               Amount of loan x 30%

                     rate                   rate                                   

           

          -Paid by the employer will effect from 11th June 1998

       

      • With reference to the Customs and Excise Act (Cap. 472), outline four circumstances under which     the Commissioner may grant a refund for import duty paid.            (4 marks)

      (Total: 20 marks)

      • Where goods are returned to seller
      • Where duty was paid in error i.e. over paid
      • Where goods are lost or destroyed while under customs control

       

       

      • Where goods are used in production of exports members of diplomatic missions, Armed forces, NGO‟s etc

       

       

      QUESTION TWO

      • Briefly explain the responsibility of partners with respect to:

       

              Filing of the partnership tax returns.         (2 marks)   

      (i)The partners have the responsibility of filing the partnership business returns by the

      end of the 4th month after the end of the calendar year i.e. 30th April. The returns will form the basis of determining how profit was shared and the taxable income from partnership business

    •      Penalties for late payment of tax           (2 marks) Late payment of tax will attract the following penalties 
      • Late payment penalty of 20% of unpaid tax
      • 2% p.m interest penalty on unpaid tax plus penalty
      • QUESTION THREE
        • With reference to the VAT Act (Cap. 476), define the following terms:
        • Time of supply(2 marks)

          The time for supply for VAT purposes shall be earliest of the time when

           

          • goods are supplied or services rendered or
          • an invoice is issued in respect of the supply or
          • payment is received for all or part of the supply or
          • certificate is issued by an architect, surveyor or any person acting in a supervisory capacity in respect of the service

           

          Minimum turnover

          (2 marks) 

          Compulsory registration for VAT applies to any person who in the course of business supplied or expect to supply taxable goods or services or both, the values of which in any of the following periods exceeds the value shown

           

          12 months                                                               Ksh. 3,000,000

          9 months                                                                 Ksh. 2,400,000

          6 months                                                                 Ksh. 1,800,000

          3 months                                                                 Ksh. 1,200,000

           

           

          Tax invoice

          (2 marks)   

          Brief description of supply made

           

          Name address, PIN and VAT registration number of the supplier

           

          Serial number of the invoice

           

          Total amount charged inclusive of VAT

           

          Explicit statement that the price is inclusive of VAT

           

          VAT tribunal

          (2 marks) 

          • Established by minister of Finance to arbitrate tax disputes between commissioner of VAT

          and person registered for VAT

          • Consists of chairman and two other members of the general public
          • The minister prescribes the manner in which an appeal is made to the tribunal. The tribunal can confirm, reduce, nullify or increase the tax assessed
          • A tax payer aggrieved by the decision of the Tribunal can appeal to the high court
          •                                         QUESTION FIVE
            • Allan Muvozi is a Ugandan businessman wishing to invest in Kenya. He has approached you for professional advice on the tax implications of various forms of business.
          •  

            Required:

            Explain to him four tax advantages enjoyed by a sole proprietorship over a company.   (8 marks) 

            • Income taxed on individual and not business

             

            • Income taxed on graduated scale such that the lower the income, the lower the tax unlike a constant corporate tax rate for a company.

             

            • The individual shall be granted a personal and insurance relief (if he takes a life or education policy) which are not available to a company

             

            • The withholding tax on incomes such as qualifying dividends and interest are final for individuals.

             

            • John Mpole accepted voluntary retirement from the Civil Service on 1 January 2006. He received a golden handshake of Sh. 2 million. He is now considering six possible investments as listed below:
              • Purchase ordinary shares in Kenya Airways Limited.
              • Purchase ordinary shares in Uganda Breweries Limited.
              • Open a fixed deposit account with Kenya Commercial Bank Limited.
              • Purchase government Treasury bills.
              • Open a savings account with Kenya Post Office Savings Bank Limited. 6. Subscribe for debentures in National Bank of Tanzania Limited.

             

                        Required:

                        For each of the investments above, advise Mr. Mpole on the income tax consequences.

            (6 marks)   

            • (1)Purchase ordinary shares in Kenya Airways Ltd

             

            – The dividends received will suffer a 5% final withholding tax while any capital gains realised on disposal of shares is tax exempt

             

             

            • Purchase ordinary shares in Uganda Breweries Ltd

             

            • The dividend income receivable or even capital gains realizable are tax exempt since they are derived from outside Kenya

             

            • Open a fixed deposit Account with KCB Ltd.

             

            • The interest income is subject to a 15% final withholding tax

             

            • Purchase Government Treasury bills

             

            • These are considered as riskless investments but the interest income is subject to a 15% final withholding tax

             

            • Savings account with POSB Ltd

             

            • The interest income earned on deposit with post office savings bank is tax exempt according to the first schedule of cap 470 (income tax Act)

             

            • Subscribe for debentures in national Bank of Tanzania Ltd

             

            • Interest income is tax exempt in Kenya since it is derived from outside Kenya

             

            • List and briefly explain three ways in which a government can reduce its budget deficit. (6 marks)   
              • The government can reduce its budget deficit by

               

              • Internal borrowing through the issue of Treasury bills and bonds

               

              • External borrowing from IMF and world bank

               

              • Enhance tax revenue collection through administrative efficiency and bringing more people into the tax net

               

              • Sale of national assets e.g. privatization of parastatals to eliminate their financing thus reducing government expenditure.

            (Total: 20 marks)

       

 

 

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