Chapter Three Employment Income Class 2

CHAPTER THREE EMPLOYMENT INCOME
3.1 Introduction
In Chapter Two we identified the various heads under which incomes are taxed namely
employment, rental, business, interest, dividend, and commission. We also identified the incomes
that are not taxable. In this lesson we will focus on employment income. This is one of the major
sources of revenue for Kenya revenue authority. We will look at all the benefits taxable as brought
to tax by Sect 3(1)(a)(ii)
The guidelines on the taxation of employment income is highlighted in Sec.5 and brings into
charge, as per section 3(2)(a)(ii), an amount paid to - (a) a person who is, or was at the time of the
employment or when the services were rendered, a resident person in respect of any employment
or services rendered by him in Kenya or outside Kenya; or
(b) A non-resident person in respect of any employment with or services rendered to an employer
who is resident in Kenya or the permanent establishment in Kenya of an employer who is not so
resident, shall be deemed to have accrued in or to have been derived from Kenya. The critical point
is that the employer and employee who one of them is a resident or services rendered in Kenya
(Sec.5 (2)(a)
The section further explains that for the purposes of section 3(2)(a)(ii), "gains or profits" includes
- (a) Wages, salary, leave pay, sick pay, payment in lieu of leave, fees, commission, bonus,
gratuity, or subsistence, travelling, entertainment or other allowance received in respect of
employment or services rendered and any amount so received in respect of employment or services
rendered in a year of income other than the year of income in which it is received shall be deemed
to be income in respect of that other year of income:
Provided that – (i) Where such an amount is received in respect of a year of income which expired
earlier than four years prior to the year of income in which it was received, or prior to the year of
income in which the employment or services ceased, if earlier, it shall be deemed to be income of
the year of income which expired five years prior to the year of income in which it was received,
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or prior to the year of income in which the employment or services ceased. This being income
received later after employment or services had been rendered; and
(ii) Where the Commissioner is satisfied that subsistence, travelling, entertainment or other
allowance represents solely the reimbursement to the recipient of an amount expended by him
wholly and exclusively in the production of his income from the employment or services rendered
then the calculation of the gains or profits of the recipient shall exclude that allowance or
expenditure [Excludes any payments received which are exempted from tax by nature of work or
employment];
(iii) Notwithstanding the provisions of sub-paragraph (ii), where such amount is received by an
employee as payment of subsistence, traveling, entertainment or other allowance, in respect of a
period spent outside his usual place of work while on official duties, the first two thousand shillings
per day expended by him for the duration of that period shall be deemed to be reimbursement of
the amount so expended and shall be excluded in the calculation of his gains or profits. This
provision set a limit on what the employer may provide to an employee as an out of pocket
allowance while working outside the work station or when on assignments related to the employer.
3.2 Objectives
By the end of this Chapter you should be to:

(i) Define employment benefits
(ii) Identify non-taxable employment benefits
(iii) Ascertain taxable employment income
3.3 Definitions
For purposes of working on and computing taxable employment, we need to be clear on some
terms related to this head. Employment income is brought to charge under Sec. 5
"Employee" means any person who is not a beneficial owner of or able either directly or indirectly
or through the medium of other companies or by any other means to control more than five per

cent of the share capital or voting power of that company. Employment creates a special
relationship between two parties namely the employer and employee.
An employer is someone or a group that pays people to work for them. It includes any person
having control of payment of remuneration and any agent, manager or other representative in
Kenya of any employer who is outside Kenya
Employment income is therefore any amount paid to a person who is, or was at the time of the
employment or when the services was rendered, a resident person in respect of any employment
or services rendered by him in or outside Kenya. It means any remuneration paid to current or past
employees and for any services rendered by those not in full time employments. The territory of
Kenya does not bind the place where the service was rendered for a resident.
3.4 Employment benefits

Taxable employment income includes both cash emoluments and cash equated employment
benefits. It includes what is paid through the payslip or in cash under various names such as basic
pay, medical allowance, house allowance, hardship allowance, commuter allowance etc. Further,
ITA also brings into taxable bracket whatever the employer gives to the employee to boost his
economic status in the form of employment benefits.
Employment benefits are the facilities, benefits or advantages that an employee enjoys by virtue
his/her employment where such benefits exceed Kshs. 3,000 per month (36,000) with effect from
January 2006. The value of such benefits should be included in the employees’ earnings and
brought to charge.
The chargeable value of benefits should be the higher of either be: -
 The fixed monthly rates determined by the commissioner or

 The actual cost to the employer for providing the benefits.
The chargeable value, according to the amendments of Sec. 5(5) through finance Act 2003, should
be taken as the higher of the cost to the employer or fair market value (WHICHEVER IS
HIGHER (W.I.H), provided that the commissioner may from time to time prescribe rates of
benefits where cost or fair market value cannot be determined.

Taxable Employment income and benefits are covered in Sec.5(2) and includes;
 Sec.5(2)(a) wages and salary

 Sec.5(2)(b) value of benefit, advantage, or facility of whatever nature, the aggregate value
whereof is not less than thirty six thousand shillings granted in respect of employment or
services rendered
 Sec.5(2)(c) an amount received as compensation for the termination of a contract of
employment or services, whether or not provision is made in the contract for the payment
of that compensation
 Sec.5(2)(d) Any balancing charge under Part II of the Second Schedule
 Sec.5(2)(e) value of premises provided by an employer for occupation by his employees
for residential purposes
 Sec.5(2)(f) an amount paid by an employer as a premium for an insurance on the life of his
employee and for the benefit of that employee or any of his dependents
 5(2)(A) low interest or interest free Loans
 5(2)(B) motor vehicle benefits
EXEMPTED EMPLOYMENT INCOME AND BENEFITS
The following are not taxable income thus does not include gains or profits from employment
 5(4)(a) the expenditure on passages between Kenya and any place outside Kenya borne by
the employer
 5(4)(aa) the expenditure on vacation trips to destinations in Kenya paid by the employer
on behalf of an employee ( ceased to apply on 1st July 2015 and was only applicable for
periods not in excess of 7 days)
 5(4)(b) value of any medical services provided by the employer or medical insurance
provided by an insurance provider approved by the commission of insurance and paid for
by the employer on behalf of a full time employee his beneficiaries
 5(4)(c) an amount paid by the employer as a contribution to a registered or unregistered
pension fund, provident fund, individual retirement fund or scheme subject to Sec.
5(4)(c)(i) and (ii), Sec.22A and Sec.22B

 Education fees of employee’s dependents or relatives under Sec.16(2)(a)(iv) which have
been taxed in the hands of the employer
 5(e) fringe benefits subjects to tax under Sec.12B
 5(4)(f) the value of meals served to employees in a canteen or cafeteria operated or
established by the employer or provided by a third party who is a registered tax payer(
whether the meals are supplied in the premises of the employer or the premises of the third
party) where the value of the meal does not exceed the sun of forty eight thousand shillings
per year per employee
 5(4)(g) an amount paid by an employer as gratuity or similar amount in respect of
employment or services rendered, which is paid into a registered pension scheme subject
to provisions 5(4)(f)(a) and (b) save Sec.22A
The following are some of the highlighted employment benefits that have been addressed by the
Commissioner of Income Tax
Taxable Employment income and benefits are covered in Sec.5(2) and includes;
 Sec.5(2)(a) wages and salary

 Basic Pay xxxxxx
 Medical Allowance xxxxxx
 House Allowance xxxxxx
 Hardship Allowance xxxxxx
 Commuter Allowance xxxxxx
 Employment Benefits xxxxxx
 Total Taxable Employment Income xxxxxx

 Sec.5(2)(b) value of benefit, advantage, or facility of whatever nature, the aggregate value
whereof is not less than thirty six thousand shillings granted in respect of employment or
services rendered
 Sec.5(2)(c) an amount received as compensation for the termination of a contract of
employment or services, whether or not provision is made in the contract for the payment
of that compensation
 Sec.5(2)(d) Any balancing charge under Part II of the Second Schedule
3.4.12 Balancing charge (part ii-second schedule) 5 (I) (2) (d)
Part ii of the second schedule deals with deductions in respect of Capital Expenditure on
machinery. Use of certain assets qualify are entitled to wear and tear allowances. Where a director
buys a personal car and uses the car for work, the mere fact he is a director does not entitle him to
wear and tear allowances. Where a marketing director buys a personal car to run business to earn
business profit for the benefit of business, he/she shall be entitled to wear and tear.
EXHIBIT 3.4.7
Oyungu is a marketing director with Egoji producers. His earnings from employment grossed at
Ksh 300,000. Oyungu has a personal vehicle meant for his marketing duties. Based on the qualified
marketing expenditure work with KRA, he is entitled to an annual wear and tear of Kshs. 10,000.
On the fourth year of his use of the vehicle, Oyungu sold the vehicle at Kshs. 80,000. Assume the
purchase price of the vehicle was Kshs. 100,000.
Required:
i.Calculate the Balancing Charge

ii.Calculate the taxable pay of Oyungu per year.

SOLUTION 3.4.7
Gross Taxable Pay 3,000,000

Less Wear and Tear 10,000
2,990,000P.A.
i.Purchase Price 100,000

Wear and Tear Accumulated for 4 Years @10,000 (40,000)
60,000
ii.Sales price 80,000
Written Down Value 60,000
Gain on disposal 20,000
The gain on sale of Kshs. 20,000 will be treated as a balancing charge and added to the salary
income on the year of disposal of the vehicle.
 Sec.5(2)(e) value of premises provided by an employer for occupation by his employees

for residential purposes
3.4.12 Housing benefits – sec 5 (e)(3) value of premises provided by an employer for
occupation by his employee for residential purposes
The highlight of Sec. 5(e) (3) is the provision of housing by an employer to the employee and the
taxation of this benefit. The bringing into tax of this facility has brought challenges to some
categories of employees especially those working in the security sector, medical and education
sectors whose call for duty require them to stay within their areas of work. Some of these facilities
are located in very remote or posh areas that working the value of the benefits not only becomes
difficult but also challenging to the beneficiaries of such facilities. The computation of housing
benefits to a nurse or policeman in some remote place in Turkana or to P1 teacher in State house
Road would bring such glaring critical differences that may lead to negative salaries!

Sec 5 (e)(3) identifies four categories of beneficiaries for this benefit namely full/whole time
directors, other directors, employees, and employees working in agricultural farms.Sec.5(e)(3) for
purposes of subsection (2)(e) and takes the value of premises, excluding the value of any furniture
or other contents so provided, to be - (a) In the case of a director of a company, other than a whole
time service director, an amount equal to the higher of fifteen per centum of his total income
excluding the value of those premises and income which is chargeable under section 3(2)(f), the
market rental value and the rent paid by the employer
(b) in the case of a whole time service director, an amount equal to the higher of fifteen per centum
of the gains or profits from his employment, excluding the value of those premises and income
which is chargeable under section 3(2)(f), the market rental value and the rent paid by the
employer.
(c) In the case of an agricultural employee required by the terms of employment to reside on a
plantation or farm, an amount equal to ten per centum of the gains or profits from his employment;
The exception for the purposes of this Section being that (i) "Plantation" shall not include a forest
or timber plantation: and that an (ii) "Agricultural employee" shall not include a director other than
a whole time service director:
(d) in the case of any other employee, an amount equal to fifteen per centum of the gains or profits
from his employment, excluding the value of those premises or the rent paid by the employer if
paid under an agreement made at arm's length with a third party, whichever is the higher:
Provided that-
(i) Where the premises are provided under an agreement with a third party which is not at arm’s
length, the value of the premises determined under this subsection shall be the fair market rental
value of the premises in that year, or the rent paid by the employer, whichever is the higher; or
(ii) Where the premises are owned by the employer, the fair market rental value of the premises in
that year.” Provided that –
(i) Where a person occupies premises for part only of a year of income, the value
ascertained under the foregoing provisions shall be reduced by that proportion which
is just and reasonable having regard to the period of occupation and the yearly rate of
gains or profits from employment;
(ii) Where the employee pays rent to his employer for premises, the value ascertained under
the foregoing provisions shall be reduced by the amount of rent.

(iii) Where part only of any premises is so provided, the Commissioner may reduce the
value ascertained under the foregoing provisions to the amount which he considers just
and reasonable;
(iv) Where the gains or profits from a person’s employment, excluding the value of the
premises provided by the employer, exceed six hundred thousand shillings in the year,
the value of the premises determined under this subsection shall be subject to the limit
of –
(a) The rent paid by the employer or the fair market rental value of the premises in that year where
the premises are provided under an agreement with a third party which is not at arm’s length,
whichever is the higher; or
(b) The fair market rental value of the premises in that year where the premises are owned by the
employer.
The above provisions may be looked at under the following illustrations
(a) Director (other than whole time director)
For the purpose of working out the housing benefits, employees are broken into three categories
namely:
(i) Directors
(ii) Agricultural employees and;
(iii)Any other employee.
Directors are further subdivided into whole time service director and have whole time service
director.
The provision of housing may be:
Where the employer owns the premises
When the employer has rented the premises given to the employee. The agreement may
be/not at arm’s length with a third party.

It is worth nothing that house allowances and owner occupied house allowance are all taxable cash
benefits.
Director (other than whole time service director)
Where the premise is rented from a related third party at a deal not at arm’s length the value will
be Fair Market Rental value of the premises in that year of income or the rent paid by the employer
whichever is higher. The taxable value for arms length deals is the rent paid by the employer. This
is compared with 15% of total income.
A whole time service director
The taxable benefit shall be an amount equal to 15% of the gains or profits from employment,
excluding the value of the premise; or where the premise is let at an arms length deal the actual
rent paid by the employer otherwise the Fair Market Rental value whichever is higher is taken.
And where the premise is owned by the employer the Fair Rental Value of the premise in that year
is taken.
(i) Where the premise is let at arm’s length agreement with a third party
You will remember from your knowledge of economics that the market is the best determinant of
rates and price. Where the employer has an agreement with a landlord at what is called willing and
knowledgeable buyer and seller then the housing benefit will be the actual rent paid by the
employer.
EXHIBIT 3.4.8
Aputh Njiri is a full time Director of Kech Kiyombi Ltd. The details he has provided for the
purposes of filing tax returns indicates that he has been housed by the company in a rented premise.
The rent is fully paid by the company to the tune of Kshs. 180,000 per month. The house was
rented through Modern Kenya Company which specializes in construction, letting and
management of property. The deal was over the board. Similar houses in that area are rented at the
same rate. The other monthly emoluments of Aputh Njiri add up to Kshs 1 million per month.

SOLUTION 3.4.8
This is an arm’s length deal and therefore the rent paid is to be taken as the housings benefit and
added to Aputh Njiri’s other emoluments. The profit from employment excluding the house benefit
is Kshs. 1million and 15% of the same Kshs. 150,000 which is lower than the rent paid.
Other employment income 1,000,000
Add: Housing Benefit 180,000
Total Taxable salary Income 1,180,000
Where the premise is owned by the employer, the housing benefit will be the fair market
rental value of the premise in that year of income.
EXHIBIT 3.4.9
Aputh Njiri is a full time Director of Kech Kiyombi Ltd. The details he has provided for the
purposes of filing tax returns indicates that he has been housed in a company house. Similar houses
in that area are rented at Kshs.200,000 per month. The other monthly emoluments of Aputh Njiri
add up to Kshs 1 million per month.
SOLUTION 3.4.9
The profit from employment excluding the house benefit is Kshs. 1million and 15% of the same
Kshs. 150,000 which is lower than the fair rental value of Kshs. 200,000.
Other employment income 1,000,000
Add: Housing Benefit 200,000
Total Taxable salary Income 1,200,000
 15% of the total employment income =15/100*1000000
(i) Value is Kshs.480, 000.

SOLUTIONS 3.4.9
(i) Total Income from employment Kshs. 1,850,000
15% x 1,850,000 = Kshs. 277,500
(ii) Total employment Income Kshs. 1,850,000
15% x 1,850,000 = Kshs.277,500
 Rent paid to a third party (which is not at arm’s length agreement) 180,000
 Fair market rental value 350,000
The comparison is between 15% x 1850,000 and 277,500
The higher of 180,000 and 350,000 =350,000
The housing benefit is therefore =350,000
(iii) Where the company own the premise
15% of employment income and Kshs. 277,500
Fair rental value Kshs. 480,000
The housing benefit is the higher of the two, which is the fair market. Rental value Kshs. 480,000.
In case the director pays to the company any rent, then the housing benefit will be less the amount
paid as rent.
EXHIBIT 3.4.10
Assume that Aputh Njiri pays an annual rent of Kshs. 200,000 to the company.
Required:
Calculate housing benefits in each of the three cases cited above.
(i) Where house is rented from a third party at arm’s length rate.
Housing benefit (already calculated) 450,000
Less: Rent paid (200,000)
Housing benefit brought to charge 250,000
(ii) Where house is rented from a third party at arms length rate.
Housing benefit (already calculate) 350,000
Less: Rent paid by the director (200,000)
Housing benefit 150,000
(iii) Where the premise is owned by the company.
Housing benefit (taken as fair market rental value) 480,000
Less: Rent paid by the director (200,000)

Housing benefit 280,000
AGRICULTURAL EMPLOYEE
Management of Agriculture requires certain categories of employees to reside within the farms.
The determination of taxable housing benefit is different for only whole time service direction and
other agricultural employees. The value of housing provided by the employer is:-
 10% of gains or profits from employment minus any rent charged to the employee.
Any other Employee
The taxable value shall be the higher of
 15% of the gains or gains from employment or services rendered and

 Rent paid by the employer under an agreement made at arm’s length with a third party.
 The fair market rental value of premise or rent paid by the employer under an agreement
not made at arm’s length with a third party whichever is higher.
 Sec.5(2)(f) an amount paid by an employer as a premium for an insurance on the life of his
employee and for the benefit of that employee or any of his dependents
3.4.1 Low interest or free interest loans (Sec.5(2A)

The provision of financial services to directors, employees and their spouses attracted lots of
debate as a result of high cost of loans to ordinary people. It came to pass that the directors and
employees benefited from low or no interest loans at the expense of the common mwananchi who
bore their cost. The Commissioner in his wisdom brought this benefit to tax charge.
As per Sec5 (2A)(a) where an individual is a director or an employee or is a relative of a director
or an employee and has received a loan including a loan from an unregistered pension or provident
fund by virtue of his position as director or his employment or the employment of the person to
whom he is related, he shall be deemed to have received a benefit in that year of income equal to
the greater of -

(i) The difference between the interests that would have been payable on the loan received if
calculated at the prescribed rate of interest and the actual interest paid on the loan; and
(ii) Zero;
Provided that where the term of the loan extends for a period beyond the date of termination of
employment, the provisions of this subsection shall continue to apply for as long as the loan
remains unpaid;
The Sec 5(2A) defines "Market lending rates" as the average 91-day Treasury bill rate of interest
for the previous quarter, "Relative of a director or an employee" to mean- (i) His spouse; (ii) His
son, daughter, brother, sister, uncle, aunt, nephew, niece, step-father, step-mother, step-child, or in
the case of an adopted child his adopter or adopters; or (iii) The spouse of any such relative as is
mentioned in subparagraph (ii), and "Prescribed rate of interest" as the following -
(i) In the year of income commencing on the 1st January, 1990, 6 per cent;
(ii) In the year of income commencing on the 1st January, 1991, 8 per cent;
(iii) In the year of income commencing on the 1st January, 1992, 10 per cent;
(iv) In the year of income commencing on the 1st January, 1993, 12 per cent;
(v) In the year of income commencing on the 1st January, 1994, 15 per cent;
(vi) In the year of income commencing on or after the 1st January, 1995, 15% or such interest rate
based on the market lending rates as the Commissioner may from time to time prescribe, to cover
a period of not less than six months but not more than one year, whichever is the lower.
When an employer provides a loan to an employee and charges interest, which is below the
prescribed rate of interest, then the difference between the prescribed rate and employer’s rate is
a benefit from employment chargeable to tax on the employees. Low interest rate benefit applies
to directors and continues to apply even after the employee or director has left employment as long
as the loan remains un-paid.
 The prescribed interest rate( this rate is given every quarter of the year by the
commissioner)
 The employer interest rate.
The benefit chargeable to tax = prescribed rate – employers rate.

EXHIBIT 3.4.1
Benardo works for Barclays Bank. During the year 2011 the bank gave him a loan of Kshs.
1,800,000 at an interest of3%. His pay per month inclusive of all allowances was Kshs. 85,000
per month.
(Assume prescribed rate to be 8%)
(i) Calculate Benardo’s benefit from employment chargeable to tax (law interest rate
benefit) per month/year.
(ii) Benardo’s employment income for the year 2011.
SOLUTION 3.4.1
 Loan provided by the employer = Kshs. 1,800,000

 Employers loan interest rate = 3%
 Prescribed rate of interest = 8%
(i) Calculation of low interest benefit
Prescribed rate – employers rate= 8% - 3% = 5%

=5% x 1,800,000
= Kshs. 90,000 pa
= Kshs. 90,000/12
= Kshs. 7,500 per month
(ii) Employment income Monthly Annual
Pay 85,000 1,020,000
Low interest benefit 7,500 90,000
Total 92,500 1,110,000
3.4.2 Fringe benefit tax payable by employer (Sec 12B)
This is a tax imposed on an employer in respect of a loan provided at an interest rate lower than
the market interest to an individual who is a director or an employee or a relative of director or an

employee by virtue of his position as a director or his employment or the employment of the person
to whom he is related.
This fringe benefit is to apply to loan advanced on or after June 1998. The tax shall be charged on
the total taxable value of a fringe benefit provided by an employer in a month and shall be due of
the following month. The tax shall also apply to loans whose terms extend for a periods beyond
the date of termination of employment. The provision of the fringe benefit tax applies as long as
the loan remains unpaid; this would enable employees to enjoy this benefit beyond their
employment life.
The commissioner may prescribe the form and manner in which the fringe benefit tax is payable
and any period for which the market rate of interest may be applicable. The market interest rate
for the purpose of the fringe benefit tax means the average 91days Treasury bill rate of interest for
the previous quarter. Loan will also include loans from unregistered pension or provident fund.
Under Sec 12B of the Income Tax Act a new tax was introduced in relation to low or interest free
loans to employees. The tax known as Fringe Benefit Tax is payable by employers commencing
on the 12th June 1998 in respect of loans provided to employees, directors or their relatives at an
interest rate lower that the market interest rate. The fringe benefit is taxable at corporation rate of
tax of 30%. The employers are expected to pool together all the fringe benefits for all their
employees each month and remit the same to the paymaster general on or before the 10 th day of
the following month (the same way as normal PAYE.)
The fringe benefit is for loans provided after 11th June 1998 or for loans provided before 11th June
1998 whose terms and conditions have changed after 11th June 1998. The value of the fringe benefit
shall be the difference between;
 Interest that would have been payable on the loan, if calculated at the market interest rate
and
 Actual interest paid.

EXHIBIT 3.4.2
Details of the loan provided to kiunde in 20th May 1999 is given below
 Employers loan to kiunde Kshs. 2,400,000

 Interest charged to employee 8%
 Market Interest Rate for the month 11%
Required
(i) Calculate the Fringe Benefit Tax.
3.4.2 Solution
Fringe Benefit =Market Interest Rate – Interest charge on Employee

= 11% - 8%
= 3%
= 3% x 2,400,000
= Kshs. 72,000 pa
Fringe Benefit payable by employer = 30% x 6000
= 21,600 per annum
The Market Interest Rate means the average 91 days Treasury Bill Rate of interest for the previous
quarters.
(a) Loans provided on or after 11th June 1998

Employees will continue to be taxed on low interest rate benefit in respect of loans provided by
the employer on or before 11th June 1998 as before. The low interest benefit is the differences
between:
 Interest charged on the employee and;

 The prescribed rate of 15% or such rate based on the market leaving rates prescribed
by the commissioner, whichever is lower.
3.4.3 Accommodation and meals provided to employees
There are cases where the employee is provided with accommodation and meals by the employer.
The taxable value of the two will be: -
 For accommodation 10% of gains/profits from employment

 For meals 10% of gains/profits from employment.
In other words, where both accommodation and meals are provided to the employees, the taxable
amount should be taken as 20% of the gain/profits from employment. Meals for low income
employees, subject to conditions approved by the Commissioner, is exempted from tax w.e.f
1.1.2008. The Act further provides under Sec. 5(4)(f) the value of meals served to employees in a
canteen or cafeteria operated or established by the employer or provided by a third party who is a
registered tax payer( whether the meals are supplied in the premises of the employer or the
premises of the third party) where the value of the meal does not exceed the sun of forty eight
thousand shillings per year per employee.
3.3.13. Car benefits Sec.5 (2B) and (2C)

Sec 5(2B)(a) identifies and brings into tax employment benefits associated with the use of motor
vehicle .Accordingly where an employee is provided with a motor vehicle by his employer, he
shall be deemed to have received a benefit in that year of income equal to the higher of – (i) Such
value as the Commissioner may from time to time determine; and (ii) the prescribed rate of benefit.
Provided that-
(i) Where such vehicle is hired or leased from a third party, the employee shall be deemed to have
received a benefit in that year of income equal to the cost of hiring or leasing; or
(ii) Where an employee has restricted use of such motor vehicle, the Commissioner shall, if
satisfied of that fact upon proof by the employee, determine a lower rate of benefit depending on
the usage of the motor vehicle (2C).
For the purposes of subsection (2B) - "prescribed rate of benefit" means the following rates in
respect of each month -

 In 1996 Year of Income 1% of the initial capital expenditure on the vehicle by the employer
 In 1997 Year of Income 1.5% of the initial capital expenditure on the vehicle by the
employer
 In 1998 and subsequent years of income, 2% of the initial expenditure on the vehicle by
the employer.
MOTOR CARS
Saloon Hatch Backs and Estates

CAPACITY Monthly Rates Annual Rates
Up to 1200 cc Kshs. 3,600 Kshs. 43,200
1201 to 1500 cc Kshs. 4,200 Kshs. 50,400
1501 to 1750 cc Kshs. 5,800 Kshs. 69,600
1751 to 2000 cc Kshs. 7,200 Kshs. 86,400
2001 to 3000 cc Kshs. 8,600 Kshs. 103,200
Over 3000 cc Kshs. 14,400 Kshs. 172,800
Pick-Ups, Panet Van Unconverted
CAPACITY Monthly Rates Annual Rates
Upto 1750 cc Kshs. 3,600 Kshs. 43,200
Over 1750 cc Kshs. 4,200 Kshs. 50,400
iii. Land Rovers/Cruisers Kshs. 7,200 Kshs. 86,400
Range Rovers and vehicles of similar nature are classified as Saloons.
3.4.4. Passages
This should be read together with 5(4)(a)- the expenditure on passages between Kenya and any
place outside Kenya borne by the employer and 5(4)(aa) -the expenditure on vacation trips to
destinations in Kenya paid by the employer on behalf of an employee ( ceased to apply on 1st July
2015 and was only applicable for periods not in excess of 7 days).
An employer may pay for or reimburse the cost of tickets for passages including leave passages
for his employee and family. The value of the passages is a non-taxable benefit of the employee
only if the following conditions are met: -

 The employee was recruited outside Kenya
 The employee is in Kenya solely for the purpose of serving the employer;
 The employee is not a Kenyan citizen
Where such an employee receives a cash sum either periodically or in one amount, which he is
free to save or spend on whatever passages he chooses or for any other purposes and for the
expenditure of which he does not have to account to the employer, the amount received is a taxable
cash allowance.
3.4.5. Medical services
Where an employer has a written plan or schemes or by practice, provides free medical services to
ALL employees, the value of such medical services is a non- taxable benefit of full-time and whole
time service directors. And where there is no plan or scheme, the payment of medical bills is a
taxable cash payment and must be included in the month in which the payment is made (for all
employees).This is provided for under Sec. 5(4)(b) value of any medical services provided by the
employer or medical insurance provided by an insurance provider approved by the commission of
insurance and paid for by the employer on behalf of a full time employee his beneficiaries.
3.4.6. Employer’s contributions to retirement benefits/pension schemes
The retirement benefits schemes are set up with the sole purpose of providing for after retirement
or bereavement. The sector is under the supervision of Retirement Benefits Authority (RBA) and
is endowed with billions of Kenya Shillings in terms of savings. The facility is available to those
who have retired or the next of kin upon the death of the employee. These include the individual
contributors, their parents, spouses and children. The employer and employee are to contribute
some negotiated amount every month or year. The employer’s tax free contributions, as per the
Income Tax Act, is limited and keeps on changing with current economic status. The limit as per
the 2014 is Ksh.25, 000 per month or Ksh.300, 000/- per annum. The exemption is provided for in
Sec. 5(4)(c) as an amount paid by the employer as a contribution to a registered or unregistered
pension fund, provident fund, individual retirement fund or scheme subject to Sec. 5(4)(c)(i) and
(ii), Sec.22A and Sec.22B.

3.4.7. Compensation for termination of employment and lump sum payment
Tax liability extends to any payment whether voluntary or obligatory made to any person in
compensation for the termination of the contract of employment or services. The Role of an
employer is recover the due tax before releasing the rest of the terminal benefits to the employee
(Sec.37).Employment income is assessable on accrual basis i.e. over the period it was earned and
become due .Where employment income is received in a year of income different from year of
accrual, the income will be deemed to be income of the year of accrual. And where the year of
accrual is earlier than four years prior to the year of receipt, the income is to be treated as that of
year of income which expired five years prior to the year in which the income is received or prior
to the year of income in which employment ceased. The lump sum payment may be due on account
of employment income as provided for under Sec. 3(2) (a) (iii) and Sec.5 (2).Sec.8 (1) – (11)
Sec.8 (4) provides exemption for the first Kshs. 300,000 of the total pension and retirement
annuities received by a resident individual from registered fund or NSSF. The commissioner has
powers to prescribe rules on the extent of exemptions over lump sums received ( Sec.8(5)(a)-
(f).Thus Sec.8 (5)(a) exempt the first Kshs. 600,000 lump sum commuted from a registered
pension or individual retirement fund. In case of withdrawal from such schemes the first Kshs.
60,000 per full year of pension able service with that employer starting on the alter of the date the
pensionable services began, or where the employee had previously received a lump sum payment
from that same employer subject to a maximum of Kshs. 600,000 is exempted.
In case of lump sum payment from a registered provident fund or registered defined contribution
scheme the first Kshs. 480,000 or the first Kshs. 48000 per full year of pensionable service with
that employer is exempted. Also exempted from tax is any lump sum paid out of a registered home
ownership savings plan where the amount received is used either to buy or construct a permanent
house for occupation by the depositor within twelve months following the year of withdrawal.
Upon the death of an employee, the beneficiaries qualify for exceptions as any other ordinary
employee as provided above in Sec.8 (5) (a)-(f) for pensions and lump sums. Where the registered
fund provides for no payment of retirement benefits other than the payment of lump sum to an

estate, the first one million is exempted income that is not brought to tax on the estate or its direct
beneficiaries.
EXHIBIT 3.4.3
Awendo Sanda services as an employee of Anam Ltd was terminated in September 2013 after
thirty (30) years of services. He was paid a gratuity of Kshs. 1,320,000; three months pay in lieu
of notice of Kshs. 180,000 and kshs.50, 000 for a 20 days leave not taken in the year
2013.Required (i) Illustrate how the money received is to be taxed
Solution 3:4.3
TAXABLE
YEAR DETAILS AMOUNT Series Gratuity
2013 Pay in lieu of Notice 180000
2012 Service Gratuity 44000 44000
2012 Leave pay 50000 -
2011 44000 44000
2010 44000 44000
2009 44000 44000
2008 44000 44000
2007 1100000 1100000
TOTAL TAXABLE 1550000 1320000
 The Kshs 1320000 is for 30 years service and is therefore distributed for the whole service
period thus coning to Kshs 44000 per year
 Tax is then computed using the individual rates applicable for each year
3.4.8 Where the compensation paid is for specific terms (where the contract is for a specific
period).
Income assessable is not to exceed the amount, which would have been received in respect of
unexpired period of the contract. The amount is to be spread evenly over that period at the
employee’s rate of earning per annum at the date of termination and assessed accordingly.

(a) The rate of remuneration immediately prior to termination is relevant only as far as it helps
in computing the gains or profits for the unexpired period of the contract. If these gains or profits
can be obtained without reference to the rate of remuneration prior to termination, the value so
obtained should be used in deciding the amount assessable.
(b) For the case of Ex-gratia it is assessable in the year of receipt.
(c) Current rates of tax (i.e. 2003) are to be used and personal relief should not be granted in
advance before commencement of any year of income.
EXHIBIT 3.4.4Ajuli Jaboyi contract for seven years was terminated on 31/12/2013 after it had run
for four years. He was paid Kshs. 2,100,000.
REQUIRED: How is the compensation taxed?
SOLUTION 3.4.4
The taxation of the amount received will be as per sec.5 (2) (c) (i) “the amount included shall
not exceed the amount which would have been received in respect of the unexpired period of
the contract and shall be deemed to have accrued evenly in the unexpired period.” The
amount will be spread evenly and assessed in the remaining period of three (3) years as
follows;
Amount Received Ksh.2100, 000

Remaining period of contract 3 years
The spread per annum Ksh.2100, 000/3 years
Year Taxable amount
2014 700,000
2015 700,000
2016 700,00

3.4.9 Where the contract is for unspecified form and provides for terminal payment
Under such circumstances, the compensation received is to be spread forward and assessed at the
employee’s remuneration per annum immediately before termination. The compensation shall be
deemed to have accrued in the period immediately following termination at a rate equal to the rate
per annum of the gains or profits from the contract received immediately prior to termination.
EXHIBIT 3.4.5
Korayo was employed by safaricom in 2009 for unspecified term. The contract provides for
payment of Kshs. 900,000 as compensation in the event of termination. The contract is terminated
on 31/12/2013 at a time when Korayo’s rate of earning was Kshs. 400,000 per annum (SEC.5 (2)
(c) (ii)). REQUIRED How is compensation for termination of employment taxed?

SOLUTION 3:4.5
The amount paid Kshs. 400,000 is spread forward at the rate of Korayo’s annual pay and taxed
using the appropriate rates.
Year Taxable amount

2014 Kshs.400, 000
2015 Kshs.400, 000
2016 Kshs.100, 000
3.4.10 Where the contract is for an unspecified term and does not provide for a terminal
payment
The compensation awarded is to be spread for but amount charged should not exceed the
employment income for three years
EXHIBIT 3.4.5
Ahmed Bin Sultan entered into a contract with WOTE Company Ltd in 2009. The contract was
for an unspecified term and provided no provision for payment of compensation. The contract is
terminated on 31/12/2013 and Kshs. 1,800,000 compensation is paid. Ahmed’s annual pay at the
time of termination of contract is Kshs. 500,000.
REQUIRED
Compute how the terminal benefit is to be taxed.

SOLUTION 3:4.5
The amount is to be spread forward for a maximum of three years based on Ahmed’s annual pay
of Kshs. 500,000.
Year Taxable amount

2014 500,000
2015 500,000
2016 500,000
The balance of Kshs. 300,000 is therefore not to be brought to charge.
3.4.11 Executive compensation schemes or share option plans
An employer may design share ownership plan to reward employees for good performance and
own part of the organization through share option plan. Such shares are deemed to have been
acquired by employees when they excise the option. The benefit therefore is taxable at the time
the option is excised by the employee at the difference between the option (offer) price and the
market price (Sec.7)
EXHIBIT 3.4.6
Umeme Company Ltd has preferential redeemable shares with a nominal value of Kshs. 120. The
company issued additional shares to its shares holders at Kshs. 100
Required:
(a) Compute the taxable value of the issue if the shares are redeemable;
(i) At par
(ii) At a discount of 5%
(iii) At a premium of 10%
SOLUTION 3.4.6

( a) Nominal value 120
Redeemable value 120
The greater of the nominal and redeemable value 120
Issue price 100
Taxable difference 20
(b) Nominal value 120
Redeemable value (95%*120) 114
The greater of nominal and redeemable value 120
Issue price 100
Taxable difference 20
(c) Nominal Value 120
Redeemable Value (110%*120) 132
The Greater of nominal and redeemable value 132
Issue price 100
Taxable Difference 32
3.4.14 Services and domestic servants
The personal expenses of an employee paid by the employer are taxed at the cost the employer or
fair market value whichever is higher. The commissioner provides rates that are to be taken if
higher than the cost to the employer. Where there are no prescribed rates the cost to the employer
should be taken. The commissioner has specifically issued rates on services and domestic servants.
SERVICES Monthly Rates Annual Rates
(i) Electricity (Community or from a generator) 1,500 18,000

(ii) Water (community or from a borehole) 500 6000
(iii) Telephone (landline or mobile) 30% of the bills
(iv) Furniture 1% of cost or cost of hire

AGRICULTURAL EMPLOYEES
(i) Water 200 2400
(ii) Electricity 900 10800
3.17 Tax free remuneration
Terms of employment may provide for payment of salary net of tax in order to attract employees.
Where the employer bears the burden of tax on behalf of an employee, the tax so paid by the
employer becomes a benefit chargeable to tax. The tax burden must be computed to establish the
extent of the tax burden borne by the employer after which the computed tax burden is added back
and brought to tax charge.
EXHIBIT 3.4.11
Kamau earns a gross pay of Kshs. 629,314 per annum. He contributes Kshs. 104,998 per annum
towards Widows Children Pension Scheme which is registered with KRA. The monthly PAYE
charge before relief is 92,544. The employer bears the net PAYE and pays Kamau net of tax
Required:
(i) Tax benefit
(ii) Taxable pay
SOLUTION 3.4.11
Total Tax benefit
(i) Gross Pay = 629,314
Less: Contribution to WCPS = (104, 998)
Taxable pay = 524,316
TAX PAYMENT ON KSHS. 126,316
134,164 X 10% = 13,416
126,403 X 15% = 18,960
126,403X 20% = 25,280
126,403X 25% = 31,606

(524,316 – (134,164 +126,403 + 126,403 + 126,403)  524,316 – 513,373)
10,943 X 30% = 3,282.
Tax payable = (13,416+18,960+25,280+31,606+3,282)
= 92,544
Less: Monthly relief = 15,360
Tax borne by the employer is =87,184.
Therefore the pay that Kamau received must be computed again and the tax burden borne by the
employer added to the pay and the new tax liability computed
Total Gross = 629,314
Add: Tax paid by employer =87,184
Total adjusted pay =716,498
Less: Contribution to W.C.P.S = 104,998
Taxable income =611,500
(ii) Tax Due from Kamau
134,164 X 10% = 13,416
126,403X 15% = 18,960
126,403 X 20% = 25,280
126,403X 25% = 31,606
(608,797 – (134,164+126,403+126,403+126,403)  611,500 – 513,373)
98,127 X 30% = 29,438
Tax payable = (13,416+18,960+25,280+31,606+3,282+29,438)
= 118, 7000
Less: Annual relief = 15,360
Tax Payable =103,340
Less PAYE paid by employer = (92,544)
Tax due from Kamau =10,796
3.5 Summary
Taxation of benefits that accrues to an employee by virtue of being employed has been addressed
covering all aspects that the commission feels may create an avenue for tax avoidance. The lesson

covered loans, accommodation and meals, passages, medical services, contribution to pension
schemes, balancing charge, and car and housing benefits

3.6 Specific Reference
GOK (2009): Income tax Act Cap 470, Government Printing Press, Nairobi Kenya
Osambo. A.T. (2009).Income Tax Law and Practice, Antopoly Professionals Services Ltd,1 st
Edition
3.7 Self assessment questions

Question One
Odalo Wembe a manager with Anam Ltd earns a basic pay Kshs. 180,000 per month plus other
benefits (motor car, House servant etc) Kshs. 90,000. Odalo Wembe is housed and the employer
pays to the landlord rent Kshs. 120,000 per month under an agreement made at arm’s length with
a third party.
Required
(i) Calculate the value of quarters provided to Odalo Wembe
Question Two
Orori is employed as the finance manager. The following are his employment details for the year
ended 31st Dec 2013.
1. Basic salary sh.414,000 per month (PAYE 57,500)
2. Allowances and reimbursement from employer
Entertainment all (self and family) 552,000
Reimbursement: Business mileage 960,000
Home phone bills 386,400
3. The company provided and paid for ht following domestic employees assigned to Orori.
Servant monthly pay
Gardener 17,000
Watchman 20,000
Cook 19,000

4. The employer paid school fees to Orori’s children which amounted Ksh.542,000 per
annum. These expenses were treated as allowable expenses in the company’s books.
5. Orori and the employer both contribute 5% of Orori basic pay towards on registered
pension scheme.
6. The company operates a medical scheme for its senior manages. During the year the Mr.
Orori received Ksh.206,000 being reimbursement for medical fees paid for self and family.
7. He purchased his residential house in 2013 through a 15 year mortgage from housing
finance company of Kenya. The mortgage interest paid for the year amounted to
Ksh184,000
Required
Determine Mr. Orori’s total taxable income for the year ended 31`/12/2013
Question Five
George Ruenee is a British national recruited in Liverpool by Safaricom to come and head its
Kenyan operations. The details of his remuneration and terms of employment is provided
 Basic pay 24,000,000 P.a
 Cost of living 2,400,000 P.a
 House rented at Runda and paid for by the company sister Company. The company
pays a monthly rent of 300,000. Such houses are rented at 240,000 per month.
 The company contributes 45% of Basic pay towards a pension scheme where
George Ruenee also contributes 35,000 per month
 The company provides George Ruenee with a 20000cc Mercedez Benz with a
Driver who is paid by the company ( Pay per month of the driver Ksh. 65,000) the
cost of the car Kshs.9,000,000
 During the year George Ruenee was given Ksh.350,000 as passage to enable him
travel for holiday home in U.K.
 The company refunded Ksh. 54,000 to George Ruenee for having paid for his hotel
expenses when he went to Uganda to oversee the setting up of the new Safaricom
network and operations in that country.

 George Ruenee has a mobile phone which he can use for both private and official
use. The company paid airtime bill of Kshs.650,000 during the year of which 30%
can be traced to Johnson’s private use.
 George Ruenee enjoys the services of a housemaid and shamba boy all paid by the
company at Ksh.25,000 per month
Required
(a) Compute George Ruenee taxable salary income
(b) How is passage allowance treated for purposes of taxation in Kenya
QUESTION SIX
(a) Olonde Matoro is an American national recruited in Liverpool by Safaricom to come and
head its Kenyan operations. The details of his remuneration and terms of employment is
provided
 Basic pay 40,000,000 P.a
 Cost of living 6,400,000 P.a
 House rented at Runda and paid for by the company sister Company. The company
pays a monthly rent of 400,000. Such houses are rented at 440,000 per month.
 The company contributes 25% of Basic pay towards a pension scheme where
Olonde Matoro also contributes 20,000 per month
 The company provides Olonde Matoro with a 20000cc Mercedez Benz with a
Driver who is paid by the company ( Pay per month of the driver Ksh. 35,000) the
cost of the car Kshs.18,000,000
 During the year Olonde Matoro was given Ksh.250,000 as passage to enable him
travel for holiday home in U.K.
 The company refunded Ksh. 129,000 to Mr. Olonde Matoro for having paid for his
hotel expenses when he went to Uganda to oversee the setting up of the new
Safaricom network and operations in that country.
 Olonde Matoro has a mobile phone which he can use for both private and official
use. The company paid airtime bill of Kshs.150,000 during the year of which 30%
can be traced to Johnson’s private use.

 Olonde Matoro enjoys the services of a housemaid and shamba boy all paid by the
company at Ksh.15,000 per month
Required
Compute Olonde Matoro taxable salary income (10 marks)
(b) How is passage allowance treated in Kenya

Question Seven
Bernard is a British national recruited in Liverpool by Airtel to come and head its Kenyan
operations. The details of his remuneration and terms of employment is provided
 Basic pay 24,000,000 P.a.
 Cost of living 2,400,000 P.a.
 House rented at Runda and paid for by the company sister company. The company pays a
monthly rent of 300,000. Such houses are rented at 240,000 per month.
 The company contributes 45% of basic pay towards a pension scheme where Bernard also
contributes 35,000 per month.
 The company provides Bernard with a 20,000 cc Mercedes Benz with a driver who is paid
by the company (Pay per month of the driver Ksh. 45,000) the cost of the car Ksh.
9,000,000
 During the year Bernard was given Ksh. 350,000 as passage to enable him to travel to his
holiday home in the U.K.
 The company refunded Ksh. 54,000 to Bernardo for having paid for his hotel expenses
when he went to Uganda to oversee the setting up of the new Airtel network and operations
in that country.
 Bernard has a mobile phone which he can use for both private and official use. The
company paid airtime bill of Ksh. 830,000 during the year of which 30% can be traced to
Johnson’s private use.
 Bernard enjoys the services of a housemaid and shamba boy all paid by the company at
Ksh. 85,000 per month.

Required
Compute Bernard taxable salary income.
What is passage allowance? How is passage allowance treated in Kenya as per the
Income Tax Act (6marks)

Chapter Three Employment Income Class 2

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CHAPTER THREE EMPLOYMENT INCOME

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By the end of this Chapter you should be to:

(ii) Identify non-taxable employment benefits

(iii) Ascertain taxable employment income

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3.4 Employment benefits

The chargeable value of benefits should be the higher of either be: -

 The fixed monthly rates determined by the commissioner or

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 Sec.5(2)(a) wages and salary

EXEMPTED EMPLOYMENT INCOME AND BENEFITS

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 Sec.5(2)(a) wages and salary

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 Sec.5(2)(d) Any balancing charge under Part II of the Second Schedule

3.4.12 Balancing charge (part ii-second schedule) 5 (I) (2) (d)

i.Calculate the Balancing Charge

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Gross Taxable Pay 3,000,000

i.Purchase Price 100,000

 Sec.5(2)(e) value of premises provided by an employer for occupation by his employees

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The above provisions may be looked at under the following illustrations

(a) Director (other than whole time director)

The provision of housing may be:

Where the employer owns the premises

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Director (other than whole time service director)

A whole time service director

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Other employment income 1,000,000

Add: Housing Benefit 180,000

Total Taxable salary Income 1,180,000

Other employment income 1,000,000

Add: Housing Benefit 200,000

Total Taxable salary Income 1,200,000

 15% of the total employment income =15/100*1000000

(i) Value is Kshs.480, 000.

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Any other Employee

The taxable value shall be the higher of

 15% of the gains or gains from employment or services rendered and

3.4.1 Low interest or free interest loans (Sec.5(2A)

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The benefit chargeable to tax = prescribed rate – employers rate.

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 Loan provided by the employer = Kshs. 1,800,000

(i) Calculation of low interest benefit

Prescribed rate – employers rate= 8% - 3% = 5%

Total 92,500 1,110,000

3.4.2 Fringe benefit tax payable by employer (Sec 12B)

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 Employers loan to kiunde Kshs. 2,400,000

 Market Interest Rate for the month 11%