Section 12D of the Income Tax Act was introduced via the Finance Act of 2020 which sought to impose a minimum tax of 1% on gross turnover. The tax rate was introduced to ensure that everyone, regardless of whether they make a profit or loss, old business or new business, contributes fairly and justly to the government’s effort in the provision of services.
The section exempts the following incomes from the minimum tax rate;
- Income from employment
- Residential Rental Income Tax
iii. Turnover Tax
- Income from insurance business
- Capital Gains Tax
- Income of Extractive Sector
vii. Income from retail price regulated by Government
In the current tax regime, individuals are required to remit their advance tax in four installments i.e by the 20th day of April for the first quarter, the 20th day of June for the months of May and June, the 3rd quarter is remitted on the 20th day of September and the final quarter being October, November and December tax is payable on the 20th day of December (Assuming the business’s fiscal year begins in January). Tax due for each quarter is computed by subtracting all expenses and the tax deductibles from the actual earnings.
Section 12D presupposes the minimal tax payable to be computed by multiplying each quarterly income by 1% and comparing it with the tax payable from the quarterly computation of the current tax regime and remitting whichever is higher of the two. Minimum Tax Guidelines released by KRA in March 2021 stipulate;
‘Minimum Tax shall apply where it is higher than installment tax due for the period’
Further, the guidelines provide that If a person demonstrates that the tax liability is less than the Minimum Tax after preparing the final return and accounting for the accounting period, the Minimum Tax shall be the final tax, and if they are in a loss position, the Minimum Tax paid shall be the final tax.
Since the minimum tax is levied on gross turnover rather than gains or profits, businesses making profits are obligated to remit the minimum tax which would mean that the person may end up paying for the tax using their capital or even out of pocket.
Taxpayers filed a petition challenging the legality of section 12D, stating that the section is unconstitutional as it violated Article 201(b) of the Constitution, which states that the burden of taxation should be shared fairly.
KRA argued that the minimum tax was to achieve equity by sharing the tax burden through broadening the tax base. It also contended that the minimum tax would target tax evaders from avoiding their rightful share of tax liability.
In the preliminary stage, the High Court issued conservatory orders suspending the implementation of Section 12D of the Income Tax Act since it was inconsistent with the principles of public finance as enumerated under section 201 (b) (i).
The Kenya Revenue Authority appealed the decision at the Court of Appeal, however, the court upheld the High Court’s decision that restricted KRA from implementing section 12D of the Income Tax Act.
The Court of Appeal reiterated that levying a minimum tax on gross turnover rather than gains or profits would result in a situation in which a loss-making taxpayer would incur a larger burden than other taxpayers, thereby countering Article 201 of the Constitution.
Additionally, it was noted that ensuring the tax burden is fairly distributed ought to be achieved within the constraints of the law and in conformity with the intent of the Constitution. Kenya Revenue Authority (KRA) has since filed an appeal at the Supreme Court regarding the same.