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Friday, October 26, 2012

Taxation of Rental Income in Kenya

Taxation of Rental Income under Kenya Laws

(A) Income Tax

For purposes of Kenyan income tax, rental income, premium or similar consideration is regarded as taxable income pursuant to section 3(2) (a) (iii) of the Income Tax Act, Chapter 470 of the Laws of Kenya.   Such other consideration aforesaid include rent realized from sub-leases.

It is also important to note that rent on commercial buildings is also subject to VAT at the rate of 16% , and this is pursuant to sections 5 a and 6 of the of the Value Added Tax Act, Chapter 476 of the Laws of Kenya.
Such a tax payer must register for VAT under the 6th Schedule of the VAT Act.  Registration is online and is done by choosing the VAT obligation.  Further details on VAT on rental income are provided for in Part B below.

All persons should pay income tax on rental income except if exempted. For instance, charitable organizations can be exempted to pay income tax on rental income pursuant to paragraph 10 of the First Schedule to the Income Tax Act

Section (2) (a) (iii) of the Income Tax Act state that income tax shall be chargeable for each year of income upon all income of a person, whether resident or non-resident, which accrue in or is derived from Kenya.  Under section 6 of the Income Tax Act, gains or profits from trade or business which are taxable under the Act includes a royalty, rent, premium or similar consideration received for the use or occupation of the property.

Resident Tax Payer

Resident taxes payable are supposed to declare the gross rent income but pay tax on net income. Pursuant to section 16 the Income Tax, such net income is arrived at after deducting all expenses which are ‘wholly and exclusively incurred in the production of the income’.  Deductible expenses in respect of rental income are covered under section 15 (1) of the Act and include repairs and maintenance, caretaker costs, legal expenses for preparation of leases, land rents and rates, insurance, agency fees, ground men etc.   In certain cases, some capital expenditures are also deductible and these include costs incurred for the alternation of the premises in order to maintain the existing rent (section 15(2) (f) of the Act).  Under section 15(3) (a) of the Act interest on money borrowed and used to put up rental premises is also a deductible expense.

Non Resident Tax Payer

It should be noted that non-resident tax payer are not allowed to deduct any expenses heighted above from rental income.

Rates of Taxation

There are different rates of income tax which are dependent on whether the tax payer is a corporate or individual or is resident or non-resident for income tax purposes.

(a)    For individuals, the entire income include net rental income is taxed at the current graduated rate, which is as follow:-
For the first KShs.121, 968………………..…10%
               For the next KShs. 114, 912 ………………..15%

For the next KShs. 114,912………………….20%
               For the next KShs., 114,912………………..25%

For the next KShs. 466, 704………………..30%
(b)   For a resident corporate tax payer the entire taxable income including net rental income is taxable at the flat rate of 30%.
(c)    For a non-resident tax payer, there is only a 30% withholding tax on gross rent, which is the final tax.  As stated above such tax payers are not allowed to deduct any expenses on gross rent income.
(d)   For partnership, only a single rent declaration is submitted but individual partners will be taxed on their respective share of rental income.
(e)    For the estate of a deceased landlord, the net rental income is taxable at resident corporate rate of 30%.  Such tax should be paid by, and assessed on, the estate administrator or legal personal representative of the deceased.
(f)     VAT on rent from commercial building is at the rate of 16% since it is not exempted under the Third Schedule of the VAT Act.
Incentives offered to the landlords under the income tax include the following:-
  • For industrial buildings-Industrial Buildings Allowance on the cost of the construction as per the paragraph 1(1) of the Second Schedule to the Act. The applicable rate is dependent on the nature, use or location in which the  is constructed.  The rates are provided in the aforesaid provision as read together with paragraph (5) of the said schedule.
  • Wear and Tear Deduction on the machinery and equipment on the building as per Schedule 2 of the Act.
  • Income of Real Estate Investment Trusts (REITs) is not taxable under section 20C of the Act.  The mode of taxation is the same as that of unit trusts which are not taxed on investment income.
  • Personal and insurance reliefs as per sections 30 and 31 of the Act.
  • Home Ownership Saving Plans for individuals per section 15 of the Act.
  • Mortgage Relief for owner occupied income as per section 15 of the Act.
  • The Finance Act of 2008 also amended the VAT to introduce certain incentives for low income housing projects.  (L.N. No. 115 of 5th September, 2008). A low cost earner is defined a person with monthly gross income of KShs. 35,000 or less. A  Low cost house is defined as a house put up at construction costs of not more than KShs. 1.6 Million and of plinth area not less than 30 square meters. A low income housing project means a project of not less than 20 houses intended of low cost earners.
For non-resident individuals Kenyan who have rental properties in Kenya, they must pay withholding tax on gross rental income at the resident corporate rate of 30%. No expenses are allowable or deductible from such gross income.

Taxation of Real Estate Developers

The real estate developers construct housing or office units for sale to third parties (buyers).  Such developers should pay tax on the net profits of their business. Pursuant to section 15 of the Act, they are allowed to deduct expenses incurred wholly and exclusively in the production of such income. These include cost of land, professional fees payable to various consultants and professionals, materials costs, labour costs, marketing and advertising and other administrative costs. 

Such tax payers should also deduct and pay withholding tax payable on contractual, agency, management and professional fees payable to the contractors and other consultants.

Residence for Kenyan Tax Payer

For purposes of income tax, resident is defined in section 3 of the Act to mean the following:-
  • One has a permanent home in Kenya;
  • Has been in Kenyan for a aggregate 183 days in any year of income; or
  • Hass been in Kenyan for a maximum of 121 days in that year and two preceding years of income.
A corporate person is considered resident if:-
  • It was registered or incorporated in Kenya; or 
  • Its management or control of the company is exercised substantially in Kenya.
(B) VAT on Rent payable on non-residential Buildings
With effect from 1st January, 2008 supply of non-residential building is a taxable supply.  
Any person who makes taxable supplies, or is expected to make taxable supplies, the value of which is Kshs.5million or more per annum is required to register. Where a person makes other taxable supplies, taxable rental income will be added to the other taxable supplies to determine the taxable turnover. A person who is already registered for VAT will not be required to register afresh for rental income but will charge tax on rental income even if rental income does not exceed KShs 5m.

Thus, VAT is chargeable on rent payable on letting, renting, hiring or leasing of non-residential buildings or premises. The building owner is required to register for VAT it he meet the threshold set out in the VAT Act and charge VAT on rental payable and remit it to KRA on or before 20th of every month.  However, a non-residential property owner may apply to the Commissioner of VAT for the registration of an estate agent who should be responsible for the imposition and collection of the tax on his behalf.

After registration the tax payer is required to display a certified copy of the VAT registration Certificate in each of the buildings from which he is earning taxable rent because such a building will constitute his business premises in accordance with paragraph 10(1) of the Sixth Schedule to the VAT Act.
Other that rental, VAT is also applicable on service charge and any premium charged on top of rent like goodwill and development levy.
Where a building is used partly for residential and non-residential purposes, VAT on rentals of the non-residential portion of the building will be applicable.  Where the premises is used by the owner thereof for his own business this will be treated as making self-supplies and VAT is not chargeable.

Where a non-residential building is owned under common tenancy or joint tenancy, owners thereof will be considered to be in partnership and be required to pay VAT.
A tenant who is registered for VAT is entitled to deduct input VAT paid on rent when making monthly returns.

A person who is registered for the supply of rental services is be entitled to claim relief of tax incurred in the construction of such buildings or civil works, in accordance with section 12, but not on the purchase of the building as sale of buildings is still exempt from VAT.  However, where any person develops a non-residential building and uses it to supply rented income and then sells the same within 5 years, he will be required to refund the input tax claimed as provided under Section 11(1B).

Please also note that where a person rents a building and he further sublets the whole or part of the same building for rent, he will be treated as a supplier of rental services and shall be liable to register for VAT if the income exceeds Kshs.5million per annum.

VAT is not applicable on sale of land, building or units, and this is not considered a taxable supply for purposes of VAT Act. 

The VAT Bill, 2012 which is before Parliament mirrors the above provisions and there will not fundamental change on VAT on rent in respect of non-residential buildings.

Note: This is generalized information applicable as at the date hereof, and does not obviate the need to seek specific or detailed legal opinion depending on your circumstances. Should you require such advice or legal opinion, please do not hesitate to contact the writer via mainacy@gmail.com

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