Topic 1: Taxation
1. Meaning and Purposes of Taxation
A tax is a compulsory payment to the government by individuals and organisations, with no direct benefit in return.
Objectives of Taxation
- Raise revenue to finance public services and development.
- Redistribute income from the rich to the poor.
- Protect local industries (e.g. import duties).
- Discourage consumption of harmful goods (e.g. excise duty on cigarettes and alcohol).
- Control inflation by reducing spending power.
- Influence investment through tax incentives.
- Correct the balance of payments by discouraging imports.
2. Classification of Taxes
a) Direct Taxes
Paid directly by the person or business on whom they are imposed.
- Income tax (PAYE) on employees' earnings.
- Corporation tax on company profits.
- Capital gains tax on gains from sale of assets.
- Withholding tax deducted at source (e.g. on dividends, interest).
b) Indirect Taxes
Charged on goods and services; the burden is passed to the consumer.
- Value Added Tax (VAT).
- Excise duty.
- Customs (import) duty.
c) By Rate Structure
| Type |
Description |
| Progressive |
Rate rises as income rises (e.g. PAYE) |
| Regressive |
Takes a higher share of low incomes (e.g. flat duty on basic goods) |
| Proportional |
Same rate regardless of income |
3. Principles (Canons) of a Good Tax System
- Equity: fair in terms of ability to pay.
- Certainty: the amount, time and method of payment should be clear.
- Convenience: easy to pay and at suitable times.
- Economy: low cost of collection.
- Productivity (yield) and flexibility: raises enough revenue and can be adjusted.
4. Tax Terms
- Tax incidence: the person who finally bears the tax burden.
- Tax evasion: illegal reduction of tax through false information.
- Tax avoidance: legal use of loopholes to reduce tax.
- Tax relief / exemption: reduction or removal of a tax for specific cases.
- Tax base: the income, goods or property on which a tax is charged.
5. The Kenya Revenue Authority (KRA)
KRA assesses, collects and accounts for taxes on behalf of the government, enforces tax laws and advises on tax policy.
Problems of Taxation
- Evasion and avoidance
- Disincentive to work and invest when rates are too high
- Cost of collection
- Inflationary effects of some indirect taxes
- Corruption and poor tax education