International Taxation and Double Taxation in Kenya

International taxation is the set of rules and principles governing how a country taxes income, profits, and transactions that cross its borders. It deals with the allocation of taxing rights among countries and aims to prevent double taxation while also combatting tax evasion and avoidance. It includes tax treaties, transfer pricing regulations, and anti-avoidance measures.

As an increasingly globalised economy, Kenya engages in cross-border trade, investment, and transactions with foreign entities. Effective international taxation policies ensure that Kenya can collect revenue from these activities while also attracting foreign investment and promoting economic growth. Additionally, international taxation helps Kenya maintain fair competition, protect its tax base, and fulfill its international obligations.

International taxation is a critical aspect of Kenya’s tax system, with various rules and regulations in place to ensure fair and efficient taxation of both resident and non-resident entities. 

Kenyan tax regime

The Kenyan tax system is primarily governed by the Income Tax Act (ITA), which provides for the taxation of income derived from various sources, including business activities, employment, and investments. 

Other tax regimes include Value Added Tax (VAT), a consumption tax imposed on the supply of goods and services within the country. Excise Duty targets specific products, including alcohol, tobacco, and petroleum goods, manufactured, or consumed domestically. Customs Duties, overseen by the Kenya Revenue Authority (KRA), are imposed on both imports and exports of goods, serving as a significant revenue stream for the government. 

Additionally, PAYE, or Pay-As-You-Earn, constitutes a tax deducted from the salaries and wages of employees by their employers. Property Taxes, levied on the value of real estate properties owned by individuals or entities, contribute to local government revenue. Lastly, Withholding Taxes are deductions made at the source on certain payments, such as dividends, interest, and royalties, made to non-residents. Together, these taxes form the backbone of Kenya’s fiscal policy, facilitating the financing of public expenditure and infrastructure development while ensuring equitable distribution of the tax burden across different sectors of society.

 

Residence-based taxation system

Kenya employs a residence-based taxation system, wherein resident companies are taxed on their global income, while non-resident companies are only taxed on profits attributable to a Kenyan Permanent Establishment (PE). Corporate Income Tax (CIT) is set at a rate of 30% for resident companies, including subsidiaries of foreign parent companies, as well as for branches of foreign companies and PEs. However, the Finance Act of 2023 introduced an additional tax on repatriated income for branches of foreign companies and PEs, at a rate of 15%, resulting in an effective tax rate of 40.5%. This aligns the tax burden for permanent establishments and branches with that of incorporated Kenyan companies with non-resident shareholders.

Kenya introduced a Digital Service Tax (DST) on 1st January 2021. This tax is applicable to non-resident individuals earning income from providing digital services in or derived from Kenya. It specifically targets digital marketplaces, which encompass online platforms facilitating the sale or provision of services, goods, or other items to users.

 

Double taxation

Black’s Law Dictionary 5th Edition, 1979 defines double taxation by stating that:

“to constitute ‘double taxation’, that tax must be imposed on the same property by same governing body during same taxing period and for same taxing purpose.”

Double taxation has also been defined by the Court in Kenya Pharmaceutical Association & Another vs. Nairobi City County and the 46 Other County Governments & Another [2017] eKLR as the taxing of the same income twice in, where the Court found that payment of trade license to the Respondents and professional license fees to the professional body did not amounts to double taxation. This position was further upheld in Cantonment Board, Poona v. Western India Theatres Ltd., AIR 1954 Bom 261 where the Court affirmed that being levied two taxes of different nature does not amount to double tax. 

Additionally, in the case of Okello & another v National Assembly & 2 others; Shop & Deliver Limited t/a Betika & 7 others (Interested Parties); Kiragu & 2 others (Cross Petitioner) ((suing on behalf of, as the Chairperson, Secretary and Treasurer respectively of, the Association of Gaming Operators of Kenya)) (Constitutional Petition E010 of 2021) [2022] KEHC 3059 (KLR) (6 May 2022) (Judgment), it was submitted that;

“for double taxation to exist, taxation must be carried on the same person, same item, same tax head and within the same financial year. Absence of any of the aforementioned critical components of double taxation means that the same is not double taxation.”

Additionally, in the case of Kenya Flower Council vs. Meru County Government [2019] eKLR, the court noted that:

“the Constitution is alive to the fact that the burden of taxation should be shared fairly, as the national and county government raise revenue through imposition of taxes and charges. This is to avoid double taxation or creating a heavier burden of taxation on concerned taxpayers. Therefore, there is absolute necessity of a mechanism that does not produce unnecessary duplication of taxes and one that averts creation of unduly heavy burden of taxation on particular category of taxpayers.”

It is therefore, not only unconstitutional and unlawful to subject one to double taxation but the same is also economically punitive in nature. 

In Keroche Industries Limited vs. Kenya Revenue Authority and 5 Others HC Misc. Civil Appl No. 743 of 2006 [2007] eKLR the court highlighted that:

“It is of course regarded as penal for a person to be taxed twice over in respect of the same matter.”

Nonetheless, when an individual or entity is subject to two distinct taxes on the same income or transaction, it does not necessarily constitute double taxation. Instead, it reflects the jurisdictional authority of different tax systems to impose taxes within their respective domains. Double taxation occurs when the same income is taxed twice by the same tax authority or by different jurisdictions without adequate relief mechanisms. Therefore, the mere imposition of multiple taxes on a single entity or individual does not automatically qualify as double taxation; rather, it depends on the specific circumstances and whether provisions are in place to prevent or alleviate the adverse effects of overlapping taxation.

In (Constitutional Petition E010 of 2021) [2022] (Supra), the court noted that:

“Excise duty is clearly a different levy from withholding tax which is income tax. Whereas the two tax may well impose burdens on the tax payer, that does not make them unconstitutional unless the imposition violates Article 201 of the Constitution.”

Double taxation occurs in two main scenarios: at the corporate and shareholder level, and in the taxation of foreign investments. At the corporate level, businesses are taxed on their earnings, and shareholders face taxation again on dividends received from those earnings. This dual taxation is justified by the legal separation between corporations and their shareholders, treating them as distinct taxpayer entities. Similarly, foreign investments can be subject to taxation both in the country of origin and again upon repatriation, particularly when individuals engage in business activities across borders. To address these issues, many countries have entered into Double Taxation Agreements (DTAs) to prevent individuals and businesses from being taxed twice on the same income or asset.

Double taxation can have detrimental effects on taxpayers, potentially leading to a significant reduction in income and a lowered standard of living. Economically, double taxation can be damaging as it may incentivize the relocation of economic activities to jurisdictions with lower tax burdens, or encourage tax avoidance strategies. This unequal treatment of activities across different tax jurisdictions can distort market dynamics and hinder economic growth. Advocates argue that eliminating double taxation entirely could stimulate economic growth by removing barriers to investment and business expansion, leading to increased job creation, higher salaries, and improved living standards for individuals and communities.

 

How Kenya handles double taxation

Kenya addresses the issue of double taxation primarily through the negotiation and implementation of Agreements for the Avoidance of Double Taxation or simply put, Double Tax Treaties (DTTs) with other countries. These treaties are designed to eliminate double taxation and prevent tax avoidance by allocating taxing rights between the contracting countries.

Kenya has established DTTs with various nations, including the United Kingdom, Germany, Canada, Denmark, Norway, Sweden, Zambia, India, France, South Africa, Iran, South Korea, Qatar, the United Arab Emirates, and Seychelles. These agreements often stipulate reduced or exempted withholding tax rates for certain transactions. However, it’s important to note that these reduced rates are not automatically applied; instead, they are subject to the limitation of benefits provisions outlined in Kenya’s Income Tax Act. 

On 21st March 2023, in accordance with the Treaty Making and Ratification Act, Kenya’s Cabinet endorsed the country’s intended ratification of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting, commonly known as the MLI. This approval follows Kenya’s signing of the MLI on 26th November 2019, marking a span of approximately three years.

Furthermore, Kenya is a member of the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS), but it has not endorsed the Two-Pillar Solution proposed to address tax challenges stemming from digital economy developments. Instead, Kenya has submitted alternative proposals to the OECD on this matter.

Apart from DTTs, Kenya has implemented unilateral tax credit measures for its citizens, which can be claimed if a DTT exists between Kenya and the relevant tax jurisdiction. Additionally, the Kenyan tax system offers tax residence certificates to taxpayers to confirm their tax residency in Kenya and prevent double taxation.

In situations where both countries involved in a bilateral economic relationship serve equally as source and residence countries, the limitation of taxing rights is typically divided relatively equally. However, Kenya often finds itself predominantly as the source country in its bilateral relations. In such cases, Kenya weighs the cost of lower withholding tax rates and restricted source taxation of business income against the benefits it receives in return from its treaty partners.

 

Management of Double Taxation Agreements (DTAs)

The Treaty & International Policy office oversees the management of DTAs. This function involves conducting thorough analyses of the DTA network and the domestic tax systems of countries with which Kenya intends to negotiate and sign DTAs. The office prepares detailed reports on these analyses, which are then shared with the National Treasury to inform the negotiation process. Additionally, the office provides interpretation of existing tax treaties to ensure their proper application and implementation, particularly when requested by taxpayers seeking clarity on how treaties apply to their transactions.

DTAs play a crucial role in facilitating international trade and investment by providing clarity and certainty to taxpayers regarding their tax obligations in different jurisdictions. Kenya aims to create a conducive environment for cross-border transactions while minimising instances of double taxation by effectively managing DTAs. This aligns with international best practices and contributes to the country’s efforts to attract foreign investment and promote economic growth.

The management of DTAs is essential for ensuring the effectiveness of Kenya’s international tax framework and promoting harmonious relations with its treaty partners.

B M Musau & Co., Advocates LLP is a top-tier legal services provider on emerging legal trends like surrogacy in the Kenya jurisdiction and beyond. While this is a general commentary aimed at providing information, if you require any specific assistance on this or any other emerging area of law, please reach out to us via email on info@bmmusau.co.ke