Capital Gains Tax in Kenya demystified

Probably you are planning to sell a piece of land or you are an entrepreneur with an exciting idea that has attracted potential investors. It may be interesting for you to find out that the gain you make on the sale of land or on the value of shares you will be selling to your investors attracts a tax known as capital gains tax (CGT). The new year has also started with news that CGT rate has been increased from 5% to 15% effective January 1, 2023 in line with the proposals of the Finance Act 2022.

Capital Gains Tax (CGT) is tax that is levied on transfer of property situated in Kenya which was acquired on or after first January 2015. The tax is declared and paid by the transferor of the property including land, buildings and shares.

In the context of CGT, a transfer is deemed to have happened if:

a.     The property is sold, exchanged, conveyed or disposed of in any manner including by way of gift whether or not for consideration/payment.

b.     The property is lost or destroyed whether or not compensation is received. However, if compensation is received and used exclusively to reinstate the property in essentially the same form and in the same place within one year or within timelines approved by the commissioner, it may not be considered as transfer.

c.      The property is abandoned, surrendered or forfeited, including the surrender of shares or debentures upon dissolution of a company.

Exemptions

The following transactions are exempt from CGT in Kenya:

a.     When the property is being transferred only to act as debt security/collateral and when the creditor is returning property used as security for debt/loan.

b.     When a listed company issues its own shares or debentures(unsecured debt instruments)

c.      Income that has been taxed elsewhere as in the case of property dealers

d.     When a deceased person’s property is being transferred to beneficiaries during administration of the estate by a personal representative

e.     Assets being transferred between spouses or between former spouses as part of a divorce settlement or a bona fide separation agreement

f.       Assets being transferred to immediate family

g.     When assets are being transferred to a company where spouses or a spouse and immediate family hold 100% shareholding

h.     When a private residence is transferred if the individual owner has occupied the residence continuously for the three-year period immediately prior to the transfer.

i.       Transfer of agricultural land that is less than 50 acres

j.       Transfer of securities by a body expressly exempted under the Income Tax Act

How is CGT calculated?

CGT is charged on the net gain of the property being transferred at the rate of 15% for resident taxpayers.

Net Gain = Transfer value less incidental costs on transfer - Adjusted Cost (acquisition cost + incidental costs on acquisition + any enhancement cost)

Incidental costs- they include costs like legal, advertising, valuation and commissions paid during acquisition or transfer of the property.

Implications

The 200% increase of the CGT rate is likely to affect investments in Kenya in various ways. For instance, most investors holding private equity (unquoted shares) may slow down on transacting so as to avoid paying the extra taxes. This is likely going to cause challenges of raising capital by unquoted companies hence resulting to liquidity problems.

Investors especially in the real estate sector may pass on the extra tax burden to the buyers hence making the prices of land and buildings increase.

Indexation adjustment

Where inflation has an effect on the value of assets, an allowance known as indexation allowance is given. The process is called indexation adjustment and Kenya unlike many other countries which have CGT does not allow the adjustment.

This has raised critiques with investors arguing that the gain in value of a property is not entirely attributable to its appreciation. Some of the gain is attributable to inflation and therefore subjecting the entire gain to capital gains tax results to taxation of inflation which the investor has no control over. The government should therefore consider adopting indexation adjustment which will help in determining the fair value of assets before computing the gain to be subjected to CGT.