UNIT FOUR

4. ETHIOPIAN TAX SYSTEM

4.1 STRUCTURE OF ETHIOPIAN TAX SYSTEM AND ADMINISTRATION
Income tax of Ethiopia is based on the new Income Tax Proclamation No. 286/2002 and Income
Tax Regulation No.78/2002.
Income is defined as every sort of economic benefit including non recurring gains in cash or in
kind, from whatever source directed and in whatever form paid credited or received. The
proclamation governing income uses scheduler system of taxation. As per this proclamation,
income is classified for income tax purposes according to its nature and source. The
classifications into which the income falls are known as Schedules.
4.2 Income Taxes

The income tax proclamation classified income in accordance with its nature in to four schedules
as follows:

Schedule Nature of income

A Income from employment
B Income from rental of buildings
C Income from business
D Income from royalties; income from rendering of
technical service, income from game of chance; dividend
income, from casual rental of property; interest income
on deposit and gain on transfer of certain investment
property

“Employee” means any individual, other than a contractor, engaged (whether on a permanent or
temporary basis) to perform services under the direction and control of the employer.
(a) “Unskilled employee” means an employee who has not received vocational training, does
not use machinery or equipment requiring special skill, and who is engaged by an
employer for a period aggregating not more than 30 days during a calendar year.
(b) “Contractor” means an individual who is engaged to perform services under an
agreement by which the individual retains substantial authority to direct and control the
manner in which the services are to be performed.

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4.2.1 Obligation to Pay Income Tax
Every person having income as defined below shall pay income tax in accordance with the
Proclamation number 286/2002.
4.2.1.1 Residence
A. An individual who is resident in Ethiopia, if he
(a) Has a residence within Ethiopia;
(b) Has an habitual abode (residence) in Ethiopia; and/or
(c) Is a citizen of Ethiopia and a consular, diplomatic or similar official of
Ethiopia posted abroad?
B. An individual, who stays in Ethiopia for more than 183 days (½ year) in a period of
twelve (12) calendar months, either continuously or intermittently, is resident for the
entire tax period.
4.2.1.2 Taxable Employment Income
A. Every person deriving income from employment is liable to pay tax on that
income at the rate specified in Schedule “A”, shown bellow. The first Birr 600
(six hundred Birr) of employment income is excluded from taxable income.
B. Employers have an obligation (Liability) to withhold the tax from each payment
to an employee, and to pay to the Tax Authority the amount withheld during
each calendar month. In applying preceding income attributable to the months of
Nehassie and Pagumen shall be aggregated and treated as the income of one
month.
4.2.1.3 Determination of Employment Income
A. Employment income includes any payments or gains in cash or in kind received from
employment by an individual, including income from former employment or otherwise or
from prospective employment.
B. Income received in the form of wages does not include representation and other similar
expenditures (on social functions, guest accommodations, etc.)
 Exemptions
The following categories of income are exempt from payment of income tax or are excluded
from income in arriving at taxable income.

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(a) Income from employment received by casual employees who are not regularly employed
provided that they do not work for more than one (1) month for the same employer in any
twelve (12) months period;
(b) Pension contribution, provident fund and all forms of retirement benefits contributed by
employers in an amount that does not exceed 15% (fifteen percent) of the monthly salary of
the employee;
(c) Subject to reciprocity, income from employment, received for services rendered in the
exercise of their duties by:
I. diplomatic and consular representatives, and
II. other persons employed in any Embassy, Legation, Consulate or Mission of a foreign
state performing state affairs, who are national of that state and bearers of diplomatic
passports or who are in accordance with international usage or custom normally and
usually exempted from the payment of income tax.
(d) Income specifically exempted from income tax by:
(I) any law in Ethiopia, unless specifically amended or deleted by the income
Proclamation;
(II) International treaty; or
(III) An agreement made or approved by the Minister.
(e) Payments made to a person as compensation or gratitude in relation to:
(I) Personal injuries suffered by that person;
(II) The death of another person.
F. others
I. Amounts paid by employers to cover the actual cost of medical treatment of
employees
II. Allowance in lieu of means of transpiration granted to employees under contract of
employment
III. Hardship allowance
IV. Amounts paid to employees in reimbursement of traveling expense incurred on
duty
V. Amounts of traveling expense paid to employees recruited from elsewhere than the
place of employment on joining and completion of employment, or in case of

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 foreigners traveling expense form or to their country, provided that such payments
are provided by the contract of employment.
VI. Allowance paid to members and secretaries boards of public enterprises and public
bodies as well as to members and secretaries of study groups set up by federal or
regional government
VII. Income of persons employed form domestic duties
VIII. The tax authority is empowered to determine the amount of payment specified by
numbers V, VI and VII above.
4.2.1.4 Schedule ‘A’: Tax on Income from Employment
A. Taxable income and Tax Rate
The tax payable on income from employment shall be charged, levied and collected at the
following rates:
Schedule A
No Employment income (Income per month) Tax rate Deduction in birr
Over Birr To Birr % Birr
1 0 600 Exempt threshold
2 601 1650 10 60.00
3 1651 3200 15 142.50
4 3201 5250 20 302.50
5 5251 7800 25 565.00
6 7801 10900 30 955.00
7 Over 10900 35 1500.00
Computation of employment tax
Example 1): Ato Alemu received a monthly Salary of Birr 1200 during the year 2003, and then
the amount of tax liability and the amount received by him after the withholding of tax by the
employer from his salary would be:
Solution:
 Taxable income :
=birr 1,200
 Employment tax ( tax liability)
=taxable income*rate-deduction
=1200*10%-60.00
=132.50
 Amount received by employee

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 =Gross pay-deduction (tax)
=1200-132.50
=1067.50
Example 2) the following data relate to the income of X, Y, and Z for the month of Hamle.
Employee Compensation
s Basic Transportatio Housing Reimbursed Position Over
salary n allowance allowanc medical Allowance time
(birr) (birr) e allowance(birr (birr) (hours
(birr) ) )
X 600 240 - - - 15
Y 1400 240 400 200 - 8
Z 1800 240 400 - 150 9
 Additional information, “X” is entitled to receive 130% and Y and Z receive 120%
each for over time. Assume number of working days 140.
Required: compute the taxable income and tax payable of X, Y and Z
Solution:
 Over time payment
=regular per our payment*over time payment * over time worked
X=600/140 *1.3 *15 hours=83.57
Y=1400/140*1.2*8 hours=96.00
Z=1800/140*1.2*9 hours=138.86
 Taxable payment of
=basic salary + over time + taxable allowance
X=600 + 83.57=683.57
Y=1400+96=1496
Z=1800+138.86+150=2088.86
 Tax payable (employment tax)
=taxable income * rate
X=683.57*10%- 60=8.357
Y=1496*10%- 60=.89.6
Z=2088.86*15%-142.5 =170.829

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Example 3) Ato Gelta gets salary of birr 8000 per month. He also gets hardship allowance of birr
800 per month. During the year he felt sick and was hospitalized and the employer paid him
medical bills amounting to birr 600. His contribution to provident fund is 20% of his salary and
his employer contributes 18% of his salary towards provident fund.
Required: compute the taxable income and tax payable of Ato Gelta
Solution
Source (income) Taxable Income Non-Taxable income
(Birr) (Birr)
Salary 8,000 ----
Medical Allowance ----- 600
Hardship allowance -------- 800
Employer’s Contribution to Provident fund ------- 1200
Which, is legally permitted
(15% of 8,000)
employer‘s contribution to provident fund
In excess of legally permitted
(18%-15%) * birr 8,000 240 -----
Free lunch ------ ------
----------- -----------
Total 8,240 2,600
======= =======
Therefore the taxable income of Ato Gelta equals to birr 8,240, then the tax liability would be:
 taxable income
= Birr 8,240
 tax liability
= Taxable income * rate- deduction
=birr 8,240*30%-birr 955.00=1,517.00
4.2.2 Tax on Income from Rental of Buildings (Schedule ‘B’)
4.3.1 Introduction
Any income arising from rental of buildings is taxable under schedule ‘B’. Rental income
includes all form of income from rent of a building and rent of furniture and equipment if the

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building is fully furnished. Income from the lease of business including goods, equipments and
building which are part of the normal operation of a business, (called business lease) are taxable
under another schedule that is in schedule ‘C’
Gross rental income also includes any cost incurred by the lessee for improvement to the land or
building all payments made by the lessee on behalf of the lesser in accordance with the contract
lease. In the lease contract there are two parties involved in renting a building, the lesser and the
lessee. The party who grants rent of the building is the lesser. The one who leases the property
for use is the lessee. In some occasions the lessor may allow the lessee to sub lease the building
for another party. In such circumstances the first lessee becomes the sub-lessor. The sub lessor
must pay tax on the difference between income from the sub leasing and the rent paid to the
lessor, provided that the amount received by the sub lessor. The owner of the building who
allows a lessee to sub- lease is liable for payment of the tax for which the sub lessor is liable, in
the event the sub-lessor fails to pay.

When a building is constructed for the purpose of giving on lease, the owner and contractor
should inform the Kebele Administration about its completion and the intention of giving it on
lease. This is also applicable when the building is rented before its completion. The Kebele
Administration will pass the information to the tax office for the administration of tax. It is also
the responsibility of Kebele administration to gather any such information and communicate to
tax office in case where the parties fail to do so.
5.2.2 Taxable Income
Gross income includes all payments, either in cash or benefited in kind, received by the lessor
and all payments made by the lessor on the behalf of the lessee. The value of any renovation or
improvement to the land or the building is also part of taxable income under this schedule if such
cost is borne by the lessee in addition to rent payable.
A. Deduction
Taxable income from schedule B income is determined by subtracting the allowable deductions
from the gross income. Allowable deductions include the following:
 taxes paid with respect to the land and buildings being leased; except income taxes; and

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 for taxpayers not maintaining books of account, one fifth (1/5 or 20%) of the gross income
received as rent for buildings furniture and equipment as an allowance for repairs,
maintenance and depreciation of such buildings, furniture and equipment;
 For taxpayers maintaining books of account, the expenses incurred in earning, securing, and
maintaining rental income, to the extent that the expenses can be proven by the taxpayer and
subject to the limitations specified by this Proclamation, deductible expenses include (but are
not limited to) the cost of lease (rent) of land, repairs, maintenance, and depreciation of
buildings, furniture and equipment in accordance with Article 23 of this Proclamation as well
as interest on bank loans, insurance premiums.
B. Tax Rate
The tax payable on rented houses shall be charged, levied and collected at the following rates:
(a) On income of bodies thirty percent (30%) of taxable income,
(b) On income of persons according to the Schedule B (hereunder) Schedule –B
Schedule B
Taxable income from rental of building Tax rate
No (Income per year)

Over Birr To Birr %

1 0 7000 0 0
2 7,001 19,800 10 720
3 19,801 38,400 15 1710
4 38,401 63,000 20 3630
5 63,001 93,600 25 6780
6 93,601 130,800 30 11,460
7 Over 130,800 ***** 35 18,000
 Computation of income tax on income from rental of building
In order to compute the taxable income from rental of building we use the following approach.

Sources (income) Amount in birr Amount in birr

Rental Income Received xxxxx

Add: Amount received on the
i) Lease of furniture xxx
ii) Lease of equipment xxxxx xxxxxx
Less: Deductions:

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i) Taxes paid on land and buildings
Leased xxxx
ii) For those not maintain books of
Accounts
Allowance for repair, maintenance
and depreciation (1/5 of gross income) xxxx
(OR)
iii) For those maintain books of Accounts
 Expenses on
a) Cost of lease of land xxxx
b) Repairs xxxx
c) Maintenance xx
d) Depreciation of building, furniture and
Equipments xxx
e) Interest on bank loans xxx
f) Insurance premiums -- xxxxxx (xxxxxx)

Taxable Income from rental of Buildings xxxxxx

Example1) Mr. X has a building that is available for rent. The following are the details of the
property let out
 He has let out for twelve month
 Actual rent for a month is birr 2000
 He paid 15% of the actual rent received as land taxes and 3% as other taxes
 He spent birr 1000 for maintenance of the building
 He does not maintain any books of accounts in this regard
Required: compute the taxable income and tax liability
Solution:
Annual rental income (birr 2000*12 months) -----------------------------24,000
Less: allowable deductions
 Land tax(15% of 24000)-------------3600
 Other taxes(3%of 24000)--------------720

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  Maintenance (1/5 of 24000)----------4800 (9,120)
Taxable income………………………………………………14880
 Then tax liability should be calculated as follows
= taxable income* tax rate- deduction
=birr14, 880*10%-
=birr?
Example 2) assumes that in example 1, Mr. X has maintained books of accounts.
Required: compute the taxable income and tax liability
Solution:
Annual rental income (birr 2000*12 months) ------------------------------24,000
Less: allowable deductions
 Land tax(15% of 24000)-------------3600
 Other taxes(3%of 24000)--------------720
 Maintenance ---------------------------1000 (5320)
 Taxable income………………………………18680
 Then tax liability should be calculated as follows
= taxable income* tax rate- deduction
=birr18, 680*10%-
=birr?
4.2.3 BUSINESS INCOME TAX (SHEDUAL C)
4.2.3.1 Determination of Taxable Business Income
Taxable business income is determined for each tax period on the basis of profit and loss account
otherwise known as income statement which should be prepared in accordance with Generally
Accepted Accounting Principles, and subject to provisions of Income Tax Proclamation
No.286/2002 and related directives issued by the Tax Authority.
At the end of each fiscal year, each taxpayer submits a tax return to the Income Tax Authority.
The tax return is a statement containing statistical information filled in a pre-printed form
(provided by the Tax Authority), given to the Income tax Office. The return should contain full
and true information about the income earned by the tax payer. The law requires the tax payer to
furnish such information within a stipulated period.

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Many businesses use the service of qualified professional accountants to prepare tax returns and
determine taxable income. Profits as shown by the accountants may not be the same as
admissible for tax assessment. There may be certain items of expenditure reasonably chargeable
to the income statement but not allowable for tax purposes. Likewise, certain revenue items
permissible to be included in the income statement may not be permissible to include in the tax
return. It becomes thus necessary to adjust those items to determine taxable income.
4.2.3.2 Allowable Deductions (Deductible Expenses)
The general principle regarding deductibility is that deductions will be allowed for expenses
incurred for the purpose of earning, securing and maintaining the business income to the extent
that the expenses can be proven by the tax payer and subject to the limitations specified by the
proclamation. On the basis of this, the law permits the following lists of expenses as deductible
from business income.
1. The direct costs of producing the income, such as the direct cost of manufacturing,
purchasing, importations, selling and such other similar costs;
2. General administrative expenses connected with the business activity;
3. Premiums payable on insurance directly connected with the business activity;
4. Expenses incurred in connection with the promotion of the business inside and outside the
country, subject to the limits set by the directive issued by the Minister of Revenue.
5. Commissions paid for services rendered to the business, provided that:
(A). said services were in fact rendered.
(b). the amount paid corresponds to normal rates paid for similar services. By other persons
or bodies similarly situated.
6. In the case of a business located and operating in Ethiopia as the branch, subsidiary or
associated company of a business located and operating abroad, no payment of any kind
made to the holding or associated company of the business in Ethiopia shall be accepted as
deduction unless:
A. the payment in question was made for service actually rendered: and
B. said service was necessary for the business and could not be performed by the persons or
bodies or by the business itself at a lower cost.
7. If the income tax authority has reason to consider that the total amount of salaries and other
personal emoluments payable to the manager of a private limited company is exaggerated it

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 may reduce paid amount for taxation purpose to the limit which, in view of operation of the
company, appears justifiable, either by disallowing the payments made to more than one
manager or in any other way which may be just and appropriate.
8. Sums paid as salary, wages or other emoluments to the children of the proprietor or member
of the partnership shall only be allowed as deduction if such employees have the
qualifications required by the post.
In computing taxable income, the above listed expenses could be deducted from gross income. If
some conditions are met, the proclamation also allows such expenses as depreciation, bad debts,
interest expense and donation and gifts, which is covered separately in this section as deductible
expenses. (Refer the proclamations articles 23 to 27 and the regulation 78/2002 articles 10 to 14.)
Some of them are discussed below
4.2.3.3 Non-allowable Expenses
All those expenses, which are not wholly or exclusively incurred for the business activity, are not
allowable deductions from gross income. Therefore, in computing taxable income the following
expenses should be added back.
a. Capital Expenditure- the cost of acquisition, improvement, renewal and reconstruction of
depreciable assets
b. Additional Investment- an increase of the share capital of a company or the basic capital of a
registered partnership
c. Declared dividends and paid out project shares.
d. Voluntary pension or provident fund contributions over and above 15% of the monthly
salary of the employee.
e. Damages covered by insurance policy
f. Interest in excess of the rate used between the National Bank of Ethiopia and the
commercial Banks increased by two percentage points.
g. Punitive damages and penalties
h. The creation or increase of reserves, provisions and other special purpose funds unless
otherwise allowed by the proclamation.
i. Income tax paid on schedule “C” income and recoverable Value Added Tax (VAT)
j. Representation expenses over and above 10% of the salary of the employee.
k. Personal consumption expenses

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l. Expenditures exceeding the limits set forth by the proclamation or regulations
m. Entertainment expenses “Entertainment” means the provision of food, beverages, tobacco,
accommodation, amusement, recreation or hospitality of any kind to any person whether
directly or indirectly.
n. Donation and gift other than those permitted by regulation.
o. Sum paid as salary, wages or other personal emoluments to the proprietor or partner of the
enterprises. Expenditure for maintenance or other private purpose of the proprietor or
partner of the enterprise.
p. Losses that are not connected with or not arising out of the activity of enterprise.
q. Grants and donations that exceed 10% of the taxable income of the tax payer.

4.2.3.4 Allowable Deductions that need Certain Conditions to be Met

The following expenses need certain conditions to be met before all are allowed to be deducted
from gross income:-
1. Interest expense
A) Interest which is not in excess of the rate used between National Bank of Ethiopia and
Commercial banks increased by 2 %) is allowable deduction if the lending institution is
recognized by NBE or a foreign institution permitted to lend to enterprises in the
country. Moreover, for the interest paid to foreign banks to be deductible, the lending
bank shall, prior to the granting of any loan to any such person, file a declaration in
writing with the Tax Authority wherein it informs said authority concerning all loans
granted to any person liable to pay income tax in Ethiopia. In addition, the borrower
shall withhold 10% from the gross interest payable and transfer same to the Tax
authority within two months of the end of the fiscal year.
Interest paid to share holders on loans and advance can be deducted to the extent that the
interest paid is less than the average of four times the amount of share capital in a tax
period. This provision doesn’t apply to banks and insurance companies.
2. Representation Allowances
Representation allowance is hospitality expense incurred in receiving guests coming from
outside the enterprise in connection with the promotion and enhancement of the business. Such
expenses are deductible to the extent of 10% of the salary of the employee.

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3. Gifts and Donations
Gifts and donations are allowable deductions under the following conditions
a. If they are given to a registered welfare organization and where it is certified by the registering
authority that the organization has a record of outstanding achievement and its utilization of
resources and accounting system operates transparency, accountability.

b. If the payment is made in response to emergency call issued by the government to defend the
sovereignty and integrity of the country, to prevent man made or natural catastrophe,
epidemic or for any other similar cause.
c. Donation made to non commercial education or health facilities.

Nonetheless, grants and donations made for purpose listed above may only be allowed as
deduction where the amount of the donation or grant does not exceed 10% of the taxable income
of the taxpayer.
4. Trading Stock

 Trading stock is a business asset that is either used in the production process or become
part of the product, or that is held for resale purpose.
The cost of trading stock disposed of during a tax period is allowable deduction for the
purposes of ascertaining income.

 The cost of trading stock disposed of during a tax period is determined on the basis of the
average cost method, i.e. the generally accepted accounting principle under which
trading stock valuation is based on an average cost of units on hand.
5. Depreciation
Any business may acquire assets that have non-current nature to generate profit. In determining
periodic income, the cost of these fixed assets should be transferred to expense account in a
systematic and rational approach called Depreciation. Generally Accepted Accounting Principles
(GAAP) allows different methods of computing annual deprecation charges for preparing
general purpose financial statements.

Among these methods, the Ethiopian government adopts the straight line – pooling system
method. Generally, except the cost of building, intangible assets and Information Technology

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Equipments purchased by a business, all other assets become part of a pool of expenditures on
which capital allowances may be claimed. Under the pooling system, when addition is made, the
pool increases; on disposal the pool is reduced by the sale proceeds.

In accordance with the newly enacted income tax proclamation and regulation, depreciation may
be deducted in the determination of taxable business income. Nonetheless, fine arts, antiques,
jewelry, trading stock and other similar business assets not subject to wear and tear and
obsolescence shall not be depreciated.
 Depreciation rate
a. In determining the amount of depreciation the acquisition or construction cost, and the cost
of improvement, renewal and reconstruction of buildings and constructions shall be
depreciated individually on a straight-line basis at five percent (5%).
b. The acquisition or construction cost, and the cost of improvement, renewal and
reconstruction, of intangible assets shall be depreciated individually on a straight line basis at
ten percent (10%).
The above two categories of business assets are depreciated at the given rates based on their cost
(gross value).

The following two categories of business assets shall be depreciated according to a poling system
at the following rates;

a. Computers, Information systems, software products and data storage equipment as a rate of
25%
b. All other business assets at the rate of 20%. This category includes motor vehicles, plant and
machinery, furniture and equipment, etc.
For assets for which the pooling methods are used, the rate is applied to the depreciation base for
the determination of depreciation. The depreciation base is the book value of the asset as
recorded on the opening day of the balance sheet of the tax period increased by the cost of asset
acquired or created and the cost of improvement, renewal and reconstruction of the asset during
the tax period. The amount can also be decreased by the sales price of assets disposed of during
the period. Losses incurred during the period due to natural calamity and other involuntary

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conversion will also be considered in the computation of depreciation base. Any compensation
received for these purposes will be deducted from the book value.

While determining the depreciation base, if the depreciation base becomes negative amount, that
amount will be added to taxable income and the depreciation shall become zero. On the other
hand, if the depreciation base does not exceed Birr 1,000 the entire depreciation base will be a
deductible business expense.

If a revaluation of business assets takes place, no depreciation will be allowed for the amount of
the revaluation. In determination of taxable business income a deduction is permitted in respect
of each category of business assets for the maintenance and improvement expenses up to a
maximum of 20% of the depreciation base of the end of the year. Any actual expense exceeding
this 20% will increase the depreciation base of that category (or it is capitalized). Nonetheless,
depreciation is not allowed for assets in respect of which all capitalized costs have been fully
recovered if the transfer of such assets is made between related persons.

 The regulation issued by the Council Of Ministers indicates that depreciation will
be allowed as deduction only if the taxpayer claiming deductions for depreciation
keeps proper records showing the cost of acquisition of the asset and the total
amount deducted since the date of acquisition. Moreover, the tax payer must
furnish the Tax Authority with satisfactory evidence that the data mentioned in
the records are true and correct.
6. Bad Debts
In the determination of taxable income, a deduction for a bad debt is allowed if the following
conditions are met:
 An amount corresponding to this debt was previously included in the income;
 The debt is written off in the books of tax payer; and
 Any legal action to collect the debt has been taken but the debt is not recoverable.
6.1 Computing Taxable Income
Using the income statement, taxable income may be determined as follows;

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 1. Take the net profit as shown in the income statement which is prepared
in accordance with Generally Accepted Accounting Principles (GAAP) or
International Accounting Standards (IAS).
2. Add back any item deducted as expense, which is not allowed for tax
purposes.
3. Deduct any item included in the income on which income tax has
already been withheld by the payer. Examples of such items are income received
from royalties, income from games of chance, dividends and interest received, etc.
refer schedule ‘D” other income in the proclamation.
4. Multiply the figure so arrived (from step 1through step III) by the
income tax rate. For bodies use the progressive tax table for persons (other tax
payers) to get the tax payable for the fiscal year.
5. Determination of Taxable Business Income
6. Allowable Deductions
7. Non-Allowable Expenses
8. Computing Taxable Income
9. Tax Rate
Tax Rate
 Taxable business income of bodies is taxable at the rate of 30%
 Taxable business income of other taxpayers shall be taxed in accordance with the
following schedule C.
The short cut method of computing business income tax is provided below.
Taxable Income Deduction
From To Rate
0 7000 0 0
7,001 19,800 10 720
19,801 38,400 15 1710
38,401 63,000 20 3630
63,001 93,600 25 6780
93,601 130,800 30 11,460
Over 130,800 ***** 35 18,000

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7. Loss Carry Forward
A business is said to have made loss when the total expenses incurred by the business during a
fiscal year are greater than the total income generated by the business in the same year. Loss
carry forward is a procedure whereby a loss incurred in one tax period is carried forward to the
next tax period to be deducted from the available profit, if any. Loss carry forward is one of the
several changes introduced by new tax law. The importance of the loss carry forward provision
to a company is that it preserves valuable cash which otherwise would have to be paid out in
taxes. Such funds are retained in the business and can be used for working capital and/or
expansion of the business. A business, which has alternate profit and loss years of about the same
dimension, would pay no tax at all.

The subsequent paragraphs explain loss relieves available for companies and related eligibility
conditions. If the determination of taxable business income results in a loss in a tax period, that
loss may be set off against taxable income in 3 years tax periods; earlier losses set being set off
before later losses. A continuous set off will be permitted only for a maximum period of 6 years
(two periods of three years).However, if during a tax period the direct or indirect ownership of
the share capital or the voting rights of a body changes more than 25% by value or by number
the provision for set off will not apply to losses by that body in that tax period.

 Loss carry forward will only be permitted where the books of accounts showing
the loss are acceptable to the tax authority.
Schedule D Income Tax
Incomes which are not specifically included under Schedule a, Schedule B and Schedule C is
categorized under this schedule. Schedule D income includes;
 Royalties
 Income from rendering of technical services
 Income from games of chance
 Dividends
 Income from rental of property
 Interest Income
 Gain on transfer of certain investment property.
4.2.4.1 Royalties

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Royalty refers to a payment of any kind received as a consideration for the use of or the right to
use any copyright of literary, artistic or scientific work, including cinematography film, and films
or tapes for radio or television broadcasting, any patent, trademark, design or model, plan, secret
formula, or process, or for the use or for the right to use of any industrial, commercial or
scientific equipment, or for information concerning industrial, commercial or scientific
experience.

Royalties is subject to a tax at a flat rate of 5%. The withholding agent, who effects royalty’s
payments, withholds the foregoing tax and accounts to the Tax Authority. However, if the payer
resides abroad and the recipient is a resident, the recipient must pay the tax on royalty income.

 This tax is final in lieu of income tax

4.2.4.2 Income from Rendering of Technical Services

Income from technical service refers to income from any kind of expert advice or technological
service rendered. All payments made in consideration of any kind of technical services rendered
outside Ethiopia to resident persons in this form are subject to a tax rate of 10% which will be
withheld and paid to the tax authority by the payer.
4.2.4.3 Income from games of chance

This form of income is derived from winning at games of chance (lotteries, Tom bolas, and other
similar activities). This income is subject to tax at the rate of 15%, except for winnings of less
than Br. 100 similar to income from rendering technical activities the payer must withhold or
collect the tax and account to the Tax Authority.

 This tax is final in lieu of income tax.

4.2.4.4 Dividends

The taxable Income is income received in the form of dividend from a share company or
withdrawals of profits from a private limited company. Dividend Income is subject to tax at the
rate of 10%. The withholding agent (payer) shall withhold or collect the tax and account to the
tax Authority.

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  This tax is final in lieu of income tax.
4.2.4.5 Income from rental of property

The taxable income under this category is income derived from casual rental of property (land,
building, or moveable asset) not related to a business activity. This type of income is subject to
tax at a flat rate 15% of the annual gross income.

 This tax is a final tax in lieu of a net income tax.

tax.

4.2.4.6 Interest Income On Deposits

This includes income derived from interest on deposits. Interest Income will be taxed at the rate
of 5% and the payer must withhold the tax and account to the Tax Authority.

 This tax is a final tax in lieu of income tax.

4.2.4.7 Gains on Transfer of Certain Investment Property

Gains obtained from the transfer (sale or gift) of building held for business, factory, and office
and a share of companies is taxable under this category. Such income is taxable at the following
rates:-
- Building held for business, factory, and office at the rate of 15%, and
- Shares of companies at the rate of 30%

Nonetheless, Gains obtained from the transfer of building held for residence is exempted from
tax provided that such building is fully used for dwelling for two years prior to the date of
transfer.

Computation of Capital Gain Tax

In computing capital gain tax, you should follow the following procedures;

STEP 1.Determine
1.Determine the historical cost of the building or the par-value of the Share, as
appropriate.
- When calculating the capital gain realized from the alienation of building,
the cost registered with the appropriate government body at the time of
issuance of construction permit shall be taken to be the cost of constructing

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 the building. Tax payable on gain realized from alienation of buildings shall
be applicable only to buildings in municipal areas.

STEP 2 Determine allowable deductions which includes

- inflation adjustment at a rate to be determined by the appropriate authority
- taxes paid for the land and the buildings

STEP 3 Determine proceeds from the transfer of capital assets

STEP 4 capital gain taxes equals tax rate mentioned above times the amount obtained after
deducting the sum of step1 and step 2 from step 3.
Example
ABC Co. sold a building, which is held for business for Br. 1,000,000, which is acquired at a
cost of Br. 1, 200,000. Depreciation until time of sale amounts Br. 500,000 and property tax paid
for the building Birr 50, 000.

Calculate the capital gain tax payable by ABC Co.

Solution
■ Book value of the Building = Cost – Accumulated Depreciation
= 1,200,000 – 500, 000
= 700, 000
■ Property tax on the building is allowable deduction. Br. 50, 000
Capital gain tax = (Br. 1000, 000 – (Br. 700,000 + Br. 50,000)) 15%
= Br. 250,000 X 15%
= Br. 37500

4.3 consumption Tax

4.3.1 Value Added Tax
In order to minimize the complexity of tax administration, to enhance
taxpayer compliance and to encourage investment, Government of Ethiopia has
launched a tax reform program. One of the most important outcomes of the
reform was the introduction of VAT (Value Added Tax) by the replacement of
sales tax.
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VAT is a transaction tax collected on all goods and services at all stages of
production and distribution. Tax is collected on the value added at each stage. Value
Added is the difference between the sales and the value of purchases at that stage.
The VAT Proclamation No. 285/2002 which has rescinded and replace the sales
and excise tax proclamation No.68/1993 and which has come into force as
of January 2003 is a consumption tax which is levied and paid as Value Added
Tax
at a rate of 15% of the value of every import of goods, other than an
exempt
import and an import service render in Ethiopia for a person registered in Ethiopia
for VAT or any resident legal person by a non resident person who is not
registered for VAT in Ethiopia.
Value Added Tax (VAT) Rates
The Ethiopian VAT system is invoice based and operates on the destination
principle, where goods and services are taxed in the country of consumption and
not of origin. As indicated in Article 7 and 8 the tax has two main rates
with exemptions that ultimately determine liability to tax. These rates are standard
rate, which is at 15%, and zero rate, which is 0%.
Standard Rate
Goods and services applicable to the zero rate and exempt are specifically
provided for in the proclamation with the standard rate being applicable to
all supplies so excluded. That means all goods and services other than those
specified as being exempt or liable at the zero rate are liable to VAT at the
standard 15% rate.
The value on which an importer will have to pay VAT at importation is
determined by adding the CIF (cost, insurance and freight) duty, the custom duty,
and all cost of any service- supplied incidental to the delivery of the goods.
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Zero - Rating
As discussed earlier in VAT zero-rated goods or services are business
transactions, which VAT is chargeable at 0%. In effect zero-rated means no VAT?
Is charged.
Goods and services, which attract the zero rate of VAT, include:
I. The exports of goods or services.
II. The rendering / supply of transportation or other services directly
connected with international transport of goods or passengers, as well
as the supply of lubricants and other consumable technical supplies
taken on board for consumption during international flights.
III. International transport of goods or passengers occurs where the goods
or
Passengers are transported by road, rail, water or air and also transportation
IV. The supply of gold to the National Bank of Ethiopia.
VAT Exemptions
The supply of certain goods and services is exempt from VAT. Exemption from
VAT means that the persons engaged in the exempt activity are not liable
for VAT on their receipts and are not entitled to a credit or deduction for VAT
borne on their purchases. In another word the suppliers of exempted goods and
services are not permitted to charge VAT and do not get credit for input
VAT on purchases for the exempt goods and services. The goods and services
that are exempted from VAT as indicated in Art 8 of the proclamation are:
I. The sale, transfer or lease of immovable property, except for
the following:
 The sale or transfer of hotel or holiday accommodation;

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  The sale or transfer of newly constructed residential properly,
unless the properly has been occupied as a residence for at least two
years.
II. The rendering of financial services.
III. The supply or import of national or foreign currency (except for that
used for numismatic purposes) and of securities.
IV. The import of gold to be transferred to the National Bank of Ethiopia
V. The rendering by religious organizations of religious or church-
related services,
VI. The rendering of medical services,
VII. The rendering of educational services provided by educational
institutions, as well as child care services for children at pre-school
institutions,
VIII. The supply of goods and rendering of services in the form of
humanitarian aid, as well as import of goods transferred to state
agencies of Ethiopia and public organizations for purpose of
rehabilitation after natural disasters, industrial accidents, and
catastrophes,
IX. The supply of electricity and water,
X. The supply of goods for the official use of diplomatic missions,
Input Tax
Many of the things a person buys will carry a VAT charge, but if a person
is registered for VAT he can normally claim a credit for the VAT charged
on business purchases and expenses. This is his input tax. It includes not only the
VAT on purchases of raw materials or on goods purchased for resale, but also the
VAT on things.
Output Tax
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Output tax in relation to a taxable person is the tax on taxable supplies, which he
makes (i.e. his sales). The supplier will be liable to VAT either at the standard rate
(Currently 15%), or the zero rate (0%). This is the VAT a person charges his
Customer. It is only the registered person who will charge VAT in the course of
affecting his supplies.
VAT Payable
The amount of tax payable (the VAT liability) for any month by a person who is
registered or is required to register is the difference between the amount of
tax charged on taxable transactions (output tax) and the amount of tax
creditable
(Input tax).
For any return month if output tax exceeds the input tax, a payment must be made
To Authority when submitting a return. Likewise for any return period if the
allowable input tax is greater than the output tax, the amount of the excess
is normally repayable to the taxable person by the Authority. Therefore, to
determine the VAT liability of a taxpayer, it is necessary to understand the
meaning of input tax and output tax.
VAT Refund
As said earlier for any return period if the allowable input tax is greater than the
output tax, the amount of the excess is normally repayable to the taxable person
By the Authority as a tax refund.
Egg. 1. In Megabit 2009 E.C Anbessa Share Company, with head office in Addis,
purchased items with a total invoice price before VAT of Br 300,000 from
A VAT registered business in Ethiopia. Anbessa exported 60% of the items

to a firm in Japan with a selling price of Br 270,000. The remaining

40%of the items were sold in the domestic market with a selling price of
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Br 220,000.
Required: Determine Anbessa Company’s total VAT liability for the month of
Megabit 2007 E.C.
2) Assume that Medeset Company is not registered for VAT. In the year
ended Sene 30, 2006 E.C, the company’s outputs total Br 128,000 and it has
inputs costing Br 40,000 plus VAT at 15%.
Required: How much profit does the company make for the year, if the
company registered for VAT voluntarily?

IV.3.2 TURNOVER TAX

Turnover tax:-
 is a sales tax which is based on the gross receipts from the sales of goods
and service.
 Turn over tax is a family of sales tax since it s imposed on expenditures.
 It is also a consumption tax because is levied on the sale of goods and
provision of service rather than on income, wealth (capital) or savings of
persons.
 It is also indirect tax
4.3.2.1 Why is turn over tax levied
In Ethiopian the turnover tax proclaims and implemented by the proclamation
No 308/2002.
The government of Ethiopia imposed and levied turnover tax those taxpayers
not registered for VAT but supply of goods and services in the county with
following objectives.
 To make complete the coverage of the tax system
 To enhance fairness in commercial relation
 To allow non VAT registered taxable persons fulfill their obligation

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 4.3.2.2 The scope of application of turn over tax
Turn over tax is payable on taxable goods supplied and service rendered within
the territory of Ethiopia by persons not registered for VAT
 The supply must be taxable supply
 The supply must be made within the territory of Ethiopia
 The supply must be made by taxable person who has not VAT registered
Classification of supplies for turnover tax purpose
For the purpose of turnover tax administration in Ethiopia supplies (good and
service) are classified into two 1. Taxable supplies and 2. Exempt supplies.
The classification of supplies for VAT purpose is also applicable for Turnover
tax purpose.

Rate of Turnover Tax

The Turnover Tax shall be:
1. 2% (two percent) on Goods sold locally
2. for Services rendered locally 2% (percent) on Contractors, grain
mills, tractors and combine-harvesters;
3. other taxable service rendered locally such as lecturing,
consultancy, tailoring, auditing hotel, printing renting,
advertising, training, garage, laundry, hairdressing legal
advising studio and maintenance 10% (ten percent) on others.

Base of Computation of the Turnover Tax

Base of computation of the Turnover Tax shall be the gross receipts in respect
of goods supplied or services rendered.

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Obligation to Collect and Transfer the Turnover Tax
A person who sells goods and services has the obligation to collect the
Turnover Tax from the buyer and transfer same to the Tax Authority.
Hence, the seller is principally accountable for the payment of the tax.
Exemption
1. The following shall be exempted from Turnover Tax:
a. the sale or transfer of a dwelling used for a minimum of two
years, or the lease of a dwelling;
b. the rendering of financial services;
c. the supply of national or foreign currency (except for the used
for numismatic purposes) and of security;
d. the rendering by religious organizations of religious or other
related services;
e. the supply of prescription drugs specified in directives issued
by the relevant government agency, and the rendering of medical services;
f. the rendering of educational services provided by educational
institutions, as well as child care services of children at pre-school
institution;
g. the supply of goods and rendering of services in the form of
humanitarian aid;
h. the supply of electricity, kerosene, and water;
i. the provision of transport;
j. permits and license fees;
k. the supply of goods or services by a workshop employing
disabled individuals if more than 60% of the employees are disabled; and
l. The supply of books.
4.3.3 Excise Taxes
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Excise taxes are taxes levied on particular products and services,
typically with discriminatory intent. Sometimes, they refer to the profits of
fiscal monopolies. Excise taxes are also called selective sales taxes. In most
countries, a large share
Of excise revenue comes from tobacco products, alcoholic beverages,
and
Petroleum products, which are the traditional excisable commodities.
Excises are also levied on a variety of other items such as motor vehicles,
soft drinks, sugar, cement, entertainment, insurance, and consumer luxuries.
Imposition of Excise Tax
The excise tax of the country is imposed with three objectives in mind:
 to improve government revenue,
 to improve equity by imposing tax on luxury goods and basic
goods which are demand inelastic, and
 To discourage the consumption of goods that are hazardous to health and
which causes social problems.
The current excise tax is governed by excise tax Proclamation
No 307/2002. This Proclamation is divided into seven sections and
thirty-eight articles. The summary of the articles is given below.
The Rate, Base and Payment of Excise Tax
The excise tax is paid on imported as well as locally produced goods listed
in the table below at the stated rate. For locally produced goods the
excise taxes computed based on the production cost (excluding
depreciation cost) of the goods, whereas for imported goods the tax base
will be cost, insurance and freight
(C.I.F.).
As far as payment of excise tax is concerned, excise tax on locally
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produced goods will be paid by the producer not later than 30 days
from the date of production. For imported goods the tax is to be paid by
the importer at the time of clearing the goods from Customs area.
The schedule attached to the proclamation provides the following list of
goods that shall be liable to excise tax when either produced locally or
imported and the rates at which they are taxed.
Type of Product Excise Tax Rate (%)
1. Any type of sugar (in solid form)
Excluding molasses ………………………………………………. 33
2. Drinks
2.1 All types of soft drinks (except fruit juices) ………… 40

2.2 Powder soft drinks ……………………………………. 40

2.3 Water bottled or canned in a factory ………………… 30

2.4 Alcoholic Drinks

2.4.1 All types of beer &stout …………………….. 50

2.4.2 All types of wine …………………………….. 50

2.4.3 Whisky ……………………………………… 50

2.4.4 Others alcoholic drinks ……………………… 100

3. All types of pure Alcohol ………………………………………. 75

4. Tobacco &Tobacco Products

4.1 Tobacco Leaf …………………………………………… 20

4.2 Cigarettes, cigar, cigarillos, pipe tobacco, snuff and

Other tobacco products ……………………………….. 75

5. Salt ……………………………………………………………… 30

6. Fuel-super Benzene, Regular Benzene, Petrol, Gasoline

and other Motor Spirits …………………………………………. 30

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7. Perfumes and Toilet Waters …………………………………….. 100

8. Textile and Textile products

8.1 Textile fabrics, knitted or woven of natural silk,

rayon, nylon, wool, or other similar materials ……. 10

8.2 Textile of any type partly or wholly made from cotton,

which is gray, white, dyed or printed, in pieces of any
length or width (except Mosquito net and of
“Abudgedid”) and including blankets, bed sheets,

Counterpanes, towels, table clothes and similar articles 10

8.3 Garments……………………………………………………. 10

9. Personal adornments made of gold, silver or other materials ……... 20

10. Dish washing machines of a kind for domestic use ……………….. 80

11. Washing machines of a kind for domestic purposes ………………. 30

12. Video decks …………………………………………………………….40

13. Television and Video Cameras ……………………………………….. 40

14. Television broadcast receivers whether or not combined with

Gramophone, radio, or sound receivers &reproducers ………… 10

15. Motor passenger cars, Station Wagons, Utility cars and

Land Rovers, Jeeps, Pickups, similar vehicles (including

motorized caravans), whether assembled together with their
appropriate initial equipment:
15.1 Up to 1,300 C.C. ……………………………………….. 30

15.2 From 1,301 up to 1,800 C.C. …………………………. 60

15.3 Above 1,800 C.C. ……………………………………… 100

16. Carpets …………………………………………………………… 30

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17. Asbestos and Asbestos products ………………………………………. 20

18. Clocks and watches …………………………………………………… 20

19. Dolls and toys ………………………………………………………… 20

Illustration
Wenji Sugar Factory incurs the following costs and expenses for the
production of sugar in the month of Sene 2007.
Raw material used ………………………………… Br 1,200,000
Labor used ………………………………………… 80,000
Repair and maintenance of factory machinery … 16,000
Utility expenses (Applicable to production Dept.).. 36,000
Required: Compute excise tax for the month
Solution:
Total cost of production = Br 1,332,000
Excise tax rate 33%
Excise Tax Br 439,560

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