BASIC ACCOUNT WORKS

DEVELOP UNDERSTANDING OF TAXATION

Level II

BUF BAW2 07 0812

Prepared by Alelign Asrat

Shashemene
August 2014
Developing Understanding of Taxation
BUF BAW2 07 0812
This unit describes the performance outcomes, skills and knowledge required to understand the role of taxation
in the Ethiopian economy, including why and how tax is levied and collected, types of taxes paid by business
and individuals and its impact on investment choices.
GENERAL INTRODUCTION
Taxation
Taxation is a system of raising revenue by a government through tax. It is a system of collecting money by a
government to finance the government operation
Tax
A tax is “a compulsory charge imposed by the Government without any expectation of direct return in benefit ".
In other words, a tax is a compulsory payment or contribution by the people to the Government for which there
is no direct return to the taxpayers. Tax imposes a personal obligation on the people to pay the tax if they are
liable to pay it. The general public should be taxed according to their ability to pay, and the people in the same
financial Position should be taxed in the same way without any discrimination. Thus, tax can be defined as, "an
involuntary fee or more precisely, "unrequited payment", paid by individuals or businesses to a government
(central or local)". Taxes may be paid in cash or kind (although payments in kind may not always be allowed or
classified as taxes in all systems). The means of taxation, and the uses to which the funds raised through
taxation should be put, are a matter of hot dispute in politics and economics, so discussions of taxation are
frequently tendentious. A good tax system should not affect the ability and willingness of the people to work,
save and invest. If not, it will affect the development of trade and industry and the economy as a whole. Thus, a
sound tax system should contribute in the economic development of a country. Hence, "taxation should not be
like killing the goose that lays golden eggs".
History of Taxation (To be presented orally)
Objective of Taxation
1. Raising Revenue: The basic purpose of taxation is raising revenue. To render various economic and
social activities, Government requires large amount of revenue. To meet this enormous expenditure,
Government imposes various types of taxes in addition to the non-tax revenue.
2. Removal of Inequalities in Income and Wealth: The welfare state aims at the removal of inequalities
in income and wealth. By framing suitable tax policy, this end can be achieved. It is stressed in the Canon of
Equality. In Ethiopia, the progressive taxation on income is the suitable examples in this regard.

Babbit F College Compiled by Dekebo LII UC07 2

 3. Ensuring Economic Stability: Taxation affects the general level of consumption and production.
Hence, it can be used as an effective tool for achieving economic stability. That is, by means of taxation the
effects of trade cycle i.e. inflation and deflation can be controlled. During the period of boom or inflation, the
excess purchasing power in the hands of people leads to rise in the price level. Raising the existing tax rates or
imposing additional taxes can remove such excess purchasing power. Then the abnormal demand will be
reduced and the economic stability can be achieved. At the same time, by providing grants, tax exemptions and
concessions, production can be encouraged thereby inflation is controlled.

Likewise, during the period of depression or deflation, the role of tax policy in the economy is important.
Reduction in the existing tax rates and removal of certain taxes, consumption can be induced which in turn
results in increasing demand. This encourages business activities, and the economic growth can be achieved.

Thus, through properly devised tax system, the economic stability can be achieved by controlling the effects of
trade cycle.
4. Reduction in Regional Imbalances: It is normal that certain parts of the country are well developed,
whereas some other parts or states are in backward conditions. To remove these regional imbalances, the
Government can use tax measures. By way of announcing various tax exemptions and concessions to that
particular backward regions or states, the economic activities in those areas can be induced and accelerated.
5. Capital Accumulation: Tax concessions or rebates given for savings or investment in provident funds,
life insurance, unit trusts, housing banks, post offices banks, investment in shares and debentures of certain
companies etc. lead to large amount of capital accumulation which is essential for the promotion of industrial
development.
6. Creation of Employment Opportunities: More employment opportunities can be created by giving tax
concessions or exemptions to small entrepreneurs and to the industries adopting labour-intensive techniques. In
this way, unemployment problem can be solved to certain extent.
7. Preventing Harmful Consumption: Taxation can be used to prevent harmful consumption. By way of
imposing heavy excise duties on the commodities like liquors, cigars etc. the consumption of such articles is
reduced to a considerable extent.
8. Beneficial Diversion of Resources: The imposition of heavy duties on non-essential and luxury goods
discourages the producers of such goods. The resources utilized for the production of these goods may be
diverted into the production of other essential goods for which various tax concessions are given. This is called
as beneficial diversion.

Babbit F College Compiled by Dekebo LII UC07 3

 9. Encouragement of Exports: Now-a-days export oriented industries are encouraged by way of
providing various exemptions like 100% relief from income tax, free trade zones etc. It results in the large
earnings of foreign exchange.

10. Enhancement of Standard of Living: By way of giving various tax concessions to certain essential
goods, the Government enhances the standard of living of people.
Characteristics of Taxation
A tax has the following characteristics:
1. Tax is a Compulsory Contribution: Tax is a compulsory contribution by the taxpayers to the
Government. The people whom the tax is levied cannot refuse to pay the tax. Once it is levied they have to pay
it. Any refusal in this regard leads to punishments.
2. Benefit is not the Basic Condition: For the payment of tax, there is no direct return or quid proquo to
the taxpayers. That is, people cannot expect any return in benefit for the amount of tax paid by them. Because,
there is no relation between the amount of tax paid by the people and the services rendered by the Government
to the taxpayers.
3. Personal Obligation: Tax imposes a personal obligation on the taxpayers. When a person becomes
liable to pay the tax, it is the duty of him to pay it and in no way he can escape from it.
4. Common Interest: The amount of tax received from the people is used for the general and common
benefit of the people as a whole. Now the Government has to render enormous range of social activities, which
incur heavy expenditure. A part of the expense is sought to be raised through taxation of various types. Thus,
taxes are said to be the sharing of common burden by the people.
5. Legal Collection: Tax is the legal collection. It can be levied only by the Government both Central and
State.
6. Element of Sacrifice: Since the tax is paid without any return in benefit, it can be said that there is the
prevalence of sacrifice in the payment of tax.
7. Regular and Periodical Payment: The payment of tax is regular and periodical in nature. It is levied
for a fixed period usually a year. Thus, almost all the taxes are annual taxes. The payment of taxes should be
regular also.
8. No Discrimination: Tax is levied on all people without any discrimination of caste, creed etc. but
according to their ability to pay.
9. Wide Scope: Tax is levied not only on income but also on property and commodities. To enhance the
revenue and to bring all the people under the tax net, the Government imposes various kinds of taxes. This
enhances the scope of taxes.
Babbit F College Compiled by Dekebo LII UC07 4
 Components of Taxes
 Each tax must have a base upon which it is levied.
 Each tax must have a tax filling unit that is responsible for paying the tax.
 Taxes must have a rate that is applied to the base to determine the amount owing.
 Unless they are imposed on individual transactions, taxes must have a period during which the
base is measured and the tax collected.
 Each tax must have administrative arrangements for the collection of tax.

PRINCIPLE OF TAXATION
Canons of Taxation: [

The Government requires funds for the performance of its various functions. These funds are raised through tax
and non-tax sources of revenue. Imposing tax on income, property and commodities etc. raises tax revenues. In
fact, tax is the major source of revenue to the Government. According to Adam Smith, "a tax is a contribution
from citizens for the support of the Government".
No one likes taxes, but they are a necessary evil in any civilized society. Whether we believe in big
government or small government, governments must have some resources in order to perform their essential
services. So how does one go about evaluating a particular tax?
Taxation is an important instrument for the development of economy of the country. A good tax system
ensures maximum social advantage without any hardship on taxpayers. While framing the tax policy, the
government should consider not only its financial needs but also taxable capacity of the community. Besides the
above, government has to consider some other principles like equality, simplicity, convenience etc. These
principles are called as "Canons of Taxation". The following are the important canons of taxation.
I. Canons Advocated by Adam Smith
1. Canon of Equality.
2. Canon of Certainty.
3. Canon of Convenience.
4. Canon of Economy.
II. Canons Advocated by Others:
5. Canon of Productivity.
6. Canon of Elasticity.

Babbit F College Compiled by Dekebo LII UC07 5

 7. Canon of Diversity.
8. Canon of Simplicity.
9. Canon of Expediency.
10. Canon of Co-ordination.
11. Canon of Neutrality.

Canons Advocated by Adam Smith:

No one has yet come up with a better set of criteria for judging a tax than the Canons of Taxation first proposed
by Adam Smith more than two hundred years ago. Adam Smith in his book, “Wealth of Nations” has
explained the four canons of taxation that are mentioned above. All accepts them as good taxation policy. We
shall now explain them briefly.

1. Canon of Equality: According to this principle of Adam Smith, "the subjects of every state ought to
contribute toward the support of the Government, as nearly as possible, in proportion to their abilities". That is,
a good tax system should be based on the ability to pay of the people. That is, all people should bear the public
expenditure in proportion to their respective abilities. Tax burden should be more on the rich than on the poor.
Since the rich people can pay more for public welfare, more tax should be collected from richer section and less
tax from the poor. The ability to pay may be determined either on the basis of income and wealth or on the basis
of consumption i.e. luxury or necessity. In simple terms, canon of equality implies that when ability to pay is
taken into consideration, a good tax should distribute the burden of supporting government more or less equally
among all those who benefit from government.

2. Canon of Certainty: Another important canon of taxation advocated by Adam Smith is certainty.
According to him, "the tax which each individual is bound to pay ought to be certain and not arbitrary. The
time of payment, the manner of payment, the quantity to be paid, should be clear and plain to the contributor
and every other person". It means the time, amount and method of payment should all be clear and certain so
that the taxpayer can adjust his income and expenditures accordingly. This principle removes all uncertainties in
the payment of tax and ensures smooth functioning of the tax department.

3. Canon of Convenience: In the canon of convenience, Adam Smith states that, "every tax ought to be
levied at the time or in the manner in which it is most likely to be convenient for the contributor to pay it". That
is, the tax should be levied and collected in such a way that is convenient to taxpayer. For example, it may be in
installments, land revenue may be collected at the time of harvest etc. This principle reduces the tendency of tax
evasion considerably.

Babbit F College Compiled by Dekebo LII UC07 6

 It includes the selection of suitable objects for taxation, and also the choice of convenient periods for
requiring payment. The canon of convenience is a special form of the general principle that the public power
should as far as possible adjust its proceedings to the habits of the community, and avoid any efforts at directing
the conduct of the citizens in order to facilitate its own operations. The sacrifices that inconvenient methods of
fiscal administration impose may indeed be treated as violations of both economy and equity.

4. Canon of Economy: The next important canon of taxation is economy. According to Adam Smith,
"every tax ought to be so contrived as both to take out and keep out of the pockets of the people as the little as
possible over and above what it brings into the public treasury of the state". This principle states that the
minimum possible amount should be spent on tax collection and the maximum part of the collection should be
brought to the Government treasury.

Taxation should be economical i.e. this should be much more than mere saving in the cost of collection.
Undue outlay on the official machinery of levy is but one part of the loss that taxation may inflict. It is a far
greater evil to hinder the normal growth of industry and commerce, and therefore to check the growth of the
fund from which future taxation is to come. Thus the canon of ‘Economy' is naturally sub-divided into two
parts viz.,
1. ‘Taxation should be inexpensive in collection', and
2. ‘Taxation should retard as little as possible the growth of wealth'.
It may also be remarked that there is a close connection between "Economy" and "Productivity", since the
former aids in securing the latter.
Direct and Indirect Taxes:
Taxes are sometimes referred to as direct or indirect. The meaning of these terms can vary in different
contexts, which can sometimes lead to confusion. In economics, direct taxes refer to those taxes that are paid
by the person who earns the income. By contrast, the cost of indirect taxes is borne by someone other than the
person responsible for paying them. For example, taxes on goods are often included in the price of the items, so
even though the seller sends the payments to the government, the buyer is the real payer. Indirect taxes are
sometimes described as hidden taxes because the purchaser of goods or services may not be aware that a
proportion of the price is going to the government.
Direct Taxes:
A direct tax is paid by a person on whom it is levied. In direct taxes, the impact and incidence fall on the
same person. If the impact and incident of a tax fall on the same person, it is called as direct tax. It is borne by
the person on whom it is levied and cannot be passed on to others. For example, when a person is assessed to

Babbit F College Compiled by Dekebo LII UC07 7

income tax or wealth tax, he has to pay it and he cannot shift the tax burden to anybody else. In Ethiopia,
Government levies the direct taxes such as income tax, tax on agricultural income, professional tax, land
revenues, taxes on stamps and registrations etc. From the above discussion, it can be understood that the direct
taxes levied in Ethiopia take the form of taxes on income and property.
Indirect Taxes

Under indirect taxes, the impact and incidence fall on different persons. It is not borne by the person on
whom it is levied and can be passed on to others. For example, when the excise duty is levied on the
manufacturer of cement, he shifts the burden of tax to the consumers by raising the selling price. Here the
impact of excise duty falls on the manufacturer and the incidence on the ultimate consumers. The person who is
required to pay the tax does not bear its burden. Thus, indirect taxes can be shifted.

1. Identifying and Discussing the Role of Taxation in the Ethiopian Economy

1.1. Exploring and Discussing The Purpose of Taxation in the Ethiopian Economy at the Local, Regional
and Federal Level and How this Compares with other Countries
The purpose of taxation includes but is not limited to:

1. financing government activity

2. maintaining equity in the national economy
3. promoting efficiency where markets fail to control pollution or health dangers
4. social infrastructure
5. social services
1.2. Analyzing and Discussing the Various Ways that Tax is Collected and from Who
Ways that tax is collected include:
through regional and federal level taxes including:
 Direct tax
 Tax on Income from Employment / Personal Income Tax
 Business Profit Tax
 Tax on Income from Rental of Buildings
 Tax on Interest Income on Deposits
 Dividend Income Tax
 Tax on Income from Royalties
 Tax on Income from Games of Chance

Babbit F College Compiled by Dekebo LII UC07 8

  Tax on Gain of Transfer of certain Investment Property
 Tax on Income from Rental of Property
 Rendering of Technical Services outside Ethiopia
 Agricultural Income Tax
 Land Use Tax
 Indirect tax
 Turnover Tax
 Excise Tax
 Value Added Tax
 Customs Duty
 Stamp duty tax: instruments shall be chargeable with stamp duty include:
 Memorandum and articles of association of any business
 organization, cooperative or any other form of association;
 Award; Bonds; Warehouse bond;
 Contract and agreements and memoranda;
 Security deeds;
 Collective agreement;
 Contract of employment;
 Lease, including sub-lease and transfer of similar rights;
 Notarial acts;
 Power of attorney;
 Documents of title to property.
1.3. Identifying and Discussing the Role of the Ethiopian Revenues and Customs Authority (ERCA)
The Ethiopian Revenues and Customs Authority (ERCA) roles include:
The Authority shall have the roles to:
6. establish and implement modem revenue assessment and collection system;
7. provide, based on rules of transparency and accountability, efficient, equitable and quality service
within the sector; properly enforce incentives of tax exemptions given to investors and ensure that
such incentives are used for the intended purposes;
8. implement awareness creation programs to promote a culture of voluntary compliance of taxpayers
in the discharge of their tax obligations;
9. carry out valuation of goods for the purpose of tax assessment and determine and collect the taxes.

Babbit F College Compiled by Dekebo LII UC07 9

 10. conduct study and research activities with greater emphasis to Improve the enforcement of customs
and tax laws, regulations and directives and the collection of other revenues; and based on the
result of the study and research initiate laws and policies and implement the same up an approval.
11. collect and analyze information necessary for the control of import and export goods and the
assessment and determination of taxes; compile statistical data on criminal offences relating to the
sector, and disseminate the information to others as may be necessary;

1.4. Explaining What Taxation Revenue is Used For and Relating to the Wellbeing and Lifestyle of
Ethiopian Citizens
Taxation revenue may be used to provide:
 assistance to business and farming
 cultural and artistic resources and support
 defence and border protection
 education
 environmental protection
 essential infrastructure such as:
 roads
 transport systems
 public building
 sport and recreation amenities
 public housing
 foreign representation and trade promotion for Ethiopia
 health care
 justice systems
 public safety
 scientific and other research
 welfare, income and community support systems
2.Identifying and Discussing Direct Tax
2.1. Identifying and Discussing Key Terminology Used in Direct Taxation
Terminology used in taxation may include:
12. interest on deposits
13. allowances
Babbit F College Compiled by Dekebo LII UC07 10
 14. assessable income
15. capital gain/appreciation
16. deductions
17. Exempt threshold
18. Assessment of Tax
19. dividends
20. gross income
21. Higher Education Contribution Scheme
22. taxable income
23. Tax Evasion
24. Withholding tax
A. Tax on Income from Employment / Personal Income Tax
Employment income tax refers to the tax imposed on employment income or income from employment of an
employee. It is the tax on earning/income of individuals, i.e, money or money’s worth that individual receive in
different ways from their employer.

Employment income is any benefits in cash or in kind received by an employee from the services rendered to
his/her employer. It includes
 Basic salary /wage/earning
 Over time earning
 Allowance
 Transportation allowance
 Position allowance
 Housing allowance
 Hardship (disturbance) allowance
 Deseret (Bad Climate) allowance
 Education allowance
 Telephone allowance
 Uniform allowance
 Per-diem
 Bonus
 Commission

Babbit F College Compiled by Dekebo LII UC07 11

 Over Time Rate
According to the Article 68 of the Labour proclamation No. 377/2003 and the amended proclamation No.
494/2006, there are four over time payment rates in Ethiopia applicable to civil servants and stated as
follows
I. For Overtime work performed between six o’clock in the morning (6A.M) and ten o’clock in the
evening (10P.M), a worker shall be entitled to be paid at the rate of one and one quarter (
1
1 ,∨1.25∨125 % ¿ times his/her regular hourly rate.
4
Overtime Rate = 1.25 X Ordinary Hourly Rate
II. For Overtime work performed during night time (late hours) between ten o’clock in the evening (10
P.M) and six o’clock in the morning (6A.M), a worker shall be entitled to be paid at the rate of one
1
and one half (1 ,∨1.5∨150 % ¿ times his/her regular hourly rate.
2
Overtime Rate = 1.5 X Ordinary Hourly Rate
III. For Overtime work performed on weekly rest days, a worker shall be entitled to be paid at the rate of
two (2 ¿ 200 % ¿ times his/her regular hourly rate.
Overtime Rate = 2X Ordinary Hourly Rate
IV. For Overtime work performed 0n a public holiday, a worker shall be entitled to be paid at the rate of
1
two and one half (2 ,∨2.20∨250 % ¿ times his/her regular hourly rate.
5
Overtime Rate = 2.5 X Ordinary Hourly Rate
Basic Salary
Ordinary Hourly Rate ¿
Normal Hours of Work
Tax Exemption
Tax exemption refers to employment income of an employee which is exempted from employment income
tax. Tax exempted income is not subject to tax. Some exemption are listed below
 Income from casual employment,
 Pension contribution provident fund and all forms of benefits contributed by employers in an
amount that does not exceed 15% of the monthly salary of the employee.
 Medical expense
 Transportation allowance (subjected to condition)
 Hardship allowance
 Per diem
Employment Income Tax Rate
Babbit F College Compiled by Dekebo LII UC07 12
According to proclamation 286/2002, every person deriving monthly income from employment is liable to pay
tax on that income at the rate specified in Schedule “A”.

Schedule “A”.

Tax Employment Income in Birr (Per Additional Layer Tax Rate Adjustment/Deduction (in Birr)
Bracket Month) Income
1st
0-150 150 Exempted 0
2nd 151-650 500 10 % 15
3rd 651-1,400 750 15 % 47.50
4th 1,401-2,350 950 20 % 117.50
5th 2,351-3,550 1,200 25 % 235
6th 3,551-5,000 1,450 30 % 412.5
7th Over 5,000 35 % 662.5

Example 01
W/ro Kidist Fasil earned an amount of birr 5,275 subjected to income tax. Calculate her income tax
Earning X Tax Rate(%) = Income Tax
150 0 0

500 10 50

750 15 112.50

950 20 190

1,200 25 300

1,450 30 435

275 35 96.25

Total 5,275 1,183.75

Babbit F College Compiled by Dekebo LII UC07 13

OR

5,275X35%-662.5 = br, 1,183.75

Example 02
Calculate income Tax for the following workers
a. Jitu br. 140
b. Jidha br. 600
c. Ali br. 960
d. Feyine br. 2150
e. Feyisa br. 3270
f. Bedasa br. 4790
B. Business Income Tax
Business income tax or business profit tax is the tax imposed on taxable business income (profit) realized from
entrepreneurial activity. It is charged on the profit of business enterprises on the activities arising each
accounting period or tax year. At the end of each tax year or accounting period, business income tax payers
submit an income tax return (tax declaration form) to the Tax Authority which shall contain true information
about the income (profit) earned by the business tax payers.
Business Income Tax Rates
In Ethiopia incomes from business activities are chargeable to tax based on the rates specified under article 19
of proclamation No. 286/2002. According to this article
I. Taxable business income of “bodies” is taxed at the flat rate of 30%
II. Taxable business income of “other taxpayers” is taxed based on progressive tax rates in schedule
“C” of proclamation No. 286/2002
Schedule “C”.
Tax Business Income in Birr Additional Layer Tax Rate Adjustment/
Bracket (Per Year) Income Deduction (in
Birr)
1st 0-1,800 1,800 Exempted 0
2 nd
1801-7,800 6,000 10 % 180
3 rd
7,801-16,800 9,000 15 % 570
4 th
16,801-28,200 11,400 20 % 1,410
5 th
28,201-42,600 14,400 25 % 2,820
6 th
42,601-60,000 17,400 30 % 4,950
7 th
Over 60,000 35 % 7,950
Example 01

Babbit F College Compiled by Dekebo LII UC07 14

 Mulu enterprise, unincorporated business has reported earnings before tax of birr 30,000 at the tax year
ended Sene 30, 2006. Determine the amount of business income tax
Earning X Tax Rate(%) = Income Tax
1,800 0 0
6,000 10 600
9,000 15 1,350
11,400 20 2,280
1,800 25 450
Total 30,000 4,680

OR
30,000 X 25% - 662.5 = br, 4,680

Example 02

During a tax year 2006, KY Business reported taxable net sales of br. 1,200,000 and allowable costs and
expenses of br. 800,000. Determine the tax liability of the business. If the business is:-
A) Other business firm
B) A Company
C. Tax on Income from Rental of Building (Rental Income Tax)
Rental income tax is a tax imposed on income derived from rental of residential or business buildings.
Taxable rental income is income from rental of buildings on which income tax is payable. It is the base for
calculating rental income tax.
Rental Income Tax Rate
Article 15 of proclamation No. 286/2002 states that tax on income from rental of buildings shall be imposed and
collected at the following rates:-
I. On bodies 30% of taxable rental income, that is, if the owners of the buildings are bodies, they pay
30% of taxable rental income as rental income;
II. On other than bodies:- according to schedule “B” of proclamation No. 286/2002, that is, if the
owners are individuals, unregistered partnerships or association of individual, they pay rental income
tax based on the rates specified in schedule “B” of proclamation No. 286/2002

Schedule “B”.

Tax Business Rental in Birr Additional Layer Tax Rate Adjustment/

Bracket (Per Year) Income Deduction (in
Babbit F College Compiled by Dekebo LII UC07 15
 Birr)
1st 0-1,800 1,800 Exempted 0
2nd 1801-7,800 6,000 10 % 180
3rd 7,801-16,800 9,000 15 % 570
4th 16,801-28,200 11,400 20 % 1,410
5th 28,201-42,600 14,400 25 % 2,820
6th 42,601-60,000 17,400 30 % 4,950
7th Over 60,000 35 % 7,950

Determination of Rental Income Tax

Income from rental of building shall be computed as follows:
i. If the tax payer leased furnished quarters the amounts received attributed to the lease of furniture and
equipment shall be included in income.
ii. Sub-lessors shall pay the tax on the difference between income from sub-leasing and the rent paid to the
lessor, provided that the amount received from the sub-lessor is greater than the amount payable to the
lessor.
iii. The following amounts shall be deducted from income in computing taxable income:

a) Taxes paid with respect to the land and buildings being leased; except income taxes;
b) For taxpayers not maintaining books of account, one fith (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;
c) 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 proclamation 286/2002; deductible expenses include (but not limited
to) the cost of lease (rent) of land, repairs, maintenance, and depreciation of buildings, furniture and
equipment as well as interest on bank loans, insurance premiums.
Example 01
C. Tax on Interest income on Deposits
I. Every person deriving income from interest on deposits shall pay tax at the rate of five percent (5%)

Babbit F College Compiled by Dekebo LII UC07 16

 II. Banks shall withhold or collect the tax and account to the Tax Authority with declaration from and
submit within two months from the end of the Ethiopian Fiscal year.
III. This tax is a final tax in lieu of income tax
E. Dividend Income Tax
I. Every person deriving income from dividends from a share company withdrawals of profits from a private
limited company shall be subject to tax at the rate of ten percents (10%)
II. The withholding Agent shall withhold or collect the tax and account to the Tax Authority.
III. This tax is a final tax in lieu of income tax
F. Tax on Income from Royalties
The term “Royalty” means 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 films, and films or tapes
for radio or television broadcasting, any patent, trade work, 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 shall be liable to tax at a flat rate of five percent (5%)
 The withholding Agent who effects payment shall withhold the foregoing tax and account to the Tax
Authority within the time limit set out in the proclamation. (fifteen (15) days of the end of each
calendar month)
 This tax is a final tax in lieu of a net income tax

G. Tax on Income from Games of Chance

I. Every person deriving income from winning at games of chance ( for example, lotteries, tombolas, and other
similar activities) shall be subject to tax at the rate of fifteen percent (15%), except for winnings of less than
100 Birr.
II. The payer shall withhold or collect the tax and account to the Tax Authority with declaration form and
submit within two months from the end of the Ethiopian Fiscal Year.
III. This tax is a final tax in lieu of income tax
H. Tax on Gain of Transfer of Certain Investment Property
Income Tax shall be payable on gains obtained from the transfer (sale or gift) of property at the following rates:
A) Buildings held for business, factory or office 15% (fifteen percent)
B) Shares of companies 30% (thirty percent)
Gains obtained from the transfer of building held for residence shall be exempted

Babbit F College Compiled by Dekebo LII UC07 17

I. Tax on Income from Rental of Property
Every person deriving income from the casual rental of property (including any land, building, or moveable
asset) not related to a business activity taxable under Schedule C shall pay tax on the annual gross income at the
rate of fifteen percent (15%). This tax is a final tax in lieu of income tax.
J. Rendering of Technical Services Outside Ethiopia
 All payments made in consideration of any kind of technical services rendered outside Ethiopia to
resident persons in any form shall be liable to tax at a flat rate of ten percent (10%) which shall be
withheld and paid to the Ta Authority by the payer.
 The term “technical service” means any kind of expert advice or technological services rendered.
K. Agricultural Income Tax and Land Use Tax
According to Proclamation No 131/1999 of Oromiya Regional state

I. Farmers Harvest by Rain

Land used in Agricultural Income Tax And Land Use Tax

Hectares Land Use Agricultural income tax Total (birr)
payment (birr) payment (birr)
≤ 0.5 15 Exempted 15
0.5 -1.0 20 20 40
Above 1.0 - 2.0 30 35 65
Above 2.0 - 3.00 45 55 100
Above 3.0 – 4.0 65 70 135
Above 4.0 – 5.0 90 100 190
Above 5.0 120 140 260
II. Farmers harvest by Rain and Irrigation
Land used in Agricultural Income Tax And Land Use Tax
Hectares Land Use Agricultural income tax Total (birr)
payment (birr) payment (birr)
≤ 0.5 15 30 45
0.5 -1.0 20 40 60
Above 1.0 - 2.0 30 55 85
Above 2.0 - 3.00 45 75 120
Babbit F College Compiled by Dekebo LII UC07 18
 Above 3.0 – 4.0 65 90 155
Above 4.0 – 5.0 90 120 210
Above 5.0 120 160 280
III. Pastoralists

Number of Cattles Agricultural Income Tax (Birr)

1-10 Exempted
Above 10 – 25 15
Above 25 – 50 30
Above 50 – 75 45
Above 75 – 100 60
Above 100 – 125 75
Above 125 – 150 90
Above 150 – 175 115
Above 175 – 200 130
Above 200 – 225 145
Above 225 – 250 160
Above 250 – 275 175
Above 275 – 300 190
Above 300 200

2.2. Identifying and Analyzing Tax Declaration Forms, Tax File Number (TFN) Requirements and
Rates of Direct Tax

Trainees will practice filling of “Employment Income Tax

Declaration Form” which is attached with this TTLM

Rates of tax and calculators can be accessed from:

25. Ethiopian Revenues and customs Authority (ERCA) publications and website
26. accountants and tax agents
2.3. Considering and Discussing How Direct Tax is Assessed, Tax Returns Completed and Paid
Tax Assessment
Tax assessment is a tax review by a tax authority of the tax declaration an information provided by a tax payer
and a verification of the arithmetical and financial accuracy of the declared tax liability.
Babbit F College Compiled by Dekebo LII UC07 19
In assessment, the tax authority shall initially assess the amount of taxable income and then impose the tax at
the rate corresponding to this amount.
When sending the assessment to the taxpayer, the tax office notices the following:-
 amount of gross income,
 amount of deductions thereon,
 amount of taxable income,
 rate applied,
 amount of taxes paid and due,
 amount of any penalties chargeable as per the proclamation as well as amount of interest, if any,
 the name, address as well as TIN of the taxpayer, and
 explanation concerning taxable income, tax payable and penalty
Tax Assessment Methods or Procedures
The methods procedures for the assessment of business income tax take two approaches of forms:-
A. Assessment by Books of Accounts and
B. Assessment by Estimation
A. Assessment by Books of Accounts
Assessment by Books will be done for those who maintaining books of accounts (business categories A and B)
The revenue authority makes assessment by estimation when the tax payers do not maintain the books or when
the submitted books are not acceptable.
B. Assessment by Estimation
If the tax payers keep no records, or if the income tax authority does not accept the submitted books, or if the
taxpayer fails to declare tax within the time specified by tax authority estimates tax by the use of certain
indicators.

For additional information for income tax assessment, read Income Tax Proclamation , Proclamation No.
286/2002, Paragraph 51,64,65,66,67,69 and 72

Tax returns can be completed by:

27. accountant
28. an individual
29. tax agent
30. on-line or in written form
2.4. Identifying, Accessing and Discussing Sources of Ongoing Information about Direct Tax in Ethiopia
Sources of ongoing information may include:
Babbit F College Compiled by Dekebo LII UC07 20
 31. accountants and other financial services professionals
32. Ethiopian Revenues and Customs Authority (ERCA)
33. Industry associations and professional organisations
34. Federal and Regional governments agencies
35. Taxpayers .

3.Identifying and Discussing Indirect Tax

3.1. Identifying and Discussing Key Terminology Used in Indirect Taxation
A. Turnover Tax
Turnover tax imposed on persons not registered for value added tax allows them to fulfill their obligation and
also enhances fairness in commercial relations and makes complete the coverage of tax system.
Rate of Turnover Tax
The Turnover Tax shall be
I. 2% (two percent) on Goods sold locally
II. For Services rendered locally:-
a) 2% (two percent) on Contractors, grain mills, tractors and combine-harvesters,
b) 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.
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 to Tax Authority. Hence, the seller is principally accountable for the payment of the tax.
Exemption
The following shall be exempted from Turnover Tax:-

Babbit F College Compiled by Dekebo LII UC07 21

 a. the sale or transfer of 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 that used for numismatic purpose) and of
securities.
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
for children at pre-school institutions,
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. Permit 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
B. Excise Tax
Excise tax is an indirect tax imposed on luxury goods, goods that are hazardous to health and basic goods which
are demand inelastic such as vehicles, jewelers, perfumes, alcoholic products, tobacco products, salt textile
products, etc. In imposing excise tax, governments may apply either advalorem tax, i.e a fixed percentage of the
value of the product or per unit tax, i.e fixed amount of tax per product such as package of cigarettes and gallon
of gasoline or both.
Base of Excise Tax Computation
There are two bases to compute excise tax depending on either the goods are produced locally or imported.
i. With respect of goods imported, the base of compute excise tax is the C.I.F. (Cost, Insurance and
Freight) value of the import, and
ii. With respect of goods produced locally, the base to compute excise tax is the cost of production. Cost of
production means raw materials and direct labor costs incurred in the production process, and cost of
indirect inputs and overhead costs, but does not include factory depreciation, i.e depreciation on factory
building and production machineries.
Rates of Excise Tax

Babbit F College Compiled by Dekebo LII UC07 22

For each category of goods, either produced locally or imported, the rates of excises tax are mentioned and
attached in proclamation No 307/2002. As stated in the proclamation, the rates vary from goods to goods;
however, the minimum is 10% while the maximum is 100%.
Goods that shall be liable to excise tax either produced locally or imported are attached with TTLM
C. Value Added Tax (VAT)
 VAT may be defined as a consumption/expenditure tax charged on the value added to goods and
services by importers, manufacturers and traders at each stage of the production and distribution process.
 VAT is a tax not on the total value of goods sold or services rendered but only on the incremental value
or newly created value by the last seller.
 VAT is a tax on the value added to goods and services by enterprises at each stage of the production and
distribution processes.
Rate of Tax
The number and rate of Value added tax vary from country to country and some countries have two or more tax
rates. In Ethiopia case, taxable supplies are charged at zero or standard rate of 15%.
A) Zero Rate
The zero rate is a tax rate of nil. Thus, although no tax is charged on a supply taxed at the zero rates, it is
all other respects treated as a taxable supply. Supplies of zero-rated goods or services are business
transactions, which VAT is chargeable at 0% (in effect no VAT is charged). Zero rate supplies are
taxable supplies although no VAT is charged and the value of these supplies forms part of the taxable
turnover for registration purposes. You can claim full Input tax (tax paid on purchases) credit related to
your zero rated supplies.
Zero rate supplies include
 The supply of export of goods or services,
 The supply of gold to the National Bank Of Ethiopia,
B) Standard Rate (Positive rate)
The standard rate is a tax rate of 15% based on the tax exclusive value of the goods or services supplied.
This is equivalent to 2/3 (15/115) 0f the tax inclusive value (i.e consideration) of the goods or services
supplied. This fraction is known as the “VAT fraction”. Any taxable supply, which is not charged to tax
at the zero rates, is charged to tax at the standard rate. This includes:
 Every taxable transaction by registered person
 Every import of goods, other than exempt; and
 An import of services
VAT Exempt supplies
Babbit F College Compiled by Dekebo LII UC07 23
The following types of supplies of goods (other than by way of export) or rendering of services, as well as the
following types of imports of goods, are exempt from payment of VAT to the extent provided by regulation:
a) The sale of transfer of a used dwelling or the lease of a dwelling,
b) The rendering of financial services,
c) The supply or import of national or foreign currency (except for that used for numismatic purposes), and
of securities,
d) The import of gold to be transferred to the National Bank of Ethiopia,
e) The rendering of religious organization of religious or church related services,
f) The import or supply of prescription drugs specified in directives issued by the Minister of Health, and
the rendering of medical services,
g) The rendering of educational services provided by educational institutions, as well as child care services
for children at pre-school institutions,
h) The supply of electricity, kerosene and water,
i) The provision of transport
j) Permits and license fees
k) And other listed up to “p” on proclamation
VAT On Import
All goods which are imported into Ethiopia by an importer, whether registered for VAT or not, are liable to
VAT with the exception of goods that are exempted. The importer pays VAT on imported goods regardless of
whether the goods are for private or business purposes. VAT on imported goods is paid at the point of clearing
the goods from Custom Authority.
VAT On Export
All export goods and services are liable to VAT at zero-rate (0%). This means, the exporter charges VAT at 0%
on his export, effectively, no tax is charged on export. However, the exporter is entitled to reclaim the VAT
paid on the goods or services purchased to produce exportable goods or services if he is a VAT registered
person.
Component of VAT
Input VAT
The Vat that your business pays over on taxable supplies made (VAT paid on purchase) and can be recovered
only insofar as your business is VAT-registered and makes taxable outputs.
Output VAT
The VAT that your business collect over on taxable supplies (VAT paid on sales)
VAT Payable
Babbit F College Compiled by Dekebo LII UC07 24
This is the VAT to be paid to Tax Authority by a taxable person
VAT Payable = OUTPUT TAX – INPUT TAX
If the output VAT exceeds the input VAT, the VAT registered person has collected more tax from its sales and,
thus, the excess VAT collected (net VAT) must be paid to the Tax Authority at the end of the VAT accounting
period.
Output Vat > Input VAT = VAT Payable/VAT Liability
VAT Refund
VAT refund (VAT refundable) is the net VAT that a VAT registered person (taxable person) expects from the
Tax Authority when input VAT (VAT paid on purchase for supply) exceeds output VAT (VAT charged on
sales). A VAT registered person in Ethiopia is entitled to VAT refund based on VAT Proclamation No
285/2002, Article 27 and VAT Regulation No. 79/2002, Article 15.
If input VAT exceeds the output VAT, the difference results in VAT refundable or VAT credit.
Input VAT > Output VAT = VAT Credit/ VAT Refundable

Consumption Type of VAT Computation

Example 01
A Tannery sold a leather product for birr 50 to a shoe manufacturer and the shoe manufacturer sold it ay birr 60
for a whole seller and the whole seller sold it for a retailer at birr 70 and the retailer sold it for the ultimate
consumer at birr 100. The computation of Value Added Tax is illustrated as follows:
Tannery :- Value Added Tax = 50 X 15% = 7.50
Shoe maker: Value Added Tax =60 X 15%= 9.50-7.5= 1.50
Wholesaler: Value Added Tax = 70 X 15%= 10.5-1.50-7.50= 1.50
Retailer: Value Added Tax = 100 X 15%= 15-1.50-1.50-7.5= 4.50
Consumer: Total Value Added Tax paid is 15.00 (i.e 7.50+1.50+1.50+4.50) or one can compute simply by
multiplying final selling price with the given Value Added Tax rate, which is 100 X 15% = 15.00
D. Custom Duty
Customs duty refer to the tax or tariff imposed directly on the activities of imports and exports of goods and
services which is one source of revenue
Customs duties on imports and exports are mainly designed to raise revenue to the government and to prevent
illegal imports and exports.
Exemption from Customs Duty and Customs Duty Free Privilege
The following are the main imported items which are within the ambit of custom duty exemption
Babbit F College Compiled by Dekebo LII UC07 25
  Diplomatic and consular missions personal effects,
 Grants and gifts to Ethiopia,
 Firefighting instruments and appliances,
 Printed books, brochures, leaflets,
 Trade samples,
 Fertilizer and seeds,
 Wood and articles of wood,
 Defense and public security equipment,
 Monetary gold,
 Coin of legal tender,
 Ambulances,
 Aircraft, spacecraft and parts thereof,
 Railway or Tramway Locomotives and Truck Fixtures,
 Materials and equipment for the handicapped,
 Sheath contraceptives,
 Floating structures,
 Opium,
 Vessels for transport, and
 Fishing vessels
Ethiopians enjoying duty free privileges are classified into five categories based on the special rank,
responsibility, mission and the length of their stay in abroad.
Base of Customs Duty Computation
The custom duty paying value of any import or export goods, which is the base to compute customs duty, shall
be the actual total costs of the goods.
Rates of Customs Duty
Duties of customs are levied on goods imported from Ethiopia at the rates specified under the Custom
proclamation 60/89, chapter 8, articles 47 and the Ethiopian customs tariffs. These customs tariffs, which range
from 0-35%, are categorized into 97 chapters. Some of the important customs tariffs are attached at the back
this TTLM.
3.2. Analyzing and Discussing the Structure of Business and How This Affects Taxation
The structure of business includes:
36. sole trader: an individual trading on their own

Babbit F College Compiled by Dekebo LII UC07 26

 37. partnership: an association of people or entities carrying on a business together, but not as a
company
38. trust: an entity that holds property or income for the benefit of others
39. company: a legal a legal entity separate from its shareholders
3.3. Considering and Discussing How Indirect Tax is Assessed and Paid
For turnover tax read Turnover proclamation, Proclamation No 308/2002, Article 10 and 11
For Excise tax read Excise Tax Proclamation, Proclamation No 307/2002, Article 10 and 11
For Valued Added Tax (VAT) read Value Added Tax proclamation, proclamation No285/2002 Article 29
Tax is assessed through:
 Business Activity Statements
 payroll
 allowable deductions
 capital gains
 financial adjustments such as:

 write-offs
 revaluations
 profits and losses
 superannuation payments
 fringe benefits assessment
3.4. Identifying, Accessing and Discussing Sources of Ongoing Information about Indirect
Tax in Ethiopia
4.Identifying and Discussing Stamp Duty Tax
4.1. Identifying and Discussing Key Terminology Used in Stamp Duty Taxation
The following are some of the terminologies pertaining to stamp duty,
Collective Agreement:- means an agreement relating to conditions of work, concluded in writing between one
or more representative of trade unions and one or more employers or agents or representatives of employers
organizations.
Contract of Employment:- means an agreement formed where a person agrees, directly or indirectly, to
perform, work for a definite or indefinite period or, piece work in return for remunerations.

Babbit F College Compiled by Dekebo LII UC07 27

Instrument:- means a written document by which any right or obligation is or purpose to be created, recorded,
transferred, extinguished or by which its scope is limited or extended.
Notarial Acts:- means an act of attestation and certification performed by persons(s) authorized to perform such
acts.
Security deeds:- means any instrument whereby a borrower or guarantor gives to a lender a charge upon a part
or the whole of his property
Instruments chargeable with stamp duty
The following instruments shall be chargeable with stamp duty:-
 Memorandum an articles of association of any business organization cooperatives or any other form of
association.
 Contract and agreements and memoranda thereof,
 Security deeds,
 Collective agreement,
 Contract of employment,
 Lease, including sub-lease and transfer of similar rights,
 Notarial acts,
 Power of attorney,
 Documents of title to property
Rates of Stamp Duty
The following duty on each instrument shall be charged, levied and collected at the following rates:

No. Instruments Chargeable with Stamp Duty Basis of Valuation Rates of Stamp Duty
1 Memorandum and Articles of Association of any
business organization or any association
A. Upon 1st execution Flat Birr 350
B. Upon any subsequent execution Flat Birr 100

2 Memorandum and Articles of Association of

cooperatives:
A. Upon 1st execution Flat Birr 35
B. Upon any subsequent execution Flat Birr 10

3 Contract and agreement and memoranda thereof Flat Birr 5

Babbit F College Compiled by Dekebo LII UC07 28

4 Security Deeds On Value 1%
5 Collective agreement
A. Upon 1st execution Flat Birr 35
B. on any subsequent execution Flat Birr 10

6 Contract of employment Salary 1%

7 Lease including sub-lease and transfer thereof On value 0.5%
8 Notarial act Flat Birr 5
9 Power of Attorney Flat Birr 35
10 Register title to property On value 2%

4.2. Considering and Discussing How Stamp Duty Tax is Assessed and Paid
Time of Payment

The Stamp Duty shall be paid Before or at the time of

Memorandum and Articles of Association Registration
Contract or agreement Signature
Security Deeds Signature
Lease or sub-leases Signature
Documents of title to property Issuance
Notarial act Issuance

Manner of Payment page

The payment of a stamp duty under birr 50 shall be effected by affixing stamp of appropriate value of the
instrument. When the stamp duty exceeds birr 50 or where the type and nature of instrument so requires, the
Federal Government Revenue Board may by directives provide that stamp duty be paid by means other than
affixing stamp.
4.3. Identified, Accessing and Discussing Sources of Ongoing Information About Stamp Duty Tax in
Ethiopia
5.Managing Tax Liability
5.1. Identifying and Discussing How Tax Payers can Determine Their Tax Liability
tax payers can determine their tax liability by:
Babbit F College Compiled by Dekebo LII UC07 29
  assessing income:
 capital gains
 employment
 foreign
 investment
 rental property income
 assessing deductions:
 allowable medical expenses and health insurance rebates
 capital losses
 dependent rebates
 gifts and donations
 rental property expenses
 tax offsets
 work related clothing expenses
 work related education expenses
 work related travel expenses
 zone and overseas forces allowances
 lodging returns and paying governments:
 land tax where applicable
 payroll tax (rate varies by jurisdiction and depends on size of payroll so many small business
operators are exempt)
 stamp duty on:
 hire purchase agreements
 insurance polices
 leases and mortgages
 motor vehicle purchases
 property transfer
5.2. Analyzing and Discussing Under or Overpayment of Tax and Its Implications
Under or overpayment of tax may involve:
1. claiming interest on early payments that may be possible for certain tax categories such as:
 income tax
 Higher Education Contribution Scheme

Babbit F College Compiled by Dekebo LII UC07 30

  amended assessments of earlier years
 paying interest on overdue amounts

Critical aspects of Competence

Assessment requires evidence that the candidate:
1. analyse and clearly explain the role of taxation for tax payers in Ethiopia
2. analyse and critically evaluate taxation responsibilities and their impact on personal
financial management
3. understand and apply the skills necessary to actively monitor and assess taxation
liabilities

Reference
1. Misrak Tesfaye, 2008, ETHIOPIAN TAX ACCOUNTING THEORY AND PRACTICE, 1ST Edition
2. Gebrie Worku Mengesh, 2008, TAX ACCOUNTING IN ETHIOPIA CONTEXT, 2nd Edition
3. Value Added Tax Proclamation , Proclamation No. 285/2002
4. Income Tax Proclamation, Proclamation No.286/2002
5. Excise Tax Proclamation, Proclamation No. 307/2002
6. Turnover Tax Proclamation, Proclamation No. 308/2002

Babbit F College Compiled by Dekebo LII UC07 31