(i) Contribution to retirement schemes
An individual’s contribution to a registered pension or provident fund is an allowable deduction against the taxable income. The deductible amount is the actual contribution made by the employee to the scheme(s) but must not exceed 30% of pensionable pay or Sh. 20,000 per month. Take for instance if an employee earns a basic salary of Sh. 100,000 per month and contributes Sh. 10,000 to a registered pension scheme, the taxable income shall be Sh. 90,000. This brings some tax savings to contributors.
Majority of contributors to retirement schemes are employees, however the law does not limit the tax incentive above to employees only. Individuals under self-employment or employees who consider their employers’ schemes inadequate are allowed to save through individual retirement funds. The tax saving illustrated above still applies provided the Individual retirement scheme is registered. A good example of a savings plan for self-employed individuals is the Mbao savings plan by retirement benefits authority which allows members of the informal sector to save as little as Sh. 20 per day.
Another benefit of saving through retirement schemes is that the contribution made by the employer on behalf of employees is a non-taxable benefit to the employee. This applies regardless of whether the scheme is registered or not. However, employees working for organizations not subject to tax are taxed on the employer’s contributions to unregistered schemes or amounts in excess of Sh. 20,000 per month contributed to registered schemes. (Ref ITA Sec 5(4) c)
(ii) Retirement benefit
Pension benefit upon retirement may be paid in form of annuities or in lump sum. Where the retirement benefits are paid in form of annuities the first Sh. 300,000 per annum (Sh. 25,000) is exempted from taxation.
Where the pension benefit is paid in lump sum, the exempt amount shall be the lower of:
Ø Ksh.600,000; or
Ø Ksh. 60,000 X number of years of service in that employment if less than ten years.
Withdrawals made in lump sum by retirees above the age of fifty years or retirees who have contributed to the scheme for more than fifteen years or persons retiring due to Ill health or infirmity in body or mind are taxed in bands of Sh. 400,000.
Tax Exemption for Pension Benefits
Income derived from registered retirement benefits schemes will now be exempt from tax for individuals who:
- Have attained the retirement age as defined by respective retirement schemes, or
- Withdraw accrued retirement benefits before attaining retirement age due to ill health, or
- Withdrawal from a registered scheme after a minimum of 20 years of membership.
Upon death of a contributor, where the registered fund provides for no payment of retirement benefits other than the payment of a lump sum to an estate, the first one million four hundred thousand shillings of such a lump sum payment to the beneficiaries shall be exempted from tax. (Ref: ITA Sec 8(6))
Note: Pension withdrawals from unregistered pension fund is not subject to tax