Application of IFRS and their Impact on Tax Administration The Kenyan Experience J K Njiraini Commissioner of Domestic Taxes Kenya Revenue Authority

Background Kenya law recognizes one professional accountancy body (Institute of Certified Public Accountants of Kenya – ICPAK) Kenya law recognizes one professional accountancy body (Institute of Certified Public Accountants of Kenya – ICPAK) ICPAK responsible for prescription and implementation of financial reporting and auditing standards in Kenya. ICPAK responsible for prescription and implementation of financial reporting and auditing standards in Kenya. All practising auditors and Heads of Finance of public listed companies required to be ICPAK members All practising auditors and Heads of Finance of public listed companies required to be ICPAK members Tax law recognizes the role of ICPAK members in the preparation of tax documentation Tax law recognizes the role of ICPAK members in the preparation of tax documentation Strong relationships established between ICPAK and Kenya Revenue Authority – joint work groups Strong relationships established between ICPAK and Kenya Revenue Authority – joint work groups

Background (contd) ICPAK took decision to adopt international standards in 1997 ICPAK took decision to adopt international standards in 1997 Previously used Kenya Accounting Standards adapted from International Accounting Standards (IAS) and Kenya Auditing Standards adapted from International Standards on Auditing (ISA) Previously used Kenya Accounting Standards adapted from International Accounting Standards (IAS) and Kenya Auditing Standards adapted from International Standards on Auditing (ISA) IFRS (then known as IAS) adopted with effect from January 1999 IFRS (then known as IAS) adopted with effect from January 1999 ISA adopted with effect from January 2000 ISA adopted with effect from January 2000

Key Considerations Global competitiveness – enhance professional expertise Global competitiveness – enhance professional expertise Enhanced corporate governance regime – better international appeal Enhanced corporate governance regime – better international appeal Uniformity in financial reporting for MNC subsidiaries Uniformity in financial reporting for MNC subsidiaries Reduce cost of adaptation – better use of professional body resources Reduce cost of adaptation – better use of professional body resources

Approach used Full adoption with no exceptions – all standards, all entities. Full adoption with no exceptions – all standards, all entities. Support through interpretation (Local Interpretations Committee) Support through interpretation (Local Interpretations Committee) Strong support from government regulators – Central Bank, Capital Markets Authority, Insurance Regulator Strong support from government regulators – Central Bank, Capital Markets Authority, Insurance Regulator

Implementation experiences  Financial instruments  Impacted mostly financial sector - valuation of investment securities and loans  Significant concerns on capital sufficiency implications for the insurance sector  Concerns about impact of short term investment market fluctuations  Agricultural entities – valuation of biological assets and reliability of results

Implementation experiences (contd)  Investment property  Revaluation and “depreciation” adjustments  Valuations – reliability, frequency, engagement with other professions  Leasehold land  Past revaluation reversal and “capital sufficiency” issues - insurance sector  Change in ownership context and loan collateral implications – bank sector

Implementation experiencescontd) Implementation experiences ( contd)  Income tax expense and deferred tax  Accounting vs taxable income  Computational complexity  Capacity to support implementation  Availability of local expertise  Intensified training – IFAC/IASB support (still continuing) support (still continuing)

SME issues IFRS for SMEs in adopted in 2009 and restricted to entities that: Do not have public accountability Publish general purpose financial statements for external users but for restricted purposes (e.g, owners not involved in day to day management who need to track financial performance; public authorities with specific needs – such as tax authorities) Do not have debt and equity instruments traded in the public market Do not hold funds in fiduciary capacity for primary business purpose such as banking, insurance, securities trading, investment banking or savings and credit granting

SME issues (contd)  Para  Para graph 12 of the IFRS for SMEs provides that: “…. A jurisdiction may … lessen the ‘dual reporting burden’ on SMEs by structuring tax reports as reconciliations from the profit or loss determined in accordance with … (accounting rules)”  Kenyan tax law has traditionally adopted the approach proposed above not just for SMEs but for all taxable entities

Tax implications  No specific accounting/ reporting requirements exist for tax purposes  Tax computation applies accounting profit as baseline with exceptions for “disallowed” items  These include:  Unrealized gains/losses  Expenses with special computation rules – e.g, capital asset depreciation, bad debts  Real property capital gains (not taxable)

Tax implications (contd)  Tax declaration filed with audited accounts and accounting-to-taxable income reconciliation  Tax audits focus on reconciliation among other issues  Reconciliation challenges with IFRS:  More “unrealized” items – valuation gains/ losses  Amortisation of leasehold land cost – different treatment from other long term leases?  Deferred items including tax  General tax rule in loss recognition – objective proof of “asset impairment” vs accounting “realisation” test

Tax implications (contd)  “Turnover Tax” introduced in 2006  Primary objectives - reduce accounting burden for SMEs, promote taxpayer recruitment  Key features:  Annual turnover below sh. 5m (current $50,000)  3% “all inclusive tax” based on turnover  No financial statements required  Quarterly declarations and payment  Excludes designated sectors – rental and professionals

Tax implications (contd)  Voluntary access through application  Full tax recognition including VAT input deduction for purchases  Initial enthusiasm eroded by inequity concerns especially for low margin sectors  Priorities - assess future viability, provide enhanced support through education and further streamline processes