Kenya’s New Rules, 2024 on Income Tax Exemption Certificates for Charitable Organization & Donations Allowability

Legal Notice No. 105 of 2024 on 18 June 2024 (the Effective Date) by the Cabinet Secretary for the National Treasury and Economic Planning (the Cabinet Secretary) was gazetted. The legal notice sought to repeal the Income Tax (Charitable Donations) Regulations, 2007 (the Repealed Rules).

Paragraph 10 of the First Schedule to the Income Tax Act exempts from income tax the income of any institution, body of persons or irrevocable trust of a public character that is established solely for the relief of poverty, distress of the public or for the advancement of religion or education (the Exempt Charitable Purposes)

Here is a summary of the key provisions and implications of the 2024 Rules in Kenya:

Twelve (12) month transition period for holders of income tax exemption certificates.

For exempt charitable organizations, you might be required to check the validity of your income tax exemption certificate if the same was issued before 18th June 2024 since you are now required to comply with the 2024 Rules within twelve (12) months from the Effective Date.

Exempt charitable organizations will be required to comply with these new obligations to avoid the risk of their income tax exemption certificate being revoked by the Kenya Revenue Authority (the KRA).

KEY NOTES: New requirements with the introduced 2024 Rules (such as the Surplus Funds Restriction, separate tax personal identification number, and definitions of Exempt Charitable Purposes) as discussed in detail below. Exempt charitable organizations will be required to comply with these new obligations to avoid the risk of their income tax exemption certificate being revoked by the Kenya Revenue Authority (the KRA).

a) Restriction on accumulation of surplus funds by a charitable organization

The 2024 Rules define surplus funds as the “excess of income over expenditure in any accounting period”.

KEY NOTES: The Surplus Funds Restriction would mean that the government is seeking to restrict the accumulation of donations and grant income (being the primary sources of tax-exempt income for non-profit organizations) and require their use for charitable purposes.

Definition of unrelated business income for charitable organizations

Charitable organizations that have been granted an exemption from income tax are required to obtain a separate tax Personal Identification Number (PIN) for any unrelated business and the gains and profits from such gains will not be covered by the income tax exemption granted to the charitable organization.

Unrelated business as defined in the 2024 Rules as “any business by way of trade that is regularly carried on by the charitable organization that is not carried out to support charitable activities provided under paragraph 10 of Part 1 of the First Schedule to the Income Tax Act.”

KEY NOTES: The provision seeks to subject the income from business or trade that is not exclusively used by an exempt charitable organization to support the Exempt Charitable Purposes to income tax.

Charitable organizations in Kenya will not be eligible for an income tax exemption if:

• The organization exclusively funds, donates, or supports other charitable organizations without undertaking a charitable purpose; or
• The organization has been exempted from tax under any other tax law.

Where a tax exemption is provided for under a different tax law, such as the Value Added Tax (VAT) Act, the 2024 Rules would not apply to that particular exemption.

Documents required when applying for the income tax exemption certificate

The KRA will require an application for exemption to be accompanied by certain documents including the following:

• Certified copy of the governing documents of the charitable organization such as the rules, constitution, trust deed, and memorandum and articles of association.
• Certified copy of the charitable organization’s registration documents;
• Audited financial statements for the three (3) years preceding the making of the application. An entity applying for an exemption for the first time is required to have been in operation for at least one (1) year when making the application. Therefore, it is presumed that such an organization will submit the financial statements for that one (1) year when making an exemption application; and
• A schedule of assets of the applicant including their corresponding values;
• Original introduction letter from the County Commissioner where the principal activities are carried out.

Other documents required include original bank statements for three (3) years, an impact report of present and future activities in Kenya, beneficiary selection criteria, an itemized summary of payments showing the payee, amount, and purpose, identification documents of the officials, physical address proof, valid tax compliance certificate, and letter of authority, power of attorney or appointment letter of the charitable organization’s representative.

What specific information should be contained in the documents submitted for an Income Tax Exempt Certificate by Charitable Organizations?

The 2024 Rules set out in detail the required scope of objectives for charitable organizations (Organizational Test) established for an Exempt Charitable Purpose to qualify for an income tax exemption.

1. The governing document should limit the objects of the organization to one or more of the Exempt Charitable Purposes. This requires that the founding documents clearly state with respect to the charitable organization;
   • its primary charitable purpose is the relief of poverty, distress of the public, advancement of religion, or advancement of education;
   • the specific charitable activities it intends to carry out to achieve its charitable purpose such as projects to be undertaken; and
   • the targeted beneficiaries including the criteria for selecting the beneficiaries.

The governing document should also prohibit the use of funds and assets for non-charitable purposes such as providing private benefits to persons associated with the management and ownership of the organization.

The governing document should provide that, upon dissolution of the organization, the entity would transfer its assets to another charitable organization with similar charitable purposes as the organization being dissolved.

The 2024 Rules provide detailed lists and descriptions of the activities that would qualify as Exempt Charitable Purpose as summarized below;

KEY NOTES;  

Exempt charitable organizations would be required to verify that they meet the definition and fall within the scope of the list of charitable purposes depending on the Exempt Charitable Purpose. The entity would also need to consider the additional considerations for ten per cent (10%) support in the case of healthcare and education. 

Requirement for renewal of a tax exemption certificate and file returns 

An income tax exemption certificate is valid for five (5) years. It must be issued within sixty (60) days of the lodging of the application, where all requirements are met. 

An exempt charitable organization is required to submit an income tax return at least once a year to the KRA. KRA is required to give notice of intention to revoke an income tax exemption certificate 

The effective date for any revocation of income tax exemption and taxation of accumulated funds 

The revocation of an income tax exemption certificate would take effect: from the beginning of the year of income in which the grounds for that revocation arose; or  such a later date as prescribed by KRA. 

Once the revocation of an income tax exemption certificate is effective, KRA shall impose income tax on any accumulated funds of the charitable organization in the year in which the exemption is withdrawn. 

KRA would not have a legal basis to impose income tax on the accumulated funds if the funds are not from the sources of income chargeable to income tax under the Income Tax Act. This would include donations and grants which are not included in the list of income chargeable to income tax. 

Rules on the allowability of donations to charitable organizations (by DONORS) as a tax deduction for income tax purposes? 

Pursuant to section 15(2)(w) of the Income Tax Act, persons making donations to a charitable organization with an income tax exemption certificate or to a project approved by the Cabinet Secretary responsible for matters relating to finance (the exempt project) qualify for a tax deduction on the donation. 

To qualify for the tax deduction under the 2024 Rules, the donation must:  

• Be in cash or kind and not be refundable, returnable or repayable to the donor under any circumstance;
• Not confer any direct or indirect benefit on the donor or any person associated with the donor; 
• Not be revoked by the donor once paid to the organization unless such revocation is approved by the KRA, in which case, tax would be due and payable. 

Further, the donor must obtain a receipt showing the full name and address of the recipient organization, the tax personal identification number of the recipient organization, the date of the donation, the purpose of the donation, and the amount of the donation. 

Additionally, Under the 2024 rules donations should be paid out of the taxable income of the donor, provided that; 

• The donation should not result in a taxable loss, and not more than fifty per cent (50%) of the donations in any year of income should be to unrelated entities; 

The Income Tax Act, Chapter 470 of the Laws of Kenya (the Income Tax Act) defines “related person” as “in the case of two persons where one participates directly or indirectly in the management, control or capital of the business of another person.” The term “control” is broadly defined in the Income Tax Act to include instances where “the person has any other relationship, dealing, or practice with another person which the KRA may deem to constitute control”. 

The above provisions would allow the KRA to disallow donations made by a taxpayer to an exempt charitable organization or project where the procedural and substantive requirements are not met. In particular, the KRA would be able to disallow for income tax purposes, donations that result in a taxable loss or breach the threshold of allowable donations to an unrelated entity. 

• In attempting to set out the scope of activities that constitute the relief of poverty or distress of the public, or for the advancement of religion or education the 2024 Rules for instance limits the number of eligible entities. For example, an organization providing healthcare services as a means of relief of distress of the public would be required to, among others, where it charges a fee, to offer free outpatient and inpatient treatment to at least ten per cent (10%) of the total patient population per accounting period.