Separate sourcing of earnings: What way forward for insurers?


The decision by the High Court declaring minimum tax unconstitutional and the directive stopping the Kenya Revenue Authority (KRA) from collecting it was a significant development.

Pending the Court of Appeal’s determination of this matter, taxpayers can breathe a sigh of relief.

For the executive, having factored in these tax collections for the year 2021/22, it will be interesting to see what revenue-raising measures will be presented to plug in the hole.

Perhaps owing to the gravity of the minimum tax issue, KRA’s notice last week advising taxpayers of the withdrawal of a 1979 private ruling by the Commissioner of Income Tax may have escaped notice.

Under Section 15(7) of the Income Tax Act, a taxpayer with multiple sources of income is required to separately consider each income source and pay the appropriate income tax.

This is commonly referred to as “separate sourcing” of income.

The policy rationale is that taxpayers cannot offset losses against income from different sources.

This ensures that the government on the one hand collects income tax from profitable operations and taxpayers’ investment decisions are commercially driven from loss-making businesses.

Today’s conglomerates engage in many business ventures making separate sourcing of incomes a complex undertaking.

It was no wonder then that in 1979, the commissioner exempted large companies, banks, insurance companies and listed entities from the separate sourcing requirement.

On this basis, for example, a bank with profits from rental income and losses from its core business would offset the rental income from the losses to reduce the tax payable.

Following KRA’s notice of withdrawal of the 1979 ruling, and effective October 1, 2021, all taxpayers will be required to separate source their income.

Indeed, as far back as 2012, the High Court ruled that interest income is a separate source of revenue. Therefore, there’s little doubt that this move will aid domestic revenue mobilisation.

What may be in doubt is the impact on some sectors such as insurance.

Insurance companies will generally underwrite risk in return for premium payment by the insured.

Following international best practices, insurance companies will invest in various asset classes, including rental properties and government bonds and bills.

Part of the idea is to match the insurance company’s long-term liabilities to long-dated cash flows to settle any claims by the insured.

In recognition of the unique nature of insurance businesses, the Income Tax Act provides for a specific tax regime applicable only to insurance companies. Section 19 of the Act has very specific rules on how to tax insurance companies.

Indeed, in recognition of this unique industry need, the preamble to Section 19 of the law is “notwithstanding anything in this Act”.

Mr Waruiru is an associate director with KPMG Advisory Services Limited ([email protected]).