MANAGING TAX RISKS: How do you pay your employees?

There are various ways employees can be remunerated for the employment services they offer to their employers.

The most common is a salary and allowances paid in monetary form. But it is also common for employers to provide some other non-monetary benefits to their employees in addition to the salaries.

It is also possible (particularly in the informal sector) for employees to be purely remunerated in non-monetary terms.

Where an employer makes payment for the personal needs of an employee through providing the employee with rights, goods or services (as opposed to money) these are called “benefits in kind”. Taxable benefits in kind typically include those benefits which are for the personal use or consumption needs of the employee.

The benefits in kind can take various forms including a housing, a company car for personal use by an employee, and an interest-free loan or a loan at an interest rate way below the market rates. It could also be airtime, data or cell phones for both business and personal use.

Most of this kind of benefits are taxable but because no money goes to the employee, it is an area that some employers can easily overlook and forget their obligation to account for the pay-as-you-earn (PAYE). Of course, some employers and employees may not aware that those benefits in kind are taxable.

Not accounting for PAYE on the benefits in kind presents a tax risk to the employer and to some extent the employee. If the non-compliance is subsequently uncovered by the tax authority, the employer is likely to be assessed on the unpaid tax plus interest and penalties. To the employee, the risk is that his employer may, later on, seek to recover the amount of tax that was previously not deducted (assuming the employee is still with the same employer). Depending on the amounts and the mode of recovery, this can be very frustrating to employee’s cash flow plans.

Quantification rules: If PAYE is to be accounted for on the benefits in kind given to employees, first, the benefits need to be quantified in monetary terms.In general, the value of a benefit in kind is quantified according to a market value of the benefit. The market value means the amount that an independent person would have to pay in the market to receive the same good or service that the employee receives from his employer.

If for example, a manufacturer ofplastic chairs decides to give each employeefive chairs in a particular year, the benefit in kind to each employee will be determined by the market value of the chairs received. If a plastic chair is sold at shillings 100,000 to independent customers, then that is the market value. Hence, in this example, the benefit in kind to the employees will be quantified as shillings 500,000 and this amount needs to be included as part of employee’s income and PAYE deducted accordingly.

However, some special quantification rules apply to the provision of motor vehicles, provision of subsidized loans and provision of housing to employees. I will discuss the special quantification rules in my next article.