Kenya’s Parliament has published the Finance Bill, 2025, which proposes amendments to several tax laws, including the Income Tax Act, the Value Added Tax Act, the Excise Duty Act, the Tax Procedures Act, 2015, and the Miscellaneous Fees and Levies Act. The proposed changes relevant to payroll are summarised below. These amendments are intended to take effect from 1 July 2025.

 

1. Amendment to the Definition of “Individual Retirement Fund”

Reference: Income Tax Act – Section 2 (Interpretation section)
The Finance Bill, 2025 proposes to amend the definition of “individual retirement fund” by deleting the phrase “subject to the Income Tax (Retirement Benefit) Rules.”

Previously, these Rules required individual retirement funds to be registered with both the Kenya Revenue Authority (KRA) and the Retirement Benefits Authority (RBA). Following the Tax Laws (Amendment) Act, 2024, registration is now streamlined, requiring approval only from the Retirement Benefits Authority to align the treatment of individual retirement fund with other retirement funds.

Impact on Payroll: This is an administrative clean-up with no payroll processing change required. The amendment simplifies the regulatory framework for retirement funds and aligns definitions accordingly.

 

2. Increase in Tax-Free Per Diem/Subsistence Allowance

Reference: Section 5 of the Income Tax Act
The Finance Bill, 2025 proposes to amend Section 5 of the Income Tax Act by increasing the daily tax-exempt per diem (subsistence allowance) from KES 2,000 to KES 10,000.

This allowance applies to amounts paid to an employee to cover expenses for subsistence, travel, entertainment, or other official duties, where the employee is working away from their usual place of work. The increase reflects the need to cushion employees against rising costs of travel and daily expenses.

Impact on Payroll: Once enacted, employers may pay up to KES 10,000 per day as an exempt per diem/subsistence allowance for official duties outside the normal place of work without triggering PAYE, provided the amount is not excessive and meets the qualifying criteria.

 

3. Expansion of Mortgage Interest Deduction to Include Construction Loans

Reference: Section 15(3)(b) of the Income Tax Act
Section 15(3)(b) currently allows a tax deduction of up to KES 360,000 per annum (equivalent to KES 30,000 per month) on interest paid on loans borrowed from approved financial institutions for the purchase or improvement of an owner-occupied residential property.

The Finance Bill, 2025 proposes to expand this provision to include interest on loans used for the construction of such residential premises. To qualify, the loan must still be borrowed from a recognized institution listed in the Fourth Schedule (e.g. commercial banks, building societies, insurance companies, etc.). The deduction is limited to one residence per individual and must be pro-rated if the property was occupied for only part of the year.

Impact on Payroll:
This tax deduction is applied through payroll if properly configured and supported by valid proof of interest paid to an eligible lender. The expansion to cover construction loans means payroll administrators should ensure correct setup and validation procedures for qualifying deductions from 1 July 2025 once enacted.

 

4. Employer Obligation to Apply All Deductions, Reliefs, and Exemptions Before Tax Calculation

Reference: Income Tax Act – Section 37, proposed new subsection (1A)
The Finance Bill, 2025 proposes to amend Section 37 of the Income Tax Act by introducing a new subsection (1A). This provision will require employers to apply all applicable deductions, reliefs, and exemptions granted to an employee before calculating the PAYE tax due.

The intention is to ensure the full application of statutory deductions such as pension contributions, owner-occupied interest, the Affordable Housing Levy (AHL), the Social Health Insurance Fund (SHIF), and post-retirement medical funds, as well as tax reliefs such as personal relief and insurance relief.

Impact on Payroll:
Our system already applies these tax deductions, reliefs, and exemptions correctly where configuration has been completed in accordance with statutory rules. No additional action is required unless incorrect setup or manual overrides have been applied.

 

5. Removal of Employer Obligation to Submit PAYE Deduction Certificate to the Commissioner

Reference: Income Tax Act – Repeal of Section 37(2)(c)
The Finance Bill, 2025 proposes to delete Section 37(2)(c) of the Income Tax Act, which required employers to submit a PAYE deduction certificate to the Commissioner (Kenya Revenue Authority).

This change reflects the transition to real-time digital reporting via iTax, where PAYE remittances are immediately visible to the Commissioner. As such, the requirement to supply a separate certificate is no longer necessary.

Importantly, the penalty provision linked to this obligation — a fine of 25% of the tax involved or KES 10,000 (whichever is greater)—will also fall away, as it was specifically tied to non-compliance with subsection 2(c).

Impact on Payroll:
Employers will no longer be required to submit a separate PAYE deduction certificate, and no penalty will apply for non-submission of such a certificate. However, timely and accurate PAYE declarations and payments via iTax remain mandatory.

 

6. Exemption of SHIF Contributions and Payouts from Income Tax

Reference: Paragraph 45A of the First Schedule to the Income Tax Act (Exempt Income)
The Finance Bill, 2025 proposes to amend Paragraph 45A of the First Schedule by replacing references to the National Hospital Insurance Fund (NHIF) with the Social Health Insurance Fund (SHIF).

This amendment confirms that:

• Contributions made to SHIF are tax-exempt, and
• Payments received from SHIF are also exempt from income tax.

Impact on Payroll:
There is no change to payroll system functionality where SHIF contributions are already being processed. The amendment provides legislative clarity to align with the repeal of NHIF and formal establishment of SHIF.

 

7. Clarification of Tax Exemption on Gratuity and Other Retirement Benefits

Reference: Paragraph 53 of the First Schedule to the Income Tax Act

The Finance Bill, 2025 proposes to amend Paragraph 53 of the First Schedule to clarify the tax exemption framework for retirement-related benefits. Specifically, it:

• Deletes the combined reference to “payment of gratuity or other allowances” under public pension schemes.
• Replaces it with two distinct subparagraphs to separately exempt:
• (a) Payment of gratuity
• (aa) Other allowances paid under a public pension scheme

This restructuring addresses ambiguity in the current wording, which could be interpreted to apply the tax exemption to either gratuity or allowances—but not both.

Additionally, by isolating the exemption for gratuity, the amendment strengthens the interpretation that gratuity payments—regardless of whether paid under a public or private pension scheme—are exempt from income tax, provided the broader qualifying conditions under Paragraph 53 are met (e.g. retirement age, ill health, or 20 years of fund membership).

Impact on Payroll:
Where gratuity is processed through payroll, the exemption should be applied consistently for both public and private schemes, subject to meeting the conditions under Paragraph 53. This clarification ensures correct application and removes uncertainty in tax treatment.

 

8. Clarification of Fringe Benefit Tax Rate

Reference: Paragraph 15 added to the Third Schedule of the Income Tax Act
The Finance Bill, 2025 proposes to clarify that Fringe Benefit Tax (FBT) is to be taxed at the corporate income tax rate applicable for the year of income. As of now, the corporate tax rate is 30%, and this same rate will apply to fringe benefits.

Fringe Benefit Tax generally applies to employer-provided loans to employees, directors, or their relatives, where the interest rate charged is below the Commissioner’s prescribed rate. The difference is treated as a taxable benefit.

This clarification reinstates the rate that was previously deleted (possibly inadvertently) by the Tax Laws (Amendment) Act, 2024.

Impact on Payroll:
No change in practice if FBT has been applied at 30%. However, this provision now ensures legislative certainty and aligns FBT with any future changes in the corporate tax rate.