SCHEDULE ‘A’ – INCOME FROM EMPLOYMENT

Imposition of Employment Income Tax

1/ Employment income tax shall be imposed for each calendar month at the rate or rates specified
in Article 11 of this Proclamation on an employee who receives employment income during the month.

2/ the employment income tax imposed on an employee under sub-article

(1) Of this Article for a month shall be calculated by applying the rate or rates of tax applicable to the
employee under Article 11 of this Proclamation to the total employment income received by the
employee for the month.

3/ an employee shall not be allowed a deduction for any expenditure incurred in deriving employment
income.

4/ For the purposes of this Schedule and Article 85 of this Proclamation, the employment income
attributable to the months of Nehassie and Pagumen shall be aggregated and treated as the
employment income of a single calendar month.

5/ If Article 80(1) applies to an employee, the employment income tax payable by the employee shall be
a final tax on the employment income of the employee and the tax shall be discharged if the employer
has withheld tax from the income in accordance with Article 85 of this Proclamation.

1/ Subject to sub-articles (2) and (3) of this Article, employment income means the following:

salary, wages, an allowance, bonus, commission, gratuity, or other remuneration received by an

employee in respect of a past, current, or future employment;

The value of fringe benefits received by an employee in respect of a past, current, or future
employment;

an amount received by an employee on termination of employment, whether paid voluntarily, under

an agreement, or as a result of legal proceedings, including any compensation for redundancy or loss of
employment, or a golden handshake payment.

2/ Employment income shall not include exempt income.

3/ If an employer pays the employment income tax payable by an employee, in whole or part,
without withholding tax from the employment income of the employee, the amount of tax paid by the
employer shall be included in the employment income of the employee.
4/ The Council of Ministers shall make Regulations for determining the value and taxation of fringe
benefits.

Payroll regulations and Employment Law in Ethiopia – work in progress

1. Overtime and leave

2. Income tax on employment income

3. Exemptions

4. Contracts

5. Terminating contract of employment

6. Period of notice
7. Reduction of workers
8. Determination of wages

1. Normal working hours may not exceed eight hours a day or 48 hours per week.
Overtime rules are covered in Section 68 of the Proclamation:

Overtime between 6am – 10pm (day work) = 1.25 multiplied by ordinary hourly rate

Overtime between 10pm - 6am (night work) = 1.50 multiplied by ordinary hourly rate

Overtime on a weekly rest day = 2.00 multiplied by ordinary hourly rate

Overtime on a Holiday = 2.5 multiplied by ordinary hourly rate

Annual Leave - Staff members are entitled to a minimum of 14 working days leave for their first year of
service and this entitlement increases by one working day for each additional year of service. This means
that an employee who has completed five years of service would be entitled to a minimum of 18 days
annual leave.

Sick leave - Employees are not entitled to sick leave until they have completed their probationary period.
Sick leave cannot last for more than six consecutive months over any 12- month period, commencing on
the first day of illness. Staff members are entitled to be paid 100% of their wages during the first month
of sickness. This figure drops to 50% over the next two months and to zero during the final three months
when they are entitled to no sick pay at all.
Special leave - There are a number of special leave types covered in the Labour Proclamation, but an
important one covers family events. Employees are eligible to receive payment for three working days
when they get married or if their spouse, children or a close relative dies

2. Income tax on employment income

Employers are obliged to withhold income tax from each payment made to an employee. The taxes
withheld must be paid to the Ethiopian Revenues and Customs Authority (ERCA) within 30 days from the
end of each calendar month in which the tax was withheld. Such payments should also be accompanied
by a statement about each employee receiving taxable income for the month.
Employment Income (per month) Employment Income Tax Dedication

Birr Rate

0-600 Exemption Exemption

601-1,650 10% 60

1,651-3,200 15% 142.5

3,201-5,250 20% 302.5

5,251-7,800 25% 565

7,801-10,900 30% 955

Mother than 10,900 35% 1500

3. Exemptions
Certain categories of income are exempt from employment income tax. The most common
components of an employee’s package that are fully or partially exempt are:
-Any amount paid by an employer to cover the actual cost of an employee’s medical treatment would be
exempt from tax.
-An allowance paid to an employee in lieu of transportation, which meets certain conditions, would
qualify for exemption. The allowance must be referred to in an employment contract.
The maximum tax-exempt allowance is currently set at 2,200 Birr (US$81) per month, but the allowance
cannot exceed 25% of an employee’s salary. It is also important to note that the allowance does not
cover instances in which an employer arranges for, or gives, a vehicle to a staff member who then uses it
to travel between their residence and place of work.
If an employer contributes towards an employee’s pension, provident or other retirement fund, these
contributions will be exempt from employment income tax as long as their total monthly contribution
does not exceed 15% of the staff member’s monthly income.

4. Contracts

A written contract of employment shall specify the following (i) the name and address of the employer,
(ii) the age and work card number, if any, of the worker, (iii) the agreement of the

contracting parties made in accordance with Article 4 Sub-Article and (iv) the signature of the

contracting parties.

Probation:

-A person may be employed for a probation period for the purpose of testing their suitability.
-A worker re-employed by the same employer for the same job shall not be subject to probation.

– When the parties agree to have a probation period, the agreement shall be made in writing, In

such a case, the probation period shall not exceed forty five consecutive days.

-Unless the law or work rules or collective agreement provides otherwise, the worker shall have

during the probation period, the same rights and obligations that a worker who has completed their
probation period has.

-If the worker proves to be unfit for the job during their probation, the employer can terminate the
contract of employment without notice and being obliged to pay severance compensation.
-A worker on probation may terminate their contract of employment without notice.

- If the worker continues to work after the expiry of the probation period, a contract of employment for
the intended period or type of work shall be deemed to have been concluded from the beginning of the
probation period.

5. Terminating Contract of Employment

Legal grounds to terminate an employment contract without notice:

-Repeated and unjustified tardiness despite warning to that effect (including lateness).

-Absence from work without good cause for a period of five consecutive working days or ten working
days in any period of one month or 30 working days in a year.

-Deceitful or fraudulent conduct in carrying out duties.

-Misappropriation of property or fund of the employer.

-Producing work output below the qualities and quantities agreed.

-Responsibility for brawls or quarrels at the work place.

-Conviction for an offense where such conviction renders them incapable for the post.

-Responsibility for causing damage intentionally or through gross negligence to any property of the
employer or to another property which is directly connected with the work of the undertaking.-
Intentionally commit in the place of work any act which is endangers life and property.

-Report for work in a state of intoxication.

-Refuse to observe safety and accident prevention rules and to take the necessary safety precautions.

-Commission of other offenses stipulated in a collective agreement as grounds for terminating a contract
of employment without notice.

-Absence from work due to a sentence of imprisonment for more than 30 days.
-Upon termination of a contract of employment or whenever the worker so requests, employers should
provide, free of charge, a certificate stating the type of work they performed, the length of service and
the wages.

Notice to terminate a contract

Notice of termination required under the provisions of this Proclamation shall be in writing. The notice
shall specify the reasons for the termination of the contract and the date on which the termination shall
take effect. Notice of termination by the employer or their representative shall be handed to the worker
in person. Where it is not possible to find the worker or they refuse to receive the notice, it shall be
affixed on the notice board in the work place of the worker for 10 consecutive days. 3) Notice of
termination by the worker shall be handed to the employer or their representative or delivered to their
office. 4) Notice of termination given to a worker by an employer in accordance with Article 17 during
the time in which the contract of employment is suspended shall be null and void.

Unless otherwise provided for in this Proclamation, the period of notice given by the employer shall be
as follows: (a) one month in the case of a worker who has completed their probation and has a period of
service not exceeding one year; . (b) two months in the case of a worker who has a period of service
above one year to nine years. (c) three months in the case of a worker who has a period of service of
more than nine years; (d) two months in the case of a worker who has completed their probation and
whose contract of employment is terminated due to reduction of work force. 2) Notwithstanding the
provisions of Sub- Article (1) of this Article, the period of notice for a contract of employment for a
definite period or piece work shall be agreed upon by the parties in the said contract. 3) The period of
notice fixed in this Proclamation shall run from the first working day following the date on which notice
is dully given. 4) The obligations of the parties deriving from the contract of employment shall continue
in force during the period of notice.

Legal grounds to terminate an employment contract with notice:

- The worker’s manifested loss of capacity to perform the work to which they have been assigned or lack
of skill to continue the work.
-If the worker, for reasons of health or disability, permanently, is unable to carry out their obligations
under the contract of employment.

- The worker’s unwillingness to move to a locality to which the undertaking moves.

-When the post of the worker is cancelled for good cause and the worker cannot be transferred to
another post.

The notice of termination by the employer shall be handed to the worker in person. Where it is not
possible to find the worker or they refuse to receive the notice, it shall be affixed on the notice board in
the work place of the worker for ten consecutive days.

6. Period of Notice
Period of notice means the number of days the employer should give for the worker before termination
of the contract. This Period of notice ranges from one to three months based on the period of service of
the worker.

-One month in the case of a worker who has completed probation and has a period of service not
exceeding one year.

-Two months in the case of a worker who has a period of service above one year to nine years.

-Three months in the case of a worker who has a period of service of more than nine years.
-Two months in the case of a worker who completed their probation and whose contract of employment
has terminated due to reduction of work force.

7. Reduction of workers
Another ground of termination of an employment contract in Ethiopia is Reduction of Workers.
Reduction of workers can be made when the following requirements are fulfilled:
-Fall in demand for the products or services of the employment resulting in the reduction of the volume
of the work and profit of the undertaking & there by resulting in the necessity of the reduction of the
work force.

-A decision to alter work methods or introduce new technology with a view to raise productivity
resulting in the reduction of the work force.
- Any event which entails direct and permanent cessation of the worker’s activities in part or in whole
resulting in the necessity of a reduction of the work force.

The employer in consultation with the trade union or its representative shall give priority of being
staying in job for those workers having higher rate of productivity and best skills

8. Determination of wages
"Wages" means the regular payment to which the worker is entitled in return for the performance of
the work that they have performed under a contract of employment. 2) For the purposes of this
Proclamation, the following payments shall not be considered as wages: (a) over-time pay; (b) amount
received by way of per-diems, hardship allowances, transport allowance, transfer expenses, and similar
allowance payable to the worker on the occasion of travel or change of their residence; (c) bonus; (d)
commission; (e) other incentives paid for additional work results; (f) service charge received from
customers.

Accounting for Business Income Tax “C”

      Meaning

Business means manufacture or purchase and sale of a commodity with a view to make profit. It
includes any trade, commerce or manufacture or any other adventure or concern in the nature of
entrepreneurial activity. It is not necessary that there should be a series of transactions in a business
and it should be carried on permanently. Neither repetition nor continuity of similar transactions is
necessary. Profit of an isolated transaction is also taxable under this Schedule, provided that it is a
venture in the nature of business or trade. In this connection, it is important that the intention of
purchase or manufacture should be sell at a profit.

       Taxable Business Income

Taxable business income shall be determined per tax period on the basis of the profit and loss account
or income statement, which shall be drawn in compliance with the Generally Accepted Accounting
Standards, subject to the provisions of this Proclamation and the directives issued by the Tax Authority.
Business income tax or business profit tax is the tax imposed on taxable business income /profit realized
from entrepreneurial activities. it is charged on the profit of business enterprises on their activities
arising each accounting period or tax year.

        Category of Taxpayers

For the purposes of payment of business tax, taxpayers are categorized into three namely: Category “A”,
Category “B”, and Category “C”.

Category “A” Taxpayer

Category “A” taxpayer includes;

Business that have separate legal personality (share company, PLC and  public enterprise) regardless of
their annual sales revenue.

Any company incorporated under the laws of Ethiopia or in a foreign country and other entities having
annual turnover of more than Br1,000, 000.

 Those who are categorized under “A” have to maintain all records and account which will enable them
to submit a balance sheet and profit and loss account.

The following details are included the gross profit and the manner in which it is computed , general and
administrative expenses, depreciation, and provisions and reserves (together with the supporting
vouchers).

Category “B” Taxpayer                                                  

 Category “B” taxpayers includes, unless already classified in Category “A” Taxpayer , business with no
legal personality and  those enterprises having annual l turnover income of Br 500,000 and above.
Category “B” taxpayers have to submit the profit and loss statement together with the supporting
vouchers.

Category “C” Taxpayer

Category “C” includes all taxpayers who are not classified under the other two categories and whose
annual turnover is estimated at Br 500,000 or less. Every businessman (except Category “C”) is required
to preserve all books of accounts and other records and documents for a period of not less than 5 years
after the year of income to which such books and documents relate.

To determine the income tax liability of such tax payer, standard assessment or presumptive method
shall be used . Assessment or presumptive tax is fixed amount of tax determined by estimation or best
judgment. However, if categories “C” tax payer maintain books of account, they shall pay taxes on the
basis of their books of account.

Moreover the tax payer who drives income from different source subjected to the same schedule shall
be assessed on the aggregate of such income. For example if the individual has barberry and castle shop,
the income of the two businesses are aggregated.

         Tax payment Period

The fiscal year starts on Hamle 1 and ends on Sene 30. The body can change the accounting year only
with the permission of the tax authority. When the tax period of a body is changed (with the
permission); the period between the previous tax period and the new period will be treated as a
“transitional period”.

          Allowable Deductions

In the determination of business income subject to tax in Ethiopia, deductions shall be allowed for
expenses incurred for the purpose of earning, securing, and maintaining that business income to the
extent that the expenses can be proven by the taxpayer and subject to the limitations specified by this
Proclamation. In order to determine taxable income under Schedule “C” the following items of
expenditures are allowable for deduction.

1) Direct cost of producing the income such as the direct cost of manufacturing, purchasing,
importation, selling and such other similar costs.

2) General and administrative expenses incurred for earning, securing and maintaining the income. Such
costs are salary of administrative personnel , utility cost, rental cost ,repair and maintenance and etc. 

3) Bad debt

4) Premium payable on insurance directly connected with the business activity ;-  insurance premium
directly connected with business activities and against risk of damage or destruction of business
premises.

5) Expense incurred for the promotion of business

6) Commission paid for services rendered, provided that the amount shall not exceed the normal rates
provided by other similar businesses or persons

7) Any payment made by a branch, subsidiary or associated company in

Subjected to the following two conditions;

The payment is made for the service actually received.

The service was necessary for the business and could not be performed by other person or by the
business itself at lower cost.

8) Salaries, wages or other benefit paid to the children of proprietors or member of partnership.
Subjected to the following two conditions;

      a. such employees shall have the required qualification.

      b. the salary payable for such employs shall be equivalent for the post.

9) Salaries and other personal benefit paid to manager or managers of a private limited company.

10) Interest expense, if the lending institution is recognized by NBE or a foreign bank permitted to lend
to enterprises in the country.

11) Depreciation expense

 

The following are the rates of depreciation permitted per the rule:

1) Building: 5% of the original cost. The cost includes the cost of acquisition, construction, improvement,
reconstruction and renewal.

2) Intangible Assets: 15% (straight-line basis).

3) Computers, information systems, software products and data storage equipment: 20% (on a pooling
system). Under pooling system the asset that has the same or similar character pooled together and are
called pooled asset. For example projector, LCD, scanner, flash disk etc.

4) All other business assets: 25% (on a pooling system)

5) Greenhouses 10%

All other depreciable business asset such as machineries, vehicles furniture is pooled together. For
assets for which the pooling method is used, the rate is applied to the depreciation base for the
determination of depreciation. Depreciation base is the book value of the asset on the opening day of
the tax period, increased by the cost of acquisition, creation, renewal, etc. during the period and
reduced by the sales price of the asset disposed during the period. Loss incurred during the period due
to natural calamity and other involuntary conversion will also be considered for the computation of
depreciation base. Any compensation received for these purposes will be deducted from the book value.

While determining the depreciation base, if it becomes negative, it will be added to the taxable income.

On the other hand, if the depreciation base is Br 1,000 or less in any tax period, the entire amount shall
be treated as depreciation for that period. Likewise, gain obtained as a result of revaluation of assets
shall not be a basis for determining depreciation base.

For each category of assets, the actual expense incurred for the maintenance and improvement is
allowable provided it does not exceed 20% of the depreciation base at the end of the year. If such an
expense exceeds 20% of the depreciation base, the excess will be added to the depreciation base of the
category.

According to the Regulation issued by the Council of Ministers, depreciation will be allowed as deduction
only if the tax payers keep satisfactory record and submit the same to the tax authority regarding the
date and cost of acquisition and a record of the total amount of depreciation deducted on the asset so
far. However, depreciation on assets such as fine art, antiques, jewelry, trading stock, etc. (which are not
subject to wear and tear) are not allowed.

Financial institutions are permitted to deduct special reserves from taxable income in accordance with
the directives issued by NBE. However, the amount drawn from such reserves will be added to the
taxable income of such institutions.

      Non-allowable Deductions

All those expenses, which are not wholly or exclusively incurred for the business activity, shall not be
allowed as deductions per the provisions of law. Such expenses include:
1) Additional investment: an increase in the share capital of a company or the original capital of a
registered partnership

2) Pension or provident fund contribution in excess of 15% of the monthly salary of employees

3)  Business profit tax and input value added tax; - but they can be recovered through collection on
sales.

4) Fines or penalty paid under violation of law

5) Losses that are not connected with the business activity

6) Losses recoverable by insurance

7) Entertainment expenses

8) Personal consumption expenses

9) Salary, wages, and other personal benefit paid to the partner, or proprietor of an enterprise

    Declaration and Payment of Tax

The following is the procedures for the declaration of taxable income by taxpayers.

A) Taxpayers categorized as “A” are required to declare their taxable income within four months from
the end of the tax period

B) Those taxpayers who are categorized as “B” are required to declare their taxable income within two
months from the end of the tax period

C) Category “C” taxpayers shall declare taxable income within one month i.e. between July 07 and
August each year                         

       Assessment of Tax

Assessment is a tax review by a tax official of the tax declaration and information provided by a taxpayer
and a verification of the arithmetical and financial accuracy of the declared tax liability. Pursuant to the
proclamation, each taxpayer is required to furnish the tax authority with all information required for the
assessment of income tax including information about his operations, and relationship with other bodies
that may be necessary for the declaration of income or for supporting the books of accounts.

The procedure for the assessment of business income tax takes two forms:

          A) Assessment by books of accounts, and

          B) Assessment by estimation.

Assessment by books will be done for those who maintain books of accounts (Category A and B). The
revenue authority makes assessment by estimation when the taxpayers do not maintain the books or
when the submitted books are not acceptable. This is also done if the taxpayer fails to declare his/her
taxable income within the time required. Tax, of those taxpayers who have different sources of income,
will be assessed on the aggregate of all income.
If the taxpayers keep no records, or if the income tax authority does not accept the submitted books, or
if the taxpayer fails to declare tax within the time specified, the income tax authority estimates tax by
the use of certain indicators. Category “C” should pay tax at fixed rate on the income estimated by the
income tax authority.

Tax assessors will be assigned by the tax office to estimate the daily sales of the taxpayers. The
estimates will be done using the best of their judgment and objectivity. The estimated daily sales will be
converted to annual income using the number of working days. Tax on annual sales is determined on the
basis of presumptive value assigned to each activity.

          Business Income Tax Rates

According to the income tax proclamation, the following tax rates are used for computation of business
income tax under Schedule “C”. The Range of Taxable Business.

 Taxable Business Profit of a body is taxable at the rate of 30 %.

Taxable Income (per year) Business Income Tax Dedication

Birr Rate
0 - 7,200 Exemption Exemption
7,201-19,800 10% 720
19,801-38,400 15% 1,710
38,401-63,300 20% 3,630
63,001-93,600 25% 6,780
93,601-130,800 30% 11,460
Over 130,800 35% 18,000

                Provision for Loss Carry Forward

  If a business incurs a loss in a year, that loss may be set off against taxable income in the next three
years. If there is operating loss for more than one period,  earlier losses being set off before later losses.
A net operating loss may be carried forward and deducted only for two periods of three years.
However, the loss cannot be carried forward: If during a year, the direct or indirect ownership of the
share capital or the voting rights of a business changes more than twenty-five percent, by value or by
number and if the business cannot provide a books of account showing the loss, which are acceptable by
the authority.

Penalties

The following penalties are provided in the proclamation regarding business income tax.

For Non-declaration

Taxpayers who do not declare tax income within the period specified in the regulation will be liable to
pay Br 1,000 for the first 30 days of non-declaration. The penalty is Br 2,000 for the next 30 days of non-
declaration. Br 1,500 will be charged for each 30 days for failure to declare the taxable income
thereafter.

   For understatement of taxable income

Understatement of taxable income results in a penalty of 10% of the amount Understatement. If the
understatement is substantial, the penalty will be 30%.

   For late payment

When a taxpayer fails to pay tax within the due date, he/she will be required to pay a penalty of 5% of
the amount unpaid. An additional 2% penalty on the amount unpaid is imposed on the first day of each
month for non-payment.

For failure to keep records

Failure to keep books of accounts, records and other documents by any taxpayer results in a penalty of
20% of the tax assessed. If this failure continues for two consecutive years, the license of the taxpayer
will be suspended. One more year’s failure leads the tax authority to revoke the license of the taxpayer.

For failure to withhold

A withholding agent, who fails to withhold tax per the proclamation, will be personally liable to pay tax
(which has been withheld). In addition, this failure obliges the agent to pay Br 1,000 per case. The
following individuals are also liable in this regard:

1) The manager that has known of the failure

2) The chief accountant or a senior officer who was responsible for the supervision of the withholding
activities.

Recording Business Income Tax      

Like any business transaction, profit tax payment must be properly accounted for. To record business
profit tax, Income Tax Expense will be debited and Income Tax payable will be credited (if the tax is not
paid yet) or cash will be credit (if recording is made at the time when the tax is paid).

Example Melat enterprise, unincorporated business has reported  earnings before tax of birr 80,000 at
the tax year ended Sene 30,2006.

   Required

A. Determine the amount of business income tax?

B. Record necessary journal entries?

Sol.

Deduction method:

7,200 - 19,800              10%              720

   = 80,000* 10-720
   = 8,000-720

   = 7,280

To record recognition of income tax expense

    Income tax expense ……………………7,280

               Income tax payable ………………………. 7,280

To record payment of tax

        Income tax payable…………….. 7,280

                 Cash …………………………………… 7,280