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Learning Final Deduction System

So far we have been calculating tax using the PAYE method which calculated tax on a monthly or periodic basis. However another method of calculation is the FDS that the Payroll Administrator must be aware of.

Taking notes from the Zimra write up the

“WHAT IS THE FINAL DEDUCTION SYSTEM?

This is the system whereby the employer is directed to withhold P.A.Y.E. from the employee`s
remuneration in such a way as to ensure that the amount so withheld in any year of assessment is as
nearly the same as the income tax liability for the employee concerned.
WHAT IS THE DIFFERENCE BETWEEN P.A.Y.E SYSTEM AND F.D.S.?

Under the P.A.Y.E. system, the employer is required only to deduct P.A.Y.E according to the
P.A.Y.E. tables. The employees are obliged by law to submit income tax returns after the end
of the year.

P.A.Y.E is a non-cumulative method whereas F.D.S.is cumulative. This means that the
F.D.S.system continually calculates the cumulative tax liability on the total emoluments as
these are paid ,thus the correct tax liability is deducted by the employer at any given time
during the year.

The employer under the P.A.Y.E. system was not authorized to take into account credits in
claiming the P.A.Y.E. Under the F.D.S. the employer is directed to take into account credits
due to an employee.

If for any reason there is an over or under-deduction of tax the employer can make an
adjustment under the F.D.S. which he could not do with the P.A.Y.E. system.

ADVANTAGES OF F.D.S.

Accuracy is achieved, as the system calculates the correct amount of tax given time.
Tax refunds are done promptly, within the payroll.
Deductions and credits are allowed as they are claimed.

Reduction in tax returns submitted by employees and the need for assessments.

Reduced employee visits to the Revenue Office, a saving in terms of man-hours.”

 

It is important to note that FDS has two methods, which are

  • Forecast Method
  • Average Method

1.1        Important Rules to note about FDS

The following notes must be taken into consideration for payroll application

  • FDS is only applied to an employee who has started the year
  • FDS can be used using both methods
  • Tax credits which exceed the PAYE are passed over to the next period
  • Regular payments are forecasted in the FDS forecast method but irregular payments are not forecasted

 

1.2        Forecast Method

The basis of the FDS is to calculate tax that should be paid as relative to the total income of the year. In other words the forecast method takes a calculation of the regular income of the month to use that as the assumption that this is the income to be paid for the ensuing months, hence tax is the average of the future income including the current month. The tax is then calculated on the future total annual income reduced to one month or period.

A write on the lesson from Zimra notes is as below

“THE FORECASTING METHOD

Formula

  • Earnings to date (net of deductions)- i.e. including current period earnings.
  • Add forecasted monthly earnings to the end of the year based on taxable earnings.
  • Calculate the annual tax on annual income by reference to the Annual Tax Tables including Aids levy.
  • Deduct credits to previous period.

Subtotal

  • Subtract PAYE deducted to date.

Subtotal

  • Calculate the average monthly PAYE by dividing the tax balance by the remaining months, including the current month.
  • Deduct current month’s credits including Aids levy. The result would be PAYE for the month in question”

1.3        The Average Method

The average method is as follows

Source: Zimra

  1. Taxable earnings to date.
  2. Divide by the number of months so far worked to get the average taxable income.
  3. Multiply by 12 to get the annual tax chargeable.
  4. Calculate the annual tax chargeable.
  5. Divide the annual tax by 12 to get the average tax chargeable.
  6. Multiply the verge tax chargeable by the number of months so far worked to get the cumulative tax chargeable to date.
  7. Reduce the cumulative tax chargeable to date by the cumulative credits claimed to date to get the cumulative tax payable to date. Add 3% Aids levy to the cumulative tax payable to date.
  8. Subtract the cumulative tax paid to the immediate past period from the cumulative tax payable to date.
  9. The difference is the tax payable in the current month.”

The principal behind the calculation of the average method is to take the previous earning assume those to assume the average income for the coming months. So if one has earned an average of $4,500 per month to date this become the average amount to be assumed for the whole 12 months to come.