CHAPTER -4-

Ethiopian Pay-
roll System
 Definition of payroll & related terms
Salary or Wages:
•Salary and wages are usually used interchangeably
•Wage is used to refer to payments for manual labor
that are paid based on the number of hours worked or
the number of units produced.
•Salary: Compensations to employees on monthly or
annual basis.
•Employee, is an individual who works primarily to an
organization and whose activities are under the direc-
tion and supervision of the employer
2
• The pay Period: the length of time covered by each
payroll payment. Payment periods for wageworkers
are usually made on weekly basis. On the other hand,
salaried employees’ pay periods are monthly or
semimonthly.
• The Pay Day: The day on which wages or salaries
are paid to employees, usually the last day of the pay
period
• A Payroll Register (sheet): The entire list of em-
ployees of a business along with each employee’s
gross earnings, deductions and net pay (or the take
home pay) for a particular payroll period.
3
• Employee Earnings Record: It is a summary of each em-
ployee’s earnings, deductions, and net pay for each payroll pe-
riod and of cumulative gross earnings during the year.
– It is a separate record kept for each employee.
– The individual employees’ earnings record helps the employer organization
to properly summarize and file tax returns.
• Pay Check: An instrument for paying salary if the firm makes
payment via writing a check in the name of each employee for
the net pay or a check for the total net pay.
• Gross Earnings: is the total pay to an employee before deduc-
tions for the pay period.
• Payroll Taxes: These are taxes levied against the employer on
the payroll of a firm. It is an additional payroll related expense to
an employer.

4
• Withholding Taxes: These are taxes levied against
the earnings of employees of an organization and
withhold by the employer per the regulations of the
concerned government.
• Payroll Deductions: All the reductions from the
gross earnings of an employee such as withholding
taxes, union dues, fines, credit association pays, etc.
• Net Pay: The gross earnings after subtracting all the
deductions. An employee on the payday sometimes
knows it as take home pay the amount collected.

5
 Possible Components of a Payroll Register
1.Employee number
2.Name of employees
3.Money earned by an employee(s)
a) The basic salary or Regular Earning
b) Allowances:
• Position Allowance
• House Allowance
• Hardship Allowance
• Desert Allowance
• Transportation (fuel) allowance
c) Overtime Earning:
6
7
• Deductions: Subtractions made from the earnings of
employees either due to required by government or
permitted by the employee himself.
• In our country, Ethiopia, some of the deductions from
the earnings of employees include:

8
 1. Employee Income Tax
Table 1: Employment Income Tax under Deduction Method
TB Range of Tax Deduc- EIT Calculation
TEI Rate tion
1st 0-600 Exempt - No Tax Payment
2nd 10% EIT = TEI @ 10% –
601-1,650 60 Birr
60
3rd 1,651- 15% 142.50 EIT =TEI @ 15% –
3,200 Birr 142.5
4th 3,201- 20% 302.50 EIT =TEI @ 20% –
5,250 Birr 302.5
5th 5,251- 25% EIT =TEI @ 25% –
565 Birr
7,800 565
9
th
• According to Income Tax Amendment Proclamation the following
categories of payments are exempted from taxation.
– Medical costs incurred by employer for treatment of employ-
ees
– Transportation allowances paid by employer to its employees.
– Reimbursement by employer of traveling expenses incurred
on duty by employees.
– Traveling expenses paid to transport employees from else-
where to place of employment and to return them upon com-
pletions of employment.
2. Pension Contributions : Permanent employees of an orga-
nization are expected to pay or contribute 7% of their basic
salary and on the other hand, the employer is also expected
to contribute towards the same fund 11% of the basic salary
of every permanent employee of it. 10
 DEMONSTRATION PROBLEM
ABC Company has the following information for the
month September 30, 2016 and wants to prepare the
payroll register for the month.
S/ Name of Basic Monthly OT Hrs Duration of
No. Employee Salary Al- Worke OT Work
lowance d

1 Senayit 2,080 1,000 10 Up to 10 pm

Bahru

2 Abdu Kedir 12,800 1,500 6 Weekly Rest

11
• Additional information:
– Note that management of the agency usually expects a
worker to work 40 hours in a week and during September
2016 all workers have done as they have been expected.
– Besides, all workers of this Company are permanent employ-
ees;
– The monthly allowance of Kebede is not taxable;
– Abdu Kedir agreed to have a monthly Br. 200 be deducted
and paid to the Credit Association of the Agency as a monthly
saving.
• Required: Prepare a payroll register (or sheet) and
record all the necessary journal entries

12
 Computations of Earnings Overtime Earnings, Deductions
and Net Pays:
Overtime Earning = (OT Hrs worked) x (ordinary hourly
rate x OT Rate)

1. Senayit: (10hrs) (13) (1.25) = Br.

162.50
2. Abdu: (6hrs) (Br. 80) (2) = Br. 960
3. Kebede: (10hrs) (Br. 30) (2.5) = Br. 750
Gross Earnings = Basic salary + Allowance +
OT Earnings 13
14
15
3. Kebede:
Gross taxable income (his allowance is not subject
to tax)
Br. 6,050 - 500 = Br. 5550.00 ………………… Br.
5,550.00
Employee Income Tax:
IT=5,550*25%-565 ……………………………… 822.5
Pension Cont. Br. 4,800 X7%............………...... 336
Total Deductions ……………………………...Br
1,158.50
Net pay ………………………………………………...Br.
4,891.50 16
 1. PAYROLL REGISTER (PAYROLL SHEET)

Name of Em- Basic Monthly OT Gross Deduction Net pay Sign

S/No ployee Salary Allowance Earning
1 Senayit Bahru 2,080.00 1,000.00 162.50 3,242. 50 491.10 2,750.90 
2 Abdu Kedir 12,800.00 1,500.00 960.00 15,260.00 4,937.00 10,323.00 
3 Kebede Wolde 4,800.00 500.00 750.00 6,050.00 1,158.50 4,891.50 
19,680.00 3,000.00 1,872.50 24,552.50 6,586.60 17,965.40

17
 JOURNAL ENTRIES (RECORDING THE PAYROLL)
1. Recording the payment of salary
Sept 30. Salary Expense…………………………………………..24,552.50
Employee income tax payable ……………….…………………………...... 5,009.50
Pension Cont. Payable……………………………………………………….. 1,377.60
Payable to Credit Association………………………………………………. 200.00
Cash…………………………………………………………………………… 17,965.40

Pension contribution expense……………….2,164.80

Pension cont. payable………………………………….2,164.80
Payable to Credit Association………………………..200
Cash ………………………………………………………… 200
Employees Income Tax Payable ……………..…… 5,009.50
Pension Contribution payable ………………….……… 3,542.40
Cash…………………………………….
18
……………………. 8,551.90