Fundamentals of Accounting II 2025

CHAPTER FOUR
Ethiopian Payroll System
4.1. Overview of Ethiopian employment income tax
Every person deriving income shall pay income tax in accordance with newly amended income
tax Proclamation 1395/2025 and the Tax Administration Proclamation 983/2016. The new
income tax proclamation has been employed and low earners at its beneficiary. Employment
income tax is a tax on the earnings of an employee. The minimum taxable employees income is
monthly employee’s income must be above Br 2,000.
4.2. Salary, allowances, and fringe benefits
 Salary is a fixed amount of money or compensation paid to an employee by an employer in
return for work performed. Salary is commonly paid in fixed intervals, for example, monthly
payments of one-twelfth of the annual salary.
 Allowance is money that is given to someone, usually on a regular basis, in order to help
them pay for the things that they need. It is the amount of something that is permitted,
especially within a set of regulations or for a specified purpose.
 Fringe benefits are the additional benefits offered to an employee, above the stated salary for
the performance of a specific service. Examples of optional fringe benefits include free
breakfast and lunch, gym membership, employee stock options, transportation benefits,
retirement planning services, childcare, education assistance, etc
4.3. Types of leaves
According to labour proclamation No. 1156/2019, an agreement by a worker to waive in any
manner his right to annual leave shall be null and void. The leaves are as follow:
1. Sick leave
Sick leave is time off given by the company to allow employees to recover from an illness and
take care of their health. Sick leaves are crucial to allow employees to get the rest they need
without worrying about losing pay. Sick leave is a mandatory requirement in many countries to
ensure the well-being of the employee.
2. Maternity leave
An employer shall grant leave to a pregnant worker with pay, for medical examination connected
with her pregnancy, provided, however, that she may be required to present a medical certificate
of her examination. A pregnant worker shall, upon the recommendation of a physician, be
entitled to a leave with pay.
A pregnant worker shall be granted a period of 30 consecutive days of leave with pay of pre-
natal leave and a period of 90 consecutive days of leave post- natal.
Where a pregnant worker does not deliver within the 30 working days of her pre-natal leave, she
is entitled to an additional leave until her confinement in accordance with Sub-Article (2) of this
Article. However, if birth takes place before the expiry of the pre-natal leave, the 90 working
days of post-natal leave shall commence.

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Fundamentals of Accounting II 2025
Thus, the new Proclamation says female employees are entitled to fully pay maternity leave of
120 days (30 days pre-natal and 90 days postnatal) upon the recommendation of a medical
doctor, thus allowing them sufficient time to take care of their newborn children.
3. Paternity leave
Paternity leave is granted to new fathers— husbands or partners of a pregnant woman, surrogate
parent, or someone who adopted a child— to take care of their newborns without any worry.
The law also, for the first time ever, allows paternity leave of three consecutive days for male
workers. However, under the Civil Service Law, civil servants will be given five days of
paternity leave.
4.4. Components of payroll sheet
1. Employee number: Numbers assigned to employees for identification purpose when a
relatively large number of employees are included in the payroll register.
2. Name of employees: List of the names of employees
3. Earnings: money earned by an employee(s) of a firm from various sources. It may include:
a. Basic Salary- a flat monthly salary of an employee for carrying out the normal work of
employment and subject to change when the employee is promoted.
b. Allowances- money paid monthly to an employee for special reasons, like:
- Position allowance- a monthly paid to an employee of earning a particular office
responsibility.
- Housing allowance- a monthly allowance given to cover housing costs of the
individual employee when the employment contract requires the employer to
provide housing but the employer fails to do so.
- Hardship allowance- a sum of money given to an employee to compensate for an
inconvenient circumstance caused by the employer. For instance, unexpected
transfer to a different and distant work area or location.
- Desert allowance- a monthly allowance given to an employee because of
assignment to a relatively hot region.
- Transportation (fuel) allowance- a monthly allowance to an employee to cover cost
of transportation up to her workplace if the employer has committed itself to
provide transportation service.
C. Overtime Earning: Overtime work is the work performed by an employee beyond the regular
working hours. Overtime earnings are the amount paid to an employee for overtime work
performed. Work done in excess of the normal daily hours of work fixed in accordance with the
provisions of labour Proclamation No. 1156/2019 shall be deemed to be overtime. In this
proclamation, “normal hours of work” means the time during which a worker actually performs
work or avails himself for work in accordance with law, collective agreement or work rules.
Normal hours of work shall not exceed 8 hours a day or 40 hours a week.

In addition to this normal wage, a worker who works over-time shall be entitled at least on the
following rate of payments in accordance with the provisions of labour Proclamation No. 1156/2019:

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Fundamentals of Accounting II 2025
a. In the case of work done between 6:00 a.m. in the morning and l0:00 p.m. in the
evening, at the rate of 1.5 multiplied by the ordinary hourly rate;
b. In the case of night time work between 10 p.m. in the evening and 6 a.m. in the
morning, at the rate of 1.75 (one and three fourth) multiplied by the ordinary hourly
rate;
c. In the case of work done on weekly rest day, at the rate of 2 multiplied by the
ordinary hourly rate;
d. In the case of work done on a public holiday, at the rate of 2.5 multiplied by the
ordinary hourly rate.

4. Deductions: These are subtractions made from the earnings of employees that are because it is
required by government or permitted by the employee himself.
In our country, Ethiopia, some of the deductions against the earnings of employees are: -
a. Employee Income Tax
In Ethiopia every citizen is required to pay income tax from his/her earnings of employment. In
this case a progressive income tax system that charges higher rates for higher earnings is applied
on the gross earnings of each employee.
According to the newly amended income tax proclamation no. 1395 /2025 the tax on income
from employment over two thousand (Br 2000) shall be charged, levied and collected according
to the following income tax rates.
No. Salary Range (ETB) New Tax Rate Deduction (ETB)
1. 0 – 2,000 Birr 0% ----
2. 2,001 – 4,000 Birr 15% 300 Birr
3. 4,001 – 7, 000 Birr 20% 500 Birr
4. 7,001 – 10,000 Birr 25% 850 Birr
4. 10,001 – 14,000 Birr 30% 1,350 Birr
5. Over 14,000 Birr 35% 2,050 Birr
Generally, taxable income from employment includes salaries, wages, allowances, director’s fees
and other personal emolument (payment), all payments in cash and benefits in kind.
b. Pension Contributions
According to Public Servants' Pension (amendment) Proclamation NO.907/2015; Public servant'
means monthly salaried person employed permanently or for definite period or piece of work in
a public office, public enterprise or project or program carried out by government, and includes
government appointees, members of parliament, members of the defense force and the police.
Benefit' means retirement pension, invalidity pension, incapacity pension or survivors pension
and includes gratuity.
retirement benefits are to be paid to an employee who attains retirement age, which is 60 years.
Once an employee has reached the retirement age, s/he will be paid either retirement pension or
retirement gratuity depending on his length of service.

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 Fundamentals of Accounting II 2025
The pension contributions payable to the Civil Service Pension Fund shall, based on the salary of
the public servant be:
1) by the public office 11%;
2) by the public servant 7%.
The contributions payable to the Private Organizations Pension Fund shall, based on the salary of
the employee of the private organization be:
1) by the employer 11%;
2) by the employee 7%.
c. Other Deductions
Apart from the above two kinds of deductions from employees’ earnings, employees may
individually authorize additional deductions such as deductions to pay health or life insurance
premiums; to repay loans from the employer or credit association; to pay for donations to
charitable organization; etc.
Each of the major other deductions may be put in special column in the payroll register.
Ultimately, the sum of the employees’ income tax, pension contributions and other deductions
given the total deductions from the gross earnings of an employee.
5. The Net Pay: This amount is held in one column of the payroll register representing the
excess of gross earnings over the total deductions of an employee. The column “Net Pay”
total tells the grand total deductions made from the earnings of employees.
6. Signature: Unless some other document is used, the payroll sheet may be designed to allow a
column for signature of the employees after collection of the net pay. In general, a payroll
register should at least show the earnings, deductions and the net pay along with the name of
employees.

4.5. Payroll-related journal entries

Example: ABC Company pays the salary of its employees according to the Ethiopia calendar of
June 2025.
Basic
Basic Monthly OT hours Duration of OT Salary Per
No Name of Salary Allowance worked work Hour
Employees
1 Solomon Addisu 14,200 100 10 UP to 10 P.M. 88.75
2 Fikre Kochito 2640 --- 8 10 P.M to 5 A.M. 16.5
3 Mekoanint Bayu 12,578 --- 6 Weekly rest days 78.6125
4 Getnet Gezahegn 8,350 50 --- --- 47
5 Semere Woldie 5,200 50 10 Public Holiday 32.5
N.B. Note that management of the agency usually expects a worker to work 44 hours in a week
and during June, 2025all workers have done as they have been expected. Besides, all workers of

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Fundamentals of Accounting II 2025
this agency are permanent employees except Fikre Kochito; the monthly allowance of Semere
Woldie is not taxable; Mekoanint Bayu agreed to have a monthly Br. 200 to be deducted and
paid to the credit association of the agency as a monthly saving. Except Solomon Addisu all
employees agreed to contribute starting from this month their monthly salaries within eight
months for the current food shortage crises to disaster prevention and preparedness commission
(DPPC).
Instructions:
Based on the above information
1. Prepare a payroll register (or sheet) for the company for the month of June, 2025.
2. Record the payment of salary and accrued liabilities as of June 30, 2025 using Ck. no.
1641 as a source document.
3. Record the payroll taxes expense for the month of June, 2025.
4. Record the payment of the claim of the credit association of the company that arose from
June’s payroll assuming that the payment was made on July 1, 2025.
5. Record the payment of the claim of the DPPC arose from Hidar’s payroll assuming that
the payment was made on July 1, 2025.
6. Assume that the withholding taxes and payroll taxes of the month of June, 2025 have
been paid on July 5, 2025 via [Link].50.
Prepare a Payroll Register (or sheet) & record journal entry for the Company for the Month
of June, 2025.
The preparation of the payroll register requires for overtime and gross earnings, deductions
and net pays. We will produce these inputs before formally preparing the payroll register.
Overtime Earnings:
Overtime earning=overtime hours worked x (ordinary Hourly rate x OT Rate)
No Name Computation Overtime Earning
.
1 Solomon Addisu 10hrs x (Br. 88.75*1. 5) =Br. 1331.25
2 Fikre Kochito 8hr. x (Br. 16.5*1.75) =Br. 231
3 Mekoanint Bayu 6hr. x (Br. 78.6125*2) =Br. 943.35
4 Semere Weldie 10hr. x (Br. 32.5*2.5) =Br. 812.5

Gross Earning:
Gross Earning=Basic salary + Allowance +OT Earnings
No Name Computation Gross Earnings
.
1 Solomon Addisu Br 14,200+100+1331.25 Br. 15,631.25
2 Fikre Kochito Br 2640+0+231 Br. 2871
3 Mekoanint Bayu Br 12,578+0+943.35 Br. 13,521.35
4 Getnet Gezahegn Br 8350+50+0 Br. 8,400
5 Semere Weldie Br 5,200+50+812.5 Br. 6062.5
Deduction and Net Pays
Name Basic Gross Employee Pension Other
salary salary Income Tax Contribution Deduction

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Fundamentals of Accounting II 2025
Solomon Br.14,200 Br. (Br15,631.25*35%)-Br 2050 Br 14,200*0.07 0
Addisu 14,660
Total Br 3,420.9375 Br 994 0
*Contribution to DPPC.
Employee Income Tax + Pension Contribution + Other Deduction = Total Deduction
Br 3,420.9375 + Br 994 + Br = Br 4,414.9375
Net Pay = Gross Earnings – Total Deduction = Br 15,515 - Br 4,414.9375
=Br.11,100.0625
Name Basic Gross Employee Pension Contribution Other Deduction
salary salary Income Tax
Fikre 2640 2850 (Br2,871*15%)–Br Pension contribution is 2640/8
Kochito 300 zero because the employee
is a contractual worker.
Total = Br 129.195 Br 330
Employee Income Tax + Pension Contribution + Other Deduction = Total Deduction
Br 129.195 + 0 + 330 = Br 459.195
Net Pay = Gross Earnings – Total Deduction = Br 2,871 - Br 459.175 = Br.2, 410.805
Name Basic Gross Employee Pension Other Deduction
Salary salary Income Tax Contribution
Mekoanint Br Br13,430 Br13,521.35*30% - Br12,578*7 12,578/8
Bayu 12578 Br1,350 % 200*
Total Br 2,706.405 Br 880.46 Br 1,572.25 1,772.25
* Credit Association Pay.
Employee Income Tax + Pension Contribution + Other Deduction = Total Deduction
Br 2,706.405 + Br 880.46 + Br 1,772.25 = Br 5,359.115
Net Pay = Gross Earnings – Total Deduction =Br 13,521.35– Br 5,359.115= Br
8,162.235
Name Basic Gross Employee Pension Other Deduction
salary salary Income Tax Contribution
Getnet Br8,350 Br8,400 Br8,400*25% - Br850 8,350*0.07 8,350/8
Gezahegn
Total Br1,250 Br 584.5 Br 1,043.75
Employee Income Tax + Pension Contribution + Other Deduction = Total Deduction
Br 1,250 + Br 584.5 + Br 1,043.75 = Br 2,878.25
Net Pay = Gross Earnings – Total Deduction = Br 8,400 - Br 2,878.25 = Br 5,521.75
Name Basic Gross Employee Income Tax Pension Other Deduction
salary salary Contribution
Semer Br5,200 Br5,987.5 Br5,937.5*20% -Br 500 Br5,200*0.07 Br 5,200/8
e
weldie Total Br 687.5 Br 364 Br 650
N.B. Gross earnings of Semere is Br 5,987.5. However, taxable income of Semere is Br. 5,937.5
(Br5, 987.5- 50). Thus, the monthly allowance of Semere weldie is not taxable.
Employee Income Tax + Pension Contribution + Other Deduction = Total Deduction
Br 687.5 + Br 364 + Br 650 = Br 1,701.5
Net Pay = Gross Earnings – Total Deduction = Br 5,987.5 - Br 1,701.5= Br 4,286

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 Fundamentals of Accounting II 2025

ABC Enterprise
Payroll Register (sheet)
For the Month of June, 2025
Net Pay
Earnings Gross Deductions
Name of

Signature
No.

Earning Total Ded.

Employee Basic Allow Over Incom Pension Other
(Birr)
salary ances Time e Tax Contr. Ded. (Birr)
Solomon Br
1 Addisu 14,200 100 1215 15,515 3,380 994 1,775 9, 365.75
6,149.25
.25
Fikre Br2640 2850 2,392.5
2 ____ 210 127.5 - 330 457.5
Kochito
Mekoanint Br 13,430 2,679 880.46 1,772.25 8,098.29
3 ____ 852 5,331.71
Bayu 12,578
Getnet Br 8,400 1 1,043.7 5,521.75
4 50 ____ 2,878.25
Gezahegn 8,350 ,250 584.5 5
Semere Br 36 4,286
5 Weldie 5,200 50 737.5 5,987. 687.5 4 650 1,701.5
5
Br
Br. 3,014.5

Br. 46,182.5

Br. 2,822.96
Br. 8,124.25

Grand Br Br. Br. 29,664.29

Br. 5,571
Total 42,968 200 16,518.21

Prepared by ___________________ Checked by _________________ Approved by _________

1. Record the payment of salary as of June 30, 2025 using CK. No. 41 as a source
document.
Hidar 30 Salary Expense--------------------------- Br 46,182.5
Employees’ income tax payable-----------------Br 8,124.25
Pension contribution Payable-------------------------2,822.96
Credit association payable-----------------------------200
DPPC Payable-------------------------------------------5,371
Cash ------------------------------------------------------29,664.29
2. Recording the payroll taxes expense for June, 2025
ABC Company incurred payroll tax expense of Br 4,436.08 during June, 2025. This is
because the company has to contribute 11% of the basic salary of every employee to the
government pension trust fund.

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Fundamentals of Accounting II 2025
Thus, total basic salary of all permanent employees x 11% = payroll taxes expense
(Br 14,200 + Br 12,578 + Br 8,350 + Br 5,200) x 11% = Br. 40,328*11% = Br 4,436.08
By the amount of Br 4,436.08 the company’s expense, payroll taxes expense, and pension
contribution payable increase. Therefore, the following journal entry is made as of June 30,
2025.
Payroll taxes Expense-------------------------------- Br 4,436.08
Pension contribution payable-------------------------------- Br 4,436.08
The source document is an interoffice memorandum that indicates the incurrence of this
expense.
3. Recording the payment of deduction from Mekuanint’s earnings to the credit association
Credit association payable------------------------------200.00
Cash ------------------------------------------------------------200.00
4. Record the payment of the claim of the DPPC that arose from June’s payroll assuming
that the payment was made on July 1, 2025.
DPPC payable----------------------------------------5,371
Cash----------------------------------------------------5,371
5. Recording the payment of withholding and payroll taxes to the Ethiopian Revenue
Custom Authority (MoR) of July 6, 2025.
Employees’ income Tax payable--------------------- Br. 8, 124.25
Cash----------------------------------------------------------Br 8, 124.25.
Pension contribution payable------------------------- Br. 2,822.96
Cash--------------------------------------------------------- Br. 2,822.96

Exercise – 1
Assume that you are an accountant in Zone 2 Wereda 2 health office. The office has ten
employees. The pay period of the office is a month period the payroll clerk complied the
following information for the month of Sene 2022. Normal working hour is 176 in accordance
with Ethiopian labour law.
Monthly Duration of OT word
No Employees Basic Salary allowance OT hours
1. Lema Abate 2,992 --- --- ---
2. Azeb Ayano 3,520 --- 10 10:00pm-5:00AM
3. Belay Nega 4,224 50 20 Weekly rest days
4. Nigist Belay 5,280 --- 30 Up to 10:00pm
5. Melese 6,336 100 10 Public holiday

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Fundamentals of Accounting II 2025
Alemu
6. Kidane Kifle 2,640 --- …… ---
7. Fekadu 3,960 50 --- …..
Zewdie
8. Getachew 4,400 100 --- …..
Desta
9. Solomon 3,168 70 10 10:00pm-5:00AM
Teka
10 Zena Melaku 1,936 --- 20 Weekly rest days
Additional Information:
a) The payroll register of the office more or less is the same as the payroll register shown in
the illustration. The exceptions are the deduction columns. The deduction columns are the
following: Income tax, Idir fund, labor union fees, credit association contribution,
pension fund and total deductions.
b) All employees are to pay Idir fees of:
1. Birr 10 for all employees whose basic salary is up to Birr 3000
2. Birr 15 for all employees whose basic salary is above Birr 3000
c) All employees are required to pay union fees of 1% of their basic salary (assume that all
employees are members of the Labor Union).
d) Ato Belay Nega, Ato Melese Alemu, Ato Fekadu Zewdie and Ato Zena Melaku
contribute 5% of their basic salary to the Credit association of the company.
e) All allowances are taxable except the allowance given to Solomon Teka.
Instructions:
Based on the above information
1. Prepare a payroll register (or sheet) for the company for the month of Sene 30, 2020.
2. Record the payment of salary and accrued liabilities as of Sene 30, 2020. using Ck. no.
1642 as a source document.
3. Record the payroll taxes expense for the month of Sene 30, 2020.
4. Record the payment of the claim of the credit association of the company that arose from
Sene payroll assuming that the payment was made on Hamle, 1, 2020.

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