 
PSRD Series No: 16/2015

Taxation IPs

NFRSs/IFRSs OECD and IMF Model Based

CA. BHAVA NATH DAHAL

PROFESSIONAL STUDIES RESOURCES DEVELOPERS PSRD

Publisher Professional Studies Resources Developers (PSRD)

Naya Baneswor, Phone 4782832

Author CA. Bhava Nath Dahal

Fellow Chartered Accountant (member of ICAN)

MBA, Advocate with LLB (member of Nepal Bar Council)

Arbitrator (Member of NEPCA)

Public Procurement National Instructor (PPMO)

First Edition 2067 2000 copies (with reprint)

Second Edition 2070 2500 Copies

Second Edition 2072 2000 Copies

Price Rs.400 (Institutional Rs.1,000)

(Examples are based on law dated 2072 Srawan 1 )

Disclaimer: [See Disclaimer page]

ISBN 978-9937-2-0779-9

PSRD Series No: 16/2015

© Bhava Nath Dahal

bhavanathdahal@gmail.com

Author's note on third edition

I have numerous comments from the users mainly non-availability of the book in the market. The update third version became delayed. In these all cases, I beg pardon and try my best to resolve as possible.

Regarding the contents, many comments received and were extremely valuable for correction. Almost were adjusted in this edition. Again, there is always room for improvements, so, valuable comments from the users' are highly appreciated again.

August 1, 2015

Preface from first edition

Taxation IPs is background materials for CA students and it shall be advantages for the student under universities higher levels. Taxation IPs is inadequate for taxation of cross-border transactions and Double Tax Avoidance Agreement, so CA Final Students and Master Students need to incorporate further studies.

Taxation is a technical matter but subjective being ambiguous interpretation; Inland Revenue Department is authoritative institution to apply the tax matters, even academic discussion would lie thereon too. There are numerous places in the tax laws where are more than one school of thought, one person may join one school then can see the wrong of another and vice versa. Being these ambiguities, user of this book need to clear in disclaimer given in the earlier page.

Taxation is most volatile law, single word in a law or single circular may change whole a chapter of books; so, users need to update their knowledge promptly at least annually. Users of this book shall be facilitate by issuing supplementary yearly through email given above; so they need to send us an e-mail having subject "Taxation IPs" to get updated supplementary materials.

We expect live contribution from users of this book regarding any errors or computation mistakes those to be corrected in the subsequent editions or to prepare supplementary materials.

Basis of Interpretation: The text, theory, examples and notes in this books are based on laws published by GON, public circulars, circulars, reports, manual, directives or similar documents issued or published by Inland Revenue Department. For explaining the principles, Commentary or explanation including models from International Monitory Fund, Organisation for Economic Cooperation and Development and laws of some other countries are taken as base. Income Tax has explained with the view of Commentary on Model Act by IMF and cross boarder tax is explained based on OECD Commentary on Model Convention.

We apologize for weak presentation and coverage regarding depth of the taxation. We welcome valuable suggestions to improve the quality of presentation in the book.

CA. Bhava Nath Dahal,

February 02, 2011

Disclaimer

Tax law is one of the complex and technical amongst law in almost countries. Both tax laws compiled in this background material are theoretically and practically complex. In the real situation, authoritative text of law should be taken as base. These materials are for reference material only. Any person may not relay on the text or examples cited in this material. Except intellectual discussion and future improvements, author, publisher, distributor or any person involving in this book are not liable for any loss or probable loss using this book.

In case any known ambiguity or new interpretation, readers requested to bring those corrections for next edition. In case any unknown ambiguity, readers are encouraged to interpret the fact based on IRD opinion; furthermore, if there are not any clarification from IRD, the views from OECD, UN and IMF in the question of principle has adopted. Almost cross-border issues are addressed based on OECD, UN and IMF principles.

For the study of taxation, cross boarder taxation has deliberately reduced to minimum in first edition, which is addressed slightly in this edition, but not sufficient for study.

Being background materials for CA students; concepts, principles, exam question, examples and some text are TAKEN from past questions and Study Material from ICAN with or without citation.

NB. In many cases, the provision relating to tax law may not be same with the provisions of tax treaties, if any. There are many cases of examination and of tax articles regarding with reference to treaty-parties, the provisions based on the law is suggested rather to the actual treaty provision. Such answers are totally WRONG. Users need to aware of such provision. Comments on the exam-papers or similar references are beyond the scope of Taxation IPs.

PART I INCOME TAX ACT

#

# CHAPTER-I  
BASIC CONCEPTS

___________________________________________________________

  1. # Basic Concept and History

    1. # Basic Concept of Tax

  1. Sources of Tax law\- Followings are sources of tax legislature:

  1. Constitution: All constitutions, enforced at the time being, have provision that 'state cannot levy tax without provision of law'. Article 89 of Interim Constitution, 2063 allows state to levy tax under law of parliament. Prevailing constitutions were such provisions in their constitutional text.

  2. Law of Parliament (Act): Income tax has charged under Income Tax Act framed under constitutional provision. Income Tax Act shall be amended under Finance Act for a particular year. So, there shall be two acts empowering to charge income tax viz. Income Tax Act and Finance Act. Income Tax Act, 2058 is act framed under law of parliament.

  3. Rules and Regulations: Income Tax Act allows government to frame rule to implement the act. Rules or Regulation under the act is empowered under 'delegated legislature' concept. Income Tax Regulation, 2059 is framed under delegated legislature of Income Tax Act, 2058. Petroleum Industry (Income Tax) Regulation, 2041 and House and Land Rent Tax Regulation, 2024 are acting under this act .

  4. Directives: Income Tax Act allows Inland Revenue Department (IRD) to issue directives required to implement the tax law. IRD has issued 'Foreign Employment Service Fee Directive, 2063', 'Income Tax Manual, 2066 and its revision 2068', 'House Rent Directive, 2068' under this concept, for example.

  5. Public Circulars and Advance Rulings: Income Tax Act allows IRD to issue Public Circulars and Advance Ruling to clarify the provisions of act and regulations. Various Public Circulars and Advance Ruling issued by IRD are given on the respective chapters in brief.

  6. Judicial Decision: In all cases of law, judicial decisions are another source of law. Though we have a few cases of court of law following the interpretations, these are also legal frame work for tax. Some of interpretation of substantive law has given in respective chapters.

  7. Treaties: Income Tax law is extra-territorial jurisdiction law, means it is enforced to land beyond our legal territory too. This will make double taxation to a person or in some cases; there shall be a gap of income recognition and tax to be paid. Such cases of double tax or interpretation gap, tax law empower treaties to eliminate these. Nepal entered into tax treaty with 10 bilateral and one multiple tax treaties.

  8. Tax World Concept: Levying income tax is, of course, a foreign concept adopted in local laws. Many of the taxation concept, doctrines, and principles are based on those foreign concepts. There are some International Organizations dealing with taxation. Organisation for Economic Co-operation and Development (OECD) is one of major internationally affecting organization. International Monitory Fund is assisting developing countries to develop modern tax system at harmonized system, Income Tax Act, 2058 is basically framed under IMF Model and concepts. United Nations is another internationally affecting organization in taxation.

  2. Is taxation subject to judicial review- No. taxation being purely legislative in character, Judicial Courts have no power to inquire or interfere in the wisdom, objective, motive or expediency in the passage of a tax law. But, he courts may examine legislative acts if they violate applicable constitutional limitations or restrictions.

  3. Principles of Taxation - Principles of tax law have listed by IMF are as follows:

    * Principle of Equality

    * Principle of fair play or public trust in tax administration

---  
    * Principle of proportionality and ability to pay

    * Principle of non-retroactivity

    * Principle of charter of tax payers' right

  4. Types of Tax -Tax may be of various types depending upon its objective, targeted person or otherwise.

Based on - | Types of tax | Example

---|---|---  
    1. object

| 
    1. Personal, Capitation, Poll/toll tax | Local tax

| 
    2. Property tax | Property tax/ house tax

| 
    3. Privileged tax | Social security tax

    2. Graduation

| 
    1. Progressive tax | PIT

| 
    2. Proportionate tax | CIT

| 
    3. Regressive tax | Vehicle, presumtive

    3. Incidence

| 
    1. Direct tax | Income tax

| 
    2. Indirect tax | VAT, Excise, Customs

    4. Tax rates

| 
    1. Specific (rate based on qty) | Excise (almost), presumptive tax, vehicle tax

| 
    2. Ad valorem | Customs, income tax, VAT

| 
    3. Mixed | No example

    5. Purpose

| 
    1. General/ fiscal | Income tax, VAT

| 
    2. Regulatory | License etc.

    6. Authority

| 
    1. Central | Levied by government

| 
    2. Local | Levied by local govt.

  5. Objectives of Taxation- Objective to charge income tax is basically of 4R's: Revenue, Re-distribution, Re-pricing and Representation.

  * Revenue : Tax is levied to collect revenue for the government.

  * Re-distribution) : Taxation and expense of nation transfer wealth from the richer sections of society to poorer sections within nation. In case of cross boarder wealth creation, tax shall be contributed at the point of nation so creating wealth.

  * Re-pricing :Taxes in some cases affect pricing and social behavioRs.Taxes are levied to address externalities: tobacco or liquor is taxed, for example, to discourage smoking or drinking alcohol. Excise duty, custom duty, countervailing duty, agricultural duty are some good examples.

  * Representation : Taxation has political meaning of representation. There is a normal theory of sovereign that, no tax without representation.

  6. Types of Taxes in Nepal - Taxation can be categorized by two ways: Based on charging (Direct tax and Indirect tax) or based on pattern of tax rate (Progressive, Corporate and Regressive tax).

Based on charging

  * Direct Tax - Direct tax charges to a person who need to pay from its estate, it reduced wealth of charging person. Because of direct nature between payment and person, it is called direct tax. Income tax, property tax, house taxes are example of direct tax. Direct tax cannot be shifted to another person than charging one. In accounting terminology, direct taxes are expense for the person charging tax. In economic terms, it is for equality of the persons within economy and reduces inflations. It never effect the market price of goods or services within economy.

  * Indirect Tax - Indirect tax charges to a person and charging person shifts its burden to another person. Effectively, charging person (de jure tax payer) pays only, effectively taxing person (de facto tax payer) shall not pay to the state. Indirect tax does not reduce wealth of charging person and it works as agent only. Value added tax, sales tax, octroi, custom duty, countervailing duty, anti-dumping duty, excise duty etc. are example of indirect tax. In accounting terminology, indirect taxes are assets at the time of paying and set off at the time of collection for the person charging tax. In economic terms, it is part of cost of consumption and it inflates economy.

Based on pattern of tax rate

  * Progressive– Such classification normally done in case of direct taxes only. In progressive tax, tax rate shall be increased based on income those charged in tax. Resident natural person has taxed at progressive tax rates in Nepal from 0%, 1%, 2.5%, 5%, 10%, 15%, 20% and 25% with additional tax.

  * Proportional (Corporate) - In corporate tax, whole the tax income (taxable income) is taxed at same rate, we have 20%, 25% or 30% corporate tax rate in case of entity.

  * Regressive tax- In regressive tax, the unit tax seems be higher in low unit-user and shall be low in high unit-user. These are merely regressive because tax charging under such arrangement shall be small and cost of collection of tax shall be high if it would not be regressive in nature. Motor vehicle income tax, business presumptive taxes are example of this category.

  7. History of Income Tax - Income tax is new concept in Nepal. The first income tax has introduced by firstly elected government in 2016 under finance act. The first act was Business and Employment Tax Act, 2019. The act was extremely weak in conceptual framework of taxation. Some conceptual income tax act was enacted in 2019 which charges income tax before its abolishment in 2031. Income Tax Act, 2031 worked for period till 2058. Now Income Tax Act, 2058 with modern taxation concepts has enacted.

  8. Jurisdiction of Income Tax\- Income Tax Act, 2058 is short name of the Act and its real name, legally called as long name of the act is 'Act for amending and consolidating of law regarding Income Tax'. This act has enacted as extra-territorial jurisdiction basis for resident.

  1. # Charging Person

  9. Person, Charging Person- Sec.2 defined person as natural person and entity. The tax is charged to the person- charging person. Charging Person has classified by three different ways:

  * By way of Naturalism- Natural person and Entity ( pg. 9)

  * By way of Residency – Resident and Non-resident (page 11)

  * By nature of Income- Person having taxable income or repatriating it or final taxed income (page16)

  10. Person, by way of Naturalism\- Charging person is classified in Natural person and Entity under this classification. There are some special provisions regarding taxing procedure and rate might be different for each class.

Income Tax Act classifies taxpayers into two: a natural person (even couple or dependents with widow(er) is natural person not persons) and an entity ~Sec.2. The word "Person" is used for each taxpayer irrespective of its status. Thus, the term "Person" includes: natural person, and entity.

  11. Natural person- The term "Natural person" is defined by Sec.2 as follows:

a. A single natural person- Individual (includes male, female, other sex, child, minor, lunatic, old-aged, incapacitated &c.)

b. A proprietorship firm;

c. A couple opted being as prescribed under Sec.50 by the resident couple; and

d. A widow or widower with dependent opted being as a single unit as prescribed under Sec.50.

Couple, undivided or any type of family are not taxing unit even the income is joint, but it accept married filing jointly and qualified widow(er) as single taxation unit, if the set of eligible persons opted for particular income year.

  12. Couple filing jointly- If both of resident spouses agree to be file jointly as single taxing unit for a particular income year, in writing, it would be a single taxing unit (even called as Natural Person). Income of both the spouses shall be aggregated as a person and taxed accordingly. In case, any further tax burden is to be payable that shall be borne by each of them jointly and severally (even after divorced, separated or became widow(er). The option is beneficial when either of resident spouses is a non-earning or have mirror income less than zero-rate-benefit gap. This benefit is allowed to taxpayer if claimed in writing for a particular income year, irrespective of whether such an option was taken in any previous income years or not. The couple, if not opted being couple next year shall be two separate taxable natural person.

  13. Qualified Widow/er\- Qualified widow(er) with dependents is accepted as single taxing unit as per Sec.50. But, the act is not cleared the definition of 'dependent'. This facility is being allowed u/s50, so all the member of tax-unit should be resident. Any non-resident dependent may not be clubbed for this benefit.

  14. Entity-Sec.2 defines or lists the group fall under entity as taxable units like Company, trust, partnership, Retirement Fund, Permanent Establishment or almost non-taxable units like central or local authority (of Nepal or foreign), International Organization.

  15. Company- According to Sec.2, Company for the purpose of income tax is widely different then in corporate environment. Company shall be corporate company or other body corporate as prevailing law or deemed company for tax purpose. Following are example of company for tax purpose:

  * Entity registered under Company Act effective at the time being: for example, company registered under Company Act, 2007; Company Act, 2021; Company Act, 2053; Company Ordinance, 2062 and Company Act, 2063.

  * Institution incorporated by act of parliament: for example, ICAN incorporated under ICAN Act, 2053; Gorthapatra Sansthan incorporated under Gorkhapatra Sansthan Act, 2019; CIT incorporated under CIT Act, 2047; Nepal Tourism Board incorporated under NTB Act, 2053 etc.

  * Institution established by GON under act of parliament: for example, various Town Development Committees under Town Development Committee Act, 2047; Development Committees under Development Committee Act, 2013; Corporations under Corporation Act, 2021 and Communication Corporation Act, 2028 etc.

  * Body Corporate registered under any of act of parliament: for example, cooperatives under Cooperative Act, 2048; Clubs and NGOs under Society Registration Act, 2034 or National Directive Act, 2017, Consumer Committee under any Acts etc.

  * Deemed body corporate: Partnership having 20 or more partners, unincorporated association, committee, institution, society, or a group of persons other than a partnership, joint venture, association, consortium, etc.

  * Other institutions: Trust, Unit Trust, Retirement Fund or similar bodies. In case any foreign entity is of question is doubt in its form (it is required, for example, inc. is usable for company in western economy, LLP in usable in middle-east countries and Sdn. Bhd. is usable in Malaysia), DG of IRD may classify such body corporate as company.

  16. Trust \- Sec.2; A 'Trust' is an arrangement (not a registered trust, which is company for tax purpose) to hold property of some person as a trustee. Unit arranged by any successor or manager of property of a dead person, liquidators, receiver, patron for incapacitated person are some example of trust.

  17. Partnership\- A partnership firm is a partnership, registered or not, having less than twenty partners is entity taxing as entity. In case the firm has twenty or more partners (even not registered), that firm is recognized as a company for the purpose of income tax. Partnership firms are not taxing unit in some states and income of such unit is levied as fiscally transparent basis.

  18. Fiscally transparent structure- In case there is any joint structure, whether registered or not, that is taxed as a separate person than its beneficiary. For example, if two natural person have investments with active participation to earn the income, that is partnership firm (if such partners are 20 or more, that is company). Partnership may be registered or not. Similarly, if any two person, except solely natural persons, joints to earn income with active participation, the structure is joint venture or consortium. This is taxed as company. There is third scenario, where any two or more person (any combination of NP or Entity) joints their sum of money and make investments with passive involvement to earn income, the joint structure is called joint-investment. Any income from joint investments is taxed in the effective owner of earner at the agreed ratio u/s30. Such structure is called fiscally transparent structure.

  19. Retirement Fund \- Retirement Fund are of two types- approved and unapproved. Approved Retirement Fund, necessarily be a company having paid up capital of at least of Rs.10 million vide rule 20, even there are 46 approved retirement fund without corporate registration. Unapproved Retirement Fund may be a separate entity or be a wing under any organization.

  20. Foreign Permanent Establishment \- A Foreign Permanent Establishment (FPE) is a fixed base of business owned by a non-resident person (may be company or partnership, trust, a foreign government or its political sub-division etc.).

  * Agency PE : As the dependent agent of a foreign subject working in Nepal like in consignment seller. But an independent agent (agent working based on own procedure/ standards/ code of ethics to its clients e.g. an auditor) does not a PE.

  * Fixed base PE: FPE is to be owned by a foreign subject (even owner of that foreign subject might be a resident; e.g. Nepal Ltd. has fully owned subsidiary Pak Ltd. in Pakistan and later has branch in Nepal, then the Nepal branch of Pak Ltd. is FPE for income tax purpose); but not a registered entity in Nepal (established and operated under agreement or license or similar). Effective control and management or similar corporate shall be situated outside Nepal.

  * Fixed Base Management PE: It shall be in form of a place of management; a branch; an office; a factory; a workshop; a mine, an oil or gas well, a quarry, or any other place of extraction of natural resources;

  * Site PE: As a building site or construction or installation project (activities for construction works and supervision both) having period or 90 days or more in any 12-month period.

  * Service PE: Only the task, if performed by personnel without any office set up shall be permanent establishment too. If the assignment of service is performed (except construction supervision) by staff in more than 90-days in any 12-months period though staff is Service PE. As per commentary on the model taxes, there should be fixed place for the business. The inclusion in case fixed place is wide inclusive interpretation.

  21. Person, by way of Residency\- Charging person, whether a Natural person or an Entity, is classified based on residency as resident person or non-resident person. There are some special provisions regarding taxing procedure and rate might be different for each class. Person that, if not a resident is non-resident as defined in Sec.2. Hence, we need to define resident person well.

  22. Residency of Natural person- There are three criteria for natural person being a resident. If a natural person became resident under any of three criteria, the person deemed to be a resident.

Criteria I: Person having normal place of abode in Nepal- the act has not defined the procedure or the details regarding place of abode. Similar provision has given in the Article 4 of model double tax avoidance agreement as: This provision lights some details regarding residency. The major idea is "... domicile, residence, place of management or any other criterion of a similar nature". One point to be notice in this article is that a person cannot be resident of both states having DTAA, other cases a person may be resident of more than one countries. In case a person is resident in both then tiebreaker rule of other criteria is taken into classification. Cross-border commuters (commuters are those who stay in one country and go for work in another country daily) are not described in any cases. Commuters are resident in the country of normal place of abode. In case, a natural person is resident based on the domestic tax law (DTAA is not define any person as resident, only domestic tax law of both contracting states need to identity s/he as a resident) of both contracting state, then the tie-breaker rule of Section 2 of Article 4 is activated for fixing his/her residency in a single state.

Criteria II: If any individual is employed by Government of Nepal whether in Nepal or aboard, in any day of income year, then the person is resident for that income year. If any person derives employment income from GON is deemed as source in Nepal as per Sec.67, source tax is enough for a person not physically attending in Nepal rather being a resident. If such employee is deemed as resident, their all the income is to be taxed here and in the country of domiciled and double taxed without credit facility. So, this provision creates ambiguity within the employee.

Criteria III: Almost country tax law has residency criteria of 183-days rule. Under this rule, if a natural person stayed in any day in Nepal and his stay in last 365 days till that day is 183 or more days is resident.

  23. Worldwide 183-days Rule\- This rule is based on stay in tax country for a half within tax year. But definition of six month and one year is different in country to country. It has 4 different periodic concepts in different countries:

One year | Tax year or continuous period of 365 days

---|---

Stay of Half year | 182 or 183 days

The options are:

  1. Stay of 182 days in one tax year like in India (or Pakistan before 2006).

  2. Stay of 182 days in any period of one year (182 days having stay within any 365 days and 182nd day falls in tax-year)

  3. Stay of 183 days in one tax year like in Nepal under Income Tax Act, 2031 and after issuance of Income Tax Manual in 2066. Afghanistan, Sri Lanka and Pakistan.

  4. Stay of 183 days in any period of one year (183 days having stay within any 365 days) as in Income Tax Act, 2058 original law, Germany, Norway, Canada, US and OECD Model.

This is some cumbersome but a clear provision regarding resident of a natural person. The solution has done based on the method prescribed in the Income Tax Manual.

  1. Employed by GON, any day of IY\- Mrs. Bajarevna, Russian national is working since Chaitra in Embassy of Nepal in London, and then Mrs. Bajarevna is resident for that IY. She shall be resident for whole year even if she resigned in Baisakh of IY, legally (conceptually incorrect).

  2. Foreigner in Nepal\- Mrs. Koonoo, a Japan national, working in an INGO operating in Nepal. He came on Bhadra 1, 20X1 and returned on Aswin 31. Thereafter he came and leaved Nepal on gap of two months till Push end of next year. Find is residential status.

Firstly table the dates and days of stay:

Stay period | No of days | Cumulative

---|---|---

Income Year 20X1.X2 |   
 |

Bhadra 1, 20X1- Aswin 31, 20X1 | 30+31= 61 | 61

Push 1- Magh 30, 20X1 | 30+30= 60 | 121

Baisakh 1- Jeth 30, 20X2 | 30+30= 60 | 181

Income Year 20X2.X3 |   
 |

Bhadra, 1- Aswin 30,20X2 | 30+30= 60 | 60

Push 1- Push 30, 20X2 | 30 | 90

Assuming 30 days a month, if not provided other.

Here he has stayed for two different income years viz. 20X1/X2 and 20X2/X3, so we should compute residential status for both years. In the given case, he is not resident by virtue of normal place of abode (being in Japan) and nor employment by GON, so we should test under 183-days rule. For testing 183-days rule, one should find total stay days within income year:

  * For income year 20X1.X2, stay is 181 days, so he is non-resident.

  * For income year 20X2.X3, stay is 90 days, so he is non-resident.

  3. 183-days Rule- Mr. Rahaman, Oman national, has resided in Nepal as follows:

Period | Stay days | Period | Stay days

---|---|---|---

20X1 Baisakh | 31 | 20X1 Srawan | 31

20X1 Jeth | 31 | 20X1 Kartik | 30

20X1 Ashadh | 31 | 20X1 Falgun | 30

For 183-days rule, based on Income Tax Manual, residency to be computed as:

Period | Stay days | Period | Stay days

---|---|---|---

20X1 Baisakh | 31 | 20X1 Srawan | 31

20X1 Jeth | 31 | 20X1 Kartik | 30

20X1 Ashadh | 31 | 20X1 Falgun | 30

20X0.X1 Total | 93 | 20X1.X2 Total | 91

For IY 20X0/X1, his stay in Nepal is 93 days and for IY 20X1.X2 91 days. So, he is non-resident for both income year.

He became non-resident based on the method given by Income Tax Manual. Based on Income Tax Act, 2058, for IY 20X1/X2, his stay around 183 days is falls around Falgun-end. At Falgun 30, his stay on last 365 days is 184 (93+91), so he would be resident for 20X1/X2.

  4. Arrival and Departure days in 183-days rule- Since long time Amarkhande, Silguri based Indian, working in Nepal from local NGO Monday to Friday. He spends weekends with his family in India, which requires him to travel to Silguri every Friday late and he returns on every Monday morning.

Here, for 183-days rule his stay in Nepal is Monday to Friday.

If he leave Nepal on Saturday morning and returns from home on Sunday evening, his stay to be computed 7 days in a week, because he spend some time of Saturday and Sunday in Nepal.

  5. Crossing in travel, days not to be counted – Mr. Amarkhande, Silguri based Indian, in , works for 180 days and returned home resigning from his job. Some days later, he got employment in Uttarakhanda, India and travel through Kakadbhitta- Mahendranagar route. On Narayagarh, there was a unlimited strike and he compel to stay for 10 days. What shall be the residency?

The act is silence on the day count procedure, internationally, 'traveling-through' period is not counted for residency (but travel-for period is counted). Hence, his stay of 10 days is not qualified for resident.

Further assume that, he attend to the local hospital during travel to Uttarakhanda being emergent ill for 3 days, this period is not counted as stay in Nepal, because it is case of 'traveling-through'.

  6. DTAA State Residence\- ABC Company is India registered company working in Nepal for a construction site. The shareholders of the company are Afghans.

As per DTAA with India and Indian Income Tax Act, 1961, ABC Company is Indian resident. But according to Sec.73(5), no DTAA benefits shall be awarded to its PE in Nepal.

  7. DTAA State Residence\- Mr. Om Br. Thapa, permanent inhabitants of Chitwan, is working in Karachi since last 3 years. Based on Nepal tax he is resident in Nepal and based on Pakistan tax he is resident in Pakistan too. He comes and returns every year and remits 50% of earnings in home.

His stay is in Pakistan and source of income thereto and resident in both states. But, as per Article 4 of DTAA with Pakistan, his normal place of domicile in Nepal and cannot be taxed as resident in Pakistan. He is Nepal resident.

  8. DTAA Residence is for partial year basis\- If any person is working as employee in another state of DTAA states, then residential status need to compute based on earlier part of the year or latter part as per Article 14 of DTAA. This gives the part of income year as resident.

From Falgun 1, 20X1 to Mansir 1, 20X2, Mr. Rahim, a Pakistani lives in, and hence is a resident of Nepal being stayed is more than 183 days in 365 days (9 months and one day i.e. 271 days). On 1 Mansir X2, he is hired by an employer who is a resident of Pakistan and he came to Pakistan. Later Mr. Rahim is sent back to Nepal by his Pakistani employer from 1 Baisakh 20X3 to 31 Ashadh 20X3. In that case, he is present in Nepal for 20X2/X3 is 7 months. But, since he is Nepal resident between Falgun 1, 20X1 to Mansir 1, 20X2, this first period is not taken into account for purposes of the calculation of the periods referred for 20X2/X3 according to Article 14 of DTAA with Pakistan.

  9. DTAA State Residence\- Mr. Deshain, Indian national, business-man in Mumbai, arrived Nepal on Ashadh 20 and returned on Push 23. Find residential status.

Indian Resident, as per Article 4 of DTAA with Nepal and India, if normal place of abode is in India and resident for India, and again resident as per Nepal tax law. In this situation, tie-breaker rule is prevails, so the person cannot be resident for Nepal. So, both income years, he is non-resident.

  1. Pass through approach\- Entities are taxed separately then its beneficiaries, but there are numerous cases where the tax of entity is incidence based on the status of residency of its beneficiaries (sometimes so-called bonafied beneficiaries). This approach of tax is called pass-through approach or look-through approach in tax terminology. Briefly, in the following cases, tax incidence is taken place based on pass-through approach:

  * Income from employment and exemptions u/s 10.

  * Exempt-controlled entity and exempted controller u/s 14(2).

  * Personal and domestic expense u/s 21.

  * Benefits of non-market transfer u/s 45.

  * Change of ownership, Sec.57.

  * Dividend stripping, Sec.58.

  * Source of income from security sale (Sec.67)

  * Interest and dividend payments, Sec.67(6).

  * Controlled Foreign Entities, Sec.69

  * Treaty-benefits and Conduit Company cases in Sec.73(5).

  * Tax on trust, Sec.44 and Sch. 1 Sec.2(5).

Residential status is to be found based on tax laws of Nepal, but is shall be affected by DTAA too. In case of a person from non-DTAA country, it shall be dual-resident but in case of DTAA residents, no double residency occurs.

  24. Residency of Entity: There are two major criteria for entity being a resident. If an entity became resident under any of these criteria, the person deemed to be a resident.

Criteria I: Entity those registered (or established or incorporated under any Nepal Law: see examples of companies as examples in page 10) in Nepal are resident for tax purpose. In case of registered entity, its management or working place shall not be considered for residency.

Criteria II: Entity those are registered else-where in the world or in case of unregistered body of individuals, it their management is effective in territory of Nepal within that income year is deemed as resident for the year concern. Presence of so-called effective management in Nepal may be wholly or partially during the income year concerned.

In all cases, residency to be computed for each income year. One resident entity in one year may non-resident next year.

  25. By way of Nature of Income\- Charging person to be charged in any form of following incomes:

  1. Person having taxable income: Taxable income is major taxing concept and most of the tax law is for describing for the tax on taxable income. Sub-chapter and other chapters describe the taxing procedure regarding person having taxable income.

  2. Person having repatriation of income: In case of repatriation of income by a foreign permanent establishment the tax is levied. The procedure has described in Sub-chapter .

  3. Person having final withholding taxed income: Among withholding tax, some of the payments are final withholding tax according to Sec.92, the detail has described in Sub-chapter .

In summarized form, charging person would have following combination of rate and procedures (12 in total):

  3. # Tax Documentation

  26. Safeguard of tax accounting documents- Tax accounting documents, supporting and calculations to be kept safe as per Sec.81 as:

a. Explanatory Evidences \- All records and documents that are necessary to explain the information provided or to be provided in tax returns and in other documents to be filed.

b. Computation Evidences\- All documents and records that are sufficient to determine the actual tax liability of the person, and

c. Approving Evidences \- All documents and records that are sufficient to prove the validity of the expenses shown in the books.

  27. Language of the Documents- Sec.81(3) prescribes to charging person to keep accounts and record either in English or in Nepali language. In case accounts and records in other language, it might to get, upon written notice of IRD to get translated, authorized translated into Nepali on its own cost.

  28. Retention period\- All the documents to be retained for 5 years from the date of closure of income year. In case of any legal cases, the period is to be extended as need. In case of a person having less then or more than one year as income year, this tenure is 5 years from date of end of that income year. For example, documents relating to tax accounting for income year 2066.67 to be retained up to 2072 Ashadh-end. In case, tax payer has any petition regarding assessment, the documents to be kept up-to date of finalization. In case of a liquidating company, say on Jeth 1, 2067, documents to be kept safe till 2072 Baisakh-end.

  29. Fee for non-compliance\- Failing to keep documents as per S.81 leads a fee under Sec.117(2) amounting 0.1% of assessable income without deducting any amount or Rs.1000 whichever is higher.

  30. Obligation to Pay Tax -In all cases being a charging person, need to pay tax according to method and rates of tax law. For the purpose of income tax law, the act is super act regarding income tax. According to Sec.142 "Notwithstanding the provisions made under the current law, no other Acts except this Act and Finance Act or Finance Ordinance shall be made capable to make changes, amendments and other tax related provisions other than the provisions relating to imposition, assessment, reduction, increment, exemption, or remission of tax to be made by amending this Act itself by annual Finance Acts." That is why, Section 143 of this Act repeals most of the prevailing provisions regarding income tax in various Acts.

  31. Right of Tax Payers' -Taxing person has not obligation to pay tax only, but also have some rights too. As per Sec.74, following expressed rights, apart from rule of privacy under Sec.84, are available to a taxpayer:

a. Right to get respectful behavior;

b. Right to receive any information related to tax as per the prevailing Laws;

c. Right to get an opportunity of hearing and submitting a proof in one's own favor;

d. Right to appoint lawyers or auditors for defense in need; and

e. Right to privacy in respect of tax matters and to keep it inviolable and encroachment.

  32. Opportunity of hearing – In the Act, there is provision for opportunity of hearing in all cases where the action of IRD officials impairs taxpayer's status. The rights are of two types: direct hearing by the officials and administrative appeal. In the following cases, taxpayer may plead (in writing or orally) directly to the concern officials:

  1. Determination of residential status

  2. Change of basis of accounting by IRD u/s 22.

  3. Reply of draft assessment u/s 101.

In the cases listed in S.114(1), there is opportunity of hearing through administrative appeal.

  33. Rule of Privacy- (Sec.84): Every person, who gets any documents and information coming to its possession or knowledge, shall keep it secret while performing duties under the Act. The information to the following persons is allowed according to Sec.84(2):

a. To the extent required in order to perform the tax officer's duties;

b. To a court or tribunal as required by them in proceedings with respect to a matter under the Act (but doctrine of estoppels not applicable for other cases than revenue matters) ;

c. To the Finance Minister;

d. To the person when the disclosure is necessary for the purpose of any other fiscal law;

e. To the person in the service of government, who requires the information for revenue or statistics related works;

f. To the Auditor-General or person authorized by the Auditor-General when such a disclosure is necessary for the performance of his official duties; or

g. To the competent authority of the foreign government in case Nepal has entered into an international treaty, to the extent permitted under the agreement.

Any person, court, tribunal, or authority receiving such documents and information as discussed above is also required to keep them secret, except to the minimum extent to which the disclosure is necessary.

  2. # Basis of Taxation

  34. Income Heads - For the charging person, the tax is charged under following four heads, whether based on taxable income or otherwise:

Head of Income | Taxed by way of : |

---|---|---

Income from employment | Taxable Income | Some cases, FWT

Income from business | Taxable Income | Some cases, FWT

Income from investment | Taxable Income | Most cases, FWT

Income from wind-fall gain | FWT

Income tax levies to the person. Only one case of income tax is levied on item-based, vehicle income tax.

  35. Income from Employment- According to Sec.2, employment has defined giving inclusion of all the employments even relating to past (e.g. pension, bonus, gratuity, superannuation or medical cost), present or future employment. Any income relating to present, past or future employment received during the income year computing based on Sec.8 are income from employment. Even definition of employment is not given in act or regulations, by general tuning, any income received from an employer in return for some service is called an income from employment.

  36. Income from Business- According to Sec.2, business has defined giving inclusion of a trade, an industry, a profession, a vocation, and other business transactions, but clear definition has not in the tax laws.

  37. Income from Investments- investment has defined in Sec.2 as holding of assets or property except for personal use (including non-business chargeable assets) is investments. Income from investments accounting method has given in Sec.9.

One of the major differences in business and in investments is use of assets; in business assets (resources) is used by it and in investments assets (resources) is availed to use for others. Income from business is, therefore, rewards for use of assets (active participation and active income) and income from investments is rewards for available to use of assets (inactive participation and passive income).

  38. Income from Windfall gain- Windfall gain or casual income is taxed as final taxed income at 25%. According to Sec.2 windfall gain includes income from lottery, gift, prize, tip, win-rings, and other similar casual incomes. Such payer should be in business; otherwise, if payer and payee both are in personal capacity, such payments are beyond the scope of tax (Sec.10).

A payment is windfall gain if: a. Prizes and award made primarily in recognition of religious, charitable, scientific, educational, artistic, literary, or civic achievement; b) The recipient was selected without any action on his part to enter the contest or proceeding; c) The recipient is not required to render substantial future services as a condition in receiving the award; d) payment not linked with employment, business or investments; and e) Payment not from personal affairs of payer, and hence, is subject of taxation.

  39. Mixed characteristics of income\- In case of ambiguity or mixed characteristics between income from employment, income from business, income from investments, or otherwise; the income need to be classified as income from employment (1st priority to employment) if any characteristics of employment, if not employment then need to be classified as income from business (2nd priority to business), if any characteristics of business; it might be income from investments (least priority within tax), if any characteristics of investments; lastly, if any of source is not linked to income, even not a windfall gain too, the income is not taxed .

  40. Assessable Income \- According to Sec.6 assessable income is sum of income given in above. In case of a resident person, assessable income includes all income from any country for the concern income year (principle of full tax liability on state of residency-unlimited tax system; sometimes called as Global basis taxation or Universal tax) and in case of non-resident person it includes the income having source in Nepal (principle of tax liability on state of source-limited tax system; sometimes called as source basis taxation or situs).

 | Resident | Non-resident

---|---|---

Income from employment | Global based inclusion | Nepal Source

Income from business | Global based inclusion | Nepal Source

Income from investment | Global based inclusion | Nepal Source

Windfall gain | Foreign source |

Less: 1 | Less: Concession | Less: Concession

Less: 2 | Less: Income of ARF |

Assessable Income | Rs. | Rs.

Exempt income as given in Sec.10 is not part of income/inclusion. As per proviso of Sec.6, assessable income doesn't include concession (Sec.11) and income of ARF (Sec.64).

  41. Full Tax Liability \- Assessable income is taxed by two ways either in global based for resident or Nepal source only for non-resident: as taxable income (Sec.5) and final withholding tax (Sec.92). Income tax is charged based on slice by slice approach in assessable income. For resident, the tax liability is based on global basis of income, called as full tax liability. In the other part, non-resident is taxed on the source in Nepal only, called limited tax liability.

Assessable income | For resident | For non-resident

---|---|---

Basis of inclusion | Global Basis | Source basis

Inclusion | Income having source in Nepal | Income having source in Nepal

Income having foreign source, based on per country basis | -

Taxation system | Taxable income and final taxed | Taxable income and final taxed

  42. Taxable Income -Taxable income is based on assessable income in the income heads. According to Sec.5, three reductions from assessable income give taxable incomes. Those three reductions are: i) contribution to approved retirement fund (Sec.63), ii) Donation and gift to exempted entity (Sec.12), iii) contribution for heritage protection and sport development (Sec.12A), and iv) Contribution to PMDRF or Reconstruction Fund. Computation formula for taxable income shall be:

Assessable Income | Rs..........

---|---

Reduction of: |

  1. Contribution to ARF

 | Rs..........

  2. Eligible Donation

 | Rs..........

  3. Eligible Heritage Protection and Sports Development

 | Rs..........

  4. Contribution to PMDRF or Reconstruction Fund

 | Rs..........

Taxable Income | Rs..........

Tax is computed on taxable income. Taxable income as computed under Sec.5, on the multiplication of income tax rates given in schedule 1 of Income Tax Act gives tax to be charged for a particular person for the income year, as per Sec.4.

Income tax rate in schedule 1, is based on slice by slice approach (means taxable income is computed at whole and different rate would be applied based on nature of income).

In the income tax, there are some more types of taxable income for specific tasks too. Other types of taxable income are:

  43. Adjusted Taxable Income (ATI)\- According to Sec.2, it is taxable income of a person without deducting interest u/s 14(2), pollution control expense u/s 17(2), research cost u/s 18(2) and without reducing donation u/s 12(2). ATI is used to find allowable deduction and reduction under said sections. There shall be 4 types of ATI, separate for each section, see sub-chapter in pg. 123.

  44. Consolidated Taxable Income- In case any Approved Retirement Fund became unapproved under Sec.64, then the taxable income is consolidated modified taxable income for whole the years of approval assuming single income year (see pg. 155).

  45. Attributable (Taxable) Income- According to Sec.69, proportionate taxable income of a controlled foreign entity is to be computed as per Income Tax Act, 2058. The part of taxable income is called attributable income.

  46. Turnover taxable income - In case of business of cross-border transportation, by non-resident having business in Nepal, of goods and passengers initiating departure from Nepal and excluding transshipment in Nepal, it falls under Sec.70, turnover itself is taxable income. Separate Tax Return has to be filed for this. No deduction or offset of loss is allowed for this kind of income.

  47. Charging capacity of person\- Constitutions allow Government Of Nepal to charge income tax based on act of parliaments. Based on income tax, a person is charging income tax according to Sec.3, if and only if:

  * Person have taxable income

  * Person (being a FPE) repatriating income and

  * Person earning final withholding taxed income

Income Tax Act, 2058 designs to pay (self-assessment) income tax for a person having any of above source or type of income. In case of resident person, the tax is imposed in any income derived during the income year from any source country and any type. In case of resident person earning foreign income and the income is final taxed in source country; even then the person need to pay income tax in Nepal, being any income derived by a resident from any non-resident is includible in taxable income. In such case, any tax paid in those foreign country (per-country basis) either by way of taxable income, final withholding tax system or any other taxpaying system; or income tax, surcharge, levy or any named taxed on income deemed to be foreign tax.

In case of a non-resident person, it needs to pay income tax having source in Nepal only.

  48. Sources of income- As we already discussed, resident need to pay tax on global basis and non-resident need to pay tax on income having source in Nepal. For set off of losses there should be clear distinction of source country of income. For this, sources of income and expense need to explain. Sec 67 describes the sources of income or expense having source in Nepal as:

  * Net gain income deemed to be source in Nepal, if disposed asset or liability is in Nepal (from BABL). In case of investments in securities, net gain is source based on residency of owner.

  * Balancing Charge on disposal of depreciation pool, repair and depreciation is deemed in Nepal, if disposed depreciable asset is in Nepal (from DA).

  * Cost of goods sold is deemed expensed in Nepal, if disposed trading stock is in Nepal (from TS) at the point of disposal.

  * In other case, source of income or expenses deemed as source in Nepal if source of payment is deemed having in Nepal as:

  * Residency based: Interest, Dividend, Employment by GON, Retirement payments, annuities, net gain on disposal of securities or investment insurances.

  * Location based: Use or restriction on use for Nepal assets as Natural resources, rent, royalty, insurance risk, service rendered, Cross boarder data transmission from equipments installed in Nepal.

  * Cross boarder transport initiating from Nepal : Land, water or air transport for goods, documents, live-stock or mankind(except trans-shipment).

  49. Doctrine of Equity in tax law in Nepal- Internationally, there are two concepts regarding taxing any income (other than source/situs or residency/full liability). They are - doctrine of horizontal equity and doctrine of vertical equity.

  * Horizontal Equity\- under the doctrine of horizontal equity, similarly situated tax payers should have similar tax treatments. In the other words, person having same amount of income or capital to be taxed with equal treatment. Under this doctrine, dividend, interest, gain from retirement fund or investment insurance is taxed, for example, which earned against the capital employed in form of share or deposit or other form of investments.

  * Vertical Equity \- under the doctrine of vertical equity, differently situated tax payers should have different tax treatments. In the other words, person having more or different amount of income or capital to be taxed at higher or differently. Under this doctrine, progressive tax rate with various Zero taxed items is maintained in tax laws.

  * Of course, nowhere single doctrine may works properly, because, income tax is levied in almost all person and almost all income with widely different and complex earning environment.

  50. Doctrine of Investment in tax law in Nepal- Internationally, taxation of a country shall be investment neutral. Based on this doctrine, a tax law might be of:

  * Investment Export Neutral\- under the doctrine of foreign source income shall be treated as exempt for domestic tax purpose (exempt method of elimination of double tax), and investor is free to pay domestic tax on foreign income. In such situation, foreign investment is taxed at high rate or with difficult tax accounting.

  * Investment Import Neutral\- under the doctrine of foreign investment has allowed more favorable than domestic investment by way of tax accounting or tax rates. In this situation domestic investors firstly invest in a foreign subject and re-invest in own country through that foreign subject.

  1. # Accounting Basis for taxation

  51. Srawan-to-Ashadh in general\- The year in which income is earned is known as income year. Different countries have adopted different periods for income year as per their customs and convenience. According to Sec.2, income year starts from 1st of Shrawan and ends on the last day of Ashad next year.

  52. Income Year: not a year in all cases- In the case of newly set up business, the "Income Year" starts from the date of setting up of the source of income and ends on the last day of following Ashad. It means an income year can never exceed a period of 12 months, but in case of a newly set up business, the income year may be of less than 12 months. The period may even be of a single day. Setting up of an income source starts from the date of certification of incorporation/registration or from the day of the actual starting of business activities, depending on the earlier date.

  1. Newly Set up Business/Profession/Industry \- If Kunal P.Ltd. has incorporated in 20X1 Magh 15, then its first income year is 20X1.10.15 to 20X2.3.31. Similarly, Ms Durga, unemployed scholar, got a job on Ashadh 24, 20X1 with GON, her income year is 20X0.X1 (Ashadh 24 to Ashadh 31).

  53. Liquidation or death - In the case of liquidation of business or death of natural person, the "Income Year" starts from the 1st day of Srawan and ends on the last day of liquidation or death. But, in case a person became incapacitated or not found, the income year is usual from Srawan-to-Ashadh, in form of the trust.

  54. Income year in Jeopardy Assessment \- A Certain Portion of a Year as Income Year in running business- Sec.100 has specified certain circumstances under which Department (IRO) may order a tax payer to submit a Tax Return for the period from Shrawan 1 of the respective year and up to the date specified by the office but before the last day of closing of the income year if:

  * The taxpayer becomes bankrupt, is wound up or goes in to liquidation.

  * The taxpayer is about to leave Nepal immediately.

  * The taxpayer is about to cease his business activities in Nepal for some other reasons, or

  * The IRO considers any other circumstance as appropriate for the order.

In case a taxpayer receives a notice from the IRO, it has to submit a Tax Return for the period as specified in notice as income year.

If the taxpayer has continued the business for the whole Income Year, the taxpayer has to file a new Tax Return as per Section 96 of the Act, ignoring the Tax assessment under Section 100. If the taxpayer has paid any amount under the obligation of Section 100, it can claim this as advance tax paid for Income Year.

  55. Income Year covering more than one year - According to Sec.64(3), in case any Approved Retirement Fund (ARF) became unapproved, then its income year shall be date of approval to date of seizure of approval even some decades too.

  56. Income Year splitting as part of year- According to Sec.64(3), in case any Approved Retirement Fund (ARF) became unapproved, then income year of URF shall be date of seizure of approval to year-end. In the reciprocal case of a URF converted into ARF, beginning from Srawan to date of approval shall be income year. In case of controlling shareholding changed during the year- both deemed entity (old controlled and new controlled) shall have partial year as income year.

  57. Income Year splitting for 7 years: Tax Relief in VRS- Voluntary retirement with block pension for 7 year for civil servants of Government of Nepal and of Parliament were paid in 2065.66 and assumed be 7 income years irrespective of provision of Sec.22 in cash basis for employment. This tax relief was allowed without provision in the taxation laws.

  58. Basis of Accounting \- As similar in accounting, basis of tax accounting is also cash basis and accrual basis of accounting. Both cash basis and accrual basis are not conceptually same for both tax and in accountings.

According to Sec.22 Income from business of company (tax company- see pg. 10) shall be computed on accrual basis of accounting for tax purpose. Other person (natural person and entity other than company) may keep its income from business either cash basis or accrual basis. Business accounting on cash basis of accounting is merely cash basis and to be recorded stock accounting on accrual basis at least for variable cost (See ).

Someone says the sales to be matched with VAT output, is a wrong statement, because, VAT output is recognized based on principle of early-of-three dates (invoice, delivery or consideration), but income tax income is characterized based on accounting basis (cash or accrual) based on status of person including some non-recognition rule or deferred recognition rules. Hence, theoretically, tax-income may not be same as accounting profit or VAT transactions.

Tax income may not be equal to accounting profit or VAT/Excise transactions

---

  59. Earning test\- income tax inclusions are for all types of income and hence, many income-patters, they lead confusing regarding timing of income. For the tax purpose, following test to be performed for income recognition, so-called characterization and quantification.

  *     * Realization test – income not to be quantified until there is a separation from capital of something of exchangeable value, thereby supplying the realization or transmutation which would result in the receipt of income.

  * Claim of right doctrine (Doctrine of ownership, command, or control) - The power to dispose of income or exercise of that power to procure the payment of income to another is of ownership of income. This leads who earn or otherwise create the right to receive it and enjoy the benefit of it when paid.

    * Economic benefit test (Doctrine of proprietary interest) -Any economic benefit to person that increases net worth is income.

    * Severance test \- Income is not taxable unless separated or severed from the capital or labor that bore it.

  60. Statutory cash or accrual basis for tax: Income from Employment and income from investments in case of natural person has to be accounted in cash basis of accounting. In the cash basis, many items (like retirement fund contribution, tax gross up, perquisites u/s 27 &ct.) are in deemed-cash basis. Company; see definition on 10; should keep its tax accounts on accrual basis of accounting. Banking business, as licensed from Nepal Rastra Bank can keep its accounts based on directives, and General Insurance business carried forward and brought down the risk reserve.

Optional basis for tax: Income from business of a natural person and income of entity other than a company (partnership and trust) may opt either basis for taxation. If a person having business opt for cash basis of tax accounting, stock-related items should be on accrual basis u/s 15.

Different basis for accounting and for tax: A person adopting accrual basis for financial account can opt (sometimes requires too) cash basis and vice versa. But same person cannot use both method for accounting for tax even in a consistent manner.

  61. Cash Basis of Tax Accounting- In this basis, according to Sec.23, income includes in inclusions (profit and gain) as and when the actual cash is received against the income. Loan received in cash or repayment of loan in cash is not income and part of inclusions.

Person accounting in cash basis need to use accrual basis in many places of transactions. Since, loan or similar capital items are not recognized as cash income or expense for tax, there are many unanswered area in cash basis of tax accounting. Person accounting in cash basis for taxation, need to keep its manufacturing and trading accounts in accrual basis with relaxation of fixed cost on cash basis.

Person accounting in cash basis for taxation, need to accounts variety cases of deemed cash received. Contribution to retirement fund, payment directly to hospitals or school or any 3rd person or associated person are examples. In some perquisite, market value or token value are deemed as cash receipt for tax purpose.

  62. Accrual Basis of Tax Accounting -In this basis, according to Sec.24, income includes in inclusions (profit and gain) as and when the right to receive on those income as same in accounting.

In the case of deduction of expense, with due consideration of Sec.21 and Sec.13; liability for the purpose of NAS/IAS 37 is allowed and provisions as in accounting and covered by NAS/IAS 37 are not allowed as deduction. Deduction under Sec.24(2), are allowed in accrual basis, if and only if,

  * Obligation to definite party – Party

  * Amount can be fixed- Measurable

  * Payment against expense- Matching

These three points consist to liability for the purpose of NAS/IAS 37. Provisions under conservatism and prudence concept are not allowed in tax. Provisions are allowed when cash payments from provision or acquires all three points given above.

  63. Tax accounting: a separate books of account -Practically, income tax return and its supporting calculation is prepared based on financial accounts and no tax accounting is formally required (in VAT or in Excise separate set of tax accounting is practiced). But, many places, separate tax accounting is required. As per to Sec.22, a person has required its separate tax books of account and modification is not allowed. According to Sec.52, entity requires to keep all the transaction in its books of accounts, but financial accounting is enough for it.

  64. Options for allocation\- In tax accounting, there are some cases, where basis of accounting or formula for allocation has given to be opted by charging person itself. Such option is allowed in the first instant of case of option (3 cases) or may change every year based on SAAR of specific section (many cases) as:

  1. Option in initial instance and Rule of Consistency:

  * Use of cost formula u/s 15 (FIFO or weighted average – see )

  * Use of cost basis of stock u/s 15 (Prime or absorption costing)

  * Tax accounting basis u/s22 (cash or accrual - see /)

  2. May opt each instance or every year (no consistency):

  * Loss set including unrelieved loss u/s 20 (within rule of quarantine)

  * Loss of Sec.37 set including unrelieved loss u/s 36

  * Income recognition in case of bad debt recovered (allowed partial deduction earlier) u/s 25.

  * Recognition of compensation u/s 31 at gross amount or opting for replacement u/s 46.

  * Valuation of non-market transfer, opting to take benefit of or not to taken benefit of Sec.45(6).

  * Taking LLP facility or not u/s 59.

  65. Change of Cash basis to accrual- Person would have one basis of accounting and another basis for tax accounting; e.g. cash basis for accounting and accrual for taxation and vice versa. In this situation, consistency in both system is required. Yearly tax return to be recomputed based on another basis of accounting. In any conversion 'No double- no discrete Rule' applies, i.e. nothing to be double recognize or double non-recognize.

  1. Change of Basis\- Ugrachandi Firm using cash basis of tax accounting. This year the firm transferred its accounts into accrual basis of tax accounting, required approval from IRD received in the time. In the scrutiny of last year accounts found as follows:

  * Out of Service rendered in last year, Rs. 70,000 received this year and Rs.30,000 not received yet. Advance Rs. 200,000 received last year, but service rendered this year Rs.120,000, remaining next year.

  * Advance salary paid last year Rs.22,000; advance rent paid for 18 months Rs.180,000. Stationary used in last year Rs.23,000 paid now.

In these cases, the effect of change in basis of accounting shall be:

Cases | Inclusions (Deduction)

---|---

Nullification of double recognition |

  * Advance for service rendered this year
 | (120,000)

  * Advance for service yet to be rendered
 | (80,000)

  * Advance salary paid last year
 | 22,000

  * Advance rent paid
 | 180,000

Nullification of double non-recognition |

  * Receipt for Service performed last year
 | 70,000

  * Receivables for service performed last year
 | 30,000

  * Payment of last year stationary cost
 | 23,000

Effect of Changes in basis of accounting | 123,000

  13. Change of Basis\- Ugrachandi (P.) Ltd. engaged in producing edible oils, could not prepare its accounts on accrual basis of accounting and prepared following receipt and payment accounts. You just joined as Chief Accountant. On the help of existing assistants you could gather following information for taxable Income.

Receipt and Payment Account

Receipt Head | Rs. | Payment Head | Rs.

---|---|---|---

Opening Bank | 100,000 | Loan repaid | 300,000

Sales realized | 10,000,000 | Payment for purchase | 7,000,000

Interest income | 100,000 | Interest paid | 500,000

Other income | 200,000 | Personnel Expense paid | 1,500,000

Loan received | 800,000 | Wage expense paid | 900,000

 |   
 | Bank balance | 1,000,000

 | 11,200,000 |   
 | 11,200,000

Further information gathered by the assistants are as follows:

Head | Opening Rs. | Closing Rs.

---|---|---

Debtors | 100,000 | 1300,000

Creditors | 300,000 | 100,000

Capital Contribution | 1000,000 | 1500,000

Machineries | 1500,000 | 2100,000

Interest payable | 50,000 | 150,000

Wage payables | 50,000 | 100,000

 | 3,000,000 | 5,250,000

  * Depreciation has not charged in the books. Additional investments in machineries have done on Ashadh-first. Trading stock of Rs.100,000 has not been shown in the statements being receipt and payment.

  * The shareholders of company are foreigners and interest is paid to one of foreign bank loan.

  * Donation Rs.20,000 has given to an exempt entity included in personnel expense, staff themselves donated to the same entity Rs.7,000.

  * Personnel expense excludes a gratuity provision of Rs.200,000. There was a retirement of staff and Rs.30,000 were paid from provision account.

In case, accounting is on cash basis (even not allowed as per NAS). Firstly, accrual transactions required; computed as:

 | Head | Closing

Rs. | Cash

receipt/paid | Total | Opening

Rs. | Transaction

for the year

---|---|---|---|---|---|---

Sales | Debtors | 1,300,000 | 10,000,000 | 11,300,000 | 100,000 | 11,200,000

Purchase | Creditors | 100,000 | 7,000,000 | 7,100,000 | 300,000 | 6,800,000

Interest exp. | Interest | 150,000 | 500,000 | 650,000 | 50,000 | 600,000

Wage exp. | Wage | 100,000 | 900,000 | 1,000,000 | 50,000 | 950,000

Based on computed transaction on accrual basis, the cost of trading stock disposed for Sec.15 and depreciation for Sec.19 is as follows:

Opening Stock | 0 |   
 | Pool D

---|---|---|---

Purchase | 6,800,000 | Opening Base | 1,500,000

Wage | 950,000 | Absorbed addition | 200,000

Total | 7750000 | Depreciation base | 1,700,000

Less: Closing Stock | 100000 | Rate | 20%

Cost of Goods sold S. 15 | 7650000 | Depreciation Exp | 340,000

 |   
 | Opening Base-next year |

 |   
 | Remaining Value | 1,360,000

 |   
 | Unabsorbed addition | 400,000

 |   
 |   
 | 1,760,000

Calculation for taxable income shall be as follows:

Inclusions |

---|---

Sale of trading stock | 11,200,000

Interest Income (business related) | 100,000

Other income | 200,000

 | 11,500,000

Deduction of Expense |

Interest u.s 14 | 600,000

Cost of Trading stock disposed | 7,650,000

Depreciation | 340,000

Other expense u.s 13 |

Personnel expense | 1,480,000

Gratuity | 30,000

 | 10,100,000

Income from business | 1,400,000

Income from investments | 0

Assessable income | 1,400,000

Reduce: Donation (Rs.20,000 is minimum) | 20,000

Taxable income | 1,380,000

  66. Timing for Tax Accounting\- Income tax is based on strict timing of tax accounting. Deferral in recognition of income is tax-evasion, whereas deferral in recognition of expense is non-deductible. Many cases, SAAR has provided the timing of tax accounting including simply tax income without financial transaction, e.g. case of Sec.57, Sec.53, Sec 46 &ct. In case, there is not any special tax provision for tax accounting, accounting standards are allowed.

  67. Temporary Difference\- Timing for tax accounting is similar as financial accounting except few expressed cases of various sections of the act. In case the timing is different in tax accounting and in financial accounting, there would be deferred income tax in accounting. Assets and liabilities in the balance sheet may or may not be same for tax base balance sheet. The difference is called temporary difference in financial accounting. Theoretically all assets and liabilities create temporary difference at least by provision and depreciable assets.

  68. Accounting time\- Tax accounting is real time based- means all the transactions either income or not to be accounted on the date of transaction. There are some exception in this general rule as:

  * Forex difference to be accounted in the same head of account u/s24(4) at the time of settlement, far after real timing.

  * Long-term contract is accounted in cumulative procedure u/s26.

  * Loss set off u/s 20 or 36 is possible after completion of IY.

  * Net gain u/s 36 may be calculated after year-end.

  * Sec.43, 44, 45, 46, 47A applies with written application along with income tax return.

  * Dividend-stripping u/s58 in the future event only.

  1. # Tax based on Taxable Income

  69. Taxable income and tax rate \- On the taxable income computing as per page 21, income tax is computed applying tax rates given in Schedule 1 of Income Tax Act, 2058. Schedule 1 has two sections:

Sec.1 for the tax rate applicable for natural person (R/NR), and

Sec.2 for the tax rate applicable for entity

  * Natural person having taxable income

N ormally, natural person is taxed on progressive tax rates. Progressive tax rate facilities are given to resident natural persons (except presumptive tax payers) only.

  * Non-resident natural person

Non-resident natural person is taxed at corporate rate given under Sec.1 of Schedule 1. Tax Rate, according to Schedule 1 of Income Tax Act, 2058 is as follows:

  * Same person having more than one person for tax

 Some of the streams of income is taxed as a separate person in case of a natural person (even resident or non-resident). Assuming a separate person, no loss is allowed for set off.

Type of income stream | Resident tax rate | Non-resident rate

---|---|---

Special industry in Nepal | 25% replaced by 20% | 20%

Export from Nepal | 25% replaced by 15% | 20%

Agro income | Regular progressive | 25%

Information Technology | Regular progressive | 25%

Industry in SEZ | Regular progressive | 25%

Public transport | Presumptive | Presumptive

  70. Resident natural person - Tax Rate, according to Sec.1 of Sch. 1 is progressive for resident and corporate for non-resident. In progressive tax, the tax-rate is increased based on increment in taxable income.

  71. Zero Rated Tax- There are 6 type facilities given for a resident natural person taxing at zero-rate (reducing from taxable income for computing tax). Zero-rated taxed income is deemed as juridical taxed (means the income is tax paid). Being juridical taxed income, it cannot be taxed again (so, refund from insurance, only gained is taxed) unlike reduction retirement fund in taxed at disposal basis. Following items are zero-rated for resident natural person.

    1. Remote Area Allowance (Zone Rebate) | If a person earning income in the region as remote for tax purpose, then Rs.50,000 to Rs.10,000, stepped down by Rs.10,000 each is taxed at zero for remote regions A to E. If his/her status changed, weighted average allowance is allowed.

---|---  
    2. Investment Insurance Premium | If natural person is contributing for an investment insurance then the premium up to Rs.20,000 is taxed at zero.

    3. Medical Insurance Premium | If natural person is contributing for an medical insurance then the premium up to Rs.20,000 is taxed at zero since IY 2072.73.

    4. Pension Income holders | In case of taxable income is including pension income then zero rate is lower of 25% of maintenance cost or actual pension.

    5. Incapacitated person | In case of taxable income is earned by incapacitated person (certification required), 50% of maintenance cost is taxed at zero.

    6. Foreign Allowance | In case of income includes foreign allowance given by GON being working in any foreign mission of Nepal, then 75% of allowance is taxed at zero rate.

    7. Maintenance cost | In case of couple opted: Rs.300,000 or for single : Rs.250,000 for IY 2071.72 and IY 2072.73.

  72. Averaging for remote allowance\- Natural person for the purpose of remote allowance is critical in cases of blended status, like:

  * In case a person resides multiple remote regions during the income year- weighted average of time; e.g. 3 months in A, 6 months in B and 3 months in E and remaining in non-remote, allowable zero-rate for IY 2071.72 or 2072/73 is Rs.350,000.

  * In case a couple filing jointly, spouses reside in different remote regions, there is no clear answer in tax law for averaging; e.g. resident couple husband resides in A (having income source) and wife resides in C, say whole IY, averaging way is not clear. Less-disputed answer is A in this case because of having source in A region.

  * In case of qualified widow/er with dependent(s), residing different remotes, there is not clarity in the law as above case of couple.

  73. Clubbing Life/Medical insurance premium\- In case, natural person in clubbing form (couple filing jointly or qualified widow/er with dependent), life/medical insurance premium is clubbed to the extent of Rs.20,000 each.

  * Premium payment during the IY to be taken, whether on the risk of any spouse (either named is equal) in case of couple.

  * Premium payment during the IY to be taken, whether on the risk of any dependent(s) or widow/er in case of qualified widow/er with dependent.

  * Premium payment for earlier years or future years is to be clubbed (matching year is not relevant). But, delay interest is not premium.

  * In case the person having life insurance not paid the premium during the IY, no benefits is allowed based on accrual.

  14. Marginal rates and effective rates- In the progressive rate of tax system, the person pays at higher tax rate in higher part of income. The additional tax on extra one rupee of income is called marginal tax rate. If a person's income of next rupee is taxed say at 15%, the marginal tax rate 15%. If next rupee is taxed at 25%, then marginal tax rate is 25%. This is why; one can say the marginal tax rate is maximum applicable rate for a particular taxpayer.

In the progressive tax system, the tax is levied in the upward trend of rate graph. This makes ones effective tax rate is lower than marginal tax rate. For instance, resident natural person having taxable income of Rs.500,000 is taxed (say) Rs.100,000 at 0%, Rs.200,000 at 1%, Rs.100,000 at 15% and Rs.100,000 at 25%. Here marginal tax rate is 25%. Total tax is Rs.42,000. Here, effective tax rate is:

Effective tax rate = |

---|---

= | Rs.42,000/Rs.500,000%

= | 8.40%

  15. Multiple Marginal rates - In the progressive rate of tax system, all the income are not taxed in simple progression. There are different marginal tax rate for different types of income (this means there may be multiple marginal rates and taxed as so-called scheduler or slice-by-slice taxation). In such situation, question of consumption of taxable income for lower rates may arise.

The general rule is, if there is specific type of income is taxed at lower rate, firstly charge that type of tax in its specified rate; secondly, charge the higher marginal tax rated income for lower rate benefits. Let's take example for IY2072.73, as income from:

Trading income | Rs.400,000 | 25% |   
 |

---|---|---|---|---

Export income | Rs.300,000 | 15% |   
 |

Export income | Rs.240,000 | 11.25% |   
 |

Assessable income | Rs.940,000 | |

 |

Marginal rates | |

Normal

25% | Export

15% | Export

11.25%

Reduce: Donation | 40,000 | 40,000 |   
 |

Taxable income | 900,000 | |

 |

0% (in total, say) | 300,000 | 300,000 |   
 |

11.25% Export | 240,000 | |

 | 240,000

15% Regular | 100,000 | 100,000 |   
 |

15% Export | 260,000 | |

260,000 |

Tax | 81,000 | 15,000.00 | 39,000 | 27,000

  16. Multiple Marginal rates - If the income pattern changed as follows, the tax to be computed as:

Income type | Rs. | Marginal rate% |   
 |

---|---|---|---|---

Employment | Rs.400,000 | 25% | Rs.45,000 pension

Export income | Rs.300,000 | 15% |   
 |

Export income | Rs.240,000 | 11.25% |   
 |

Assessable income | Rs.940,000 | |

 |

Marginal rates |   
 | Normal

25% | Export

15% | Export

11.25%

Reduce: Donation | 40,000 | 40,000 |   
 |

Taxable income | 900,000 | |

 |

0% (in total, say) | 345,000 | 345,000 |   
 |

11.25% Export | 240,000 |   
 |   
 | 240,000

15% Regular | 100,000 | 100,000 |   
 |

15% Export | 215,000 | |

215,000 |

Tax | 74,250 | 15,000.00 | 32,250 | 27,000

  17. Couples Filing Jointly\- Mrs. Homagain is administrator of incapacitated husband Mr. Homagain. A firm had registered in the name of Mr. Homagain before his incapacitation and taxable income of Rs.600,000.00 from export of merchandise. Mrs. Homagain has not any income.

In case of Mr. and Mrs. Homagain, it would be beneficial for being opting couple. So, assuming Mrs. Homagain opt for being couple, the tax is most beneficial for them.

Taxable income | Particulars | Tax Rate | Tax Amount

---|---|---|---

150,000 | Incapacitated | 0% | 0.00

300,000 | Couple | 0% | 0.00

100,000 |   
 | 15% | 15,000

50,000 | Export | 15% | 7,500

600,000 |   
 |   
 | 22,500

  18. Investment Income Tax\- Mrs. Chaulagain has taxable income from investments of Rs.300,000.00.

In case of Mrs. Chaulagain:

Taxable income |   
 | Tax Rate | Tax Amount

---|---|---|---

250,000 |   
 | 0% | 0

50,000 |   
 | 15% | 7,500

300,000 |   
 |   
 | 7,500

  1. Employment Tax\- Mr. Majgain from Nagarkot has employment income of Rs.1,00,000 per month before deducting the contribution to approved retirement fund Rs.40%. He is widower with a child. In case of Mr. Majagain, it is beneficial to be opted as widower with dependent.

Income from Employment |   
 | 12,00,000.00

---|---|---

Income from Business |   
 | 0.00

Assessable income |   
 | 12,00,000.00

Reduce: Contribution to Approved Retirement Fund; Minimum of

a. Maximum limit of Rs.300,000,

b. one third of assessable income 1200,000/3=Rs.400,000 and

c. actual contribution Rs.480,000 |   
 |

300,000.00

Taxable income |   
 | 900,000.00

Taxable income |   
 | Tax Rate | Tax Amount

300,000.00 |   
 | 1% | 3,000.00

100,000.00 |   
 | 15% | 15,000.00

500,000.00 |   
 | 25% | 125,000.00

 |   
 |   
 |

  2. High tax individual- In case a person have taxable income more than Rs.2500,000, additional tax of 40% is levied in the tax of taxable income more than that. Take examples having taxable income of Rs.3,000,000 for 2072.73:

Taxable income from | Tax upto

Rs.2500,000 | Tax above

Rs.2500000 | Total Tax

---|---|---|---

Single & employment | 5,55,000 | 1,75,000 | 7,30,000

Single & business | 5,52,500 | 1,75,000 | 7,27,500

Single & Special Industry | 4,45,000 | 1,40,000 | 5,85,000

Incapacitated Single & Special Industry | 4,20,000 | 1,40,000 | 5,60,000

Single & Export | 3,37,500 | 1,05,000 | 4,42,500

Single & Export production | 2,53,125 | 78,750 | 3,31,875

  3. Comparative Calculation of tax – See the example for 2072/73; assuming all figures in Rs.'000.

Income from | Ex-1 | Ex-2 | Ex-3 | Ex-4 | Ex-5 | Ex-6

---|---|---|---|---|---|---

Employment Pension | 40 | 140 | 200 | 0 | 400 | 80

Employment- Forgn. All | 1,000 | 2,000 | 2,000 | 4,000 | 0 | 0

Business Trading | 200 | 2,000 | 2,000 | 0 | 2,100 | 1,000

Business Special | 200 | 800 | 800 | 1,900 | 500 | 800

Investments | 200 | 200 | 200 | 0 | 1,500 | 200

Assessable Income | 1,640 | 5,140 | 5,200 | 5,900 | 4,500 | 2,080

Reduction: ARF | 300 | 300 | 300 | 0 | 300 | 300

Donation | 67 | 100 | 100 | 0 | 100 | 89

Taxable Income | 1,273 | 4,740 | 4,800 | 5,900 | 4,100 | 1,691

Zero-tax |   
 |   
 |   
 |   
 |   
 |

Pension - 0% | 40 | 140 | 200 | 0 | 313 | 80

Foreign All- 0% | 750 | 1,500 | 1,500 | 3,000 | 0 | 0

Taxable Income | 483 | 3,100 | 3,100 | 2,900 | 3,788 | 1,611

1% | 250 | 250 | 250 | 250 | 88 | 0

15% | 100 | 100 | 100 | 100 | 100 | 100

20% | 133 | 200 | 200 | 1,500 | 0 | 800

25% | 0 | 1,950 | 1,950 | 650 | 2,313 | 711

28%* | 0 | 600 | 600 | 400 | 500 | 0

35%* | 0 | 0 | 0 | 0 | 788 | 0

Total Tax | 44 | 713 | 713 | 592 | 1,010 | 353

  4. Non Business Chargeable Asset\- Calculate amount of tax for Income Year of a natural person from following information, assume net gain has included in taxable income:

S.N | Particulars | Taxable income [Rs.] | Net gain

---|---|---|---

a. | Resident Individual | 300,000 | 40,000

b. | Resident Individual | 220,000 | 45,000

c. | Non-Resident Individual | 320,000 | 60,000

d. | Resident couple | 1,200,000 | 60,000

e. | Resident proprietary firm | 395,000 | 60,000

f. | Mrs. Shahi, resident in Kavre | 1,500,000 | 900,000

  5. Employment Income \- Mrs. Sarita is working as a lecturer in Bidhata Nursing Campus. She is the Director of National Maternity Hospital in Lamadanda. After deduction of tax in source, during the income year 2002-003, she has got Rs.17,000 as meeting allowance. She has one house that has been provided in rent to Health Clinic and the Health clinic pays the rent amount after deduction of tax on source. She has deposited Rs.5,00,000 in Fix Account in Agriculture Development Bank and the gross interest receipt as per bank statement is Rs.35,000. Mrs. Sarita is asking regarding the filing of return. State your view regarding the submission of file by Sarita. [2003-June]

  74. Entity having taxable income- Normally, entity is taxed on corporate tax rates. Tax Rate, according to Sec.2 of Schedule 1 of Income Tax Act, 2058 is as follows:

  1. Default rate
 | 25%

---|---

Subsidized Rates |

  2. Special industry operated whole income year
 | 20%

  3. Infrastructural Business-Construction and operation of roads, tunnel, rope-way, sky-bridge
 | 20%

  4. Environment Friendly Transportation- Operation of Trolley Bus or Tram
 | 20%

  5. Cooperative Society or Unions
 | 20%

  6. Export income
 | 20%

  7. Built, Own, Operate and Transferred to GON
 | 20%

  8. Power-house construction, generation and transmission
 | 20%

Negative Externalities with double dividend and High profit |

  9. Tobacco production or liquor related business
 | 30%

  10. Banking, general insurance and petroleum production
 | 30%

  1. #  Fixed Tax: Presumptive Tax

  75. Presumptive Tax\- There are some income relating to natural person are taxed at fixed amount of tax, irrespective of amount of income tax require to paid based on rates, so-called presumptive tax. In some countries, minimum alternative tax is levied similar to presumptive tax. There is estimated tax base accepted legally for presumptive taxation. The logic behind the presumptive tax is:

  * for the tax payer: simplified tax accounting and very simple records, very low compliance burden (even no auditing), equitable for the cost of compliance and possible administrative mismatch, minimum tax payment period and low cost of payment,

  * for the taxation authority: simple recording, low cost of collection, equitable for administrative and political reasons, preserves self-sovereignty to the state and coverage of wide tax bracket of tax payers.

  76. Regressive in nature\- Under presumptive tax system, same amount of tax is levied for different income holders or for the person having different scenario. Hence, presumptive tax is regressive in nature. Look at a comparison:

Profit | Tax- Metro | Tax-Municipality | Tax-VDC

---|---|---|---

Effective tax (rate%) | Rs.5,000 | Rs.2,500 | Rs.1,500

50,000 | 10.00% | 5.00% | 3.00%

1,00,000 | 5.00% | 2.50% | 1.50%

1,50,000 | 3.33% | 1.67% | 1.00%

2,00,000 | 2.50% | 1.25% | 0.75%

  77. Presumptive tax Criteria\- Presumptive tax is allowed for all taxpayers opting to it and within the given criteria. The option can be usable for VAT registered, Excise registered or importer or exporters too. Resident of contracting state of DTAA shall not be charged presumptive tax because Article 7(1) allow taxation of only the profits that are attributable to a permanent establishment. Presumptive tax may be opted in case of loss too. In such case, imposition of a presumptive tax might result in tax even losses which breach the treaty.

In presumptive tax system adopted by Nepal, there would be no loss carry forwards, no foreign tax credits. There are two types of presumptive taxes: small resident vendor and public carriers.

  78. Small Resident Vendors- Resident natural person (1) having income from business only (2) from business is set up in Nepal (3) having turnover not more than Rs.2 million (4) and profit not more than Rs.200,000 (5) may opt for being presumptive tax payer and need to pay following fixed amount of income tax:

  * In case of business set up in Metropolitan City or Sub-metropolitan City- Fixed amount of Rs.5,000.

  * In case of business in Municipality - Fixed amount of Rs.2,500.

  * In case of business in other places - Fixed amount of Rs.1,500.

  79. Presumptive tax for a firm sifting to municipal – Let assume a firm in VDC owned by a natural person opting presumptive tax payer as small vendor. The place of business is classified as municipality during the income year, then the tax is levied based on the position at the year-end; i.e. at municipal rate.

Similar case may happen for the firm itself, if shifted to new location having different tax. For example, a firm in municipal sifted to VDC, the tax is levied at VDC rate being at year-end.

  80. Firm is tax object not Person- In case of Resident natural person opt for presumptive tax transferred his/her business to another natural person, then the tax is levied as presumptive tax payer for both person. Similarly, new business having income year less than full fiscal year need to pay tax for whole income year. By this way, the taxing unit under presumptive tax, is effectively firm itself.

  81. Public Transport Carriers- Natural person (Resident or non-resident both) holding public transport carriers being presumptive tax payer and need to pay following fixed amount of income tax:

Carrier Name Tax per carrier

Bus, Mini-bus, Truck, Mini-truck Rs.3,000

Car, jeep, van, micro-bus Rs.2,400

Three wheelers, Auto-rickshaw, tempo Rs.1,550

Tractor, power-tiller Rs.1,000

  82. Public Transport: Carrier is tax subject- Natural person (Resident or non-resident both) holding public transport carriers pays tax based on the number of such carriers. In case of owner of such carrier is a resident natural person, this tax is final. This leads, the tax subject in public transport is carrier itself.

  83. Presumptive Tax rate- Since 2072.4.1, a fantastic taxation provision inserted in Sec.4(4a) as presumptive tax rate or reference rate. As per Sec.1(17) of Sch.1, natural person dealing commission upto 3% as agent or real vendor having profit margin upto 3% of cost, a presumptive tax at 0.5% is levied; for other dealing goods 1.5% of sales is tax and for service, the tax rate is 2%. In all cases, minimum tax shall be Rs.5000 irrespective of place of business, e.g. Jumla and Jamal is same. This facility of presumptive profit tax is allowed to proprietorship business not claiming any tax benefits according to Sec.4(4a).

  1. # Tax on Repatriation of income

  84. Tax on Repatriation of income\- In case any foreign permanent establishment repatriates its income to its head office or home office or similar unit, then the repatriated income is to be taxed at 5% as tax on distribution by a resident company.

Tax on repatriated income is reverse charge taxing system. Here the payer is paid for income tax and income repatriated itself is not taxed. In all cases of repatriation of income the PE is taxed in two stages: normal and repatriated.

  24. Repatriation, maximum\- A Bank is registered in the United States and operating its liaison office in Kathmandu. During the year it has following summarized transactions:

Income recognized: Rs.5,000,000,000.00

Expenses recognized: Rs.4,000,000,000.00 except income tax

The liaison office has policy to repatriate all the remaining profits to its corporate office.

Here office is taxed on two bases viz: resident person having taxable income @ 30% of taxable income and 5% on repatriated amount. So,

Taxable income = Rs.5,000 m-4,000m = Rs.1,000 million

Tax @ 30% = Rs.300 m........................[a]

Remaining profit = Rs.700 million

Tax on repatriated amount = Rs.700 m* 5/105 =Rs.33.33 m [b]

Maximum repatriation = Rs.700 m-33.33 m = Rs.666,666,667

  25. Repatriation of income or cash \- A Bank is registered in the United States and operating its liaison office in Nepal. During the year, 5 employees were seconded in Nepal office. Salary paid for seconded staff was USD600,000 out of which 75% paid in USA and 25% in Nepal. During the year, Nepal branch send USD 450,000 to head office to pay their salary at home.

In this case, cash repatriation has done from Nepal PE to its head office. Nepal PE has not made any income repatriation in this case, so no tax on this repatriation.

  26. Repatriation of PE to head office, latter owned by resident - CC Inc., Construction Company is UK Company registered in the United Kingdom, 60% share of the company has owned by Nepal resident. CC Inc. has highway construction in Nepal derived profit after tax Rs.21 million (based on Sec.26 procedure).

Construction site in Nepal is PE of CC Inc. for the Nepal tax purpose. Out of after tax profit, repatriation can be sent after paying income tax at 5%, but if the foreign entity is controlled foreign entity, then repatriation tax is not levied to the extent of Nepal resident's control. Hence, only 40% of repatriation is taxed at 5%, remaining Rs.20.6 million can be repatriated.

=21*0.4/1.05+21*0.6=20.6 (repatriation tax@5% Rs.0.4 million)

  27. Reason to non-taxing repatriation – In above, 60% of repatriation is not taxed having the reason of effective control of Nepal resident. This will create horizontal equity if and only if remaining 60% is separately taxed in Nepal. For this, any dividend income from CC Inc. to Nepal resident is taxed.

  28. Repatriation of final withholding taxed income – Repatriation tax is levied in all cases of repatriation of income, whether it derived from taxable income or final withholding taxed income or exempt income even. This is waived in case there is special treaty (tax treaty or other) with the recipient's country/institution. For the income which is concession u/s 11, it is levied.

  29. Repatriation is double tax – In the case of repatriation tax, it is taxed more than one time in the same hand (in Nepal only), so judicial double tax as well as economic double tax. This is against the general principle of Nepal tax. But, to maintain the horizontal equity with distribution tax, this is justifiable taxing instrument.

  30. Repatriation to Associates- Repatriation of tax paid income to head office of PE is subject of repatriation tax. Sometimes, income is transferred to any subsidiary or associated person of head-office, the question of taxability is raised. In such case, for example in , any repatriation to HO or subsidiary of HO or any other type of Associates is subject to repatriation tax.

  31. Quantification of repatriation of income- As already explained in above, income repatriation is taken into account of tax rather the cash repatriation. But, the quantification of income repatriation is to be computed based on group transaction rather than exclusive repatriation and for the distributable amount (same as dividend for local entity).

Rs.in million | Carrying amount | Tax Base | Market Price

---|---|---|---

Head office a/c | 70 | 70 |

Associates a/c | 30 | 30 |

Retained Earning | 22 | 20 |

Business Liability | 180 | 180 | 180

 | 302 | 300 | 180

 |   
 |   
 |

Trading Stock | 100 | 100 | 108

Depreciable Assets | 103 | 100 | 94

Business Assets | 99 | 100 | 104

 | 302 | 300 | 306

Distributable Profit (Computed as per Sec 53(4) and Sec.68 26

Examples | Ex-i | Ex-ii | Ex-iii | Ex-iv | Ex-v | Ex-vi

---|---|---|---|---|---|---

Head office and associates Opening (A) | 100 | 100 | 100 | 100 | 100 | 100

Purchase (arm-length) | 315 | 315 | 315 | 315 | 315 | 315

This year payment (all heads) | 310 | 320 | 330 | 340 | 350 | 360

Closing Balance (B) | 105 | 95 | 85 | 75 | 65 | 55

 |   
 |   
 |   
 |   
 |   
 |

Gross repatriation (Capital and Profit, A-B) | 0 | 5 | 15 | 25 | 35 | 45

Repatriation of Income | 0 | 5 | 15 | 25 | 26 | 26

Repatriation of Capital | 0 | 0 | 0 | 0 | 9 | 19

Repatriation tax@ 5% | 0 | 0.25 | 0.75 | 1.25 | 1.3 | 1.3

Inclusions [Sec.56(3)] | 0 | 0 | 0 | 5 | 6 | 6

* if payment includes interest payments (except to third parties), whole payment is distribution. Of course, if the capital contribution of the Principal is in the ratio of its equity and loan (evidence to be produced), the proportionate interest expense (of head office loan) is allowed. Similarly, head office overhead, if substantiated with full evidences, is allowed to the proportion of PE's business as per Sec 33.

  1. Repatriation of S.70 income- In case of a PE of a non-resident is engaged in the business of transport from Nepal or have data transmitting device installed in Nepal, its income is taxed at 5% of Taxable Income, computed as gross turnover without any deduction as per Sec.70. The question raised, whether there is repatriation tax income case of repatriation of such income. The plain answer is no. In case, the same PE has income other than those recognized and taxed u/s70, repatriation tax is levied on those income repatriation.

  2. Repatriation by natural person- In case of a non-resident natural person has business wing in Nepal or any other source of income, the wing or source is not constitute for an permanent establishment. Any tax paid income for a natural person or proprietorship firm transferred to homeland or to any associates, there is not repatriation tax under S.68.

  3. Repatriation by fiscally transparent unit\- Partnership is an entity for tax purpose in Nepal, whereas in many countries, partnership of joint entrepreneurship is not a separate taxing unit. Income of such partnership or joint entrepreneurship is taxed in the hand of partner at their proportion. Such taxing unit is called fiscally transparent partnership or some cases pass-through units. Example of such units are in Barbados, Brunei, Cambodia, or Croatia. In case such fiscally transparent partnership has PE in Nepal, then how it is taxed or how the repatriation is taxed is the question. The plain answer is, partnership, whether fiscally transparent in their resident country, are taxing unit in Nepal as PE and any repatriation from that PE is subject of tax u/s68.

  1. # Exemptions, Concessions, Reduction, Deduction, Set off

  85. Income: Exemption, Concession and Waiver\- Person having an income need to pay tax on that income. But there are ranges of cases, where income is not tax on gross basis. Some of these incomes may be excluded from tax income list (exemption), some of income may be withheld (or suspended) from charging tax due to their nature or place of business (concession), and some of income is not introduced for taxation purpose (personal affairs). Sometimes there are the cases of waiver for incomes derived for specific purpose. Saving on VAT on stock declaration (2062 event) is its example. Finance Act, 2069, 2070 and 2071 states, if a person having taxable income since very ago, file income tax return since 2068/69, earlier tax is waived; this is another example.

There are some incomes those aren't inclusions in taxable income. Similarly, there are some entities which are exempt from taxation. Government (local or central), Nepal Rastra Bank, Political Party or Entity having Exemption Certificate are examples.

  86. Income: Inclusion, concession and Reduction\- Similarly some of income is firstly included in taxation list laterally reduced on computing taxable income. Contribution to Approved Retirement Fund is its example. Income of Approved Retirement Fund is also another example, where inclusions (profit and gain) and deduction of expense is computed latter it is not taxed. Sec.11 allows some concessions for special circumstances. In this case, inclusions (profit and gain) and deduction of expense is computed at gross usually as normal case, latter concession is reduced from these total figure for arriving into assessable income.

  87. Expense: Deductions- Expenses by the person during income year for earning taxable income are allowed as deduction for tax purpose. All the expenses if not disallowed by Sec.21 and allowed by Sec.13 is deduction. Conceptually, all the income is to be taxed without any deduction, but it is unfair and against of principles of wealth-creation. So, deductions are allowed as allowance (as word says take some benefit on tax).

  88. Loss: Deductions- Loss from business or from investments can be set off with another gain is called deduction of loss in taxation. The offset period is limited to 7 years (in three business, it is 12-yrs). The logic for these deduction is the expense allowed as allowance u/s13 is to be respected as deduction. Even after this period of offset, the unrelieved loss is allowed to set off with gain from disposal of business assets/liabilities u/s36.

  89. Expense: Reduction- Expenses for earning taxable income are allowed but there are some expenses which do not contribute to earn taxable income but require for social reasons. These are allowed by taxation laws as reduction. Donation to exempt entity, PM Relief Fund, Reconstruction Fund or contribution to new construction for sports and protection of heritage sites fall under this category.

  90. Tax Credit- Tax Credit is reduction of taxation liability of a person after deriving all tax liability. In such cases, tax is computed forgetting credit but on paying, credits is shrunken. There are 3 types of tax credits: Medical Tax Credit, Female Employment Tax Credit, and Foreign Tax Credit. Due to drafting error, there are some tax-credits concessions u/s11 too (see below).

  91. Remission- Remission is waiver in tax liability established by taxation authority based on prevailing law. It might be in partial or in full as the specific law warrants so. Almost Finance Act gave some remission on such tax liability. Many of years, so-called amnesty for tax-debtor is being allowed as remission too. Remission discourage to pay the tax.

  92. Tax Amnesty- Tax amnesty is waiver from taxation, either for payment of assessed tax (remission) or from assessing the tax (filing). This is an intentional overlooking by the State of its authority to impose penalties on persons otherwise guilty of evasion or violation of a revenue to collect what otherwise would be due it and, in this sense, prejudicial thereto. A tax amnesty is never favored nor presumed in law, and is granted by statute (may be finance act or otherwise). The terms of the amnesty must be strictissimi juris (strictly construed) against the taxpayer and literally in favor of the government. Most cases, tax amnesty has limited applicability and a disputed mechanism in favor of person and against favor of state.

  1. ## Exemption and concession

  93. Meaning and Strict Interpretation\- Exemption in taxation means income need not be shown for taxation purpose. Sec.10 of Income Tax Act, 2058 provides for exempted incomes. Person having exempted income need not show these income on own tax return nor it is taxed as final withholding tax system. Virtually, exempted income is not recognized by taxation. In all cases, if there is ambiguity or deviation, tax law is interpreted in the benefits of taxpayer; hence, the meaning giving less tax or simpler procedure is deemed as legal provision. Exemption in tax is one exception in this regard; exemption provision is interpreted in the strictissimi juris (strict sense) in favor of government. If any, even minor, condition is not fulfilled, the benefit of exemption is not allowed. Exception, especially forever or for long-time, creates discrimination and not rational forever.

Exemption may be expressed (like in Sec.10 or 31 or ), implied (like social security tax 1% is levied to employee, which is exempt for other) or contractual (like in Sec.11- Concession).

Followings are exemptions granted by Income Tax Act, 2058.

  94. Expressed Exempt income- Income enlisted in S.10 are expressed exempt income. Apart from exemption list u/s10, following are cases of exempt income as per the Act:

  * Compensation against accident u/s 31;

  * Distribution from trust u/s 54;

  * First half part of income from ARF u/s 65;

  * Dividend income (actual) from CFEs (but incomings) u/s69.

  95. Related to Person and Sources of Income- Some of the incomes are exempted based on sources of income and person receiving the same. Conceptually, these are exempted in hand of one person and taxable for other person.

Following incomes of natural person is exempted:

Income Source | Conditions | Example

---|---|---

Employment income of resident | If charged to Foreign Government Fund and person is resident due to employment in Nepal | Nepal based worker of foreign government

Employment income of non-resident | If charged to Foreign Government Fund, but working in Nepal or family members | Non-diplomatic workers of foreign government

Pension of Security Personnel | If charged to Foreign Government Fund | British Military, Singapore Police

Employment income of foreigners | If GON allows tax exemption |

Social Allowances | If paid by GON | Widow, incapacitated allowance

Employment by treaty | UN employments of UN Letter of Appoint holders | Non-Nepalese UN Staff

  96. Related to Institution - Income from any sources for the following entities are exempted for the tax purpose. Such entity need not to file their income tax return in IRD.

Institution Type | Example

---|---

Government of Nepal | All income

Nepal Rastra Bank | All income

Political Parties | All income

Exempted Institutions as NGO or Amateur Sports Clubs | Some NGOs

  97. Exempted Entity -IRD has power to grant exemption certificate to an institution based on its non-profit nature and involvement in amateur sports, religious, charitable or similar nature according to Sec.2 and rule 4. Within the list of exempted entity, some of the INGOs and governmental institutions are listed thereto as: Nepal Mediatory Council, Nepal Kanoon Byasai Parisad, Nepal Bar Association, Nepal Red Cross Society, Save the Children, Action Aid Nepal, Purbanchal University, Leprosy Mission, OXfam GB Nepal, Procurement Management Association of Nepal (PMAN) etc.

There is not any clear rule to get exemption, out of many INGOs, a few abovementioned are exempted. Similarly, out of many universities, only one is exempted. There are unnumbered temples in Nepal, but only few are exempted.

  98. Reduction to Assessable income\- Concessions reduces the income to arrive into assessable income. The income is counted for administrative purpose (and for some fee-base) but waived for assessable income base.

There are certain concession and privileged for person having taxable income. These concessions are either based on status of person (entity type, business type) or based on transactions (special industry, agriculture). Similarly, some of them are waived as exemption (in fact no reporting in tax return), some are waived as concession (firstly includible in income but deducting before assessable income) and some of them are allowed as tax credit (this is law drafting-error for sec 11).

  99. Concession by way of exemption- Concession and privileges granted by Sec.11 is, in some cases is allowed by way of exemption, i.e. income from that concession item is not included in tax returns. In other words, income is, for tax purpose, is deemed as not being income. If a person has these concessional incomes only, not required to file tax return too. Following concession are not included in income of person:

  * Agricultural Income of a farmer: in case a natural person has agricultural income from farming in land within prescribed limit under Land Related Act, 2021, then the income is exempted by way of concession under Sec.11(1). But agricultural income derived from land beyond prescribed limit or if derived by firm, company, proprietorship firm or from anybody corporate is taxed as normal business income with marginal tax rate of 25%.

  * Rural based cooperatives: Saving and Credit Cooperatives and Agro-forestry based cooperative society or unions if established in rural area (rural area means Village Development Committees other than whose boundary is touched with Metro or sub-metropolitan cities).

Above statement has practically true; legally, all the person having above income require to file their income tax return, showing income from business but their assessable income is zero.

  100. Concession by way of reducing to assessable income- Concession and privileges granted by Sec.11 is, in some cases is allowed after including income from business/investment, but reducing from assessable income as:

  * Special Economic Zone, hilly: Industry in special economic zone (even not special too) operated in remote (himali and prescribed hilly districts) gets exemption up to first 10 years of establishment. After lapse of 10 years rate of tax shall get concession of 50%.

  * Special Economic Zone, other: Industry in special economic zone (even not special too) operated in remote (prescribed districts) gets exemption up to first 5 years of establishment. After lapse of 5 years rate of tax shall get concession of 50%.

  * Remote Industry: Apart from special economic zone, industry established in remote area (Zone rebate) shall get exemption of tax for the first 10 years from operation.

  * Information Technology: Information Technology business in IT-park shall get concession of 25%.

  * Power Sector Concession: Hydro-power or other power generation, transmission and distribution shall get exemption for the first 7 years. After lapse of 7 years rate of tax shall get concession of 50% for the next three years.

  101. Concession by way of credits or reduced rate- Concession and privileges granted by Sec.11 is, in some cases is allowed by way of tax credit or reduced rate, i.e. income from that concession item is included in tax returns and proportionate or other credit is allowed on tax or the rate itself to be reduced. In the other words, the income is, for tax purpose, is deemed as being normal income but tax is paid by deducting the concession (even these income are not part of assessable income according to Sec.6, computation is possible only when tax credit method is applied or reduction from assessable income).

Following concession/privileges are firstly included in income of person, and then concession is allowed reducing tax rate:

  * Special Industry and Information Technology Industry having 300 or more Nepali employee during whole year- tax credit of 10%.

  * Special industry having 1200 or more Nepali employees during whole year- tax credit of 20%, or applicable rate is 80%.

  * Special industry having employed 100 or more Nepali and have at least 33% from female, incapacitate or dalits –tax credit of 20%.

  * Special Industry operated in Very-undeveloped, undeveloped and underdeveloped gets tax credits of 90%, 80% and 70% for the first 10 years of operation (Void relief\- under Void-relief concept, tax is not levied up-to the loss-realizing period. There are some cases of Void-relief in Sec.11 in form of concessions) .

  * Industry operated in Special Economic Zone of Himalayan and Hilly district as prescribed by GON gets tax credits of 100% for the first 10 years and 50% thereafter. Similar industry in other region gets these facilities up to 5 years as 100% and 50% tax credits.

  * Royalty, foreign technology and management fees earned by foreigners from Industry operated in Special Economic Zone gets tax credits of 50%.

  * IT Park IT industry – 25% credits

  * Export from manufacturers- 25% credit (so natural person rate is 11.25% and entity rate is 15%)

  * Built and Operate (Road, bride, runway, tunnel way) or Operate of tram, trolley bus- 40% credits. etc.

  102. Agricultural business – As per Sec.11, agricultural income is producing crop from public and private land and deriving rent from a tenant using land for producing crops. As per explanation, livestock business is not included in agricultural business.

  35. Taxable Agro-Income – In some cases, agricultural income is taxable. In case of land used by industry and land is cultivated for agro-industry in land more than prescribed limit and granted by prescribed notice published in Gazette, agro income is taxable.

  36. Prescribed limit of land \- Mr. Sherpa has 10 bigha of land in Saptari, produced 200 quintals of paddy. The cost of production excluding land cost is Rs.250,000. In this case, agricultural income is tax exempted u/s 11(1) being the land is owned and farmed by natural person within prescribed limit.

  37. Agro income of Company \- K Tea Ltd. has tea farming in 40 ropani in Pachthar produces 2000 kg of tea leaf. The cost of farming is Rs.50,000 and sales Rs.100,000. In this case, it is tea farming is agricultural income but not tax exempted u/s 11(1). So, tax is charged at 25% (not an industry).

  38. Agro-forestry based Cooperative \- Villagers' Cooperative is engaged in Bee-farming. It has 38 members in Kavre- Nala. Its income statements show Rs.76,000 net profit. In this case, it is rural agro based cooperative and exempted u/s 11(2). If this cooperative distributes dividend to its members, it would be exempted too.

  39. Mass industrial employment of Citizens - Indu Mills produces sugar in Sarlahi, it is 650 Nepali workeRs.Its taxable income is Rs.2 crores. Being a special industry. Tax will be as follows:

Taxable Income Rs.2,00,00,000

Tax @ 20% Rs.40,00,000

Less: Large employment credit 10% Rs.4,00,000

Tax Payables Rs.36,00,000

  40. Remote industry - Assume Indu Mills, in is operative in Ramechhap, since last 7 years the tax impact shall be as follows:

Taxable Income Rs.2,00,00,000

Tax @ 20% Rs.40,00,000

Less: Large employment credit 10% Rs.4,00,000

OR, Very undeveloped tax credit of 50% Rs.20,00,000

Rs.20,00,000

Tax Payables Rs.20,00,000

In this case, Mills has two alternatives availed, beneficial is very-undeveloped tax credit of 50%. If year for operation is more than 10 years, answer in will be same.

There is an ambiguity in tax law Sec.11(3)(b) and Sec.11(3B). If Ramechhap is classified to remote (Zone rebate), tax up to first 10 years is exempted. Till now, IRD has not classified any place of nation as remote for the purpose of Sec.11(3B).

  41. Is exemption or concession attracts foreign investments – The plain answer is no. Any concession or exemption is not attracting any foreign investment. For foreign investments, DATT having characteristics of investment-neutrality is required. Even all the DTAA entered by Nepal, except Pakistan, have not investment-neutrality characteristics. Foreign investment attraction or de-attraction depends on tax administration but not with rate. Say Country A (tax rate 30%) resident invest Nepal Rs. 100 million and earned 10%. Nepal shall is waived for 5 years and then-after 20%. In this case, the investor pays Rs.3 million in own country for the first 5 years and tax saved is zero. After 5 years it pays Rs.2 million in Nepal and Rs.1 million in own country- again the total tax is Rs.3 million. This is why the investor pays same tax, even no tax in Nepal. In this concession, only Nepal tax is siphoned to the resident country not to the taxpayer. To allow the real exemption or concession to foreign investor, tax spare provision is required in tax treaty.

  1. ## Reduction

  103. Saving of income-ARF\- Reduction reduces taxable income from assessable income of a person. Reduction can be in form of saving of income as contribution to approved retirement fund (this is tax defer arrangement) or expense without matching to earn taxable income as donation or sports development or heritage protection (this is welfare- state arrangement. Reduction is capped with various parameters at least with assessable income; one-third in case of retirement fund, 5% less in case of donation and 10% in case of sports and heritage. Reductions are allowed for both resident and non-resident tax payer. But recipient should be resident and approved from IRD (Approved Retirement Fund, Exempted and approval of contribution).

In case of contribution to approved retirement fund, reduction is allowed at minimum of:

  * Rs.300,000

  * One third of assessable income

  * Actual contribution during the income year (if the taxing unit is couple filing jointly, contribution made from both of the spouse is to be clubbed)

  104. Donation\- In case of donation (described in page 127), reduction is allowed at minimum of:

  * Rs.100,000

  * 5% of Adjusted Taxable Income

  * Actual qualifying donation, if any

In case, GON allows unlimited donation in advance, and person donates accordingly, whole of the donation on the top of above limit is allowed as reduction.

Contribution for Prime Minister Disaster Relief Fund or Reconstruction Fund – Since 2072.4.1, this is allowed at full contribution according to Sec.12B.

  105. Protect heritage and sport developments \- Contributing to protect heritage and construction cost for sport developments, reduction is at minimum of:

  * Rs.1,000,000

  * 10% of Assessable Income

  * Actual expense, paid by company upon approval of IRD.

Company for this purpose is tax-company (above) as defined in the Act.

  106. Deductions of Expense \- Deductions are expense allowed for computing income in particular head of income. Deductions are allowed as allowances in the income and covered by Sec.13 to 19, Sec.59, 60 and 71 of the act. Deductions, their nature and deductibility are described in Sub-chapter .

  1. ##  Deduction of Loss

  107. Loss definition\- Sec.67 has defined loss as "amount of loss is (a) Amounts with sources in Nepal which are to be deducted in calculating the income from that business or investment less, (b) Amounts with sources in Nepal which have been included in calculating that income." Hence in particular business or in investments, losses (or gain) need to be computed. Loss for tax purpose might be different than loss or accumulated loss in accounting. Tax loss can be set off with tax gain with some quarantine rules.

  108. Rule of Quarantine - There are certain rules regarding loss set off quarantine:

  * Business loss can be set off with business gain or investments gain, both.

  * Investments loss can be set off with investments gain only.

  * Foreign loss can be set off with same country gain only, per-country basis.

Tax payer may opt any of available option under rule as above. If the option in the earlier year to set off was with some specific type of source, this can be changed in the subsequent years.

Horizontal (this year) or Vertical set off (Carry forward/back)

Loss can be set off with gain within same year under rule of quarantine given above. This type of set off is horizontal set off.

Any unrelieved business loss, remained from horizontal set off can be carried forward (or back) for next years. Here carry forward has availed for next seven years (twelve years in case of BOOT, power sector, petroleum production).This type of loss set off is called vertical set off. Carried forwarded loss may be set off with gains based on rule of quarantine. Any loss for pool of years can be set off as per options opted by the tax-payer.

Many countries has special treatment of loss form agro-business and/or capital loss.

Carry forward period is different in various tax-regimes, but very low in developing countries (Armenia- 5 years, Algeria- 4 years, Congo–3 years, Ethiopia- 3 years) and infinite in developed countries (e.g. Australia, Austria, Belgium, France, Germany, Hong Kong etc.).

  42. Loss Set off, Vertical\- NTB Co. has following net position according to income tax laws, find the yearly status of income from business or loss for income year.

Income Year | Yearly Gain (Loss) | Income Year | Yearly Gain (Loss)

---|---|---|---

Year 1 | (9,930,911) | Year 5 | 5,236,578

Year 2 | (9,720,551) | Year 6 | 4,546,806

Year 3 | (7,812,138) | Year 7 | 3,076,436

Year 4 | (1,575,524) | Year 8 | 287,097

  43. Loss Set off, Vertical\- In Year 7 in the example above, there is income of Rs.15,00,000 from business, Rs.200,000 from investments. Out of income of business Rs.500,000 was scrutinized as source having in United Kingdom.

  44. Loss set off, Vertical and Horizontal\- Compute the amount of loss those could be settled during the year and amount of unrelieved loss carried for next year. Is there any tax need to pay assuming a couple based tax return?

 | Gain (loss) | Remarks

---|---|---

Business 1 | 200,000 | A loss of Rs.100,000 carried since 7 years

Business 2 | (150,000) | A loss of Rs.150,000 carried since 6 years

Invt. 1-foreign | 100,000 |

Employment -1 | 200,000 |

Employment -2 | 200,000 |

  45. Carry back of Loss - In case long-term contract awarded based on international competitive bidding procedure, the contractor has, incurred loss in final year of that long-term contract, then the loss cannot be carried forwarded; so carry back on the year(s) prescribed by IRD.

In carry back system, tax paid in earlier years is to be refunded by the taxation authority including interest on refund. Carry back is normally allowed where the tax-base is taxed earlier and rewards is needed for equilibrium of tax-income patterns. So, carry back is restricted in tax-world, e.g, France allows set off of €1 million for 3 previous years with undistributed profits and Germany €5 million per year whereas carry forward in these countries is for infinitely. In Egypt, Germany, Ghana and Uganda carry back is allowed for long-term contracts only (Nepal ICB contracts).

  4. ## Tax Credit

Tax credit is amount that is deductible from amount of tax computed from taxable income. Tax credit is not allowed from final withholding taxed payments. There are, now, 3 types of tax credits:

###  Medical Tax Credit

  109. MTC Limit\- If a resident natural person became ill, the treatment cost is qualify for medical tax credit under Sec.51.

Eligible Medical Cost (EMC) is cost of treatments including fee paid to doctor, lab cost, dispensary cost and other associated costs. In EMC, two cost are exception: one is, cosmetic medical cost is not includible; and next is, accidental injury cost if compensated from else one, is not EMC not compensation is taxable income. If a person has medical insurance, premium paid is EMC.

Since 2072.4.1, medical insurance premium is not part of EMC and compensation is not reducible too. Since then, medical insurance premium is a zero-tax income. Maximum limit of MTC is Rs.750 for a year. If a person has MTC is more than Rs.750 or have tax payable is less than Rs.750, any unrelieved MTC is carried forward to next years (till death). Conceptually, allowed MTC is lower of:

a) Rs.750,

b) MTC including prior year unrelieved carried forward,

c) Actual tax after all tax credits availed to the person.

  46. Clubbing of MTC\- If a resident natural person opting being couple filing jointly or qualified widow/er with dependent have medical cost within the group, then it is qualify for MTC. In the next year, unrelieved MTC should be carried on each person, if they file tax separately.

  47. Carry forward of MTC- In case a resident person has Nepal tax obligation and MTC in the same year, latter s/he became non-resident and further became resident. In such case, earlier unrelieved MTC cannot enjoy for tax. In the other hand, if resident natural person has MTC but no taxable income, it can be carry forward to next (or further next) income years through Income Tax Return.

  48. MTC for trust- Trust of dead person or incapacitated is classified as entity for the purpose of tax, but taxing as natural person. MTC for the base person is allowed in this case as similar to the person filing self-tax return.

### Female Employment Tax Credit

  110. Eligibility\- If a resident natural person being female has remuneration income only. She is allowed a Female Remuneration Tax credit of 10%. If she has other income or clubbing income (as couple or widow with dependent) this tax credit is not availed her. But, if she has exempt or concessional income, which is not taxed at all or final withholding taxed income, the credit is allowed to tax from employment.

  49. Tax Credit, general\- Mrs. Latika is working with a bank, computed tax for the IY is Rs.42,000. In this case:

Tax Rs.42,000

Less: Medical Tax Credit Re. 0

Female Remuneration Tax Credit Rs.4,200

Tax Payables Rs.37,800

  50. Priority of FETC or MTC\- Mrs. Talika is working with a local bank branch, has tax for the year is Rs.700. She get ill and eligible medical cost is Rs.30,000. She had a medical insurance contract, premium paid Rs.10,000. Insurance company compensates Rs.20,000 for treatment. Find tax for Talika.

Here, Tax Amount Rs.700

Less: Female Remuneration Tax Credit Rs.70

Medical Tax Credit Rs.630

Tax Liability Re. 0

Medical Tax Credit = EMC*15% = 30,000*15% = Rs.4500.

Her actual tax after Female Remuneration Tax Credit is Rs.630, so this can be availed as tax credit. Remaining Rs.3,870 (4500-630) is deferred to next year.

###  Foreign Tax Credit

  111. Concept of Double tax\- If a person has foreign income, it would be taxed in that foreign country too. Resident person need to pay tax on global basis (so-called full tax liability). In this situation, same income is taxed in the hand of same person twice (or more) is called as double taxation. Double taxation might be judicial double taxation or economic double taxation.

  112. Judicial double taxation\- In a judicial double taxation, tax imposition of comparable taxes by two (or more) tax jurisdictions (local or central; domestic or foreign jurisdiction) on the same taxpayer in respect of the same taxable income or capital. Such double tax is mitigated by unilateral relief measures (within the tax law- credit or exempt) or by bilateral or multilateral treaties for the avoidance of double taxation. Even there is not domestic double tax (good exceptions are existed), foreign double tax of a resident is mitigated by provision of Sec.71 (unilateral relief measures) and with bilateral tax treaties (Article 23 of each DTAA- all credit method).

  113. Economic double taxation\- In an economic double taxation, same income or subject is taxed in the hand of more than one person. For example, corporate tax on income of a company and dividend tax on its shareholders; final withholding tax on house rent on each ladder of rent, if rented by natural person and sub-let to another natural person. Such double tax is mitigated by unilateral relief measures (within the tax law- imputation method). Distributions from dividend income is not taxed twice is single representative example for avoidance of economic double taxation in our case.

To avoid the same income taxed doubly in the same hand, there are certain tax adjustment schemes in the taxation law. Sec.71 allows the person to set off this foreign tax on Nepal tax.

Any amount of tax or similar in nature paid on foreign country on income included by the resident is qualified for foreign tax credit. The income included in taxable income to get foreign tax credit facility on per country basis. In to has examples for qualifying tax credit available in the cases given.

The amount of tax credit, per country basis, allowed to be credited shall not exceed the average rate (effective tax rate) of Nepal income tax for the year concern. The average rate of tax applicable in Nepal for the person during year is calculated on the basis of:

The remaining amount of tax credit not absorbed during the year can be carried forward for set off from the income during subsequent years from the same country.

  114. Expense Method\- In case a person elects to relinquish the tax credit facility of the tax paid in a foreign country during any income year, it can claim the tax paid in the foreign country as expenses for the income having a source in that country. In the above example, person may elect to relinquish the tax credit facility of the income tax paid in foreign countries, in that case the net income from the foreign sources of Rs.355,000 (Rs.450,000 – Rs.95,000) shall be included in the taxable income. In that case person is neither able to claim the tax credit during the year, nor able to carry forward for subsequent years.

  51. Foreign Tax Credit\- Imam Singh has following income and tax payment. Foreign income has recomputed for the income year as per Income Tax Act, 2058.

Name of the country Income Rs. Tax paid Rs.

Pakistan 200,000 60,000

Japan 150,000 30,000

Korea 100,000 5,000

Korea (investments) (200,000) 5,000

Oman (200,000) 2,000

Nepal 250,000 -

Nepal (investments) (100,000) -

Here, for the income year (loss cannot be set off):

Total assessable income from all the sources:

Income from Nepal Rs.250,000

Income from the Pakistan Rs.200,000

Income from Japan Rs.150,000

Income from Korea Rs.100,000

Assessable income Rs.700,000

Say the tax for the income year is Rs.117,000

Average Tax Rate | 16.71%

---|---

Tax credit for the year shall be available for:

Country | Income Rs. | Tax paid Rs. | Tax calculated at average rate | Tax credit available for the year Rs. | Unabsorbed tax credit to be carried forward

---|---|---|---|---|---

Pakistan | 200,000 | 60,000 | 33,420 | 33,420 | 26,580

Japan | 150,000 | 30,000 | 25,065 | 25,065 | 4,935

Korea | 100,000 | 10,000 | 16,710 | 10,000 | 0

Oman | - | 2,000 | - | - | 2,000

Total | 450,000 | 102,000 | 75,195 | 68,485 | 33,515

  52. Expense method, beneficial\- In expense method, foreign tax is allowed as expense which is against general rule of deduction and S.21. Being tax is deducted remaining income is taxed as same rate. This means, expense method is unfavorable than credit method. But in two cases, expense method is beneficial than credit method.

Firstly high average tax: in above except Korea, the tax paid is cumulative and carried forward. In few years, the accumulated foreign tax paid shall be higher than the income for that year. In case, foreign income is adjusted by foreign tax under expense method, income will be minimum and hence low tax due to progressive tax system.

Secondly, income recognition differential: many cases, characterization of income or expense in the source-country and Nepal may be different. In any case, effective tax rate in any year exceeds 100% of foreign income, expense method is beneficial.

In both case of beneficial expense method, progressive tax system is essential. In corporate tax system, above cases results no benefits.

  53. Expense method, recognition differ \- Say Ms. Ponjy invested Rs.100 lakh in debenture of a company in Country F at 12% p.a. The investment was made from a loan at 10% p.a. Country F charges the tax at 20% on its income from its country. Assume, Nepal source income is Rs. 250,000.

In this case, Foreign tax paid is Rs. 240,000 [10,000,000*12%*20%]. Foreign income will be Rs.200,000 [10,000,000* (12-10)%] only. If Ms. Ponju opted for Credit Method of elimination of double tax, Nepal tax (progressive) will be Rs. 40,000 and the foreign tax credit will be Rs. 17,778 only, so Rs.22,222 requires to pay here.

In case, she opted for expense method, the foreign tax paid is allowed as expense fully, results a tax loss in foreign source. This loss cannot be offset with Nepal income. Nepal income is taxed singly, and progressive tax is zero. In this case, expense method is beneficial than credit method.

 | Credit Method | Expense Method

---|---|---

Nepal Source Income | 2,50,000 | 2,50,000

Foreign Source Income | 2,00,000 | 2,00,000

Foreign Tax Expense |   
 | (2,40,000)

Total income | 4,50,000 | 2,50,000

Tax | 40,000 | -

Effective Tax Rate | 9% | 0%

Foreign tax credit | 17,778 | -

Nepal Tax Liability | 22,222 | -

  54. Expense method, cumulative credits\- Say Mr. Yakkha has foreing income of Rs.25 lakh since 5 years. Source country taxed at 40%. Since last 4 years, cumulative unused foreign tax was Rs.15 lakh. He has Nepal income of Rs.250,000.

If he opt for credit method, Rs.58,182 require to pay here. In case, he opt for expense method, tax payable in Nepal is zero; because Nepal income taxed for the first ceiling 0% and there is no foreign income (since tax expense is equal to income). In this case also, expense method is beneficial.

  55. FTC and ARF\- In above example, say Imam Singh has contribution to an approved retirement fund of Rs.100,000 and eligible medical cost of Rs.30,000. After ARF adjustment, tax for the year computed Rs. 92,000:

Total Tax |   
 | 92,000

---|---|---

Less: Medical Tax Credit |   
 | 750

Tax to be paid |   
 | 91,250

Average Tax Rate | 91250/600000 | 15.21%

Tax credit for the year shall be available for:

Country | Income Rs. | Tax paid Rs. | Average Tax | Tax credit available | Unabsorbed tax credit

---|---|---|---|---|---

Pakistan | 200,000 | 60,000 | 30,422 | 30,422 | 29,578

Japan | 150,000 | 30,000 | 22,817 | 22,817 | 7,184

Korea | 100,000 | 10,000 | 15,211 | 10,000 | 0

Oman | - | 2,000 | - | - | 2,000

Total | 450,000 | 102,000 | 68,450 | 63,239 | 38,762

The tax payable during the year comes to Rs.92,000 – Rs.750 - Rs.63,239 = Rs.28,015.00.
  3. # Characterization, Allocation and Quantification

    1. # Concept and definition

  115. Characterization- Characterization means identification of a transaction, head or behavior thereto. For example, there would variety of assets within a business like furniture, machine, car, etc. but for tax purpose there are three classes of assets trading stock, depreciable assets and business assets. It means three types of assets characterized in taxation. Characterize in tax is similar to term recognition in NASs.

  116. Quantification\- Quantification means amount involved in a transaction or characterized head. For example a loan of Rs.1 crore @10% fetch an interest Rs.10 lakhs. Here, loan and interest are characterization as debt-claim Rs.1 crore and Interest income Rs.10 lakhs are quantifications. In most cases, quantification is to be done at actual amount involved in the transaction, but in many cases, valuation to be done.

  117. Allocation \- Allocation means quantification of a single transaction to one or more characterizations. Say, that half of loan was used to construct a building and remaining purchasing equipment, not used till year-end. Then interest is to allocate as cost of building Rs.5 lakhs and cost of equipment Rs.5 lakhs.

  118. Special Quantifications- Income tax accounting is mainly and mostly based on accounting standards. The transactions recognize in accounting, in most cases, shall be quantified at same amount in taxation (and hence no deferred income tax in most cases). But there are variety of cases, whether due to deemed disposal or due to being taxation concept only, or non-recognition of transaction characterized items need valuation for quantification (deferred income tax exists there). For income tax, wealth-creation is main periodic tax-base and almost of them are on transactional basis. A charging person may plan for avoiding tax based on multi-optional provisions of the act. To reduce the uncertainties of collection of tax based on those options, tax law normally gives defined valuation module for either income recognition or for characterization of tax-base (assets and liabilities), are called Special Anti-Avoidance Rule (SAAR) or sometimes Special Anti-Avoidance Measures (SAAM). In case, the accounting differs in taxation than account, then valuation for SAAR is to be done as:

  119. Defined valuation: SAAR- If there is clear valuation method given in tax law, quantification need to be done based on those methods. For example; depreciation is to be computed on pool based assets, cost of goods sold to be quantified without factory repairs, pollution controlled expense is capped with adjusted taxable income etc.

Defined method of valuation is widely scattered in many places of act. Here are some examples cited in summery. Details are given in concerned chapters.

Sec. | Valuation of | Method | Sec. | Valuation of | Method

---|---|---|---|---|---

12 | Donation | Capped | 21 | Expense | No quantification

14 | Interest | Capped | 24 | Provisions | No quantification

15 | COGS and Stock | Formula | 25 | Debt/ obligation | Cost

16 | Repair of DA | Capped | 27 | Fringe | Token

17 | Pollution Cont. | Capped | 41 | Deemed | Market

18 | Research | Capped | 42 | Lease | Market

19 | Depreciation | Formula | 43 | Transfer | Net outgoings

44 | Death | Market | 45 | Transfer | Net outgoings

46 | Involuntary | Net outgoings | 47 | Merger | Net outgoings

49 | Block of assets | Allocation | 51 | Medical cost | Non-cosmetic

53 | Distribution | Allocation | 55 | Liquidation | Allocation

56 | Shareholder | Market |   
 | Etc. |

  120. Specific Anti-Avoidance Rules (SAARs)- SAAR has of two types on three categories (2 by 3 types):

  * By characterizer:

    * Taxpayer's Self-assessment based on law. In case taxpayer fails to comply the specific rules, taxation authority re-characterize during tax audit under GAAR.

    * Reassessment of defined tax avoidance schemes (re-characterization as indirect payment, transfer-pricing, income-splitting and dividend-stripping: see pg 68)

  * By recognition rule:

    * Accounting standards (GAAP): recognition based on Nepal GAAP is not SAAR, but normal accounting.

    * Defined legal provision: the deviated tax recognition comparing to Nepal GAAP is SAAR.

  * By legal source:

    * In domestic tax law: there may be many SAAR provisions on the tax law as Nepal tax law has.

    * In tax treaty: some of the SAAR is covered by tax treaties. Some SAAR based on domestic law are neutralized in treaties based on principle of pacta sunt servanda.

There are so many specific anti-avoidance measures in the tax law. Under these measures, each taxpayer need to pay the tax based on the provision rather than accounting based on GAAP. Tax law should have many SAAR provisions. A synopsis of SAAR as per Commentary on the UN Model has reproduced here as:

"Many domestic rules may be relevant for that [Specific legislative anti-abuse rules found in domestic laws] purpose. For instance, controlled foreign corporation (CFC) rules may apply to prevent certain arrangements involving the use, by residents, of base or conduit companies that are residents of treaty countries; foreign investment funds (FIF) rules may prevent the deferral and avoidance of tax on investment income of residents that invest in foreign investment funds established in treaty countries; thin capitalization rules may apply to restrict the deduction of base-eroding interest payments to residents of treaty countries; transfer pricing rules (even if not designed primarily as anti-abuse rules) may prevent the artificial shifting of income from a resident enterprise to an enterprise that is resident of a treaty country; exit or departure taxes rules may prevent the avoidance of capital gains tax through a change of residence before the realization of a treaty-exempt capital gain and dividend stripping rules may prevent the avoidance of domestic dividend withholding taxes through transactions designed to transform dividends into treaty-exempt capital gains."- para.13 of part II of UN Model Double Taxation Convention, 2011.

  121. SAAR in Tax Law- There are many SAAR provisions within the tax law, which covers almost international standards too. For example:

  * Some of the inclusions are not based on accounting standards and purely SAAR for tax income recognition. For example, this category involved, inter alia, investments income as business inclusion, receipt for accepting restrictions, gifts and prizes under inclusions, recovery of bad debt or liabilities not required to pay, non-deferral provisions for long-term contracts, forex gain on realization only (our practice based on NAS/IAS 11 is wrong based on tax law), full compensation as inclusion (to avoid double dipping in case of loss recovered from insurance compensation), per-person charging in case of joint income, finance lease interest/sales, merger of business, distribution without profit, LLP not required, taxing for investment insurance business or retirement fund (both approved or unapproved), cross-border transportation.

  * Interest paid to the exempt-controller (Sec.14(2) is principally very near to thin capitalization. This will reduce the impact of taxable income and restates the tax-base from its erosion.

  * There are cash-basis and accrual basis tax accounting. Measurement of cost of trading stock disposal (Sec.15) is crucial for different basis. To avoid probable avoidance of tax (or tax base), stock valuation is fixed as FIFO or weighted average (option to be taken in 1st year of business and conversion is allowed, if and only if IRD approves) for prime costing or absorption costing.

  * Depreciation is one of major probable planning tool for net annual income. Tax law provide two specific measures for this planning- one pre-fixed depreciation rate (Sch. 2) and compulsion of allowance (Sec.19).

  * Rule of quarantine in loss set off (Sec.20): Loss dilute the tax-base; to make efficient income recognition on income heads, a) passive income (investment) loss can be set off with similar passive income gain; b) foreign loss can be set off with per-country basis loss (see Chapter page 49); c) loss from exempt income or final withholding taxed income or income under concessional tax can be set off with similar gain as horizontal equity of taxation and specific anti-avoidance measures.

  * Provisions are prominent part of accrual-base for an accountant. But, it will reduce the tax base and the provision expenses are not matching for wealth creation, which is major concept under tax law. Hence, provisions are not allowed as expenses (Sec.24(2), rather allowed when paid, as specific anti-avoidance measures.

  * Finance lease is sale and purchase plus repayment of debt-claim and interest thereto as per Sec.32. This provision covers the reality of transaction rather its legal form (substance over the form). Only one thing is to be considerable under this specific measure that the chances of treaty sparing (<<see >>) in case of DTAAs.

  * Similar case with bad debt, this may a weak tool for tax avoidance and hence erosion of tax-base, which is allowed if only if, the collection measure is reasonable for active economy as described in Sec.40(3).

  * The tax is levied on transactional basis, but there are certain cases in Sec.41, which are good cases for stopping tax-base erosion. If any entity's controlling shares are sold, the attributed gain on company is major basis for their stock valuation, then why not to take the same in entity itself. Similar the case of change of residential status; world-wide tax base is charging in case of a resident, if it converted into non-resident, then what happened for the foreign tax-base is crucial. Exit tax is levied as per market price valuation for this case. So, provisions under disposal with retention are anti-avoidance measure and some are for control double dipping.

  * Transaction between associated persons is most crucial tax planning regime in the world. Provision under Sec.45 is controlling measure thereto.

  * Foreigners' domestic business wing is another crucial tax planning instrument or an ambiguous tax resign has addressed in Sec.2 and Sec.68 as PE taxation. Within PE, the ambiguities of agency PE and service PE has addressed well-being almost near to OECD concept.

  * The investments from Nepal to foreign country may dilute tax base has countered by CFC rule in Sec.69.

Judicial doctrines and awards would be other sources of SAAR. We have not such examples regarding taxation yet.

There are 4 specific anti-avoidance rules, on which Inland Revenue Department, upon written notice can re-characterize the transaction with amended quantifications (SAAR based on re-characterization) are indirect payment, transfer pricing, income splitting and dividend stripping (see Chapter 68).

  122. SAAR in Tax Treaty- There are some SAAR within tax treaties entered into by Nepal as contracting state (we have 10 only). Apart from SAAR within tax law, some SAAR in tax treaty reduce the planning opportunity of the cross-border taxpayers [of course, some domestic SAAR are not applicable for tax treaties too]. For example:

  * Time limit for permanent establishment supersedes the provision of tax law. If a person is resident of contracting state and has business income having source in Nepal is taxed if earned through permanent establishment (Article 7 of all 10 treaties). To become a PE there is time-limit of stay of at least 183 days (except Sri Lanka -90 days). If business income is earned stay of less than 183 days, then income is not tax here.

  * Source determination is another superseding element over domestic laws; for example air-fare earned by air carrier initiating from Nepal is taxed in Nepal at whole amounts excluding trans-shipment as per Sec.70. But, such income, in all 10 treaties, is deemed having source in country of incorporation or effective management, hence no income having source in Nepal.

  * If a person has not contracting authority as agent but maintain the stock for principal is deemed as PE for the purpose of para 5(b) of Article 5 of treaty with Austria, Mauritius, Pakistan, Sri Lanka and Thailand.

  * If a person has not contracting authority nor maintained stock as agent but but habitually secures orders from its principal is deemed as PE for the purpose of para 5(c) of Article 5 of treaty with Sri Lanka and Thailand.

  * Treaty benefits allow for resident of either contracting states and no treaty shopping is not allowed for conduit company for example for dividend tax relief for beneficial owner only.

  * Even the tax accounting in tax is any, there are 16 articles in each treaty for reclassification of income and their recognition rule is different than our tax law (Article 6 to 21). For example, definition of dividend income or interest income is different than those in income tax law in Nepal.

  123. Conflict of SAAR in Tax Treaty and law- In case any SAAR in domestic law contradicts with SAAR established with treaty with contracting state, then, SAAR based on treaty is applicable for the resident of that contracting state as per Article 26 of Vienna Convention. One point should not be forgotten here is that, there are numerous cases, where the treaty itself refers the SAAR within domestic law; e.g. determination of residency is based on local laws not by treaty itself, if same person become resident of both contracting states, then only tie-breaker rule under Article 4(2) appears; or many definitions are interpreted based on definitions of domestic laws too.

  1. # Special Quantifications

    1. ## Reversing of amount including bad debt

  124. As Deduction\- According to Sec.25, if a person having receivables in doubt, adopts every reasonable trample to recover it but, unable to collect and writes off the amount in the books as an expense, is allowed as tax expense. Had in the current income year the debtor has paid the amount due and it shall be included in inclusions.

This means bad debt written off is deductible expense and recovery is taxable income.

  125. Liability not require to pay\- In case a person is allowed an amount as expenses as per the accrual system and later on, the receiving person, disclaims the entitlement to receive; then the person who is liable to pay the amount should include the amount in taxable income.

This means amount accrued and deducted but need not to pay is income and is taxable income.

  2. ## Perquisite and fringe benefits

Some of transactions need to be value at method but gives token value. For examples: accommodation facility of employee, worker or person getting monthly salary (Monthly paying advisors, directors, minister, parliamentarians, judges, or similar) shall be 2% of his salary. If same accommodation is provided to person having high salary, value of benefit deemed high and vice versa. Sec.27 has list of such cases:

  126. Staff Accommodation-In case of accommodation facility (whether furnished or not, home or flat or room, common or otherwise etc. are irrespective) provided to any person value of benefits received by that person shall be 2% of salary in case of employee, worker or person getting monthly salary (Monthly paying advisors, directors, minister, parliamentarians, judges, or similar). Here, salary means basic pay plus grade, if any vide public circular dated 2059.4.28).

Exception, accommodation associated with security persons like army or polish in barrack or guard or similar is not accounted as accommodation benefits, so no quantification requires.

  127. Non-employer accommodation\- In case of accommodation facility (whether furnished or not, home or flat or room, common or otherwise etc. are irrespective) provided to any person value of benefits received by that person shall be 25% of rent paid by the facility provider. In case, the accommodation is from facility provider's own premises, 25% of imputed rent (means market rent, if it let out) shall be taken as benefit to the beneficiary. Same exception as in is applied here. This is a rare case that to be occurred in normal scenario; examples may be use of public property or accommodation to non-salaried director &ct.

  128. Vehicle facility\- In case of vehicle facility provided to any person, value of benefits received shall be:

  * 0.5% of salary in case of employee, worker or person getting monthly salary (Monthly paying advisors, directors, minister, parliamentarians, judges, or similar). Here, salary means basic pay plus grade, if any vide public circular dated 2059.4.28).

  * 1% of market value of vehicle per annum.

  * Rule 13 spells the vehicle as 'motor, car, jeep or similar' on provided basis. It is unclear that a staff bus routed for staff constitutes as this facility or not. IRD, on its practical implementation has not questioned for including benefits using staff bus. Hence, in this material, facility allotted as staff bus or similar at a massive level has not valued as benefits.

  129. Cost less user's contribution\- In case of personal helpers provided to any person as chauffeur, kitchen-man, guard, gardener, or other domestic helpers, value of benefits received by that person shall be:

  *     * Amount paid to such helpers less any contribution by receiver.

  * In case of interest free or lower interest debt, value of benefits received by that person shall be:

    * Amount saved in interest based on prevailing market rate.

Market value:

In case of valuation method is not clearly prescribed in any section of act, then the transaction need to value at market price according to Sec.27(1).

  1. ## Compensation

  130. Compensation -Compensation received by charging person either from insurance or otherwise, is to be included in income at gross except accidental insurance and death compensation u/s 31. This compensation may be against the loss of assets, loss of profit or additional expense. Human accidental compensation, medical compensation, life insurance compensation and compensation opted as for involuntary disposal are exception in this general rule.

  131.  Human accidental compensation- According to S.31, human accidental compensation is beyond the scope of income tax, and hence not a part of inclusion or final withholding payment. Upto 2066 Ashadh, it was taxable under FWHT system.

  132. Medical compensation- Medical compensation is a reducing part of eligible medical tax credit. It is somewhat within the tax net, but not a source of income. All the eligible medical cost during the year less medical compensation is EMC (see pg.52).

  133. Life Insurance compensation\- According to S.31, insurance compensation against death is beyond the scope of income tax, and hence not a part of inclusion or final withholding payment. Upto 2072 Ashadh, it was taxable under FWHT system. Remaining cases, gain is subject to final WHT at 5%, if paid by resident company. In case any income is received from Non-resident, all the proceeds must be included in taxable income (except Sec.69).

  134. Loss of profit compensation\- Loss of profit compensation is general insurance compensation for the business, and hence included in income from business at gross amount. By practice, VAT is deemed included in the receipt (factually wrong, Insurance company must pay VAT in extra then compensation). Hence, 100/113 of compensation is income in case of VAT registered.

  135. Involuntary disposal compensation\- If compensation receives as from general insurance or otherwise, the loss-making receiver may opt for benefit of Sec.46. In that case, a separate application is filed with Income Tax Return. The amount is taken as compensation for the purpose of Sec. 46 (See details in Pg.72 ).

  4. ## Annuities, Installment and Lease

There is similar taxation concept of tax accounting in annuities, installment and finance lease.

  136. Operating or Finance Lease\- Leasing of a property or goods is, generally, treated as investment, and rent from such property shall be taxed under head of income from investments. But, renting assets under a finance lease is treated as disposal of asset for the lesser and purchase of asset for the lessee.

  137. Finance Lease Definition- Sec.32 (5) has defined a finance lease as an arrangement of a lease having either of following conditions:

  * The ownership of the property will be transferred to the lessee after expiry of lease-term, or the lessee has an option to purchase the leased asset after expiry of the lease-term for a fixed or pre-determined price [purchase-option].

  * The lease period is for more than 75% of the useful life of the asset leased [significant life on lease].

  * The estimated market price of the leased asset after the end of the lease-term is less than 20% of its market value at the inception of the lease [significant cost].

  * In case a lease commences before the last 25% of the useful life of the asset, the present value of the minimum lease payments equals or exceeds 90% of the market value of the asset at the inception of the lease [significant value].

  * A leased asset is custom-made for the lessee and after expiry of the lease the asset will not be of practical use to anyone other than the lessee [customized].

  138. Quantification of Annuity -Annuity are series of payments from deposits by the recipient. This series of payment may be based on single deposit or series of deposit. Any proceeds as annuity arrangement may have two different tax impact-

  * In case series of deposit, and refund is lump sum- this is gain from investment insurance, taxed at 5% of gain u/s62 and 88.

  * In case series of deposit or blanket deposit followed by a series of installment, quantification u/s32 prevails, where refund is segregated into principal portion and interest portion.

  56. Lump sum deposit annuity- - Let assume a scheme of annuity is for lump sum deposit of Rs.500,000 with interest advertised at 7.5%. after deposit period, scheme pays Rs.53,000 for next 17 years. In such case, the annuity shall be quantifiable as follows:

Year | Annuity | Interest | Principal | Balance

---|---|---|---|---

0 |   
 |   
 |   
 | 5,00,000

1 | 53,000 | 37,500 | 15,500 | 4,84,500

2 | 53,000 | 36,337 | 16,663 | 4,67,837

3 | 53,000 | 35,088 | 17,912 | 4,49,925

4 | 53,000 | 33,744 | 19,256 | 4,30,670

5 | 53,000 | 32,300 | 20,700 | 4,09,970

6 | 53,000 | 30,748 | 22,252 | 3,87,718

7 | 53,000 | 29,079 | 23,921 | 3,63,796

8 | 53,000 | 27,285 | 25,715 | 3,38,081

9 | 53,000 | 25,356 | 27,644 | 3,10,437

10 | 53,000 | 23,283 | 29,717 | 2,80,720

11 | 53,000 | 21,054 | 31,946 | 2,48,774

12 | 53,000 | 18,658 | 34,342 | 2,14,432

13 | 53,000 | 16,082 | 36,918 | 1,77,514

14 | 53,000 | 13,314 | 39,686 | 1,37,828

15 | 53,000 | 10,337 | 42,663 | 95,165

16 | 53,000 | 7,137 | 45,863 | 49,302

17 | 53,000 | 3,698 | 49,302 | 0

 | 9,01,000 | 4,01,000 | 5,00,000 |

Interest portion is deductible expense for payer and income for the receiver.

  57. Deposit and refund both in Installment annuity- Let assume a scheme of annuity is for 10 year deposit of Rs.20,000 with interest advertised at 7.5%. after deposit period, scheme pays Rs.29,836 for next 20 years. In such case, the annuity shall be quantifiable as follows:

Year | Installment | Interest | Balance |   
 |   
 |   
 |

---|---|---|---|---|---|---|---

1 | 20000 | 1500 | 21500 |   
 |   
 |   
 |

2 | 20000 | 3113 | 44613 |   
 |   
 |   
 |

3 | 20000 | 4846 | 69458 |   
 |   
 |   
 |

4 | 20000 | 6709 | 96168 |   
 |   
 |   
 |

5 | 20000 | 8713 | 124880 |   
 |   
 |   
 |

6 | 20000 | 10866 | 155746 |   
 |   
 |   
 |

7 | 20000 | 13181 | 188927 |   
 |   
 |   
 |

8 | 20000 | 15670 | 224597 |   
 |   
 |   
 |

9 | 20000 | 18345 | 262942 |   
 |   
 |   
 |

10 | 20000 | 21221 | 304162 |   
 |   
 |   
 |

Deposit | 200000 | 104162 |   
 |   
 |   
 |   
 |

11 | -29836 | 22812 | 297139 | 21 | -29836 | 15360 | 190320

12 | -29836 | 22285 | 289588 | 22 | -29836 | 14274 | 174758

13 | -29836 | 21719 | 281471 | 23 | -29836 | 13107 | 158029

14 | -29836 | 21110 | 272746 | 24 | -29836 | 11852 | 140045

15 | -29836 | 20456 | 263366 | 25 | -29836 | 10503 | 120713

16 | -29836 | 19752 | 253282 | 26 | -29836 | 9,053 | 99,930

17 | -29836 | 18996 | 242442 | 27 | -29836 | 7,495 | 77,589

18 | -29836 | 18183 | 230789 | 28 | -29836 | 5,819 | 53,572

19 | -29836 | 17309 | 218263 | 29 | -29836 | 4,018 | 27,754

20 | -29836 | 16370 | 204796 | 30 | -29836 | 2,082 | (0)

  58. Principal and Interest in Finance Lease- Ms Chamunda Impex let out an equipment costing Rs.6 million (market value of Rs.7 million) for a rent of Rs.900,000 per annum for 15 years (useful life is warranted as 30 years) to Ms Ugrachandi Construction. It is assumed the market price of equipment will be Rs.700,000 at the end of 15 years. Lesser and Lessee agreed the following lease rent.

     | Cost | 6,000,000 | Future value | 700,000

---|---|---|---|---

 | cash price | 7,000,000 | Interest rate | 10%

Year | Rent paid | Interest | Principal | Balance

1 | 900,000 | 700,000 | 200,000 | 6,800,000

2 | 900,000 | 680,000 | 220,000 | 6,580,000

3 | 900,000 | 658,000 | 242,000 | 6,338,000

4 | 900,000 | 633,800 | 266,200 | 6,071,800

5 | 900,000 | 607,180 | 292,820 | 5,778,980

6 | 900,000 | 577,898 | 322,102 | 5,456,878

7 | 900,000 | 545,687.80 | 354,312.20 | 5,102,565.80

8 | 900,000 | 510,256.58 | 389,743.42 | 4,712,822.38

9 | 900,000 | 471,282.24 | 428,717.76 | 4,284,104.62

10 | 900,000 | 428,410.46 | 471,589.54 | 3,812,515.08

11 | 900,000 | 381,251.51 | 518,748.49 | 3,293,766.59

12 | 900,000 | 329,376.66 | 570,623.34 | 2,723,143.25

13 | 900,000 | 272,314.32 | 627,685.68 | 2,095,457.57

14 | 900,000 | 209,545.76 | 690,454.24 | 1,405,003.33

15 | 900,000 | 140,500.33 | 759,499.67 | 645,503.66

Total | 13,500,000 | 7,145,504 | 6,354,496 |

In this case, useful life of equipment is 30 years and 50% of which is leased to Ugrachandi Construction, hence testing with useful life, the lease is not finance lease. But market price at end of lease-term of 15 years is estimated to Rs.650,000, which is less than 20% of current price of Rs.7 million, and hence the lease arrangement is finance lease.

  59. Depreciation or other allowances during lease-term- According to Sec.42, Ms Chamunda Impex should characterize the lease transaction as sale of asset and Ms Ugrachandi Construction need to characterize the transaction as purchase of fixed asset. Latter can depreciate the asset as owned by same.

  60. Depreciation on Leased Asset- Assuming the depreciation rate is 15% p.a. and lease term has initiated on the first day of income year, depreciation, in above, shall be computed as:

Year | Depreciation | Closing | Year | Depreciation | Closing

---|---|---|---|---|---

 | 1,050,000.00 | 5,950,000.00 | 9 | 286,115.05 | 1,621,318.62

2 | 892,500.00 | 5,057,500.00 | 10 | 243,197.79 | 1,378,120.83

3 | 758,625.00 | 4,298,875.00 | 11 | 206,718.12 | 1,171,402.71

4 | 644,831.25 | 3,654,043.75 | 12 | 175,710.41 | 995,692.30

5 | 548,106.56 | 3,105,937.19 | 13 | 149,353.84 | 846,338.45

6 | 465,890.58 | 2,640,046.61 | 14 | 126,950.77 | 719,387.69

7 | 396,006.99 | 2,244,039.62 | 15 | -280,612.31 |

8 | 336,605.94 | 1,907,433.68 |   
 |   
 |

Similarly under Sec.40 (1), any asset transferred to other person by a lease under a finance lease is treated as disposal of the assets from the point of view of income tax. According to Section 32, the market value (sales price under general conditions for cash or credit for a reasonable period.) of the leased assets will be treated as amount derived from the disposal of the assets and the remaining amount (interest portion) will be treated as income from business but under a separate sub-head. The remaining amount will be the income of the income year in which the portion of the interest falls due.

At the time of installment sales or a transfer under finance lease, the amount equal to market value of the asset, known as a capital portion of the consideration, will be treated as loan to the lessee. That is why, Section 32 (3) says that at the time of the agreement for the installment sales or a transfer under finance lease the payee should provide a list of payments to be made by the buyer, segregating the portions of interest and capital refund.

Above list of rent payment based on agreed rate of interest of 10% p.a. principal portion is deemed to be repayment of loan and remaining portion is interest income and interest expense (income from investments in case of Ms Chamunda Impex and interest expense u/s 14 for Ms Ugrachandi Construction).

Those who cannot provide with the list, shall be required to treat the interest and capital portion of annuity, installment sale, or finance leases a blended loan with interest compounded six monthly and divided in the payments as refund of capital or payment of interest.

According to Section 32 (4), a borrower under such a blended loan shall be required to make in part a payment of interest and in part a repayment of capital where the interest part is calculated on capital outstanding at the time of the each payment so as to be the uniform rate of interest over the term of the loan.

If one assume be in 7th year, the taxation treatment shall be as:

For Ms Chamunda Impex Interest income Rs.545,687.80

For Ms Ugrachandi Const. Interest expense Rs.545,687.80

Depreciation exp. Rs.396,006.99

  139. Returning back after lease-term- After end of lease term (15th year-end above), the assets shall be returned to person having title. On that day, both party require to characterize the transaction as sale & purchase at market price. Any gain on disposal of such asset (back to owner) shall be included in inclusion of lessee and lessor accounts it as purchase (of own asset).

  61. Payment Schedule prepared- Let take an example, where an asset sold on hire purchase at Rs.200,000 installment for 5 years, payable at the beginning of the year. The hire-vendor and hire-purchaser prepare the payment series at computed interest rate (even if, the contract has not based on interest rate) as:

Cost price |   
 |   
 | 8,50,000.00

---|---|---|---

Year | Installment | Interest | Balance

0 | 2,00,000.00 |   
 | 6,50,000.00

1 | 2,00,000.00 | 57,562.75 | 5,07,562.75

2 | 2,00,000.00 | 44,948.79 | 3,52,511.54

3 | 2,00,000.00 | 31,217.75 | 1,83,729.29

4 | 2,00,000.00 | 16,270.71 | (0.00)

 | 10,00,000.00 | 1,50,000.00 |

In this case, the installment and interest is allowed for quantification.

  62. Six months compounding- Let take same example in , where an asset sold on hire purchase at Rs.200,000 installment for 5 years, payable at beginning of the year. The hire-vendor and hire-purchaser could not prepare the payment table. In this case, quantification of installment of Rs.200,000 p.a is computed in 6-month compounding interest basis. IRD prepares installment table as:

 | Installment | Interest | Balance

---|---|---|---

Down pmt. | 2,00,000.00 |   
 | 6,50,000.00

 |   
 | 28,170.92 | 6,78,170.92

1 | 2,00,000.00 | 29,391.84 | 5,07,562.75

 |   
 | 21,997.70 | 5,29,560.46

2 | 2,00,000.00 | 22,951.08 | 3,52,511.54

 |   
 | 15,277.80 | 3,67,789.34

3 | 2,00,000.00 | 15,939.94 | 1,83,729.29

 |   
 | 7,962.80 | 1,91,692.09

4 | 2,00,000.00 | 8,307.91 | (0.00)

 | 10,00,000.00 | 1,50,000.00 |

In this case, the installment and interest is different during the income years (timing difference). Annual interest rate in this case has taken based on 6-month compounding for annual effective of IRR of 8.856%.

  63. Repossession of HP asset- Puri Ltd. sold on hire purchase a machine, cash price of which is Rs. 72,000 and the rate of interest charged at 10% p.a. Cash down is Rs. 23,500 and the balance is annually paid in 3 installments of Rs.19,500 each.

Here, For the Hire-vendor, sale of trading stock is Rs.72,000; and annual interest income is as follows.

 | Installment | Principal | Interest @10% | Balance

---|---|---|---|---

Y0 | 23,500 | 23,500 |   
 | 48,500

Y1 | 19,500 | 14,650 | 4,850 | 33,850

Y2 | 19,500 | 16,115 | 3,385 | 17,735

Y3 | 19,500 | 17,735 | 1,765 | -

 |   
 | 72,000 | 10,000 |

The depreciation is allowed to the hire-purchaser@15% in Pool D and interest expense as above.

Assume, Hire-purchaser could not pay the second installment and machine was repossessed at the beginning of the year 3 at agreed amount of 80% of depreciation base. Any unrecovered amount has collected by adjusting other payables from the hire vendor.

Here, depreciation base is Rs.72000*85%*85%= Rs.52,020; so, selling price is Rs.41,616

In the hand of hire-purchaser, sale of depreciable asset= Rs.41,616, the loss is adjustable in Pool D automatically. Interest expense as above for 2nd year. In the hand of hire-vendor, purchase of asset at Rs.41,616 and interest income as above.

  64. Interest rate not given\- In case, the payment series has not supplied the interest rate, it should be computed based on PVIF tables or use of application or use of formula. In example in , the interest rate has not given, but computed to 8.568% p.a. based on formula.

  65. Payment of remaining installment in lump-sum\- Let's take same example in , say in the first day of year-3, both parties agrees to settle the last payment at Rs.385,000. In such case, determination of interest portion and principal portion need some clarity.

We took cash price (market price) at year 0 as Rs.850,000, which cannot be changed in the future, because the risk and rewards transferred to the buyer as per S.42. This means any additional payment over it is interest portion. In the first day of year-3, remaining principal portion is Rs.3,52,511.54 and remaining Rs.32,488.46 is interest for the year (see the definition of interest, it is payment over principal and may not be tied with time).

  1. End of Finance Lease- The market price of equipment in above returned to Ms Chamunda Impex estimated Rs.1 million, then the taxation impact in both party shall be as follows:

Interest income Rs.140,500 Purchase of asset Rs.1000,000 |   
 | Interest expense Rs.140,500.33

Depreciation expense Re. 0

Balancing Charge Rs.280,612.31

---|---|---

  1. ## Disposal with Retention

  140. Condition for quantification\- If a person faced a transaction as prescribed in Sec.40(3)(c) to (f), amount received at disposal is deemed as market value on the date of transaction. For second disposal, same market value is deemed as inception value. Hence, in case of

Change of Good loan to Bad loan u/s 40(3)(c) , Change of Form of Asset u/s 40(3)(d), Change of Ownership u/s 40(3)(e) and Change of Residency u/s 40(3)(f) :

  * Amount received at disposal = Market Value

  * Amount paid for second disposal = market value

  141. Change of good loan to bad loan- In bank lending, if loan and advances has classified as bad loan as per Nepal Rastra Bank Directives, the loan is deemed as disposed. In other cases, if person owned a loan or receivables could not be collected with all reasonable action, it could write to bad expense. As prudence valuation receivable bad is valued at nil. In practice, this clause is totally abandoned.

  67. Debt Changed to Bad\- NOREAD Bank Limited holds Rs.4 billion loan and advances. Out of this loan Rs.3 crores classified as bad loan. In such case:

1. It is disposal of good loan u/s 40(3)(c).

2. Incomings = Re.0

3. Outgoings = Rs.3 crores

4. Gain (Loss) = Incomings – Outgoings = (3 crores)

5. Amount paid for bad loan = Re. 0.

This loss can be set off with gain u/s 37 and any net gain is inclusions.

  142. Change of form of asset- In case any asset, being either trading stock, depreciable asset, business asset or non-business chargeable assets has changed to another asset, then the first-mentioned asset deemed to be disposed off at market value. This provision is not for inter-group transferred as raw material changes in WIP or finished product; Debtor (Business Asset) changed to Bill of Exchange (Business Asset) or similar.

  68. Change of TS to Dep. Asset\- Car Sales Limited sales car in Kathmandu. On the consignment dated Srawan 30, company purchased 30 Japanese car for Rs.2.5 crores. Market value of cars is Rs.3 crores. One of the cars, as per managerial decision, used for Marketing Department. 25 cars were sold for Rs.2.5 crores. Here, 25 cars were sold in market for sales revenue of Rs.2.5 crores. One car has sold to self at market value of Rs.10 lakhs. So, sales revenue is Rs.2.60 crores. Remaining is in stock u/s 15.

Value of depreciation pool C is Rs.10 lakhs (fully absorbed).

  69. Change of Form of debenture to equity investment\- Gharti Investment Company invested Rs.100,000 for 7% convertible debenture. Debentures are converted to 1000 share of Rs.100 each. Market value of share after conversion is estimated Rs.150.

In such case, 7% convertible debenture has disposed to shares.

1. It is disposal of 7% convertible debenture u/s 40(3)(d).

2. Incomings = Re.150,000

3. Outgoings = Rs.100,000

4. Gain (Loss) = Incomings – Outgoings = 50,000

5. Amount paid for share = Re. 150,000.

This gain can be set off with loss u/s 37 and any net gain is inclusions.

  70. Early redemption of debenture by shares\- In above debenture were redeemed one year before of due date with 4.5% additional shares at par value. Market value of share expected to be Rs.150 per share. In this case,

Incomings on debenture disposal (1000*1.045*150) Rs.156,750

Outgoings Rs.100,000

Gain Rs.56,750

  71. Early redemption of debenture by shares with premium \- In above debenture were redeemed one year before of due date with premium of 4.5% of par value. Full value was settled by way of issued of shares at 2.25% of premium. Market value of share expected to be Rs.150 per share.

In this case, no of shares received is 1022 (100,000*1.045/102.25)

Amount received at disposal is Rs.153,300 (1022*150) .

Hence, Incomings Rs.153.300

Outgoings Rs.100,000

Gain Rs.53,300

Tax base of share investments Rs.53,300

  72. Assets to held for sale\- Hitang Industry engaged in producing shoe owned 2 buildings having depreciation base of Rs.20 lakhs and Rs.30 lakhs. The second building was transferred to asset held for sale. Market value on the date of such classification was Rs.35 lakhs. Company uses fair value for asset held for sale. Find the depreciation for income year.

Here, building falls on pool A of depreciation pool. Asset classified as held for sale cannot be depreciated as per NFRS/IFRS 5.

Particulars | Amount Pool A

---|---

Opening Depreciation Base | Rs.50,00,000

Addition | Re. 0

Disposal u/s 40(3)(d) | Rs.35,00,000

Depreciation Base | Rs.15,00,000

Rate of Depreciation | 6.67%

Depreciation expense | Rs.100,050

Tax Base for asset held for sale is Rs.35,00,000.00. Tax Base of depreciable asset is Rs.13,99,950.

  143. Change of Ownership- If 50% of shareholders in last 3 years reference have changed, then the entity is deemed to be dissolved. In such case, first-mentioned entity disposes all the assets (TS, DA, BA) and liability to second entity at market value. Along with the transaction from Srawan 1 to the date of change of ownership, the gain is taxable as a liquidating entity. One point to be care, the tax base of capital structure is not change for distribution purpose, but dividend stripping rule may apply for the accrued tax-base of profit.

  73. Ownership Change\- Shareholdings of company given in page 172 has assumed to be changed by 70% rather than dividend. Then the tax impact, apart from other transactions; in this change shall be as follows:

Particulars | Tax Base | Market value

---|---|---

Trading Stock | 100,000 | 105,000

Depreciable Assets | 100,000 | 90,000

Business Assets | 100,000 | 85,000

Non Business Chargeable Assets | 100,000 | 110,000

Total Assets | 400,000 | 390,000

Liability | 100,000 | 100,000

Retained Earnings | 100,000 |

Capital Contribution | 200,000 |

Total of Equity and Liability | 400,000 |

In case of trading stock- it deemed to be disposed at Rs.105,000 and cost of goods sold Rs.100,000.

In case of depreciable assets (assuming single pool)- Rs.90,000 is amount received in disposal, terminal depreciation of Rs.10,000 is allowed as deduction.

Effect of ownership change S57 & S58

In case of business assets, net loss Rs.15,000 can be set off with net gain on disposal of non-business chargeable assets Rs.10,000 can be set off and unrelieved loss Rs.5,000 cannot be set off in any future years.

  74. Ownership Change\- Shareholdings of company given page 172 has assumed to be changed by 51% rather than dividend. Then the tax impact, apart from other transactions; in this change shall be as follows:

Particulars | Tax Base | Mkt. value | Gain Loss | Includible in:

---|---|---|---|---

Trading Stock | 100,000 | 115,000 | 115,000 | Sales

Depreciable Assets | 100,000 | 90,000 | 10,000 | Terminal depreciation

Business Assets | 100,000 | 85,000 |   
 | 15,000 set off with gain

Non-Business Chargeable | 100,000 | 125,000 | 10,000 | Net gain

Total Assets | 400,000 | 415,000 |   
 |

Liability | 100,000 | 100,000 |   
 | No impact

  75. Ownership Change, two entities\- On Falgune 1, shareholders of A Ltd sold their share of 60% to new company. The tax balance sheet as on that day was as follows:

Trading Stock | 100,000 | Capital Contribution | 100,000

---|---|---|---

Depreciable Assets | 100,000 | Tax paid reserve | 100,000

Business Assets | 100,000 | Liability | 100,000

Total | 300,000 |   
 | 300,000

Market value of depreciable assets were 120% and trading stock 115%. At the year-end the company sold all the stocks at Rs.120,000. Dividend at 100% for the last year and 20% interim for the year were distributed mean-time. Find the tax consequences for both companies.

  76. Ownership Change, Opening Balance Sheet\- In the example above (c.f. page 172), the opening tax-base balance sheet of New-controlled on the date of change in control will be as follows:

Particulars | Tax Base |

---|---|---

Trading Stock | 115,000 |

Depreciable Assets | 90,000 |

Business Assets | 82,000 | 85,000-3,000*

Non-Business Chargeable | 125,000 |

Total Assets | 412,000 |

Liability | 100,000 |

Retained Earning | 112,000 | 100,000+15,000-3000*

Capital Contribution | 200,000 |

Capital and Liability | 412,000 |

*Tax on gain of Rs.15,000 has charged with 25%.

  1. ##  Involuntary Disposal

  144. Non-recognition Rule-According to Sec.46, in case any person having any asset disposed the asset involuntarily (any type of involuntary e.g. colonization, take over, act of God, compulsory acquisition, band, theft) and purchase similar asset within one year of disposal; then the disposal and the purchase is, almost not recognized (so-called non-recognition rule) as:

In the disposed asset:

Amount received on disposal = Net outgoings of disposed asset + Saving on compensation received and paid for new asset, if any

A mount paid for second asset = Net outgoings + additional cost incurred, if any

To obtain this facility, all five points to be fulfilled up: i. involuntary disposal, ii. with compensation, iii. Followed by replacement iv. of similar nature v. within one year.

In such case, the event of disposal and new purchase is recognized in tax accounting, but non-recognition is for quantification only.

  145. Disposal with Replacement of BA- Assume B Ltd. owned a piece of land at Nayabaneswor, purchased on 2060.5.10 at Rs.2 million. Further cost incurred with the land for compound wall and land revenue was Rs.1 Million. Due to extension of road, Department Of Roads, acquired the land at normal rate of Rs.30 million on Jesth 1st of this income year. Company seeking some land in Kavre. Fortunately, it could purchase some land on Chaitra end at:

Case I : say Rs.30 million Case II: say Rs.20 million Case III: say Rs.40 million.

To get taxation benefit of Sec.46, company need to apply in written in the income tax returns of both income years (year of disposal and year of purchase of replaced asset).

 | Case I | Case II | Case III

---|---|---|---

Incomings | Million | Million | Million

Amount Received at disposal | 3 | 3+(30-20)= 13 | 3

Outgoings | 3 | 3 | 3

Gain (Loss) | 0 | 10 | 0

Cost of land at Kavre | 3 | 3 | 3+(40-30)= 13

In Case I, the land is deemed as changed and disposal or purchase has not, in effect, not recognized in tax.

In Case II, there is a saving of Rs.10 million, it characterized as gain and cost of new land is assumed as cost of old land.

In Case III, additional investment in land has recognized as cost for new assets including cost for old land.

Application of Sec.46 creates temporary difference in financial accounting against replaced new asset as:

 | Case I | Case II | Case III

---|---|---|---

Incomings | million | Million | million

Account Balance (Carrying Amount) | 30 | 20 | 40

Net outgoings (Tax Base) | 3 | 3 | 13

Temporary difference | 27 | 17 | 27

  77. Disposal with Replacement of DA- Assume a building having depreciation base of Rs.10,000 ('000) lost due to fire. Insurance compensation received Rs.15,000. Within one year, new building(s) purchased at Rs.15,000, Rs.13,000 and Rs.19,000 and applied for benefits under S.46. In this case, tax accounting shall be as:

Depreciable Assets (replaced date, say Magh in second IY

---

Replaced Cost | 15,000 | 13000 | 19000

Opening Depreciation Base | 10,000+ | 10,000+ | 10,000+

Disposal Proceeds | 10,000 | 12,000 | 10,000

Addition: Absorbed (2/3rd) | 6,666.67 | 6,666.67 | 9,333.33

Depreciation Base | 6,666.67 | 4,666.67 | 9,333.33

Unabsorbed Addition | 3,333.33 | 3,333.33 | 4,666.67

In the first income year, based on non-recognition rule, regular depreciation expense is allowed (which has not adjusted above).

  78. Disposal with Replacement of TS- Assume, some stock costing Rs.10,000('000) were lost due to theft. Insurance compensation received Rs.15,000 and similar item purchased from compensation proceeds. The tax accounting in the second IY for following replaced value of purchase shall be as follows:

Replaced Cost | 15,000 | 13000 | 19000

---|---|---|---

Trading Stock | Second Year |   
 |

Sales | 10,000 | 12,000 | 10,000

Cost of Goods sold |   
 |   
 |

Opening | 10,000 | 10,000 | 10,000

Addition in cost of goods sold | 10,000 | 10,000 | 14,000

Total Stock | 20,000 | 20,000 | 24,000

Closing Stock | 10,000 | 10,000 | 14,000

  79. Disposal with Replacement of Liability- Assume B Ltd. issued 7 years 6% debenture of Rs.200 lakh and listed in the security stock exchange (SSE). In the 3rd year, SSE delisted the debenture having interest of 8% and B Ltd. bound to reissue the debenture at 8%. The debenture were replaced by 8% debenture of Rs.195 lakh.

In the disposed debenture:

Amount paid on disposal = Net incomings of disposed liability - additional payment on old liability, if any

In the given case, amount paid on disposal of 6% debenture is Rs.200-5= 205 lakh, so there is loss of Rs.5 lakh.

Amount paid for second liability = Net Incomings of old liability + additional saving incurred, if any

For the new 8% debenture, amount received (net-comings/tax-base) is Rs.200 lakh.

In the substance, the loss is recognized in the first instance and old value of obligation transferred to the new debenture.

  146. Disposal without Replacement, no or less compensation- Scenario might be changed in case the disposal is without compensation. Assume a fire occurred but insurance coverage was not. Then, applicability of Sec.46 is meaningless. Similarly, in case of compensation is less then net outgoings of disposed asset, then the person may opt to apply Sec.46 and computation shall be same as with high compensation OR may opt for normal transaction and claiming realized benefit of expense or loss (u/s 37 business asset)

  147. Disposal without Replacement, no application- In case the provision of Sec.46 has not applied in the problem in above, then the transaction of disposal is deemed as normal disposal and gain or loss on that disposal need to be quantified for tax purpose.

Similarly, if tax payer seek applying Sec.46 on the year of dispose (because one year from date of disposal falls in two income years normally), but could not materialized in the second year, then; the disposal need to re-characterize in the first year tax return. For this opening of assessment might be of chance too.

  1. ## Non- market Transfers

  148. Conditions\- In case any person disposed any asset or liability by way of transfer without consideration or with inadequate consideration, then the transaction need to quantified at net-outgoings (cost transferred) if following conditions are met; otherwise transaction to be quantified at higher of net-outgoings or market value according to Sec.45. This is why; transfer of assets without consideration is tax penalty than evasion of tax.

If following conditions fulfilled, quantification will be at net-outgoings:

1. Business to Business: Asset relating to business of transferor (either trading stock, depreciable asset or business asset) to be asset relating to business in hand of transferee (either trading stock, depreciable asset or business asset).

2. Investments to Business or investments: Asset relating to investments of transferor (either depreciable asset or non-business chargeable asset) to be asset relating to business in hand of transferee (either trading stock, depreciable asset or business asset) or asset relating to investments (either depreciable asset or non-business chargeable asset).

3. Tax bracket of resident: Both transferor and transferee should be resident and transferee should not be tax exempted.

4. Controlling on asset: Underlying owner-ship for transferor on the asset transferred is to be at least 50% in the assets transferred. To comply this, transferor should, for example holding company for the purpose of Company Act, 2063; or partner/venturer having at least 50% in partnership/joint venture.

5. Written application to apply these provisions of Sec.45 is to be submitted by both transferor and transferee.

If any one of above provision is not fulfilled then quantification is to be done at higher of Net-outgoings (or depreciation base for depreciable assets) or market value.

  80. Transfer without consideration- H Ltd. owned a piece of land (being business asset) at Naya Baneswor, purchased on 2060.5.10 at Rs.2 million. The land transferred to S Ltd. subsidiary H Ltd. as capital contribution. Market value of land on the date of transferred was Rs.30 million. Then,

In case of S Ltd. use this land in either of business asset or trading stock and S Ltd. is not an exempt entity, quantification of the transaction is Rs.2 million at net-outgoings (cost) otherwise quantification to be done at Rs.30 million.

  81. Transfer to Subsidiary- H Ltd. furniture stockiest transferred some furniture to S Ltd. its subsidiary for official use on Jeth 15. Cost of assets was Rs.200,000. Gross profit policy of H Ltd. is 50%. S Ltd. is working in investments field. Then,

Here, S Ltd. used assets as depreciable assets for investments. Any assets relating to business, if transferred to be used in investments cannot fulfill the conditions given in Sec.45(6), so quantification has to be done on cost or market value, whichever is higher basis.

In the books of H Ltd. Sales Rs.300,000.

In the books of S Ltd. Purchase of depreciable asset Rs.300,000 absorbed this year Rs.100,000 and depreciation is Rs.25,000.

  82. Transfer with partial consideration- H Ltd. in above transferred to Y Ltd. at Rs.10 million received. Market value of land on the date of transferred was Rs.30 million. In this case again, the value of transfer is maximum of market price or net-outgoings being not a subsidiary. The gain is subject of tax.

  83. Transfer of DA- H Ltd. owned a machine (being depreciable asset) with depreciation base of Rs.2 million and market price Rs.3 million. In case machine transferred without consideration, then:

Transferee | Subsidiary and fulfilling all conditions | Every one

---|---|---

For H. Ltd.

Amount received (Pool D)

 |

2 million |

3 million

Cost for Transferee | 2 million | 3 million

  84. Transfer of TS- H Ltd. sells machine (trading stock) with cost per unit of Rs.2 million and market price Rs.3 million. In case machine transferred without consideration, then:

Transferee | Subsidiary and fulfilling all conditions | Every one

---|---|---

For H. Ltd.

Sales

 |

2 million |

3 million

Cost for Transferee | 2 million | 3 million

  1. ## Transfer by Ex- Spouse, Trust of dead person

  149. Condition for transfer to ex-spouse or case of death\- In case any asset or liability transferred to ex-spouse or separated spouse (person who can opt for being couple under Section 50 is not eligible person for this purpose), then the quantification of transfer is to be done at net-outgoings as per Sec.43. In this case, written application from both persons is required (since the transferee may be accepting an underlying tax liability).

In case of death of any natural person, it is deemed, according to Sec.40(3), the person disposed all the assets and liability owned at the point just before the death, at market value on the date of death, according to Sec.44. The trust managing affairs of dead person need to pay tax, if any.

In both cases above, personal affairs is not taken into accounts for taxation purpose. Only non-business chargeable asset or proprietorship firm has considered for the purpose of Sec.43 and 44.

  85. Death example \- In case, proprietor of Singh emporium died on Magh 1st. The profit from Srawan to Push end found Rs.500,000. The assets and liability of the firm were valued based on the market price of date of death, found as follows:

Assets/Liability | Book Value | Market value | Tax base

---|---|---|---

Trading Stock | 1500,000 | 1600,000 | 1500,000

Depreciable Assets | 2000,000 | 2200,000 | 1900,000

Business Assets | 500,000 | 500,000 | 450,000

Liabilities | 200,000 | 200,000 | 200,000

The business of the firm was transferred to his daughter. Find the income tax and value added tax impacts, how much income tax and VAT need to be paid in these case?

Of course, the income tax return shall be filed with all the appropriated figures, instead of profit for the business period. For computation purpose, tax on following taxable income (tax to be paid by the trust of daughter):

Assets/Liability | Market value | Tax base | Further profit

---|---|---|---

Trading Stock | 1,600,000 | 1,500,000 | 100,000

Depreciable Assets | 2,200,000 | 1,900,000 | 300,000

Business Assets | 500,000 | 450,000 | 50,000

Liabilities | 200,000 | 200,000 | 0

Further sales of Rs.1,600,000 and zero closing stock is computed. Balancing charge of disposal of depreciable assets Rs.300,000 and net gain on disposal of business assets/liabilities of Rs.50,000 to be included in the income from business. In case of daughter, market price shall be the opening tax-base. According to Sec.5A of VAT Act, 2052, there is not VAT impact on the business transfer.

  1. ## Merger of assets or liabilities

  150. Merger\- According to Sec.47, in case of merger of assets and liabilities, quantification on the disposing assets is to be done at net-outgoing and net-incomings in case of liability. In the merger:

Asset+ Asset= Asset | e.g. debtors, B/R, productions

---|---

Liability + Liability= Liability | e.g. creditors, B/P

Asset+ Liability= Asset | e.g. Net debtor

Asset+ Liability= Liability | e.g. Net creditor

Reason behind, non-recognition in case of merger is to avoid inter-mediatory profit for tax purpose. According to S.40(3)(d), in case two raw materials merged for finished goods, the raw materials are deemed to be disposed at market price, to avoid the profit under production, S.47 has non-recognition principle.

  86. Merger- H Ltd. accepted a bill of exchange of Rs.100,000 payable on the end of 90 days. After 60 days H Ltd. received another bill amounting Rs.60,000 payable by G Ltd on the same date. H Ltd. and G Ltd. agreed to cancel both bills and issuing Rs.40,000 bills for 30 days.

In this case, on the books of H Ltd, one asset has disposed and one liability has disposed.

On disposal of Bills Receivable,

Incomings = amount received = Rs.60,000

Outgoings = Rs.60,000

Gain (loss) = Rs.0.00

On disposal of Bills payable,

Incomings = amount received = Rs.100,000

Outgoings = Rs.100,000

Gain (loss) = Rs.0.00

  1. ## Merger of business

  151. General merger of entities\- In case of two entities merged and formed new entity in the form of absorption or amalgamation, take over, merger or acquisition. In all cases, tax treatments are same. In the merging out entity all the assets and liabilities shall be deemed as disposed at market price. In case of merged company, the assets and liabilities are deemed purchase at market price. In case of shares in new company, S.46(3) applies.

  152. Proprietorship Firm merger- In case of merger of two proprietorship firms, then all the assets and liabilities deemed sold at market price, same as in above. New firm will be a partnership firm. In case, merger by a single firm, then the transaction is just purchase and sale.

  153. Banking/Insurance merger-As the According to Sec.47A, in case of merger of two or more banking business or insurance business, some tax procedure need to be fulfilled up. There is wide difference between the merger provision given in Sec.47 and Sec.47A. Sec.47 deals with the merger of assets and liabilities, here Sec.47A deals with entities. This is periodic benefits for merger and should apply within 2071 Ashadh and merging to be completed within 2072 Ashadh. The tax accounting u/s47A is equally avail to merger, take over, absorption, amalgamation or similar entity merging devices. The tax accounting under entity merger shall be as follows:

In the books of transferor and transferee:

Case of | Value at transfer | Remarks

---|---|---

Assets | At Net outgoings or depreciation base | depreciation is time based

Liabilities | At minimum of Net incomings or market price |

Unrelieved Loss | Transferred to transferor and 1/7th is deductible | If demerged within 7 years, already deducted loss is inclusions.

Benefits for shareholders of both entities:

  * New shares of transferor to shareholders of transferee- no-recognition rule.

  * Gain on disposal of shares within 2 years from date of merger- no tax on gain.

  * Distribution of profit within 2 years from date of merger- no tax on distribution (Tax imputation on dividend u/s 54 is not allowed as per wording of Sec.54).

Benefits for employees retired due to restructuring of merger:

  * Regular tax for accrued retirement payment.

  * 50% tax is waived in case of additional payment has made due to merger and restructuring.

  1. Gross-down on merger- In case of merger, assets and liability of merging out entity deemed to be transferred at market price as above. In the date of merger, the Income Year ends for merged out entities. In this case, there may be two types of income for tax payment- regular income from Shrawan 1st to date of merger and profit on merger itself. Hence, the real transfer of assets is less than the valuation as in above cases. These cases, actual transfer requires to be valued by reducing the tax liability as in above.

  1. ## Joint Structure

  154. Active or passive participation – Joint structure may be of various types and taxing is also various. In case, income-earner has active participation to generate income, then the structure of instrument is business, whereas in case, income-earner has passive involvement to generate the income then the structure is investment. Partnership, Joint Venture, Consortium, Association, Joint investments are example of joint structure. For the joint structure (assume not registered), following is the taxability:

  * For Active participation (Income from Business)

    * NP+NP (upto 19): Partnership- Separate entity (Corporate and distribution tax)

    * NP+NP (more than 19)Entity+ NP or Entity+ Entity: Joint Venture/ Consortium (Company): Separate entity (Corporate and distribution tax)

Passive participation (Income from Investments)- proportionate income for each participants (so-called fiscally transparent instrument)

  88. Complex Joint Venture case- Take an example for discussion: A Ltd. and B Inc. participate for a bid by way of forming AB JV/Association/Consortium. Taxation impact has evaluated in three layers as:

First Layer- JV itself

  1. JV for a particular site/assignment in Nepal is a company (imaginary company having PAN registration) for tax purpose. Lead partner or other partners are commercially (contractually/legally) liable for performing works but are just shareholders of JV for tax purpose.

  2. Head-office of JV is deemed in Nepal (JV of foreigners or JV of foreigners with domestic enterprises is not a foreign subject and Permanent Establishment). Foreign JV partners are just a shareholder not a PE.

  3. Tax accounting for JV is same as domestic company for tax.

    1. VAT impact is same as domestic company.

    2. Inclusions, deductions and tax rate or tax base balance sheet is same as domestic company.

    3. Purchase bills to be obtained in the name of JV (not partners or lead partner).

    4.  If bank account (mainly in foreign bank, if law of that country is not allowing opening any bank accounts in fictitious names, such bank account shall be in name of partner/lead partner), deemed to be owned by JV.

  4. Contract payment to JV is subject of 1.5% withholding (creditable).

  5. Annual income tax return to be filed by JV on its own name.

  6. After tax income (PAT) on distribution to JV partners (upon their ratio) is subject of distribution tax of 5%.

Second Layer JV

  7. Impact of payment, if payment received by JV partners based on their ratio directly (crucial for consultancy in practice) is deemed as sub-consulting to them. Say, FC (foreign consultant) and LC (local consultant) agreed for a JV named as FL JV. Payment made by the client is directly paid to their accounts, as foreign currency to FC's own account and local currency to LC's bank account. Here, two layer transactions are deemed for tax.

    1. First payment from Client/buyer of goods/works makes 1.5% of withholding tax (to FL JV).

    2. The payment has received by JV partners directly, so, it is subject of second contract (sub-contracting) payment. Based on VAT tax invoice:

      1. 15% of total payment to FC/LC by JV in case of service and without VAT.

      2. 15% of foreign payment and 1.5% of local payment AND 13% VAT assessment (with 100% penalty) to local partner.

      3. In case of goods/works- 5% of foreign currency payment and 1.5% of local payment AND 13% VAT assessment (with 100% penalty) to local partner.

    3. If foreign JV partner is working by its personnel (if more than 90 days), it is PE- PE tax is subjected.

  8. Tax of personnel working in Nepal: They are working in Nepal, so their income is Nepal source as per Sec. 67 and subject of Nepal tax. Even the JV partner is also working in Nepal with its staff more than 90 days (if), it is PE itself and the tax is levied. Personnel are subject to Nepal tax as resident (if stayed at least 183 days in an income year) and as non-resident (if stayed less than 183 days in an income year).

  3. # Re-characterizations

There are 4 specific anti-avoidance rules (SAAR) and a GAAR, on which Inland Revenue Department, upon written notice can re-characterize the transaction with amended quantifications.

  * Indirect payments (Sec.29)

  * Transfer Pricing or Other Arrangements of Associates (Sec.33)

  * Income Splitting (Sec.34)

  * General Anti Avoidance Rule (Sec.35)

  * Dividend Stripping (Sec.58)

  155. Indirect payments (Sec.29)- In case a person attained any advantage of a payment made by a payer or his associate, or any person authorizes someone to receive the amount, IRD/IRO may, by written notice, treat the person who receives the advantage or authorizes another person to receive the amount (usufruct right), as it receives the amount.

Para 131 of commentary on Model Tax Act gives the reasons for this power to IRD as "this section contains a rule targeted at diverting the receipt of a payment. It gives the tax administration power to treat a person diverting a payment as the payee or payer of the payment. For example, this power may be used to collapse back-to-back arrangements. Under (this) section, the tax administration may also treat a payment as two separate payments, first to the intended beneficiary of the payment and a separate payment by the beneficiary to the actual payee. (This) section may be used by the tax administration to prevent abuse or to relax unintended effects of (the act). For example, retirement contributions made by an employer directly to a retirement fund on behalf of an employee may be treated as made by the employee to ensure that the employee can claim a reduction of taxable income under section (63). A similar example is contributions by third parties to the purchase price of an asset, which as a result of (this) section may be included in the outgoings of the purchaser. In such willful arrangements of tax avoidance, there is a fee of 100% of tax liability under Sec.120(b) including interest of 10% p.a. too.

  156. Transfer Pricing (Sec.33) - In any arrangement between associated persons, operated by them according to general market practices (at arm's length), IRD may, by a notification in writing, distribute, apportion, or allocate the amounts to be included or deducted in the income between the persons as to reflect their taxable income or tax liability. In this process, IRD can:

  * Re-characterize the source and type of any income, loss, and amount of payment; or

  * Allocate costs, including the head office expenses, incurred by one person in conducting a business that benefits an associate or associates also in conducting their businesses, based on the comparative turnover of the businesses.

Transfer pricing generally happens between related parties where resulting loss and profit from the planned transaction go to same person. The better test of whether transfer pricing has happened or not is the arm's length test. According to the test, the payment for a transaction is 'over' or 'under' if it is greater or lesser than the arm's length price, which the parties would have been paid, had they ties been unrelated to the transaction.

  157. Home office expense\- In cases of DTAA, overhead cost of head office or home office regarding any permanent establishments is, to the extent of actual cost is allowed as expense in respective PE. Practically, such expense is not allowing now. Sec.33 allow such expense of associated home office or head office overhead cost to the extent of actual, not more than actual. This means, if there is reimbursement of head office expense that is more than appropriate apportionment of total cost, or head office intend to charge profit on expense, that portion is disallowed.

  158. Income Splitting (Sec.34)- In case any person arrange to split income with another person to reduce tax liability, IRD upon notifying in writing, adjust the amount to be included or deducted in calculating the income of each persons from splitting of the income. There is a great gap of family structure of Nepalese household and taxing pattern and a possible income splitting is possible practically as kick-back of income. Unlike as transfer pricing, the transaction on income splitting is often done at arm-length but arrangement shall reduce the tax burden in total.

  159. General Anti Avoidance Rule (GAAR, Sec.35) -In case a person has an arrangement to reduce the tax liability, upon issuing written notice, IRD may re-characterize that whole or part, subject to;

  * Avoid an arrangement or part of it that does not have any material economic effect: or

  * Re-characterize an arrangement or part of it, which does not reflect its materiality.

GAAR might be of any type, for example: wash sale (bond washing or coupon washing or dividend washing); group transaction (family transaction, source transfer to family members or other person); will to unrelated person; small part of manufacturing unit in remote area having tax concessions; packager behaves like as manufacturing; use of allocation formula (like in petroleum extraction, long-term contract); earning stripping (paying high interest- base erosion rule or thin capitalization with high rate); scissors transaction; full time working director (taxed as regular employee for high-paid remuneration but contributes nominal time as non-executives); etc.

Re-characterization based on SAAR is not GAAR but procedure for re-characterization is similar and may be re-characterized with same amended assessment. Procedure for GAAR or other re-characterizations are given in Sub-chapter 194.

  160. Dividend Stripping (Sec.58) -In case shareholder of a entity having distributable profit sells the share to another person. The dividend associated with that profit is deferred for tax. In case the new shareholder declares the dividend, the amount to the extent of reflection of distributable portion is deemed as paid to the earlier shareholder. This type of taxing provision is called as dividend stripping. This is specific anti-abuse measures for Bond Washing arrangement (means sale of securities with cum-dividend basis) and the dividend tax is levied to the seller not to the actual recipient. This provision is required to handle to reduce dividend tax loss from entity having profit controlled by non-resident; because dividend tax is levied to the non-resident shareholder (having source being paid by resident entity as per Sec.67) and gain on disposal of securities is not taxable in Nepal (being source in the country of resident as per Sec.67 and 6 and country of resident gets bunched gains (capital gain due to time and distribution arrangement) on the distributable amount in Nepal).

Impact of sale of security with cum-earning basis has no direct impact in Nepal, due to distribution tax is 5% in all cases. But, dividend income of recipient is taxable (because it is taxed in the hand of old owner) and further distribution of such dividend has tax impact with another 5% distribution tax (see below).

  89. Transfer Pricing- Brazil Company has subsidiary in Nepal as BraziloNep Ltd. Raw materials of company imported from Brazil at USD 20 per unit. Brazil Company sales its product to Europe at USD 18. During the year BraziloNep Ltd. earned Rs.80 million as taxable income. Purchase were 100,000 units and sales were 80,000 units. In this case, cost of disposal of 80,000 unit were paid to head office (associated person) USD 160,000 (Rs.115,200,000 from average exchange rate of Rs.72); had the import were done at arm-length price, the cost would be Rs.103,680,000 and taxable income has arranged to be reduced by Rs.11,520,000. IRD can re-characterize, if the case established so.

  90. Transfer Pricing or income splitting\- Bibek Gharwala is promoter of Bibek P. Ltd., transport company. Mr. Bibek has 2 houses on his name and rent it to the company. During the year, he derived Rs.600,000 from the company as rent of house used for 10 months. initial two months, the house was rented to some other and derived Rs.100,000.

I   
n this case, rent is final taxed income at 10%, the rent income is in higher side then arm-length, so house rent tax (final withholding) is paid at higher side, vis-à-vis, company paid more than the rate and lose the taxable income by 100,000. It is income splitting arrangement and IRD can re-characterize it as taxable income including dividend tax, if the case established so.

  91. Income Splitting- M Ltd. has hydro-electric plant operating since last year. It generated Rs.200 lakhs as net income, 18% of which is derived from interest income depositing the hydro-earnings. Hydro-electricity is tax-free till 2075. The company has filed a return with no taxable income.

In this case, income to be taxed under the head of 'Income from Investments' has split to exempt 'Income from Business'. Even all the transactions are at arm-length price. IRD can re-characterize, if the case established so.

  92. Dividend Stripping- A Ltd. holds 100% shares in AA Ltd. B Ltd. purchased all the shares hold by A Ltd. On the date of share transfer, tax base balance sheet was as follows:

 | Tax base |   
 | Tax base | Mkt Price

---|---|---|---|---

Paid up | 100,000 | Trading Stock | 100,000 | 110,000

Retained Earnings | 100,000 | Depre. Assets | 100,000 | 98,000

Business Liability | 100,000 | Business Assets | 100,000 | 103,000

 | 300,000 |   
 | 300,000 | 311,000

Assuming market price of liability is Rs.100,000. Here is tax paid income is Rs.100,000 and anticipated earning is 11,000; hence any distribution made by AA Ltd. to the extent of Rs.111,000 is deemed to be taxed to A Ltd., even the distribution is obtained by B Ltd (may be very future since share purchase and payment may be made in numerous years). The impact for B Ltd. shall be as:

  * In the year of distribution, it receives 95% dividend income and taxed as regular income (because final withholding tax is levied to A Ltd. not to B Ltd.). for this purpose, Rs.111,000 (market profit) is taken as base not actual retained earnings of Rs.100,000 at the point of share purchase.

  * When distributing such dividend income, further dividend tax is levied (because imputation is not allowed being no dividend income).

# CHAPTER-II  
COMPUTAION OF TAXABLE INCOME

___________________________________________________________

  4. # Income from Business

___________________________________________________________

  1. #  Component of Income from Business

  161.  Definition and coverage\- Business itself has not defined well in the tax law. Hence in general tune it is trade, commerce, production, manufacturing, construction of, storage, profession, vocation, or other services etc. Unlike employment, business is an earning activity typically consisting not only of labor but combined of labor, capital and other resources. In case an activity seems both employment or business, first priority is goes for employment. Based on nature of business and separate tax quarantine of loss, income tax rate or other based on slice by slice approach of taxation, same person shall have more than one business for tax purpose. Business income is subject of tax even the business has not started yet or was closed in past.

Business is taxed on 'income from it' basis. Income means gross inclusion less allowable deductions. Most cases, 'income' is characterized in transactional basis (means real transaction of the event with third parties), where-as in some cases, 'the income' is based on value add (recognition rule). To strengthen the tax-base, there are certain non-recognition rule or deferred-recognition rules too.

Income from business is computed based on format equivalent to income tax profit or loss account. Inclusions in taxation is called inclusions (profit and gain) and expense part is called deduction (of expense and of loss).

  2. #  Inclusions

Inclusion in business has given in Sec.7(2). The detailed discussion of each component is given here under.

Inclusion | Includible at | ~NASs

---|---|---

Service fees | Gross proceeds | NAS/IAS 18

Sale of disposal of trading stock | Gross proceeds | NAS/IAS 18

Net gains from the disposal of business assets or liability | Net amount |

Balancing Charge from disposal of Pool of depreciable asset | Net amount

(para. ) |

Gifts in connection with the business | Gross proceeds | NAS/IAS 18/10

Amounts received in consideration of acceptance of any restriction | Gross proceeds | NAS/IAS 18

Direct investment as business | Gross proceeds | NAS/IAS 18

Other amount includible | Various methods |

Exempt income u/s 10, dividend from resident entity u/s 54 and part of income from Controlled Foreign Entity over then income recomputed as per Income Tax Act, 2058 and final withholding taxed income is not includible in inclusions. Brief description of inclusion of Profit and Gain has given hereunder:

  1. Service fee:

A market value consideration on service provided to another person is called a service fee. Service fees shall be professional service, vocational service, commission, management fee, technical fee, royalty, software sale or similar.

  2. Sale of goods:

Sale of goods is purely of trading stock. 'Trading stock' as defined in Sec.2 is finished goods, work in progress and raw material held during normal course of business. Capital assets, if sold is not a trading stock as in financial accounting. 'Assets held for sale' as per IFRS 5 at the point of liquidation or closure of business line (discontinued business) is trading stock. In some cases of trading stock (covered by Sec.41 to 47), evaluated proceeds is to be included even actual sale of trading stock has not done. So, the act has name of 'amount received on disposal of trading stock' instead of 'sale of goods'.

Sales is included in inclusions (profit and gain) at gross. The sale proceeds from depreciable assets or business assets is excluded in 'sale of goods' under fruit and tree concept (i.e. receipt as disposal of tree is incomings and the receipts from sale of fruit is inclusion at gross). Tax accounting is same as income recognition in financial statements. But in case of disposal covered by Sec.41, 43 to 47 and 56 shall be differ then accounting and for taxation only.

  3. Net Gains from the Disposal of Business Assets or Liabilities

In case of disposal of business assets and liabilities, net gain is part of inclusions.

  4. Gain from the Disposal of Depreciable Assets Pool

In case depreciable assets included in a pool are disposed of getting value over than its tax base, this gain on disposal of pool of depreciable assets is call balancing charge. Balancing charge is includible in inclusions. Computation method of balancing charge has described in page 110 in detail.

  5. Business gifts:

Business related gift received by a person is part of inclusions. "Gift" as defined in Sec.2 as essentially receipt of excess consideration. Gifts from associates are to be valued according to Sec.45 and in other cases at market value (Sec.27).

  6. Amount received on accepting a restrictions:

In a open market concept, any person can do business in any area. If that person accepting an extra amount in consideration of accepting a restriction imposed by some interested person, the amount will be includible in inclusions.

  7. Investment business to be taxed as business income

If a person has business having purely investment in nature, but being investment is business, the income is taxed as business. Investment in nature would have same meaning with 'effectively connected'. Banking, investment, insurance are examples.

  8. Other Amounts under Chapter 6 or 7 or under Section 56 or 60

  162. Change in basis of accounting ~S.22 (6)- Person adopting either cash basis or accrual basis of tax accounting system can change its basis to another upon approval of IRD. In case of changing, all the amount to be adjusted the income of the year in such a way that no amount included, deducted, or to be included or deducted in calculating the person's income of the income year of the change is omitted or double counted (no duality nor discard concept; or so-called no-double recognition and no-double non-recognition rule).

  93. Change of Accounting Basis\- Opening Balance sheet under cash basis for taxation for Mr. Dahal is reproduced here. Mr. Dahal seek IRD approval to change the basis in accrual system.

Heads | Opening Bal. | Remarks

---|---|---

Trading Stock | 100,0000 | Stock on cash basis

Depreciable Assets | 0 |

Business Assets | 100,0000 | Receivable on cash basis

Total Assets | 200,000 |

 |   
 |

Liability | 100,000 | Payable on cash basis

Equity | 100,000 |

Total | 200,000 |

In case of accrual system, status of ledgers shall be as follows:

  * Trading stock shall be Rs.125,000; value of depreciable assets shall be Rs.100,000, business assets shall be Rs.20000, loss shall be Rs.25,000.

  * During the period Mr. Dahal drew Rs.100,000 from its business.

Here changing in basis of accounting shall have following tax consequences:

Heads | Opening

Balance | Revised

Opening | Inclusions

(Deduction)

---|---|---|---

Trading Stock | 100,0000 | 125,000 | 25,000

Depreciable Assets | 0 | 100,000 | 100,000

Business Assets | 100,0000 | 20,000 | -80,000

Total Assets | 2,000,000 | 245,000 |

 |   
 |   
 |

Liability | 100,000 | 100,000 | 0

Equity | 100,000 | 145000 |

Total | 200,000 | 245,000 | 45000

Mr. Dahal need to include Rs.45,000 as income under inclusions.

  94. Mixed Accounting Basis\- Can a person use both basis if accounting in taxation? Can tax accounting and financial accounting be different basis.

No, same person cannot adopt cash basis and accrual basis of tax accounting at a time for the optional sector, but same natural person would be two basis- cash on statutory and accrual on business. The option is 'either one'. Basis of accounting in taxation and in financial accounting may be different, of course.

  163. Gain from foreign exchange fluctuation ~Sec.24 (4) & Sec.28

Person adopting accrual system of accounting has any foreign currency asset or liability, the gain on fluctuation of exchange rate shall be included in inclusions. The computation is to be done at the point of settlement (Sec.24(4)) and at the point in any accounting adjustment (Sec.28~ NAS/IAS 11). The rules for conversion are two types: day-by-day conversion and use of average exchange rate as prescribed by IRD.

day-by-day conversion : Foreign Currency transaction, firstly to be characterized on the date of transaction based on spot rate of the date of transaction. Monitory items (cash, bank, debt-claims and debt-obligation denominated in foreign currency) to be further adjusted applying spot rate of date of settlement or closing rate on the cut-off date. The difference, so-called exchange and fluctuation/ foreign exchange gain (loss), shall be part of inclusions (deduction of expense).

Average conversion rate: day-by-day conversion on the foreign unit of tax payer (foreign branch, foreign outlet, controlled foreign entity, etc.) is cumbersome and complex for tax accounting, especially trail of credit transaction is most complex for conversion and computing fluctuations. In such case, charging person may seek for average rate for conversion of foreign transaction. The average rate formula as prescribed by IRD, if so allowed, can be used for whole year transaction (purchase and sales) and other items in the financial statements on the cut-off date to be converted into NPR based on closing rate as on cut-off date. The difference with opening balance shall be, so-called exchange and fluctuation/ foreign exchange gain (loss), part of inclusions (deduction of expense).

  95. Foreign Exchange\- M/S. Rupaketi Stores Purchased and equipment on Jesth 15, 2060 for $ 100,000 in 2/10 net 180 DDU terms. The deal has successfully finalized. Exchange rate were found as follows:

Jeth 15 Rs.77, Ashad 31 Rs.76 Mansir 15 Rs.78.

In the first income Year

In this case equipment is to be capitalized at Rs.7,700,000 with business liability of Rs.7,700,000. At year-end the transaction shall be characterized as:

Depreciation (pool D) Rs.385,000 (7700000/3*15%)

Foreign exchange gain Rs.100,000 (7700000-7600000)

In the second Year

In the next income year, the liability has settled at Rs.7800,000 on the base figure of Rs.7600,000; here is foreign exchange loss of Rs.200,000 and deductible u/s 13.

  96. Foreign Exchange\- M/S. Rupaketi Stores issued an invoice to a party in USA on Jesth 15, 2060 for $ 5000 and on the same date the firm credited sales account and debited debtors account by Rs.380,000 as the spot exchange rate was Rs.76. On Shrawan 20, 2060 the firm received a bank advice for Rs.391,250 for the amount received from the party. The difference of Rs.391,250- 380,000 = Rs.11,250 should be included in the income from business under this sub-head during the income year 2060-61.

  97. Foreign Exchange\- V Ltd expanding and modernizing its operational activities and purchased an equipment from German Manufacturer at Euro 200,000 on 2066.2.1 with 2/10 net 183 terms. The case was settled using a loan from commercial bank with interest rate of 12% and service charge of nil. Installation have completed on scheduled date of 20X7.3.32. Find the taxation accounting status. Take relevant figures.

Exchange rate on | Rs.

---|---

20X6.2.1 | 98

20X6.3.31 | 103

20X6.8.1 | 97

20X7.2.1 | 95

20X7.3.32 | 100

  98. Loan not Require to Refund \- Ms Book Store has taken a loan of Rs.200,000 for the agreed period of 3 months. The sum could not be paid by the Book Store for 3 years and bank written these off. In this case Ms Book Store should characterize the sum (including interest waiver, if any) as income.

After 2 years of written off of loan from bank, Ms Book Store able to sale best seller books and able to pay the loan, in this case, bank is recovering the written off loan and should characterize the income.

In both case, expense is allowed as usual expense for the counterpart party. If such expense has not allowed or charged in the year of written off, such recovery shall not be part of income.

  99. Bad debtor \- Ms Book Store has accepted some books from PSRD of Rs.200,000. Latter, Ms Books Store closed its business without paying due and PSRD could not found where the proprietor lives.

In this case, PSRD has written off the debt due and allowed as expense u/s 25 and 40(3). After 2 years, proprietor of Ms Book Store rejoined the book stall and paid the dues, in that case, PSRD need to recognise it as inclusions.

  164. Income which do not part of Income from Business \- According to Sec.7(3), following 4 types of incomes are not part of inclusions (profit and gain) on computing income from business:

  * Business income covered by Sec.10 as exemption: in case the person have any income covered by Sec.10 whether source of income or institutions covered by Sec.10, such business income is not part of income from business. Detail description of exemption has given in Sub-chapter in page 43.

  * Dividend income distributed from entity other than company and partnership is beyond the scope of taxation according to Sec.54 (after inserting partnership in Sec.54, this provision is redundant now).

  * Dividend received from controlled foreign entity or income over then recomputed according to Income Tax Act, 2058 for a CFE, under Sec.69, if taxed under head of income from business; is not part of inclusions (profit and gain) in income from business.

  * Income as final withholding taxed income u/s 92 are not part of inclusions (profit and gain) in income from business.

  * Accounting income abandoned by tax laws as bad debt recover u/s 57, gain on disposal of asset covering by Sec.46.

  1. #  Deduction of Expense

  165.  Test for Deduction \- Income from business is to be computed deducting allowable allowances of expense from inclusions (profit and gain) computed as above. Deductions are expense eligible for computing income from business. Mainly, expense charged in profit are allowed as deduction with some exceptions. Hence, expense on accounting and deduction on tax verifies the same figure in most cases. To qualify any expense as deduction following steps of test to be done (all event test):

  * Test of basis of tax accounting under Sec.22 to 24

  * Test of Sec.21 for expressed disallowed.

  * Test of Sec.13 for matching (personal, time or income/inclusions)

  * Test of specific Sections for allocation (Sec.14 to 19, Sec.59, Sec.60 or Sec.71) for computation procedure.

Any expense if accounted based on Sec.22, not colored by Sec.21 and passed from Sec.13 is allowed in tax deduction. But, quantification of this year deduction might be required in case of expense covered by specific sections.

  166. Test of basis of tax accounting under Sec.22 to 24 (1st Test)

Had tax accounting of a person in cash basis of accounting, then fixed cost shall be expensed on the year of effective capitalization. Variable expense need to be accounted in accrual basis too.

Similarly, if tax accounting of a person in accrual basis of accounting, then any provision expense (except covered by Sec.59(1A) and Sec.60) are not allowed.

Even any of basis of tax accounting, person need to fulfill the requirements of other sections of the act. Based on basis of tax accounting, if any expense is allowed, then the expense need to test under Sec.21 of act.

  167. Test of Sec.21 for expressed disallowed (2nd Test)

Any expense covered by Sec.21 are disallowed for tax allowance, whether they would major contributory for tax income. Following expense are expressively disallowed/inadmissible in taxation according to Sec.21:

Expenses of Domestic or Personal Nature ~Sec.21(1)(a)

Expenses of domestic nature or personal nature incurred (consumption cost) on proprietor beyond tax net, are not allowed for deduction. The clarification under Sec.21 explains the expenses as of domestic and personal nature as follows:

  * Interest incurred on an amount borrowed to the extent to which it is used for personal purpose (interest on siphoned out loan) .

  * Expenses of personal nature - residence, meals, refreshment, entertainment, or similar.

  * Conveyance and travel expenses for to and from residence except business trip during workings.

  * Clothing expenses except solely suitable to wear at work.

  * Educational expenses except training.

  * Other expenses not an equal market value to the person as a consideration for the payment or small amounts to the extent of Rs.500 at a time (De minimis benefit). Hence, if a sample or gift is within limit of Rs.500 it is allowed as deduction.

Consumption cost, if included in taxable amount of recipient (or final taxed) is allowed in the business based on matching to income. Hence, clothing is allowed, if included in taxable income of proprietor (downward tax imputation). Practically, taxation authority and tax practitioner disallowed above named expense saying personal expense; this is against Sec.21. Third party (say staff) expense may be disallowed under matching test u/s 13 not u/s 21. Cost of meal or other refreshments of a restaurant is allowed (not disallowed even Sec.21 has expressed disallowed) because revenue bills of restaurant owner is taxable.

Income Taxes Expense ~Sec.21(1)(b)

Income tax (tax amount plus interest, fees, fines etc.) paid under the Income Tax Act or foreign tax law (as recognized by Nepal tax law as credit) is not allowed as deduction. Person adopting expense method (54) in case of foreign income taxation by a resident is exception.

Penalty on breach of law ~Sec.21(1)(b)

Penalties or fines or similar nature (excluded cost) paid to any Government (central, provincial or local; Nepal or foreign) on breach of law is not allowed as deduction.

Expenses Incurred for Tax Exempted or Final Withholding Taxed Income ~Sec.21(1)(c)

Expenses to the extent of which matching income is exempt or final withholding payment incurs these are not allowed for deduction.

Payment in Cash for More Than Rs.50,000~Sec.21(1)(d)

Any payment of expenses by a person having an annual turnover of more than Rs.20 lacs in an income year, in cash for more than Rs.50 thousand at a time is not allowed for deduction. Payment not made through any bank or financial institution in form of letter of credit, cheque (except bearer), draft, money order, telegraphic transfer, money transfer and any other banking tools are cash payment for this purpose.

This norm has many exceptions as:

  * Public sector- Payment to GON, Constitutional bodies, corporate having ownership of GON, Banks, and Financial institutions.

  * Farmer- Payment to a farmer or a producer for primarily agro products even the farmer primarily processes the product.

  * Retirement- Payment of a retirement contribution or a retirement payment.

  * Non-banking - Payment in areas where banking services are not available within 10 Km. or payment on the day when banking services are closed.

  * Compulsion - Payment under circumstances, where it is most necessary to be made in cash.

  * Deposit in bank account- Payment is made in the bank account of the payee.

Distribution of an income ~Sec.21(1)(e)

Distribution of income from an entity even in any form of dividend or similar is not allowed for deduction.

Disallowed other than allowed ~Sec.21(1)(f)

Expense that is expressly not disallowed by above principle or not allowed in Sec.5, 6, 7, 10, 11, 12 or 13 of the Act are also not allowed for deduction. Such type of cost are called as excluded cost. For example, bribery expense seems allowable on reading bird's-eye-view, but it is disallowed.

Capital Expenditures ~Sec.21(3)

Capital expenditures, except covered by Sec.14 to 20, are not allowed directly in the year of its purchase:

  * Expenses of prospecting, exploration, and development in case of natural resource.

  * Acquisition of assets having a useful-life for more than twelve months.

  * Payment on disposal of a liability.

The payments for capital nature expense has tax impact otherwise than deduction. Alike in fruit and tree concept, the cost for tree is not deductible (rather allowed as depreciation or outgoings as the case may be).

  168. Test of Sec.13 for matching (3rd Test)

Subject to the other Sections of the Act, all the expenses incurred by a person, in connection with earning of profit and gain, shall be deducted based on guiding principles for expenses as:

a. Time matching: Expense to be of same income year (either in cash basis or accrual); so, time-non-matching disallowed.

b. Person matching: Expense to be incurred by charging person only (personal or domestic expense is disallowed u/s21; but, this matching excludes the 3rd party expense) ; so, person-non-matching disallowed .

c. Income matching: Expense to be incurred the income to be included in inclusions (profit and gain). Any expense in capital nature is not allowed as deduction of expense, but cost incurred for earning from or use of asset is allowed for this matter; so, income-non-matching disallowed. For instance, income-matching under fruit and tree concept, the cost for fruit is deductible but not for tree itself.

If any expense is passed through these first 3 tests, the expense is allowed to taxation deduction at gross amount of quantification passed through.

  169. Test of specific Sections (4th and Last Test)

There are 9 specific sections on the tax which have computation methods for the expense passed through above 3 tests.:

Specific Sec. and head | Short description

---|---

Sec.14 Interest expense | IDC and if paid to certain shareholders are to be allocated.

Sec.15 Cost of goods sold | Computation on accounting is slightly difference then in taxation.

Sec.16 Repairs of Depreciable | Capped quantification

Sec.17 Pollution control | Capped quantification

Sec.18 R & D | Capped quantification

Sec.19 Depreciation | Pool based computation

Sec.59 Loan loss provision | Capped quantification of provision

Sec.60 Unexpired risk reserve | Accounting reserve is allowed

Sec.71 Foreign tax expense | If credit is not taken.

Remaining expense is allowed without 4th test.

  1. ## Special Treatments on some expense

Some of expense are limited or explained by IRD with some disagreement than in accounting as:

Bonus Expense

Vide public circular dated 2065.4.29 bonus expense is allowed to the limit of followings:

Allowable bonus expense= (Accounting Profit before bonus and tax/110)*10. If accounting profit before bonus and tax is Rs.100,000; as exampled in the circular, bonus expense is deductible to Rs.9091.

Accommodation Provision

Vide public circular dated 2065.4.29 accommodation provision as compulsorily required by Labor Act, 2048 is not allowable for tax expense.

Pre-operating Expense

Vide public circular dated 2064.11.3, preliminary expense and pre-operating expense is allowed (of course subject to Sec.21 and Sec.13 except payment within this year) in the first year of commercial production.

Carriage and insurance cost

Vide circular dated 2061.4.4 transport cost and transit insurance cost in the connection to the import of goods, the cost paid and declared in custom frontier is allowed for cost of concern goods.

Payment not to be verified

According to Foreign Employment Service Charge Directives, 2063, payment of commission to foreign manpower agent, the amount as declared in approval from Labor and Employment Promotion Department shall be, unless approved contrary, shall assumed as valid payment.

  1. ## Interest Expense

  170. Definition Interest and Debt Claim - According to Sec.2, Interest means all payments or gains:

(1) Payments, excluding principal, made under a debt obligation,

(2) Gains realized through a discount, premium, swap payment, or similar other modes of payment under a debt obligation, and,

(3) Amounts as mentioned in Sec.32 which are to be treated as interest from among amounts paid by a person acquiring assets under annuity or under instalment sales or in consideration of use of any asset under a financial lease.

According to Sec.2, debt claim (debt obligation in Sec.2: Debt Claim means the right of a person to receive a payment from another person; the term includes the right of a person to get back the amount he had given to another person, the right to deposits made in banks and financial institutions, amounts due to be realized, loan-bonds, bills of exchange, bonds, and annuities, and the right to get amounts from financial lease and sales made under installment plans.

NAS/IAS23 Borrowing Cost

5. Borrowing costs may include:

(a) interest on bank overdrafts and short-term and long-term borrowings;

(b) amortization of discounts or premiums relating to borrowings;

(c) amortization of ancillary costs incurred in connection with the arrangement of borrowings;

(d) finance charges in respect of assets acquired under finance leases or under other similar arrangements; and

(e) exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs.

  171. Debt Claim and Interest - Following are some examples of debt claim and interest for tax purpose and for NAS 23 Borrowing Cost.

Debt Claim Sec.2, 14 | Charge on debt claim Sec.2

---|---

Principal Base | Interest/ Borrowings Cost

Annuity | Premium, bonus

Bailment | Increments in bailed

Bill of Exchange | Discounts

Bonds | Interest, Premium

Currency Swap | Premium and Commission

Debenture | Interest, premium

Deep Bonds | Discounts

Deposit in Bank | Interest

Finance Lease | Interest

Installments | Interest

Interest rate swap | Premium and Commission

Loan | Interest, service charge, Penal Interest

Promissory Notes | Discounts

Receivables | Interest, Penalty

  172. Interest Allowance - Interest allowance is allowed to the extent of all interest those raised for working capital loans and interest accrued on loan purchasing qualifying asset after put to use. So, interest accrued or paid on loan for purchase, construct or install any asset is not allowed as allowance before its business utilization.

  100. All payments over principal are Interest - NEB Bank is lending bank to Ajaya P.L. During the year, 20X1.X2 latter pays Rs.50,000 as interest, Rs.2,500 deducted on loan as service charge, Rs.3,500 penal interest is included in interest. Find amount deductible in business for purpose of Sec.14.

Assuming loan is utilized for earning business income; interest is allowable for income tax purpose. In the given situation, Rs.3,500 penal interest is included in Interest of Rs.50,000 and hence allowable. Rs.2,500 is payable over amount of loan principle received so is interest for purpose of Sec.14. Hence both amounts Rs.52,500 is allowable.

  101. Payments over principal – Bond Issue Limited issued 1000 discount bond of 364 days on 20X1.4.1 of face value of Rs.100,000 each. All bonds were purchased at Rs.95,238. Company cleared all the bonds on year-end date. How much is the allowable interest?

Assuming loan is utilized for earning business income; interest is allowable for income tax purpose. In this case, Rs.100,000 has paid for bond costing Rs.95,238. So, amount paid over principal is Rs.4,762 per unit of bond. In total Rs.4,762,000 is interest allowed u/s 14.

  173. Interest on loan to purchase qualifying assets (Interest During Construction, IDC) \- As already mentioned, interest for the loan for the business use is allowed for tax purpose. Loan acquired for purchasing of assets having capital in nature is not allowed until the assets so purchased work in the business. Assets purchased from loan is called as qualifying assets for interest purpose as per NAS 23. Interest on loan to acquire such qualifying asset is allowed if the said asset is in use on the year-end date. Interest on the loan against which asset is under installation or construction or in transit till year-end is to be capitalized in respective asset. (hence, slightly differ than as defined in allowed alternative treatment of NAS 23 Borrowing cost, hence temporary difference arose).

Interest in qualifying assets is, practically, called Interest During Construction (IDC) in project funding or in accountings.

  102. Interest Expenses For Qualifying Asset\- Kuikyal Limited is a prime client of NEB Bank Limited. During the year, Rs.10,00,000 is used as term loan to install plant and machinery and interest Rs.1,00,000 has paid. Panak Limited has accounting policy to charge all the expenses to its profit as benchmark treatment of NAS 23. Is this is deductible on tax?

Here, asset whether in the use at year-end is remarkable point (not the put to use date as per NAS 23). Even in financial statements, it has charged to profit, this interest cannot be claimed as deduction according to Sec.14(1) and 21(3). This interest is to be capitalized in Machinery for tax purpose (assuming no use till year-end).

  103. Temporary Difference- In , if Kuikyal Limited has accounting policy of benchmark accounting treatment, what shall be the financial accounting and tax accounting impacts?

In Financial accounting, interest shall be booked as expense and in tax it requires capitalization. This makes temporary difference of Rs.100,000 (interest amount). Deferred tax on those deductible temporary difference is to be accounted in the financial accounts. (Deferred tax is accounting concept and not adjusted in tax accounting).

  104. Qualifying Asset\- On Bhadra 1, Kubhedi Enterprises received Rs.10,00,000 loan for purchasing a machine. Interest rate was 12% p.a. with initial service charge and documentation charge of 2% of loan. The machine were purchased from Hong Kong and installed on Chaitra 1. Commercial production were started on Baisakh 1.

Here use date is Baisakh 1 (before year-end), whole interest is allowed as deduction u/s 14.

  105. Qualifying Asset\- Karki Limited has following line of credits allowed. Out of line credit, Limited has purchased Plant costing Rs.1 crore on Push 1. The Plant has initiated production on Ashad 1. State allowable interest.

Line of Credit | Loan Rs. | Interest Rs. |

---|---|---|---

Loan 1 | 20,000,000 | 1400,000 |

Loan 2 | 200,000,000 | 12,600,000 |

Term Loan | 4,000,000 | 140,000 | For this plant

Trust Receipt | 200,000 | 5,000 | For raw material

Loan | 50,000,000 | 100,000 | Paid on Kartik

Here put to use date is Ashad 1 (which is before year-end). All the interest is allowed as deduction u/s 14 (no IDC, if there is business use of asset).

  1. Interest on loan that applied for repayment of first loan – What do you do if any interest has paid for the debt obligation which has taken for the purpose of earlier debt obligation (on qualifying obligation)? Is it capitalized in the loan itself or charged as per Sec.14?

  174. Interest on siphoned out loan - Loan donor always disburse loan with definite purpose. There are strict guidelines from NRB for banker to disburse loan with definite purpose. Loan get hold of one purpose but utilized on other purpose is called siphoned out loan. Tax behavior on interest on siphoned out loan is as follows:

  1. Loan siphoned out for personal purpose, respective interest is disallowed under Sec.21(1) (a).

  2. Loan siphoned out for tax exempted or else tax waived business or investments, respective interest is disallowed under Sec.21(1)(c)/13 (c).

  3. Loan siphoned out for business/investments having final withholding tax income, attributable interest is disallowed under Sec.21(1)(c)/13 (c).

  175. Interest on Trust Receipt Loan- Any trading stock or raw material purchased under sight letter of credit followed by bank trust receipt arrangement (TR Loan), then interest is not subject of cost of goods sold but interest expense vide public circular dated 2066.2.11. Of course, if TR loan is used for purchasing equipment, interest to be capitalized.

  176. Interest on finance lease - Interest portion of finance lease is interest expense deductible u/s 14. See on page 64.

  177. Interest Portion on Deferred Payments - Any assets purchased under deferred payment condition the present market value on a cash term or on a credit term of a reasonable period shall be treated as cost of the assets and the remaining amount payable shall be treated as expenses during the year in which the amount is accrued. The better classification for such expenses shall be interest expenses as it is payable due to the financial arrangements. The installment purchases, hire-purchase deliveries, conditional deferred payments, etc are examples of such transactions. Illustration of such payments and eligibility of interest expense is given in page 64.

  178. Thin Capitalization - Capital employed in a business has twofold: Equity contribution and loan fund. Interest on loan is allowed as deduction for tax purpose. If any entity have marginally low capital and high loan fund, such situation is called high leveraged capital gearing or under capitalization in financial management. If such loan fund is contributing from its owner or associates such situation is called Thin Capitalization in taxation. Under thin capitalization, owner draws more returns through interest, on which tax is lower with final withholding behavior and liquidation risk is borne by other parties than owner. Corporate tax and dividend tax to be waived by taxation authority on thin capitalization.

The tax act has not restrict for thin capitalisation itself, but plan to deal with the tax base erosion towards which thin capitalization. This erosion results from controllers of an entity being able to remove funds from the entity in a deductible form that is subject to less taxation than if the funds were removed from the entity in the form of a distribution of profits.

Nepal tax is based on higher economic standards as have in OECD counties, thin capitalization from tax bracket tax payer is allowed by taxation. Hence, if owner is within tax bracket, interest on loan is allowed as banker lending in the business. If owner is beyond tax bracket, interest paid to owner is limited by a little bit complex formula given u/s 14(2).

If interest is paid by a Exempted Controlled Entity to its owner, such interest is allowed to following limit, remaining interest is to be carried forwarded to next year:

Allowing quantum limited to: Interest income + 50% of Adjusted Taxable Income without any interest elements

= Interest income + (Adjusted Taxable Income + Interest expense included u/s 14(1) - Interest income included in taxable income)

  179. What is Exempted Controlled Entity? - If any resident entity in business or investments, controlled at 25% or more (substantial control of 25%) by any or all of followings in any day of income year is Exempted Controlled Entity:

  * Exempted Entity or its associates

  * Person having tax concession u/s 11 or its associates

  * Non-resident or its associates

Numeric examples in interest paid to controllers by exempted controlled entity are given in Sub-chapter page 123.

  107. Simple case of cooperative\- Poultry Co-operative working in Nala Kavre is holding for Nalami Limited working in Bhaktapur. During the year, Rs.250,000 has paid to its holding by Nalami Limited. What shall be the taxation treatments?

Here, Poultry Co-operative is tax waived entity u/s 11(2). Any interest paid by Nalami Limited to this co-operative is qualifies u/s 14(2). So, interest paid or payable to co-operative is subject of Sec.14(2), we cannot calculate the quantum of allowable interest due to lack of other computing information required.

  108. Qualifying Asset sold\- On Srawan 1, Kukuryal Enterprises acknowledged Rs.10,00,000 loan for purchasing a machine directly paid to the seller. Interest rate was 10% p.a. with initial service charge and documentation charge of 2% of loan. The machine were purchased from Hong Kong and installed on Chaitra 1. Commercial production started on Baisakh 1. Machine was sold on Ashad 1. State allowable interest. Is there any difference if machinery were sold on Chaitra 15?

  109. Loan of person having ample of fund or unexpected higher rate of interest \- Can a person having ample fund of take loan and pay interest in this regards? Can a person borrow loan on the terms unexpected higher rate of interest?

  110. Loan for tax liability\- Kukurkate Limited has to pay Rs.1 crore as the second installment. It has not such cash fund and if the tax has not paid the interest is to be charged at the rate of 15% u/s 118 of income tax act. The management of company has decided to take a TOD at the rate of 8 %. The loan has settled at Rs.1.015 Crores in Jeth end. Does this interest is allowed u/s 14?

This interest is allowed u/s14.

  111. Loan for interest payment\- Kukurkate Limited has to pay Rs.1 crore as bank interest. It has not such cash fund and request another bank for financing. The management of company has decided to take a TOD at the rate of 10 %.

The interest is allowed u/s14.

  112. Loan to use in VAT exempted transaction \- Kuwathani Limited is a registered VAT payer. In Chaitra, company has borrowed Rs.1 crore for the merchandise attracting no VAT under Schedule 1 of Value Added Tax Act, 2052. The management of company has decided to take a TOD at the rate of 8 %. The loan has settled at Rs.1.0 15 Crores in Jeth end. Does this interest is allowed u/s 14?

  3. ## Cost of Trading Stock

Applicable NAS/IAS 2

There are three types of assets in tax base balance sheet with priority of trading stock, depreciable assets and business assets. Trading stock is first prioritized assets.

Sec.15 describes cost of trading stock and NAS/IAS 2 Inventories is applied in financial accountings.

  180. Definition Trading Stock and Cost thereto- According to Sec.2: "Trading stock means the assets owned by a person and sold or intended to be sold in the ordinary course of a routine business conducted by him, work in progress on such assets, and inventories of materials that are to be incorporated into such assets. Provided that, the term shall not include a foreign currency asset."

This means only stock of items, even in raw from, processing form or finished form those in the ordinary course of business might be trading stock. Items in the stock those are for future use, like spare parts, stationary or similar are not trading stock.

NAS/IAS 2 Inventories

Inventories are assets:

a. held for sale in the ordinary course of business;

b. in the process of production for such sale; or

c. in the form of materials or supplies to be consumed in the production process or in the rendering of services.

Cost of Trading Stock Disposed off are allowed allowances on sale of goods. This is likely with cost of goods sold on Trading and Profit & Loss a/c in financial statements prepared under Nepal Accounting Standards with minor theoretical deviations. Verbally, it is called as Cost of Goods Sold in taxation purpose too. The cost of trading stock means the cost of sales. In other words, the cost of trading goods sold during the year is the cost of trading stock. Provisions with regard to the determination of cost of sales are clearly stated in Sec.15. Functionally, the formula is:

Opening value of the trading stock (A) Rs.........

Add, Additions (Purchase and expense) (B) Rs.........

Less, Value of closing stock (C) Rs..........

Cost of Trading Stock disposal (A+B-C) Rs..........

Opening Stock (A)

Sec.15(3) clearly defines opening stock as closing value of stock at last year end. If any person changes its accounting policy of stock valuation for tax purpose effecting since this year, under the provision of Sec.15(3), opening value should be brought at quantum of closing stock value of last year (see ). Even cases of error found in latter, opening stock cannot be adjusted as in accounting under NAS/IAS 8.

Purchase (B)

Purchase means all the additions of stock during the year. It includes (after Sec.21 and 13 test):

Amount paid to Vendors\- trade discount and quantity discount to be adjusted, any foreign exchange transaction to be recorded as per NAS/IAS 11 (Sec.24 & 28)

Transportation Cost\- It includes all the transportation cost, normally called as carried inwards. Insurance during transportation shall be another eligible part of cost.

Duty\- it includes any duty paid or payable till ex-factory gate like custom duty, local duty etc. For this purpose, excise duty and value added tax on purchase or on import shall not the part of cost to the extent of excise duty or value added tax credit limit. If such duty is not allowed as credit, the same shall be cost of (see ) goods procured, produced or imported.

Factory overheads\- Cost of conversion is includes to the cost upto the point bringing stock to such position except finished goods storage and finance cost, as per NAS/IAS 2. If factory has practice to charge depreciation and factory repair to its production, depreciation and repairs of depreciable assets is not including for tax purpose. In case of person having cash basis of accounting, only fixed overhead to be taken on cash basis.

Valuation of purchase or addition depend upon basis of accounting too. In case of person adopting cash basis of accounting, it can account the stock related tax accounting either in accrual basis (absorption method) or in cash basis (prime cost method). The difference of absorption cost and prime cost is:

Component | Absorption Cost | Prime Cost | Remarks

---|---|---|---

Direct material | @variable cost | @variable cost | Variable so accrual basis

Direct labor | @variable cost | @variable cost | Variable so accrual basis

Direct overhead | @variable cost | @variable cost | Variable cost so accrual basis

Fixed factory Overhead | @normal rate

=total cost/normal production(±) | LS in the year of purchase- cash basis | Excluding depn. and repair

The valuation example has given in .

Closing Stock (C)

Closing Stock is computed multiplying quantity at year-end and rate there to. Here are minor differences between provision given on Sec.15 for tax purpose and NAS/IAS 2 for accounting.

Quantity at year-end: It is found by physical verification at year-end. Concept of abnormal loss is not under income tax (has special treatment in VAT and in Excise)

Rate for Closing Stock: Valuation of the closing stock of a business for an income year is done at a lower of the followings (each items to be computed separately for tax and accounting both purpose):

i. Cost of the trading stock that remains till the end of the year.

ii. Market price of the trading stock on the end of the year.

Cost to be taken as per item cost for identifiable goods (un-interchangeable). If the goods are interchangeable (unidentifiable) cost to be taken either the first in first out method or the weighted average method for the first time. Once method has opted, it can be changed to another upon approval of IRD.

  113. Physical Verification\- Kadalia Limited had opening stock of rice of 10,000 quintals. During the year, it purchased 100,000 quintals and sold 100,000 quintals too. At the year-end physical counting were done and found 9500 quintals of rice. How much is the closing balance of rice?

Rate: In income tax and in account both, rate for closing stock is Cost or market value whichever is lower. Furthermore, net realizable value is taken in accounting rate.

Cost for the merchandise is taken in as:

If it is identified : Cost is to taken at 1:1 basis.

If it is unidentified : FIFO or Weight-age Average Method

Quantity: Closing stock quantity is to be taken based on physical counting of inventory.

Value of closing stock = Quantity * Rate

=9500*Rate

  114. Market Value based- Kadaria Ent. has following transaction during find deductible cost of sales for tax for Income Year.

Opening Stock FIFO Rs.50,000

Purchased during year Rs.500,000

Sales during year GP ratio 25% Rs.500,000

Value of Closing Stock (market value)

  1. Rs.120,000

  2. Rs.150,000

  3. Rs.200,000

  4. Nil

Here, Opening Stock Rs.50,000

Purchase Rs.500,000

Total stock available (A) Rs.550,000

Sales Rs.500,000

Gross Profit (25% margin) Rs.125,000

Cost of sales (B) Rs.375,000

Cost of Closing Stock (C) = A-B Rs.175,000

Closing sock is valued at lower of cost or market price basis:

Particular | Case a | Case b | Case c | Case d

---|---|---|---|---

Total stock (A) | 550,000 | 550,000 | 550,000 | 550,000

Cost (D) | 175,000 | 175,000 | 175,000 | 175,000

Market Value (E) | 120,000 | 150,000 | 200,000 | 0

Value :min(D,E) | 120,000 | 150,000 | 175,000 | 0

COGS u/s 15 | 430,000 | 400,000 | 375,000 | 550,000

  115. Cost of Disposal \- Find the Cost of Goods Sold during the year for income tax u/s 15 for Kafle Impex. Opening Stock Rs.200,000 Purchased Rs.20,000,000. Sales Rs.30,000,000. Gross profit margin is 20% on cost. Use FIFO method.

Here, Gross profit margin is 20% on cost means if cost is Rs.100, sales is Rs.120. So,

Cost of sales=Sales*100/120 = 30,000,000*100/120= 25,000,000

Opening stock and stock valuation formula is not required here.

  116. Interchangeable goods – M Ltd has two rooms in its storage. The first consignment of procurement were kept in store 1 and second consignment were in store 2. At year-end physical taking, items were counted and found good in both except 1% of purchase kept in store 1 was expired. Since, the store for each consignment were separate, obviously the cost of each item can be found separately. If the goods were mixed in single store, it could be interchangeable. What shall be the method of cost of each item.

Interchangeable goods are those items of inventory which, if were mixed cannot be separated accurately. In this case, company need to value the cost at FIFO or Weighted Average method.

  117. VAT impacts – Basuki Traders purchased Rs.300,000 raw material of 3000 kg. excluding VAT. At the year-end there is stock of 1000 kg. Basuki Traders is not get it registered in VAT. Find cost of disposal of stock and closing value. If it is VAT registered? VAT shall impact the cost based on credit avails usual.

 | If registered | If not registered

---|---|---

Opening Stock | Re. 0 | Re. 0

Addition | Rs.339,000 | Rs.300,000

Closing Stock | Rs.113,000 | Rs.100,000

Cost of sales u/s 15 | Rs.226,000 | Rs.200,000

  118. Repairs of Trading Stock – In case of trading stock is repaired with or without adding the status. In case, Kutaula Enterprise has some trading items as furniture costing Rs.100,000. Some of them damaged and repair cost Rs.1,500. These expense are addition for cost and total cost of trading stock is Rs.101,500.

  119. Wrong opening\- An stock verification during the year revealed that the opening stock of the year was understated by Rs.3 lakhs due to wrong counting in Koirala Ltd. You are required to advise the company for the finalization of account for the current year.

  120. Cash basis, not in cash \- Dahal, Rupakheti, Lamsal and Kunwar are four traders keeps their accounts on cash basis. During the year, all four purchased merchandise of Rs.300,000 and sold all at Rs.500,000. Office cost incurred Rs.100,000 in accrual. Payment history for four is:

Party | Dahal | Rupakheti | Lamsal | Kunwar

---|---|---|---|---

Purchase | 300,000 | 300,000 | 300,000 | 300,000

Status | Fully Paid | Fully Paid | Not paid till | Not paid till

Sales | 500,000 | 500,000 | 500,000 | 500,000

Status | Fully received | Not received till | Fully received | Not received till

Office cost | 50% Paid | Fully Paid | Not paid till | Fully Paid

In these cases under cash basis concept, Income and Expense would generally be said as follows:

Party | Dahal | Rupakheti | Lamsal | Kunwar

---|---|---|---|---

Sales | 500,000 | 0 | 500,000 | 0

Purchase | 300,000 | 300,000 | 0 | 0

Office cost | 50,000 | 100,000 | 0 | 100,000

Profit | 150,000 | (400,000) | 500,000 | (100,000)

All four have same transaction, same accounting basis but a giant difference in output. Do you agree?

Of course no, person having cash basis of accounting need to comply most portion of accounting in accrual system too. Sec.15 describes accrual system for person having cash basis.

According to the provision of Sec.15, status for all four shall be as follows:

Party | Dahal | Rupakheti | Lamsal | Kunwar

---|---|---|---|---

Sales | 500,000 | 500,000 | 500,000 | 500,000

Purchase | 300,000 | 300,000 | 300,000 | 300,000

Office cost | 50,000 | 100,000 | 0 | 100,000

Profit | 150,000 | 100,000 | 200,000 | 100,000

It means under cash basis of accounting, only the items of overhead and income except sale of trading stock is on cash basis.

  121. Different Valuation method than accounting- Karakheti Maida Udhoyog valued stock on weighted average method and now intend to change to FIFO method. The cost of goods sold on the weighted average method of stock valuation was Rs.25,000,000 for the income year. The value of stock at year start and on year end is assessed as followed. Find the eligible cost of goods sold u/s 15 if it processed all administrative procedures.

Weighted Average FIFO (revalued)

Opening stock Rs.4,000,000 Rs.42,00,000

Closing Stock Rs.2,200,000 Rs.20,00,000

On existing system, Closing stock Rs.2,200,000

Cost of goods sold Rs.25,000,000

Cost of total stock Rs.27,200,000

Opening stock Rs.4,000,000

Purchase during year Rs.23,200,000

In FIFO, opening stock was Rs.40,00,000, irrespective of method of valuation. (WHY ?)

Opening stock Rs.4,000,000

Purchased during year Rs.23,200,000

Stock available Rs.27,200,000

Closing stock Rs.2,000,000

Cost of Goods sold u/s 15 Rs.25,200,000

  122. Prime or absorption cost valuation- Paripatle Kutir Udhyog (FIFO) has following cost:

Raw material purchased 1000 kg Rs.100,000 (cash paid Rs.90,000 yet to be paid Rs.10,000). Packing material purchased 300 units Rs.20,000 (cash paid Rs.30,000 yet to be paid Rs.2,000). Labor cost 300 month Rs.200,000 (cash paid Rs.150,000 yet to be paid Rs.20,000. Electricity Rs.20 per unit of finished goods (Actual cost Rs.8300). Factory rent and other cost Rs.123,250 Estimate was Rs.120,000

In Baisakh, one equipment costing Rs.100,000 has purchased and installed but Rs.10,000 yet to be paid. Normal production is 400 (actual 410) units. Closing raw material is 100 kg finished goods is 100 units.

In this case, cost of goods sold and value of closing stock shall be:

     | Absorption Cost | Prime cost |

---|---|---|---

Opening Stock (A) | 0 | 0 |

Purchase and addition |   
 |   
 |

Material | 120,000 | 120,000 |

Labor | 200,000 | 200,000 |

Variable Overhead | 8,300 | 8,300 | Adjusted

Fixed Overhead | 123,250 | 0 |

Total (B) | 451,550 | 328,300 |

Closing Stock |   
 |   
 |

Raw material | 10,000 | 10,000 |

Finished | 104,500 | 74,500 |

Total of stock (C) | 114,500 | 84,500 |

Cost of goods sold | 337,050 | 243,800 |

Add: Factory cost |   
 | 123,250 |

Add: Fact. Equipment |   
 | 90,000 |

Cost of goods sold S15 | 337,050 | 457,050 |

Cost of closing Stock

Per unit of production | Absorption

Cost | Prime

cost |

---|---|---|---

Material | 225 | 225 | (900/400)*100

Labor | 500 | 500 | 200,000/400

Variable Overhead | 20 | 20 |

Fixed Overhead | 300 | 0* |

Total | 1045 | 745 |

Closing Stock (units) | 100 | 100 |

Value of closing stock | 104,500 | 74,500 |

*Exactly meaning-less

  123. Cash basis - Following are the direct expense for the person having cash basis of accounting:

 | Case I |   
 | Case II |

---|---|---|---|---

purchased in cash | 500,000 |   
 | 500,000 |

Credit Purchase | 200,000 | 50% Paid in cash | 200,000 | 50% in cash & 50% by Bill of exchange

Wage paid | 200,000 |   
 | 200,000 |

Wage payable | 200,000 |   
 | 200,000 |

Physical Stock at year-end | One-tenth |   
 | One-tenth |

  124. Market value lower in one year than increased – A Ltd. purchased 3000 kg of goods costing Rs.2000/kg in Yr1. Movement and market price of the goods for next years are as follows:

Yr | Stock Kg | Sold Kg | Year-end price

---|---|---|---

1 | 1700 | 300 | Rs.1,800

2 | 900 | 800 | Rs.1,600

3 | 200 | 650 | Rs.1,900

In this cases of 3 years, some stock lost in Yr 3, which has no tax impact. The cost has reduced than market price and increased in the 3rd year. Cost of trading stock disposal u/s 15 shall be computed as follows:

Yr | Opening/Total Cost | Closing Stock | Cost of TS disposal

---|---|---|---

1 | Rs.60,00,000 | Rs.30,60,000 | Rs.29,40,000

2 | Rs.29,40,000 | Rs.14,40,000 | Rs.15,00,000

3 | Rs.15,00,000 | Rs.3,20,000* | Rs.11,80,000

*There is no concept of revaluation reserve in taxation (Rs.1600 is the cost). Once the goods valued at market price, it shall be the cost for next year.

  125. Barter- Kalikoti Ghee Ltd. exports 100 quintal vanaspati ghee (having cost Rs.1800,000) to Tibet under barter of 1,000 lambs. Market price of a lamb is valued at Rs.2,000.

Here, lamb purchased and stock at Rs.2,000,000 and cost of goods sold is Rs.1800,000.

  126. Transfer to foreign branch – Khatwe Impex transferred some stock costing Rs.500,000 (market value Rs.600,000) transferred to its foreign branch in Karachi (we have DTAA with Pakistan). Half of transfer remains in held for sale in Karachi based on Ashadh-end stock. What shall be the tax impact?

  127. Transfer to Nepal branch – John inc., Pakistan registered transferred some stock costing Rs.500,000 (market value Rs.600,000) transferred to its foreign branch in Kaski (we have DTAA with Pakistan). Half of transfer remains in stock based on Ashadh-end stock. What shall be the tax impact?

  128. Purchased but not received – John inc., Pakistan dispatched some goods to Ugrachandi Impex in CIF Karachi terms worth Rs.3 million. The goods were accepted by shipper and bill of lading were issued which including other documents as per letter of credit (sight) were paid on Ashadh 24. Find the tax impact?

  129. INCOTERMs – John inc., Pakistan dispatched some goods to Ugrachandi Impex in CIF Karachi terms worth Rs.3 million. The goods were accepted by shipper and bill of lading were issued which including other documents as per letter of credit (sight) were paid on Ashadh 24. Furthermore, what shall be the impact is the transportation term is:

  1. DAT Birgunj

  2. CIF Kolkata

  3. CIP Kathmandu

  4. FOB Karachi

  5. DDP Kathmandu

  130. Purchased but not received – In Ugrachandi Impex's purchase in , the purchase terms were DDU in INCOTERM 2000. What shall be the tax impact? Is your answer differ if the letter of credit were for 6 months credit and purchase terms were 2/15 net 182?

Applicable Nepal Accounting Standards NAS/IAS 2 Inventories

Applicable Circulars

1. Transport and insurance cost shall be allowed to the extent of amount declared in Custom~ Public Circular dated 2061.4.4. This means actual bill is disallowed if has not declare in Custom.

2. In case of sales defalcation found by taxation authority, no allowance (proportionate or otherwise) to be allowed for the cost of stock already allowed for- Circular dated 2063.4.3. This means in case of sale defalcation, sales is taxable but cost is not allowed.

3. Interest paid on trust receipt loan is not cost of purchase but interest u/s 14- Public circular dated 2066.2.11.
  4. ##  Depreciation

Applicable Standards : NAS 16, NAS 36, NAS 38 and NAS 40

Applicable Section : Sec.19 and Schedule 2

Applicable Circular : 2061.7.26, 2064.6.15 and 2064.11.3

As already explained, there are three types of assets in tax base balance sheet with priority of trading stock, depreciable assets and business assets. Depreciable asset is 2nd prioritized assets.

Sec.19 describes depreciation and NAS 16 is applied in accounts. Tax depreciation and accounting depreciation is widely different, both in concept and in practice. It normally creates temporary difference and hence deferred tax in accounting.

  181. Depreciable Asset and Depreciation - According to Sec.2, "Depreciable asset means an asset which is used for generation of income from any business or investment and value declines due to wear and tear, obsolescence, or passing of time. Provided that the term shall not include any trading stock."

By this definition, depreciable assets in general tune, in accounting and in taxation is similar. But, intangible assets and some fictitious assets are depreciable assets in taxation.

Is depreciation compulsory

Yes! Sec.19(1) revised on 2060.4.1 make compulsion to take depreciation. The resulting loss, if any, to be carried forwarded as per Sec.20 (so, loss u/s 20 may constitute capital loss contribution too). In case of depreciable assets used by owner (shareholders) or his associates, depreciation should be computed as usual but same shall not be allowed as allowance under rule 18. In case of foreign airlines, depreciation cannot be deducted according to Sec.70.

  182. Addition: Depreciation starts on Pooling Date - Depreciation is computed on the date latest of date of payment for the asset or date of put to use. This latest date is called Pooling Date. In case of machinery, it is purchased in earlier period than its put to use in business. Here, pooling date is later date i.e. date of put to use. If any asset has used in business under sale or purchase on approval basis, date of put to use will come first and then date of purchase (approval date). In this case, pooling date is date of approval.

There is deferred recognition rule (partial capitalization) concept in depreciable assets. In case of addition during the year, if pooling date is up to Push, full amount to be paid is deemed as Addition on Depreciation Base. But, if pooling date falls Magh – Chaitra only 2/3rd (Baisakh- Adhad only 1/3rd) of sum is deemed as Addition on Depreciation Base. Remaining value shall be absorbed in beginning of next year and called unabsorbed purchase for this year.

In case of pool disposal, whole amount shall be assumed as absorbed irrespective of pooling date.

  131. Absorbed Addition\- Kesari Company purchased following assets and used in the business. Find the absorbed addition during this year.

Asses Name | Purchased | Put to use date

---|---|---

Computer | Bhadra- Rs.100,000

Magh- Rs.30,000

Jeth – Rs.60,000 | Kartik 1

Baisakh 1

Ashad 1

Vehicles | Srawan- Rs.100,000 | Srawan 1

Here, analysis of purchase is capitalized as follows:

Pool | Pooling date | Absorbed Addition | Unabsorbed Addition

---|---|---|---

Computer (Pool B) | Kartik 1

Baisakh 1

Ashad 1 | 100,000

10,000

20,000 | 0

20,000

40,000

Vehicles | Srawan 1 | 100,000 |

Total |   
 | 230,000 | 60,000

  132. Pooling date is latter\- Kanwar Company received a container from Kadal Company on purchase on approval basis for Rs.300,000 within 30 days of delivery on Ashadh 15. The proposal was duly accepted and issued a bill of exchange for 6 months. Find the absorbed addition.

Here, date of put to use (in business) is Ashad 15 of 1st Income Year and date of purchase (approval of purchase and create liability to seller) is Srawan 14 of 2nd Income Year. Pooling date is later of two means Srawan 14. So, addition is to be done in the income year of Srawan 14 of 2nd Income Year and hence no addition in 1st Income Year and full addition absorbed in 2nd Income Year.

  183. Block and Pool - Depreciation is to be calculated on pool of asset. Computing formula is given on Block of assets. There are five blocks in depreciable assets:

Block | Assets Covers | Rate | Further Examples

---|---|---|---

A | Buildings, structures, and similar works of a permanent nature. | 5% | Structural and immovable - Road, Bridge, culvert, well, tube-well, swimming pool, cannel, dam etc.

B | Computers, data analyzing equipment, furniture, fixtures, and office equipment | 25% | Common assets: computer, furniture, fixture, office equipments

C | Automobiles, buses, and mini-buses | 20% | Vehicle-Motorbikes, motors, car, jeep, truck

D | Construction and earth-moving equipment and any depreciable asset not included elsewhere, including Sub-Section (3) of Section 17, Sub-Section (3) of Section 18, and Sub-Section (3) of this Schedule. | 15% | Core assets: Plant, equipment, machinery, construction equipment, etc.; exploration cost, unabsorbed cost of pollution and research.

E | Intangible assets other than the depreciable assets mentioned in Class D. | SLM% | Intangibles: Patent, copy right, trademarks, brand, know-how, formula, (but not goodwill).

Some of the clarifications are availed in Blocks are as:

1. Building on leased land falls under E – as per manual (earlier was under Block A- Public Circular on 2064.11.3)

2. Office assisted assets and equipments fall under B- Public Circular on 2064.11.3

3. Transport and passenger vehicles with engine fall under C- Public Circular on 2064.11.3

4. Core Business assets fall under D- Public Circular on 2064.11.3

5. Boilers, sanitary goods, plumbing of hotel fall under D- Advance Ruling on 2061.7.30

6. LP gas cylinders in circulation are depreciable assets- circular on 2064.6.16

Block A, B, C and D has single pool of A, B, C and D. Block E shall have as many pools of each purchase or contract for intangible assets.

'Why pool?' is conceptually for lowering the compliance cost of computation and reconciliation. Similar assets are pooled in one and individual characteristics liquefy in own pool.

  184. Computation of Depreciation - Depreciation computation is a cumbersome calculation. It is based on variety of provisions. There is not any prescribed format for this computation. Most useful but a long format with an illustrative problem shall be as follows:

  133. Flexible Format\- Assuming all the figures were given in this long form format of computing depreciation. Further assume there are two pools of assets only.

 | Particulars | B | C | D | Note

---|---|---|---|---|---

  1. 
|

Pool Existed as year end | No | Yes | Yes |

  2. 
|

Opening Dep. Base | 1,000,000 | 1,000,000 | 2,000,000 | 1

  3. 
|

Absorbed Addition |   
 |   
 |   
 |

 | -Time based (deferred) | 300,000 | 300,000 | 300,000 | 2

 | -Pool disposed (full) |   
 |   
 |   
 |

  4. 
|

Disposal Proceeds | 900,000 | 900,000 | 2500,000 | 3

  5. 
|

Terminal Depreciation |   
 |   
 |   
 |

 | -Pool disposed | 400,000 | - |   
 | 4

 | -BOOT/Power replacement |   
 |   
 |   
 |

 | -BOOT Transfer |   
 |   
 |   
 |

  6. 
|

Balancing Charge | - | - | 200,000 | 5

  7. 
|

Depreciation Base | - | 400,000 | 0 | 6

  8. 
|

Depreciation Rate | 25% | 20% | 15% |

  9. 
|

Depreciation: |   
 |   
 |   
 |

 | Normal | 0 | 80,000 | 0 | 6*Rate%

  10. 
|

Terminal Depreciation |   
 |   
 |   
 |

 | -Pool disposed | 400,000 | - |   
 | 7

 | -BOOT/Power replacement |   
 |   
 |   
 |

 | -BOOT Transfer |   
 |   
 |   
 |

 | -Generator (50%) |   
 |   
 | 200,000 | 8

 | -ECR/Computerized bill |   
 |   
 |   
 | 9

 | -Small value <Rs.2000 |   
 |   
 |   
 | 10

  11. 
|

Total Dep. Expense |   
 |   
 |   
 |

  12. 
|

Opening Dep. Base for Next Income Year |   
 |

 | Remaining Value | - | 320,000 | 0 |

Deferred

recognition | Unabsorbed Purchase | - | 0 | 0 |

Unabsorbed Generation | - | 0 | 0 | 7

Unabsorbed Repair | - | 0 | 0 |

Unabsorbed PCE | - | 0 | 0 |

Unabsorbed R&D | - | 0 | 0 |

 | Opening Base next year | - | 320,000 | 0 |

Comments as sources:

1. Opening Depreciation Base from previous year (point 13 shall be opening depreciation base for next year).

2. Addition is pooling date based i.e. full up to Push, 2/3rd during Magh-Chaitra, 1/3rd thereafter (remaining deferred recognition), if pool is disposed whole amount irrespective of pooling date.

3. Disposal Proceed at gross amount of received or receivable.

4. In case of pool disposed physically but there is +ve figure of 'Opening + Addition- Disposal', this amount shall be allowed as terminal depreciation based on residual concept of transactional tax treatment.

5. If there is -ve figure of 'Opening + Addition- Disposal', this amount shall be included in Inclusions (profit and gain) u/s 7(2)(d) as Balancing Charge.

6. Depreciation Base= Opening + Addition- Disposal ± Terminal/Balancing Charge.

7. Power producing unit of all business is allowed 50% depreciation in the year of installation.

Terminal Depreciation has explained in pg. 113.

  134. Absorbed Addition\- Opening Depreciation Base and purchased during the year for Katuwal Enterprise is as follows.

Asses Name | Opening Value | Purchased

---|---|---

Computer | 300,000 | Bhadra- Rs.100,000

Magh- Rs.30,000

Jeth – Rs.60,000

Building | 2000,000 |

Vehicles | 500,000 | Srawan- Rs.100,000

Magh- Rs.30,000 Sold

Depreciation is computed as follows:

Pool | A | B | C

---|---|---|---

Opening Depreciation Base | 2000,000 | 300,000 | 500,000

Addition |   
 |   
 |

Up to Push (Fully Absorbed) |   
 | 100,000 | 100,000

Magh- Chaitra (2/3rd Absorbed) |   
 | 20,000 |

Baisak- Ashad (1/3rd Absorbed) |   
 | 20,000 |

Disposal |   
 |   
 | (30,000)

Depreciation Base | 2000,000 | 440,000 | 570,000

Rate | 5% | 25% | 20%

Depreciation | 100,000 | 110,000 | 114,000

Depreciation base is required to calculate depreciation and repair cost for depreciable assets. Depreciation during Income Year is Rs.324,000 as given in above table is deduction for Sec.19.

  185. Balancing Charge (–ve Depreciation base) - Depreciation base cannot be –ve in value. If disposal proceeds is higher than (whether pool existed physically or not) the depreciation base, then a negative figure arrived is called balancing charge. Balancing Charge shall be includible in inclusions (profit and gain) as per Sec.7(2)(d).

In case of disposal of pool, this balancing charge shall be computed taking all the purchase irrespective of date of pooling. Balancing charge is to be taken before computing depreciation base for the year. Unlike terminal depreciation, balancing charge is always computed from whole the pool basis.

  135. Disposal of DA\- In the example given above (), let assume, proceeds on vehicle sold on Magh was Rs.700,000 the depreciation computation shall be as follows:

Pool | A | B | C

---|---|---|---

Opening Depreciation Base | 2000,000 | 300,000 | 500,000

Addition |   
 |   
 |

Up to Push (Fully Absorbed) |   
 | 100,000 | 100,000

Magh- Chaitra (2/3rd Absorbed) |   
 | 20,000 |

Baisak- Ashad (1/3rd Absorbed) |   
 | 20,000 |

Disposal |   
 |   
 | (700,000)

Balancing Charge |   
 |   
 | 100,000

Depreciation Base | 2000,000 | 440,000 | 0

Rate | 5% | 25% | 20%

Depreciation | 100,000 | 110,000 | 0

  136. Foreign Airlines\- China Airlines is operating aircraft over Nepal sky. Its depreciation pool and repairs is as follows. Consider Rs.600,000 is cost for overhauling and CAAN approved for Rs.550,000 only.

Pool | B | C | D | Total

---|---|---|---|---

Depn. Base | 1500,000 | 3000,000 | 21700,000 | 26,200,000

Repair Cost | 100,000 | 250,000 | 2000,000 | 2,350,000

Pool D is not allowable depreciation and repair expense as per Sec.70. According to Article 8 of DTAA with China, earnings of China air is not taxable (hence no expense again) in Nepal.

  186. Accelerated Depreciation - According to Sec.3(2) of Schedule 2, depreciation rate shall be increased by 1/3rd in the following entity for Pool A, B, C and D:

  * Special Industry as defined in Sec.11

  * Construction of Road, Bridge, Tunnel, Rope-way, Sky Bridge

  * Operation of Trolley Bus and Tram

  * Cooperative Union or Society (non-taxable business)

  * Power house construction, generation and power transmission

  * Built, Own, Operate and Transfer (BOOT) Business

The concept to this additional depreciation is for tax favor economic regime. This will reduce the tax burden in earlier time and hence low pay back period of the investments. This additional depreciation or collectively total is called accelerated depreciation. These so-called accelerated depreciation is allowed for entity only. The acceleration is given in rate not on amount.

In spite of above regular accelerated depreciation there would be special accelerated depreciation too, e.g. whole of cost of fiscal printer and Electronic Cash Register (ECR) purchased during the year is depreciation since 2064.65. Power generator for the business is allowed an acceleration of 50% in the first year. In such cases, pooling date had not to be considered.

  187. BOOT and Power sector specialty- In case of equipment, plant and machinery installed in Built, Own, Operate and Transfer (BOOT), construction of power house, generation and transmission (but not distribution) of power, there is a special provision of depreciation than other business. In this case, if such equipment, plant or machinery replaced in any income year, the remaining value of such replaced equipment, plant or machinery shall be allowed as additional depreciation (terminal depreciation). In case of BOOT, remaining Value of transferred asset on the end of BOOT arrangement, the remaining value shall be deemed as terminal depreciation.

  137. Replacement and Depreciation\- Kandel Hydro power Ltd. is engaged in production and transmission of electricity in Nepal. In 20X2 Baisakh it replaced machinery having WDV Rs.50,000,000 with new machinery costing Rs.90,000,000. Opening depreciation base on Pool D (300 items of assets) were Rs.325,000,000.

Here, Opening Depreciation

 | Particulars | Rs.

---|---|---

  1. 
|

Opening Dep. Base | 325,000,000

  2. 
|

Absorbed Addition | 30,000,000

  3. 
|

Disposal Proceeds | 0

  4. 
|

Terminal Depreciation | 50,000,000

  5. 
|

Balancing Charge | 0

  6. 
|

Depreciation Base | 305,000,000

  7. 
|

Depreciation Rate | 20%

  8. 
|

Depreciation: Normal | 61,000,000

  9. 
|

Terminal | 50,000,000

  10. 
|

Total Depreciation | 111,000,000

  11. 
|

Opening Dep. Base for Next Income Year |

  12. 
|

Remaining Value | 244,000,000

  13. 
|

Unabsorbed Purchase | 60,000,000

  14. 
|

Unabsorbed Repairs etc. | 0

  15. 
|

Total Opening Base | 304,000,000

  138. Transfer in BOOT\- Kandel Hydro power Ltd., in above example transferred its plant and electromechanical equipments (250 items with written down value of Rs.300,000,000 were qualified to transferred) to Government of Nepal, GON on 20X2.4.2 and site office possessed to GON. Is there any adjustment in depreciation for 20X1.X2 or 20X2.X3? Is there any difference if the project transferred to Kalakheti Hydro Power Company Limited?

Depreciation for Income Year 20X1.X2 see above. For 20X2.X3, all the assets were transferred to GON, it means remaining value of transferred assets was deemed as terminal depreciation.

 | Particulars for 20X2.X3 | Rs.

---|---|---

  1. 
|

Opening Dep. Base | 304,000,000

  2. 
|

Absorbed Addition | 0

  3. 
|

Disposal Proceeds | 0

  4. 
|

Terminal Depreciation | 300,000,000

  5. 
|

Balancing Charge | 0

  6. 
|

Depreciation Base | 4,000,000

  7. 
|

Depreciation Rate | 15%

  8. 
|

Depreciation: Normal | 600,000

  9. 
|

Terminal | 300,000,000

  10. 
|

Total Depreciation | 300,600,000

  11. 
|

Opening Dep. Base for Next Income Year |

  12. 
|

Total Opening Base | 3,400,000

Scenario shall be reversed in case of sale of same assets, if transferred to Kalakheti Hydro Power Company Ltd, the transferred to be valued at depreciation base of Rs.30 crores or market value whichever is higher basis under Sec.45 even if not proceeds had received at all.

If the company has not any another BOOT business after transferring the first-mentioned BOOT, then remaining assets to be depreciated at normal depreciation (due to cease of accelerated rate) rate since the year of transfer of said BOOT.

  188. Terminal Depreciation - Terminal depreciation means allowance of remaining figure in disposal or otherwise. Normally, terminal depreciation arises in:

a. Small Value - If remaining value after normal depreciation (including accelerated too) is lower than Rs.2000, that value.

b. Pool Disposal - If pool is disposed, remaining value, if any. This is residual interest and allowed based on transactional tax treatment.

c. Particular asset disposal (Replacement and Transfer) - In case of BOOT, power-house construction, generation and transmission of power, replacement of plant and transfer.

In case of a person leave business, remaining value of depreciable asset shall not deem as terminal depreciation but assumed as disposal at market value u/s 45 or 27. Terminal depreciation for (b) and (c) case above shall be taken before computing depreciation base and for (a) case, it shall be taken after providing regular depreciation for the year.

Depreciation if pool disposed and wake up during year

There is an unwanted question of depreciation base that if a pool disposed during the year completely and waked up thereafter. The depreciation base is computed at year-end with formula of Opening + Addition – disposal irrespective of disposal date. Let take an example:

  139. Balancing Charge and depreciation in same pool – Any mathematical formula may a good fun of art. The depreciation is computed on pool base and if it is negative the balancing charge. In the following case both depreciation and balancing charge is availed. Say BOOT Company having opening depreciation base of 25 items of pool D is Rs.100 lakh and transfers Rs.80 lakh equipment to the GON at the time of transfer of BOOT. One item purchased at Rs.9 lakh on Ashadh. Four equipment sold at Rs.25 lakh. The depreciation of pool D shall be (Rs. lakh):

Opening Base | Rs.100 |

---|---|---

Absorbed addition | Rs.3 |

BOOT transfer | Rs.80 |

Disposal Proceeds | Rs.25 |

Depreciation base | 0 |

Balancing Charge | Rs.2 | Inclusions

Depreciation | Rs.80 | Deductions

Opening Base for next year | Rs.6 | Balance Sheet

  140. Disposed - Wake up- Kalikothi Limited has one vehicle having depreciation base of Rs.200,000 in Srawan 1. The vehicle was sold at Rs.500,000 on Aswin 30. The Company purchased another vehicle costing Rs.600,000 on Jeth 1. Find the depreciation base and allowed depreciation.

Here, Opening Depreciation Base = Rs.200,000

Addition (Jeth absorbed 1/3rd) = Rs.200,000

Disposal Proceeds = Rs.500,000

Balancing Charge ~profit and gain for Sec.7(2)(d) = Rs.100,000

Opening Depreciation Base for next year

Remaining Value = Rs.0

Unabsorbed Purchase = Rs.400,000

Opening Depreciation Base for next year = Rs.400,000

In this case all the points were considered as per year-end base, the pool was not existed for the period Kartik to Baisakh but computation was done on the figure taking for the year at whole.

  189. Depreciation on Intangible Assets - Accounting for Intangible assets is guided by NAS 38, but for taxation purpose, it has covered under depreciable assets for taxation. Intangible assets are not directly defined in income tax laws, but there is a probable list of examples in Sec.2 as:

(1) Use of or right to use a copyright, patent, design, model, plan, secret formula or process or trademark.

(2) Supply of technical know-how.

(3) Use of or right to use a motion picture-based film, video tape, sound recording or any other similar means, and supply of industrial, commercial or scientific experience.

(4) Supply of any assistance in such a manner as to prove helpful in matters mentioned in Sub-Clause (1), (2), or (3), or

(5) Observation of a full or partial restriction regarding matters mentioned in Sub-Clause (1), (2), (3), or (4).

Income tax incidence of intangible assets has two folds:

  * Royalty based: Intangible asset as lease and royalty payable to owner based on time or no. of units under consideration. Royalty is subject of tax at source (see Chapter in details) and payment in total is deductible under Sec.13.

  * Lump Sum purchase: these types of intangible assets are depreciated in a rate derived on straight-line basis.

Pool of Intangible Assets: Intangible assets fall in Block E and each purchase is individual pool, per asset basis. So, Block E may have more than 1 pool like pool E1, E2, E3 and so on. Absorbed addition of intangible assets is similar as tangible assets, i.e. if purchased within Push fully absorbed, if purchased during Magh - Chaitra 2/3rd absorbed and so on.

In case of any additional payment is made in case of any pool of intangible assets, these amount is to be added based on time frame but if similar intangible asset purchases with individual capacity and independently than already holding, later should be treated as separate pool of assets.

In case of disposal of pool, the behavior of same as other pool.

  141. Intangible Asset- Kamali Limited has entered into a publication copyright contract on Chaitra 6th with Kabhre Publishers to publish a book. Royalty is fixed Rs.40 per book printing and Rs.20 per book of sales. During the year, following is the details.

Printing 5000 Copies, Sold 4500 Copies

Here, the contract of copyright is based on output and paying amount is royalty. This copyright contract is not a depreciable asset. Here royalty expense is Rs.290,000 (5000*40+4500*20) deductible under Sec.13. Of course, the payment is subject of withholding tax.

  142. Pool E Date- Kanwari Limited has entered into a publication copyright contract on Chaitra 1st with Kattel P. Ltd. to publish a book. Royalty is fixed Rs.900,000 for 3 years 4 months with maximum copies of 5000 per year. Find the tax impact.

Here it is a case of intangible asset having depreciable assets behavior. Its rate is to be computed based on formula as:

Depreciation per year = 1/ Period of contract near to half year

Rate of Depreciation = 1/3.5 = 28.57%

Computation of depreciation and depreciation base

Pool E1 | IY 1 | IY 2 | IY 3 | IY 4

---|---|---|---|---

Purchase Price | 900,000 | 900,000 | 900,000 | 900,000

Opening Depn. Base | 0 | 728,580 | 471,450 | 214,320

Addition Absorbed | 600,000 | 0 | 0 | 0

Terminal Depn. | 0 | 0 | 0 | 214,320

Disposal | 0 | 0 | 0 | 0

Depn. Base | 600,000 | 728,580 | 471,450 | 0

Rate of Depn. | 28.57% | 28.57% | 28.57% | 28.57%

Depreciation Exp. | 171,420 | 257,130 | 257,130 | 214,320

Base for next year | 728,580 | 471,450 | 214,320 | 0

Expiry of terms of an asset is disposal u/s 40(1). Hence in the end of 4th year the pool shall be seized and hence whole amount of opening Depn. base is terminal depreciation.

  143. Near to half year- See the case, of converting the period into near of a half year and rate of depreciation.

Right purchased for period of | Near to half a year | Rate of Depreciation

---|---|---

5 years | 5 | 20.00%

5 year 2 months | 5 | 20.00%

5 year 3 months | 5.5 | 18.18%

5 year 5 months | 5.5 | 18.18%

5 year 6 months | 5.5 | 18.18%

5 year 8 months | 5.5 | 18.18%

5 year 9 months | 6 | 16.67%

5 year 10 months | 6 | 16.67%

  144. Pool E Date- Kholsakhi Limited has entered into a patent copyright contract on Chaitra 1st with Khaniya Publishers to publish a book. Royalty is fixed Rs.900,000 for 2 years 8 months with production of 10,000 units. Patent seller improved its formula and further Rs.300,000 has charged for Kholsakhi Limited at 2nd year-end of contract.

Here it is a case of intangible asset having depreciable assets behavior. Its tax rate is to be computed based on following diminishing balance method formula as:

Depreciation per year = 1/ Period of contract near to half year

Rate of Depreciation = 1/2.5 = 40.00%

Computation of depreciation and depreciation base

Pool E2 | Year 1 | Year 2 | Year 3 | Year 4

---|---|---|---|---

Purchase Price | 900,000 | 900,000 | 1,200,000 | 1,200,000

Opening Depn. Base | 0 | 660,000 | 300,000 | 160,000

Addition Absorbed | 600,000 | 0 | 200,000 | 0

Terminal Depn. | 0 | 0 | 0 | 160,000

Disposal | 0 | 0 | 0 | 0

Depn. Base | 600,000 | 660,000 | 500,000 | 0

Rate of Depn. | 40.00% | 40.00% | 40.00% | 40.00%

Depreciation Exp. | 240,000 | 360,000 | 440,000 | 160,000

Unabsorbed Purchase | 300,000 | 0 | 100,000 | 0

Opening Depn. Base for next year | 660,000 | 300,000 | 160,000 | 0

  190. Government grant in Pool asset - Tax depreciation is based on pool, value of assets and tax accounting methods. Sec.22 and Rule 8, specifically addressed the matters of prevailing accounting standards. In case of government grant, there is not any specific formula for taxation hence tax accounting on grant to be done based on NAS 20 'Government Grant'. Accounting treatment of grant affect the value of depreciable asset. Hence, based on NAS 20 accounting, purchase value of assets to be adjusted in accounts and in taxation too.

  145. Grant on asset\- Chamunda Company purchased a machinery for Rs.100 lacs and installed on Magh 13 in specified remote. It received a Single-window Grant for 20% of the price. The machine has on effective life of 10 years.

As per NAS 20 para. 12, "Government grants shall be recognized as income over the periods necessary to match them with the related costs which they are intended to compensate, on a systematic basis. They shall not be credited directly to shareholders' interests." This mean the grant need to allocate to income on systematic manner. Allocation with lead the value of asset remains unchanged at purchase price, so the asset to be capitalized at Rs.100 lacs (Pool D: 2/3rd this year and 1/3rd following year).

  146. Grant withdrawn\- The terms of grants were employ 33% of local people but Chamunda Company in could not due to unwilling of locals. The government withdrew the grant in the 4th year of equipment so installed. What shall be the taxation impacts?

Un-fulfillment of terms of grant compel government to withdraw the grant not the asset itself. In this case depreciation is to be computed as usual, because grants were not impact on pool value of assets.

  191. Foreign loan in Pool asset - Tax depreciation is based on pool, value of assets and tax accounting methods. Sec.22 and Rule 8, specifically addressed the matters of prevailing accounting standards. In case of any asset or liability in foreign currency, the taxation impact as described in Sec.28 is same as accounting impact as described in NAS 21. On the date of reporting or settlement after initial recognition of foreign currency transaction, the difference shall be accounted as income (inclusions) or expense (deduction u/s13). It shall has not any compensating adjustments on pool assets.

  147. Foreign loan on asset\- Chandeswori Company purchased a machinery for USD 1.5 lacs (Rs.100 lacs) and installed on Chaitra 1. The terms of purchase was 180 days credit. Spot rate for year-end was Rs.70.

As per NAS/IAS 11 and Sec.28 both, transaction involving foreign currency initially need to be recorded at spot rate of date of transaction. This lead the pool value shall be based on spot rate of forex on the date of transaction. Any deviation of receivable or payable on the date or reporting or settlement to be recognized as income (inclusions) or expense (deduction) separately. So, value in the pool is as usual for Rs.100 lacs (2/3rd this year and 1/3rd deferred) to be capitalized. Credit terms shall not impact pool.

  192. Investments property - NAS/IAS 40 explains accounting treatments regarding investments property. Investments property, in our case, for example are construction of commercial buildings in land owned by another- United World Trade Centre, Kathmandu Mall, Kantipur Mall, Lalitpur Bisal Bazar etc. According to Income Tax Manual, the structure constructed in these land shall be depreciated at pool E.

  193. Individual list of asset require in Pool asset - Tax depreciation is based on pool; all the formula and calculation are based on pool. On the long-run of business, it normally cannot find the individual status of the assets within pool. The question arise, whether it require to keep individual list of assets or not? The answer is yes. There is pool concept on schedule 2 for computing depreciation but there are 13 individual sections those require the individual list of assets are Sec 19(2), Sec.40-48, Sec.56(3) and Sec.57.

To compute and implement above mentioned 13 sections, individual list of depreciable assets to be kept. On this situation, deemed assets (repair, pollution control expenses and research & development) are to be taken as separate asset.

Applicable Circulars

1. Generator, boiler, sanitary and plumbing equipment used by hotel fall under pool "D" – Advance Ruling dated 2061.7.26.

2. LP Gas cylinder is depreciated at 15%- decision dated 2064.6.15

3. Vehicle and transport equipment operating by engine fall in pool "C"- Public Circular dated 2064.11.3

4. Basic items of business fall in Pool "D"- Public Circular dated 2064.11.3.
  5. ## Repairs and Improvement Expenses

Applicable Standards : Not particular NAS

Applicable Section : Sec.13, 15, 16, 38 and 56

Applicable Circular : 2061.7.26, 2064.6.15 and 2064.11.3

  194. Myths of Repair\- Many experts, officers, teachers confused with repairs that should be tied with 7%. This statement is partially right. According to variety of provisions of the Act, repairs can be claimed in twofold:

Firstly, repair of own assets- trading stock, depreciable assets and business assets as:

  * In case of repair of trading stock, cost is addition for the trading stock \- Sec.15 (see )

  * In case of repairs of depreciable assets\- 7% of depreciation base of concern pool under Sec.16.

  * In case of repairs of depreciable assets having pool not existed at year-end \- fully allowed as deduction u/s 13.

  * In case of repairs of business assets\- Sec.38.

  * In case of repair of pollution controlling asset – expense for Sec.17.

  * In case of repair of own asset but not used in business or used by else one/ shareholders- no repair deduction u/s 56(3).

Secondly, repair of third party assets- Repair those are qualify from Sec.13 and not made for either of any of own assets are to allow under Sec.13 alone. So, any repair on finance leased assets is allowed u/s 13 irrespective of case whether the asset was in any category of trading stock, depreciable asset or business asset for the owner.

At gross specking, altogether 6 sections of Income Tax Act, 2058 [Sec 13, 15, 16, 17, 38 and 56(3)] provide for repaiRs.Apart from these Sec.70 denies the repairs in the assets paying tax u/s 70.

  195. Expense covered by Sec.16 - Expense qualifying for Sec.16 has three types of expense relating to depreciable assets:

Maintenance cost: it is cost paid to keep depreciable asset in operating condition without break up or damage.

Repair Cost: it is cost paid to restore damaged depreciable asset.

Improvement Cost: Improvement is cost to enhance facility without installing additional equipment, mixed behavior of repair or capital cost, so has a little bit capital in nature.

  196. Repairs on Overhauling of Aircraft - Air-craft is depreciable asset. According to Sec.16, repairs on depreciable assets are to be allowed to the extent of 7% of depreciation base. But, aircraft overhauling expense is deductible in the tax accounting (it is normally deferred in accounting). The conditions for this benefit are:

  * Air transport business ( not leaser or manufacturer);

  * Overhauled expense (regular repair is capped at 7% of depreciation base).

  * Prescribed standard of Civil Aviation Authority of Nepal.

  197. Repairs on Depreciable assets - Repair expense of depreciable assets are capped on depreciation base and allowed minimum of:

  * Actual repair expenses –pool based'

  * 7% of depreciation base before deducting the depreciation (hence depreciation and repairs are compared in same base)

Remaining amount, if any in any pool is to be capitalized in the concern pool at the beginning of next income year.

In case of Electronic Cash Register (ECR) purchased during 2064.65 full amounts has already allowed as depreciation even it was a depreciable asset, the repair cost goes to pool D.

  198. Improvements and capped with depreciation base -Sec.16 is for repair, maintenance and improvement and capped with 7% of depreciation base. The concept behind this is complexity of nature of repair and improvement in certain cases. The reason so, has explained in IMF commentary as follows: "Many income taxes grant an immediate deduction for costs incurred in repairing depreciable assets but require depreciation of costs incurred in improving depreciable assets. However, the distinction between a repair and an improvement is notoriously difficult to determine. Section (16) ignores this distinction by granting a limited deduction for costs incurred in the repair or improvement of depreciable assets. The deduction available with respect to all assets in a particular pool of depreciable assets is limited to 5 (now 7) percent of the written down value of the pool at the end of the tax year in question. Any cost that is not deductible is added to the depreciation basis of the pool and will be depreciated."

  199. Repairs of nil value assets - Repair on depreciable assets is capped with depreciation base. In case of depreciation base is zero with existence of pool assets, allowed repairs shall be zero and unabsorbed amount is to be added to opening depreciation base for the next year. See on page 121 for example.

In case of pool is disposed during the year, repairs on assets within that pool cannot be allowed based on 7% capped nor unabsorbed repair can be carried forwarded to next year. Income Tax Act, 2058 is not clear on this issue nor has any public circular issued.

General motive of expense to be deductible is, first the expense should not be disallowed u/s 21 and should be passed u/s 13. In case of expense passed u/s 13, section 14 to 19 limits the quantum for this income year, though all expense is allowed in any case. Due to this motive, repairs on depreciable assets of pool that disposed at year-end is allowed u/s 13 at whole irrespective of 7% of depreciation base.

  200. Limitation ~Sec.16(2) - Expenses on repair and improvement regarding a block of owned and used assets during an income year in excess of 7% of the depreciable basis of the respective block at the end of the income year, cannot be deducted during the income year.

The portion of the expenses disallowed during the year are allowed to be capitalized to the tax base amount of the respective block of the assets but depreciation on that portion is allowed only a year after the capitalization ~Sec.16(3).

  148. Repairs without asset at end\- Following is repairs in assets given in pg. 110, find allowable limit u/s 16. Computer: Rs.35,000; Building: Rs.20,000; Vehicle: Rs.70,000 on sold vehicle. Here,

Pool | A | B | C

---|---|---|---

Depreciation Base | 2000,000 | 440,000 | 570,000

Maximum Limit 7% (X) | 140,000 | 30,800 | 39,900

Actual Expense (Y) | 20,000 | 35,000 | 70,000

Allowed Min (X,Y) | 20,000 | 30,800 | 39,900

Addition to concern pool base | 0 | 4,200 | 30,100

  149. Repairs, Example\- If repairs on computer: Rs.35,000; building: Rs.20,000; vehicle: Rs.70,000 on sold vehicle in , page 111 find the allowable depreciation. Here,

Pool | A | B | C

---|---|---|---

Depreciation Base | 2000,000 | 440,000 | 0

7% of Depreciation Base | 140,000 | 30,800 | 0

Actual Repair | 20,000 | 35,000 | 70,000

Repair u/s 16 (minimum of two) | 20,000 | 30,800 | 0

Unabsorbed Repairs | 0 | 4,200 | 70,000

Unabsorbed repairs is to be added in the opening depreciation base for the next year.

In pool C, say physical existence is not at year-end, then repairs cannot be carried to next year or allowed within 7%. In this case, these repairs are to be allowable u/s 13 within this year.

  150. Aircraft Overhauling\- Kharel Airlines is operating aircraft over Nepal sky. Its depreciation pool and repairs is considering Rs.600,000 is cost for overhauling and CAAN approved for Rs.550,000 only is as:

Pool | B | C | D | Total

---|---|---|---|---

Depn. Base | 1500,000 | 3000,000 | 21700,000 | 26,200,000

Repair Cost | 100,000 | 250,000 | 2000,000 | 2,350,000

Here, overhauling approved by CAAN is fully allowed, then:

Pool | B | C | D | Total

---|---|---|---|---

Depn. Base | 1500,000 | 3000,000 | 21700,000 | 26,200,000

7% of Base (A) | 105,000 | 210,000 | 1519,000 | 1,834,000

Repair Cost | 100,000 | 250,000 | 2000,000 | 2,350,000

Less Overhauling |   
 |   
 | 550,000 | 550,000

Qualified (B) | 100,000 | 250,000 | 1450,000 | 1,800,000

Allowed (C) | 100,000 | 210,000 | 1450,000 | 1,760,000

Unabsorbed | 0 | 40,000 | 0 | 40,000

Hence Allowed Repair = Rs.2310,000.

  151. Foreign repair- Kharel Airlines is registered in Nepal and operating international routes. Its depreciation pool and repairs is considering Rs.600,000 is cost for overhauling and CAAN approved for Rs.550,000 only is as:

Pool | B | C | D | Total

---|---|---|---|---

Depn. Base | 1500,000 | 3000,000 | 21700,000 | 26,200,000

Repair Cost | 100,000 | 250,000 | 2000,000 | 2,350,000

Overhauling has done in Brunai. Nepal has not any tax treaty with Brunai and the bill is settled through IOTA clearing.

Answer is same as and Brunai and payment method is irrelevant, because if depreciable asset is Nepal based repair cost deemed as Nepal source payment u/s 67(5)(b).

  152. Third party asset\- Kharel Airlines is registered in Nepal and operating international routes, has not any aero plane in its own name. It is operating a operating weight lease plane from Lauda Air, Austria. During this income year, repair and maintenance cost for that aero plane is Rs.2 million. Find the tax impact.

Repair and maintenance of third party asset is not governed by Sec.16 rather by Sec.13. So, all the cost is deducted.

  153. Treatment of repairs in case of change in ownership\- During the year, 60% shareholders of Konju Ltd. sold their shares. There was repair till the date of share transfer and thereafter is as:

Pool | B | C | D | Total

---|---|---|---|---

Depn. Base: year-end | 1500,000 | 3000,000 | 21700,000 | 26,200,000

Repair Cost, up to date of transfer | 100,000 | 50,000 | 1000,000 | 1,150,000

Repair Cost, after of transfer | 200,000 | 200,000 | 200,000 | 600,000

In case of ownership change, there shall be two separate income tax returns, first from Srawan 1 to date of share transfer; and second date of share transfer to year-end. In the first case, there shall be zero depreciation base, hence 7% of depreciable asset is nil. In this case, whole amount to be allowed as deduction u/s 13. In the second case, 7% (of new depreciation base) is to be allowed.

  4. #  Deduction capped with ATI

There are three heads of deduction, viz. (i) interest paid to controller by Exempted Controlled Entity, (ii) pollution control expense, (iii) research and development expense; and one head of reduction viz. 'donation' those capped with adjusted taxable income. For individual case of above 4 items, definition of adjusted taxable income is also varied.

  201. Adjusted Taxable Income - Adjusted Taxable Income, as defined in Sec.2 is taxable income computed without any deduction of interest qualified for Sec.14(2), pollution control expenses qualified to Sec.17 and Research and Development Expenses qualified for Sec.18 and without any reduction of donation qualified for Sec.12.

According to this definition, first of all we need to segregate expenses for sec 14(2), 17, 18 and 12. Furthermore, taxable income should be computed without these expenses. Hence,

Income from Employment Rs......

Income from Business except 14(2), 17 and 18 Rs......

Income from Investment except deducting of 14(2) Rs......

Assessable Income Rs......

Reduce, Reduction except donation Rs......

Adjusted Taxable Income Rs......

  1. Adjusted Taxable Income for Sec.14(2)

Adjusted Taxable Income without interest element plus pollution control expense and research and development cost at full i.e.

Adjusted Taxable Income+ interest expense deducted-interest income included-pollution control expense (full)-R& D (full).

  2. Adjusted Taxable Income for Sec.17(2)

Adjusted Taxable Income- interest expense u/s 14(2) -R& D (full).

  3. Adjusted Taxable Income for Sec.18(2)

Adjusted Taxable Income- interest expense u/s 14(2) –pollution control expense (full).

  4. Adjusted Taxable Income for Sec.12(2)

Adjusted Taxable Income

  202. Qualifying interest u/s 14(2) - Interest for section 14(2) is interest paid or payable to exempted controllers having substantial holding or controlling of 25% or more except interest to Government of Nepal. Exempted Controllers are all or any portion of following:

Exempted entity: Entity having Tax Exemption Certificate, Political Party, Local Government, Nepal Rastra Bank, Government of Nepal.

Person having Tax Concession u/s 11: Cooperative without tax, Industries in Remote (Zone rebate) and Special Tax Zone having tax privileges (at zero).

Non-resident Person: Any non-resident, including resident for income tax but defined as non-resident due to DTAA.

In case of shareholdings of any entity is at 25% or more in above cases, the interest paid to these shareholders need to examine based on adjusted taxable income. In case of debt claim from these shareholders is taken and interest is not disallowed u/s 21, but allowed u/s 13 and 14(1), further test is to be done for Sec.14(2). If such interest is to be capitalized having loan used to purchase asset not having in business use. These interests are not covered by Sec.14(2).

  154. Exempt Controlled\- Khakuryal Bikash Bank is subsidiary of Nepal Rastra Bank, it has taken a loan form NRB for its operation. Total interest of Bikash Bank is Rs.2 Crores including interest accrued during the year is Rs.15,00,000.

In this case, Gramin Bikash Bank is exempted controlled entity, because its shareholding is more than 25% by NRB, exempted entity. Interest accrued to NRB is covered by Sec.14(2).

  155. Exempt Controlled Interest\- Khadka Nigam is incorporated at 50% of NRB, 30% of different commercial banks and 20% by Karmachari Sanchaya Kosh. It has taken a loan of Rs.1 crore at 5% to construct a building, Rs.3 crore at 6% to lend to cover indemnity fund from its all shareholders at the proportion of shareholdings. The building is under construction. It has interest earnings of Rs.2 lacks. Profit before interest expenses is found Rs.10 lakh. Here, interest expenses for its shareholders are:

Source | For Building | For operation

---|---|---

NRB, Exempted Entity 50% | 250,000 | 900,000

KSK, Exempted Entity 20% | 100,000 | 540,000

Commercial Banks, 30% | 150,000 | 360,000

Total Interest | 500,000 | 1,800,000

Rs.500,000 is to be capitalized as Interest During Construction (IDC) because building has not in put to use. In IDC, test u/s 14(2) is not required. Out of operating interest Rs.18,00,000, Rs.14,40,000 has paid to exempted shareholder is qualifying amount for Sec.14(2).

  156. Exempt Controlled\- Mr. Khadal is permanent inhabitant of Patan established a limited company called Khadal P. Limited in Patan. Mr. Khadal contributed Rs.5 crores for share and Rs.5 crores as loan at 10%. Interest earnings are Rs.2 lakh by the company. Profit before tax is Rs.40 lakh.

Here, interest Rs.50 lakh accrued to Mr. Khadal. Mr. Khadal is neither of above category.

  157. Exempt Controlled & DTAA\- Mr. Michel is a citizen Norwegian permanent inhabitant of Oslo live Nepal for 3 years established a limited company called Norway P. Limited in Patan. Mr. Michel contributed Rs.5 crores for share and Rs.5 crores as loan at 10%. Interest earnings are Rs.2 lakh by the company. Profit before interest and tax is Rs.40 lakh.

Here, interest Rs.50 lakh accrued to Mr. Michel. Mr. Michel is staying since last 10 months in Nepal. Due to DTAA with Norway, he is resident of Norway and non-resident for Nepal (even his stay is more than 183 days in last 365 days). Total interest is qualified for Sec.14(2).

  203. Allowed interest u/s 14(2) - Allowed interest u/s 14(2) is minimum of:

(A) Interest Income + 50% of Adjusted Taxable Income without interest element plus pollution control expense and research and development cost at full i.e.

Interest Income + (Adjusted Taxable Income+ Interest Expenses- Interest Income- pollution control expense all - research and development cost all)*50%

(B) Interest qualified plus unrelieved previous year interest.

  158. Concept of interest income\- Why interest income, at least, has allowed for this deduction?

Central concept of this formula is to control thin capitalisation. Interest is allowed as deduction, but, if shareholder beyond tax net invest in an entity at undercapitalization but with loan fund shall be scheme for avoidance of tax. In this case, interest is allowed at 50% of (adjusted) taxable income. This means if there is taxable income, interest expense is allowed, otherwise no interest, except interest income, is allowed. At least interest income is allowed as deduction. It is because, interest income has assumed as income contributed from that loan fund of question.

  159. Interest u/s 14(2)\- In the above,

Adjusted Taxable Income = Profit before interest– interest allowed except interest qualified for Sec.14(2)

= 10-3.60 lakh

= 6.40 Lakh

Limit of Sec 14(2) (A) = Interest Income + 50% of Adjusted Taxable Income without interest element

= Interest Income + (Adjusted Taxable Income+ Interest Expenses- Interest Income)*50%

= 2+(6.40+3.6-2)*50% = 6 lakh

Interest qualified plus unrelieved previous year interest (B) = 14.40 lakh

Allowed u/s 14(2) = 6 lakh (minimum of A & B)

Unrelieved interest = Rs.8.40 lakh (deferred to next year)

  160. IDC and Sec.14(2)\- Suppose, in the next year of above, the building was completed and on use on Magh 1. Interest earnings Rs.3 lakhs and profit before tax is Rs.12 lakhs.

In this case, the building is in use, so no IDC and interest expenses is Rs.2300,000.

Adjusted Taxable Income = Profit before interest – interest allowed except interest qualified for Sec.14(2)

= 12 lakh

Limit of Sec 14(2) (A) = Interest Income + 50% of Adjusted Taxable Income without interest element

= Interest Income + (Adjusted Taxable Income+ Interest Expenses- Interest Income)*50%

= 3+(12+23-3)*50%

= 19 lakh

Interest qualified plus unrelieved previous year interest (B)

= 7.40 lakh

Allowed u/s 14(2) = 7.40 lakh (minimum of A & B)

Unrelieved interest = none (deferred to next year)

  161. Interest Expense\- Allowed interest for the is as follows:

In the case of Mr. Khadal interest Rs.50 lakh accrued to Mr. Khadal is neither of exempted controllers' category. Total interest of Rs.50 lakhs is allowed as deduction.

  162. Interest u/s 14(2)\- Allowed interest for the is as follows:

Adjusted Taxable Income = Profit before tax – interest allowed except interest qualified for Sec.14(2) = 40 lakh = 40 lakh

Limit of Sec 14(2) (A) = Interest Income + (Adjusted Taxable Income without Interest element) *50%

= 2+(40+0-2)*50% = 21 lakh

Interest qualified plus unrelieved previous year interest (B)

= 50 lakh

Allowed u/s 14(2) = 21 lakh (minimum of A & B)

Unrelieved interest = Rs.29 lakh (deferred to next year)

  204. Adjusted Taxable Income of business for sec 17 and 18 - Sec.17 of Income Tax Act, 2058 is providing for pollution control expenses and Sec.18 for research and development.

Pollution control expenses, as defined in Explanation of Sec.17 is "the expenses incurred by a person in connection with a process aimed at controlling pollution or protecting or conserving the environment in any other way"

Research and Development expenses, as defined in Explanation of Sec.18 is "the expenses incurred by a person in order to promote his business and improve business products or and processes"

In both cases, expense is mix or revenue in nature and capital in nature. This is why any capital expense qualifying for Sec.17 or Sec.18 are pollution control expense and research and development expense for the purpose of tax. These capital expense, normally, creates deferred tax in financial statements.

  163. PCE and R&D \- Adjusted Company has following income status find the allowable interest u/s 14(2), PCE and R&D.

Inclusions (profit and gain) from Business Rs.600,000

Deduction of expense Rs.400,000

Income from Business Rs.200,000

Income from Investments Rs.200,000

Further information: Inclusions includes Rs.20,000 as interest income. Deduction of expense includes Rs.50,000 interest paid to the bank but interest paid to the exempted controller Rs.250,000 has not included thereto. There is Pollution Control Expense and Research and Development Expense Rs.200,000 each.

Here, Income from Business Rs.200,000 Income from Investments Rs.200,000

Adjusted Taxable Income (ATI) Rs.400,000

ATI without interest = ATI+ Int. Exp- Int. Inc.

= 400000+50000-20000

= 430,000

ATI of Business (before PCE/R&D) = 200,000

Now Allowable limit of Interest u/s 14(2) is minimum of

(A) Qualifying interest expenses Rs.250,000

(B) Interest income + 50% if ATI without interest elements

= 20000+ 430000*50% = 235,000

So, interest allowed u/s 14(2) is Rs.235,000 remaining balance deferred for next year.

Allowable PCE and R&D is minimum of

(A) Qualifying expense = Rs.200,000

(B) 50% if ATI for PCE = (200000-250000-200000) = loss

(C) 50% if ATI for R&D = (200000-250000-200000) = loss

So allowable PCE and R&D is nil. All the unabsorbed expense of Rs.200,000 goes to pool D of depreciation pool.

  205. Donation and Contribution (Sec. 12) - Donation is not a deduction but a reduction capped with adjusted taxable income. The amount of donation given or contribution made to any tax-exempt organizations recognized by IRD, can be claimed for deduction from the taxable income of the year in which the payment is made.

A ceiling is imposed on such payment of up to 5% of the adjustable income for the income year or Rs.100,000, whichever is lower. But if GON has notified in Nepal Gazette that donation could be given in certain circumstances for a particular purpose, the amount could be claimed as per conditions given in the same notification.

In the given case, eligible donation is:

Adjusted Taxable Income (ATI) Rs.400,000

Eligible Donation as reduction is lower of

  1. Rs.100,000

  2. 5% of ATI (Rs.400,000*5%) Rs.20,000

  3. Actual donation, if any

  164. [ICAN]\- Interest expense during the year:

Loan Fund Name | Outstanding balance

at year-end | Interest expense | Remarks on the loan

---|---|---|---

Loan to old building | 2000,000 | 200,000 | Used for construction existing office in operation

Term from bank | 3,000,000 | 350,000 | Using for constructing office building under construction

Demand Loan | 2,000,000 | 8% p.a. | 1% service charge is levied by bank

Overdraft | 20,000,000 | 8% p.a. | 1.5% service charge on renew

Cost of building is to be funded by 30% equity and 70% bank financing basis. During the year Rs.100,000,000 has paid to the contractor. Calculate Interest expense.

  1. [2005 Dec] \- M/s Gandaki Brewery Industries Ltd. furnished the following particulars to you pertaining to the income year 2061-2062.

  1. Opening balance (WDV) of depreciable assets as on 2061-4-1.

Particulars | Rs.

---|---

Building | 20,00,000

Car | 12,00,000

Computers | 1,40,000

Office equipment | 2,40,000

Plant and Machinery | 16,00,000

Tools | 60,000

Repair and improvement cost capitalized (block D) | 20,000

  2. The company has purchased a plant & machinery as on 2062-3-15 for Rs.12,00,000. The company has also purchased a mini bus as on 2061-6-25 for Rs.7,00,000.

  3. During the year one old computer having written down value of Rs.25,000 is sold for Rs.15,000. one printer having written down value of Rs.7,000 became unusable and the company recovered nothing from it.

  4. Repair & improvement expenses of Company during the year are:

Particulars | Rs.

---|---

Building | 1,80,000

Office equipment | 20,000

Car | 1,50,000

Plant & Machinery | 1,60,000

  5. During the year the Company has incurred Rs.10,00,000 on research and development. However, only Rs.7,50,000 is allowable deduction for research and development cost for the year 2061-2062. Required,

(a) Classify the assets as per schedule 2 of Income Tax Act 2058.

(b) Amount of depreciation for the income year 2061-2062 as per schedule of 2 Income of Income Tax Act 2058.

(c) Amount of depreciable basis for the Income Year 2062-63.

  166. [2005-June] \- M/s Pashupatinath Industries, a partnership firm, submits following profits and loss account to you for computation of taxable business income for income year 2060-61.

Profit and Loss Account for the year ending 31.3.2061

Particulars | Amount (Rs.) | Particulars | Amount (Rs.)

---|---|---|---

Cost of Raw materials used | 1,500,000 | Sales | 2,600,000

Production Expenses | 5,00,000 | Misc. Income | 50,000

Gross Profit | 650,000 |   
 |

 | 2,650,000 |   
 | 2,650,000

To salaries | 3,48,000 | By Gross Profit | 6,50,000

To Rent | 24,000 | By Sundry creditors w/ back | 7,000

To printing and stationery | 4,700 | By Dividend from Nabil Bank | 13,500

To telephone | 2,800 |   
 |

To conveyance | 19,500 |   
 |

To traveling | 16,000 |   
 |

To interest | 68,000 |   
 |

To Depreciation | 20,000 |   
 |

To legal fees | 12,000 |   
 |

To auditor's fees | 12,000 |   
 |

To PF contribution | 18,000 |   
 |

To Net Profit | 125,500 |   
 |

Total Rs. | 670,500 |   
 | 670,500

Additional Information:

  1. Salaries include Rs.120,000 paid to working partner X and Rs.80,000 to working partner Y.

  2. Rent of Rs.24,000 is paid to the premises belonging to partner Y who has let it out to the firm.

  3. Interest paid includes Rs.60,000, being interest paid on loan given by partner Y at the rate of 15% simple interest.

  4. Out of PF. Contribution debited to P & L. Account Rs.7,000 was outstanding unpaid under the Income Tax Act.

  5. The firm normally purchases goods issuing crossed cheques and Banks drafts only except in the case of one bill for Rs.75,000 for which payment has been made by cash.

  6. Depreciation debited in the accounts is as per the Income Tax Act.

  7. Legal Fees include Rs.10,000 fees paid in respect of appeal against the income tax assessment for the earlier year.

  167. [2004- Dec] \- Mansubha Ltd. is a business house dealing in ready made garments. During the year 2066-067, it had the following transactions. Find its income from exports and the taxable income and tax liability:

Total sales | 2,000 lakhs

---|---

Export Sales | 1,500 lakhs

Cost of purchase of garments | 2,000 lakhs

Export expenses | 100 lakhs

Administrative expenses | 75 lakhs

Depreciation | 9 lakhs

Closing stock of garments | 200 lakhs

  168. [2004-June] \- The profit and Loss Account of PQR & Co. a manufacturing company shows a Net Profit of Rs.50,00,000 (before tax). Calculate the taxable income of the company for Financial Year 2059/060, after considering the following facts.

Fixed Assets schedule of the company shows the following balance

Pool | WDV as on 059.3.32

---|---

A | 20,00,000

B | 10,00,000

C | 12,00,000

D | 50,00,000

The company purchased Furniture of Rs.50,000 on Falgun 15, 2059. It also purchased a vehicle for Rs.8,00,000 on Baisakh 1, 2060.

  1. The Company holds 20% share in ABC & Co. Ltd. It received Rs.1,00,000 (net of tax) as dividend during the year.

  2. The Company has spent Rs.2,80,000 on the repairs of the Machinery during the year and charged the whole amount to the Profit and Loss Account.

  3. The company has paid a premium of Rs.2,50,000 for insurance of its Machinery and charged the whole amount to the Profit and Loss account. The period covered by the premium is from 2060.1.1 to 2060.12.30.

  4. The company has charged Rs.15,00,000 as depreciation during the year in its books.

  169. [2003-June] \- The ABC CO, Pvt. Ltd. has assets of B category (computer group) worth Rs.3,20,000 as on 32 Asadh, 2059. On Paush 15, the Company purchased a branded computer set costing Rs.1,50,000 and the company also paid for repair of old computer Rs.42,000. During the year one set computer was disposed at Rs.60,000. Compute the eligible depreciation for this group of assets and depreciation for this group of assets and depreciation for this group of assets and depreciation base for the year 2059-60 according to provision of Income Tax Act, 2058.

  170. [2003- Dec]\- The Profit and Loss Account of CBG & Co. for the financial year 20X9/Y0 shows the following details:

Sales | 500,000.00

---|---

Cost of Sales | 300,000.00

Donation | 20,000.00

Pollution Control Cost | 300,000.00

Repair and Maintenance | 10,000.00

How much amount is deductible as Pollution Control Cost?

  171. [2006-Dec] \- X Ltd. of Delhi has got 70% shares in Yoyo private Ltd. of Nepal. The Profit and Loss Account and Balance Sheet of the company for the first year of operation ending on 31.3.2062 was follows:

Balance Sheet

Share Capital | 270 | Plant & Machinery | 400

---|---|---|---

Secured Loan for Building | 200 | Department Building | 350

Unsecured Loan | 150 | Current Assets | 183

Current Liabilities | 80 | Profit & Loss Account | 67

 | 700 |   
 | 700

Profit & Loss Account

Cost of Sales | 450 | Sales | 500

---|---|---|---

Administration Expenses | 75 | Interest Received | 2

Interest on Loan | 42 | Loss for the year | 65

 | 567 |   
 | 567

Interest on Bank Loan is 10% and the interest on unsecured loan is 15%. Compute the taxable income.

  1. [2009-June] \- M/s Mechi Cigarette Industries Ltd. (producer of cigarettes) furnished the following particulars to you pertaining to this income year.

  * Opening balance (WDV) of depreciable assets as on 2064-4-1.

Particulars Rs.

Building 10, 00,000

Car 6, 00,000

Computers 70,000

Office Equipment 1, 20,000

Plant & Machinery 8, 00,000

Tools 30,000

Repair & Improvement cost capitalized (block D) 10,000

  * The company has purchased a plant & machinery as on Ashadh 15 for Rs.6, 00,000. The company has also purchased a mini bus as on Aswin 25 for Rs.3, 50,000.

  * During the year one old computer having written down value of Rs.12,500 is sold for Rs.7,500. One printer having written down value of Rs.3,500 became unusable and the company recovered nothing from it.

  * Repair & improvement expenses of the company during the year are:

Particulars Rs.

Building 90,000

Office Equipment 10,000

Car 75,000

Plant & Machinery 80,000

  * During the year the company has incurred Rs.5, 00,000 on research and development. However, only Rs.3, 75,000 is allowable deduction for research and development cost for the income year.

Required:

  1. Classify the assets as per schedule 2 of Income Tax Act, 2058.

  2. Amount of depreciation for the income year as per schedule 2 of income Tax Act 2058.

  3. Amount of opening depreciable basis for the income year.

  173. [2008-June] \- Hard Steel Udyog, proprietorship firm owned by Mr. Jeevan unmarried and handicapped has following Trading & P/L A/c for this year on accrual basis.

Particulars | Rs. |   
 | Particulars | Rs.

---|---|---|---|---

To Opening Stock |   
 |   
 | By Sales | 1,500,000

Raw Material | - |   
 | By Closing Stock |

Finished Goods | - |   
 | \- Raw Material | -

Raw Material Purchase | 500,000 |   
 | \- Finished Goods | 560,000

Production Expenses |   
 |   
 |   
 |

To Labour Wages | 150,000 |   
 |   
 |

To Electricity | 200,000 |   
 |   
 |

To Production Salary | 100,000 |   
 |   
 |

To Depreciation (Block D) | 200,000 |   
 |   
 |

To Plant Repair & Improvement | 80,000 |   
 |   
 |

To Insurance Premium (Machinery) | 10,000 |   
 |   
 |

Gross Profit | 820,000 |   
 |   
 |

 | 1,560,000 |   
 |   
 | 2,060,000

 |   
 |   
 | By Gross Profit C/D | 820,000

To Selling & Distribution | 150,000 |   
 | By Dividend (Gross) | 200,000

To Insurance Premium Expenses (Office Equipment) | 60,000 |   
 |   
 |

To Other Expenses | 4,000 |   
 |   
 |

To Net Profit | 806,000 |   
 |   
 |

Total | 1,020,000 |   
 |   
 | 1,020,000

Additional Information

  1. It purchases raw material 50,000 kg @ Rs.10/kg from local market on Srawan 1.

  2. Depreciation Base of Block 'D' is Rs.1,000,000.

  3. Selling & Distribution Expenses includes payment against truck freight Rs.75,000 in cash on Kartik 10 to Mr. Rajan, truck driver.

  4. Insurance Premium Expenses (Office Equipment) is related to 18 months ending Ashadh last and Insurance Bill is attached with Voucher.

  5. Data for consumption and production were as follows:

Particulars | Opening | Purchase/ Production | Total | Consumption/ Sales | Closing

---|---|---|---|---|---

Raw Material (kg) | - | 50,000 | 50,000 | 50,000 | -

Finished Goods (kg) | - | 48,000 | 48,000 | 32,000 | 16,000

2,000 kg (50,000 – 48,000) is normal production loss.

  6. He has received Salary Rs.110,000 of F/Y 2062/63 and Rs.50,000 for F/Y 2063/64 in cash from part time employment in other companies.

  7. He received dividend from Moon Rise Bank Ltd., registered as per Company Act, 2063.

  8. He contributed Rs.300,000 to Citizen Investment Trust (CIT).

  9. Closing Stock of Finished Goods has been valued at Closing Market Rate i.e. Rs.35/Kg.

Required:

  1. Calculate Taxable Income

  2. Calculate Tax Liability

  1. [2007-July] \- How will you deal with the followings for the purpose of Income Tax Act, 2058?

  1. Purchase of Patent right for Rs.20 lacs for using the special process for the next 10 years.

  2. Charges paid to technical engineer of Rs.5 lacs for locating a proper place for plantation of a Machinery.

  3. A Company receives Rs.10 lacs from an Insurance Company for the damage of its Stock in Transit.

  4. A Company distributes goods worth Rs.50,000 as free sample.

  5. Entertainment expenses of Rs.40,000 incurred during the Previous Year.

  175. [2006-June] -Mr. Ram is the proprietor of HHH Manufacturing, a special Industry. He is an expert in the field of his business but lacks the knowledge of the provisions of Income Tax Act, 2058 relating to depreciation. He asks you to calculate the amount allowable for depreciation for the income year 2062-63 from his manufacturing industry.

Also, advice him if he is eligible for any additional depreciation as per the Income Tax Act. Following information are provided to you:

Opening WDV as on 1 Shrawan 2062:

Building Rs.15,00,000 Machinery Rs.3,50,000 Office Equipment Rs.80,000

Transaction during the year:

  1. Office equipment worth Rs.50,000 purchased on Chaitra 23, 2062.

  2. Shipping expenses of Rs.10,000 paid for the above equipment.

  3. Machine, the WDV of which was Rs.53,000 was sold for Rs.45, 000 on Baishak 1,2063.

  1. [2006-June] - A company engaged in garment manufacturing, debited to its Profit and Loss Account a sum of Rs.90,000, being the interest on loan of Rs.9,00,000 taken for financing its expansion scheme. The plant and machinery purchased for the project with the loan was not received during the year and those were still in transit at the end of the year. Discuss the admissibility or otherwise of the interest on borrowing.

  2. [2005-Dec] -Advise whether the following expenditure are allowable:

  1. A. Co. Ltd purchased cane from an agriculturist and paid Rs.1, 20,000/- in cash;

  2. B. Co. Ltd. had a fire accident and in order to douse the fire and recover whatever assets could be recovered and employed the people from the nearby villages who were called to help and for the purpose paid cash Rs.1,50,000/- to Mr. A for distribution to the various villagers who helped the Company by payment not exceeding Rs.5000/- to each.

  3. C. Company Ltd. incurred an expenditure of Rs.10 lacs on repairs to Machinery whose depreciable value was Rs.200 lacs. But Rs.10 lacs included purchase of a new machinery costing Rs.50,000/-

  178. [2005-Dec] - Shri Hari Upadhyaya is a Chartered Accountant practicing at Kathmandu. The following is the analysis of his receipts and payments account for the year 2061/ 62.

Receipts | Rs. | Payments | Rs.

---|---|---|---

Balance b/d | 9,500 | Salaries | 1,64,000

Professional income | 3,90,000 | Rent | 12,000

House rent for 8 months | 40,800 | Telephone expenses | 5,500

Share of income from firm | 6,250 | Professional expenses | 3,000

Interest on Bank Deposit | 11,280 | Motor car expenses | 7,500

Insurance policy matured with bonus | 77,750 | Misc. office expanse | 1,500

 |   
 | Purchase of car | 80,000

 |   
 | Advance income –Tax | 12,500

 |   
 | Personal expenses | 42,400

 |   
 | Entertainment expenses | 17,000

 |   
 | House property expenses: |

 |   
 | Municipal Taxes | 6,000

 |   
 | -Repairs | 2,500

 |   
 | -Insurance | 2,000

 |   
 | -Collection charges | 600

 |   
 | Balance c/d | 1,79,080

Total Rs. | 5,35,580 | Total Rs. | 5,35,580

Compute Shri Hari Upadhyaya's total income after taking into account, the following:

  1. Value of benefits received from clients during the course of profession is Rs.5,000/-

  2. Allowable rate of depreciation on motor car is 20%;

  3. Municipal value of the house property is Rs.60,000/- This house was self occupied for residence for 4 months during the year.

  179. [2005-Dec] - How will you treat the following in the accounts and in income tax.

(a) Advertising and Promotional expenses incurred Rs.15 lacs whose benefits is expected to be available for 5 years;

(b) Purchases of Patent rights for Rs.25 lacs for using the special process for the next 10 years.

  3. Survey expenses incurred Rs.50 Lacs for locating a proper place for putting up a dam for generation of electricity ;

  4. A generator is purchased for Rs.25 Lacs as standby to be used when the existing generator has to be stopped for overhauling. But during the year, there was no opportunity to put the newly purchased generator to use;

  5. A company has received a notice for payment of additional excise duty, and penalty and interest totaling Rs.5 crores. The Company intends to appeal to the authorities.

  6. A company receives Rs.50 lacs from Insurance Company for damages to its stock of raw material and finished goods.

  180. [2005-June] - Discuss the taxability or otherwise of the following receipts by quoting the relevant sections of the Income tax Act 2058.

a) Sri Man Bahadur was a student with Mr. Bhattarai, who is a teacher by profession. He gets admitted to Harvard University. After successfully completing his Ph. D he returns to Nepal and in token of his respect to the teacher for his blessings and teachings before proceeding to USA, he pays Rs.100,000 to Mr., Bhattarai on his return from USA.

b) Mr. S. Shrestha is director of various companies. He receives fee for attending the Board Meetings. The total fee earned by him for attending Board Meetings during the income year was Rs.90,000.

#

  5. # Calculation of Net gain

  206. Business Asset & Business Liability \- As already explained, there are three types of assets in tax base balance sheet of a business with priority of trading stock, depreciable assets and business assets. All liabilities applied in the business are business liability, irrespective of current or non-current.

If there is any asset fulfils definition of asset in business and not fall into trading stock or depreciable asset, then the asset is business asset. Debtors, receivables, advances, loans, bill of exchange, prepaid expense, non-depreciable asset etc. are business assets. Stock of items those are not trading stock like spare parts, stationary stock or depreciable assets before put to use like capital work in progress (CWIP), unused furniture etc. are also business assets.

Investments are not business assets rather they are non-business chargeable assets.

Tax incidence on business assets and liabilities are net gain basis. We need be clear in following five steps to find the net gain.

Disposal: There should be disposal. No disposal, no gain or loss.

Incomings: This is total receipt on the asset/liability.

Outgoings: This is total payments on the asset/liability.

Gain (loss): Residue of incomings and outgoings on disposal is gain.

Net Gain: It is total of gain exceeds loss and unrelieved loss.

  207. Disposal of Assets and Liabilities - Disposal as prescribed in Sec.40 is applicable for all assets and liability whether those are trading stock, depreciable asset, business asset, non-business chargeable asset or liability. There are two different types of disposal: direct disposal and deemed disposal.

  208. Direct Disposal - Direct Disposal, Sec.40(1) and Sec.40(2): If title associated with an asset is seized from a person, it is direct disposal. Seizure of title (ownership) may be done by way of sale or leased, merger or de-merger, transfer, cancel or surrender, expiry, theft or stolen or lost, fired or flood, or by similar nature.

In the other hand, of obligation associated with a liability is seized from a person, and then the liability is disposed. It includes mutatis mutandis to disposal of assets as merger, cancel, surrender, maturity or payment.

Sec.40 to Sec.49 are common for trading stock, depreciable assets, business assets, liabilities and non-business chargeable assets too.

---

  209. Deemed Disposal\- Sec.40(3): There are variety of cases in Income Tax Act, 2058 those are disposal for the purpose of tax but not a real disposal. In such case, asset might be owned by same person, but deemed as disposal for tax purpose (examples Sec.41). Alternatively, assets might be disposed real practice but for the tax purpose, it may not be deemed as disposal (examples Sec.46 to 47). Followings are deemed disposal for the tax purpose:

Change of Status:

  * Change of Good loan to Bad loan: Sec.40(3)(c): if a loan is classified into bad, then non-bad one deemed to be disposed in case of bank.

  * Change of Form of Asset: Sec.40(3)(d) : If any assets in either form of Non business chargeable asset, trading stock, depreciable asset or business assets change to another form, then the asset deemed to be disposed. For example, if any entity goes to liquidation, all the assets transferred to held of sale (trading stock), then all the assets deemed to be disposed.

  * Change of Ownership Sec.40(3)(e) : In case of shareholdings of an entity has changed by more than 50% on the comparative period of 3 years, then all the assets owned by and liability owed by the entity is deemed to be disposed.

  * Change of Residency Sec.40(3)(f) : In case any person changed to non-resident from resident, all the assets (except land and building situated in Nepal) deemed to be disposed.

Other Cases:

  * Death Sec.40(3)(a) : In case of death of a natural person, all the assets owned and liabilities owed by the person deemed to be disposed at the point just before death.

  * Incomings>Outgoings Sec.40(3)(b): If incomings in a assets if higher than outgoings, then asset deemed to be disposed.

  * Finance Lease Sec.40(3)(b) : In case of finance lease, asset owned by lesser deemed to be disposed.

  210. Incomings means historical receipts including sale proceeds -If an asset has disposed in any form of direct or deemed, sale or otherwise, need to compute incomings on that asset. Incomings mean all the receipts on the asset or liability (fruit and tree concept\- i.e. the receipt as disposal of tree is incomings and the receipts from sale of fruit is inclusion at gross) at question from its acquisition to date of disposal. So,

Amount received at the time of inception Rs.......

Amount received during the holding period Rs.......

Amount received at the time of disposal Rs.......

Incomings Rs........

In case of liability, incomings come, normally, at beginning. In the case of assets, normally, incomings come at disposal.

Incomings at inception or during holding period

Most cases in asset, there will not be any incomings at inception (purchase) or during holding period. But, there are varieties of examples those fetch incomings at inception or during holding period.

  211. Incomings during holding period\- If any asset has acquired with the government grant or similar assistance, then person acquiring asset get an amount at the time of inception. Same or similar case may be deemed as the grant has allowed after fulfilling some future conditions. This is amount has received during holding period.

Solar pane cost Rs.20,000, government assist 70% of cost immediately after installation; VDC assists 10% after one year of operation. The solar operated for 3 years.

In this case, amount received at inception is Rs.14,000 and during holding period is Rs.2,000.

  212. Incomings during holding period\- If some part of assets has sold or some other arrangements were made, it would get benefits of 'amount received during holding period'. Owner of zigzag land may get 'amount received during holding period' if he allows his land to make straight or to close compound wall gate far away.

In case of advances or loan asset, it might be paid partially, then the sum may be taken as amount received during holding period.

  181. Incomings during holding period\- Mr. Loankarta has incurred a loan of Rs.2,000,000 on Srawan 1st of 20X3. His loan limit was increased to Rs.3,000,000 and take further loan on 30th Chaitra 20X3. For the yearend:

Amount received at the time of inception Rs.2,000,000

Amount received during the holding period Rs.1,000,000

Incomings Rs.3,000,000

  213. Assets owned or Liabilities obliged before 2058.12.19 -In case of any liability obliged by a person before 2058.12.19, it is deemed that incoming at the point of inception is market value of obligation on 2058.12.19. Similarly, in case of an asset is owned by a person before 2058.12.19, it is deemed the outgoings at the point of inception is market value of asset on 2058.12.19.

In both case, all payment or receipt before 2058.12.19 is replaced by market value on that date according to Sec.40(5). This valuation is applicable to the assets or liabilities which were firstly fall into tax bracket only. Assets or liability within tax bracket on the date of enactment of Income Tax Act, 2058 need to be valued at tax base on that date.

  214. Net incomings (Tax Base)- If any liability has settled partial, the net amount outstanding at any point of time is Net incomings. It is tax base for liability. In case of any remission on liability is allowed, and then this amount is netted to incomings.

  182. Net Incomings\- In net incoming at 20X3 Ashad-end is :

Amount received at the time of inception Rs.2,000,000

Amount received during the holding period Rs.1,000,000

Incomings on 20X3 Rs.3,000,000

Less: Amount paid at inception Rs. 0

Amount paid during holding period Rs.0

Outgoings on 20X3 Rs.0

Net Incomings (Incomings- Outgoings) Rs.3,000,000

  215. Outgoings means historical payments - If a liability has disposed in any form of direct or deemed, settled or otherwise, need to compute outgoings on that liability. Outgoings mean all the payments on the asset or liability, but not for use or otherwise, under question from its acquisition to date of disposal. Outgoings as per fruit and tree concept, the payments or cost-base of tree but excluding cost for producing fruits. So,

Amount paid at the time of inception Rs.......

Amount paid during the holding period Rs.......

Amount paid at the time of disposal Rs.......

Outgoings Rs........

In case of asset, outgoings come, normally, at beginning. In the case of liability, normally, outgoings come at disposal.

Most cases in asset, there will not be any incomings at inception (purchase) or during holding period. There are varieties of examples those fetch incomings at inception or during holding period.

  1. Outgoings\- Solar pane cost Rs.20,000, government assist 70% of cost immediately after installation. Village Development Committee assists 10% after one year of operation. The solar operated for 3 years. In this case, Outgoing is Rs.20,000.

  2. Outgoings\- Land costing Rs.2000,000 purchased on 20X0, compound wall was constructed Rs.200,000. The compound wall had damaged due to flood and repair cost Rs.100,000 on 20X3. The neighbor land owner paid Rs.50,000 for a small piece to make boundary straight. In case, outgoings is Rs.2,300,000 (2000000+200000+100000) and incomings is Rs.50,000.

  216. Net outgoings (Tax Base) - Net outgoings is the actual investment of asset at any particular point of time. For computing deferred tax it is tax base of business assets.

  185. Net Outgoings- Net outgoings is computed deducting Incomings, if any, from outgoings of a asset.

In above Net Outgoings is Rs.2,250,000.

Outgoings Rs.20,000

Incomings Rs.16,000

Net Outgoings Rs.4,000

In above Net Outgoings is

Outgoings Rs.2,300,000

Incomings Rs. 50,000

Net Outgoings Rs.2,250,000

  217. Gain on Disposal of Business Assets/Liability - In case of disposal of business assets, liability and non business chargeable assets, gain or loss on disposal need to computed in each asset and liability. According to Sec.37;

Gain (loss) = Incomings - Outgoings

  218. Net Gain from Disposal of Business Assets/Liability - According to Section 36(1) net gain from the disposal of non-business chargeable assets of the investment of a person for an income year are calculated as follows:

Particulars | Formula

---|---

Total of gains on gain making items of disposal of BA/BL during the year | ∑ Gain u/s 37 this year

BA/BL during the year | ∑ Loss u/s 37 this year

Less: Any unrelieved net loss out of any losses of BA/BL of the person for the year | ∑ Net Loss from business this year

Less: Any unrelieved net loss for a previous years out of the losses BA/BL of the person | ∑ Net Loss from business Previous years

Less: Any unrelieved net loss for a previous years out of the losses of any business of the person, unrelieved due to lapse of set off period of 7 years or 12 years, as the case may be | ∑ Loss from business Previous years unrelieved due to time

Net gain from disposal of non-business assets | XXX

  6. # Specific Types Business

There are certain business whose taxation treatments is unique than other entity or business sectors.

  1. ## Long-Term Contract

Income recognition and deduction quantification in case of a long-term contract is quantified separately for separate contracts.

Applicable Standards NAS/IAS 11

  219. Definition\- According to Sec.26 and 2, a long-term contract is a contract for original tenure of more than 12 months and relating to production, installation, construction, or the services related to the production, installation or construction. Even the words of the act includes employment, business or investments in long-term contract, definition includes the contracts with deferred return for production, installation and construction (works or service both) only but excluding excluded contract.

Even the contract is for more than 12 months and would relating to production, installation or construction, following 3 contracts are excluded from tax treatment of long-term contract are excluded contract:

- Security contract: Investments in shares, bonds, debenture or similar securities.

- Retirement Fund Member: Membership of a retirement fund.

- Investment Insurance: Investment insurance of life insurance or annuity.

- Presumptive Tax Payer: Presumptive tax payer need not accounted contract in cumulative procedure

Hence all the contracts relating to production, installation or construction having period more than 12 months being deferred return but not excluded contracts are long-term contracts.

  220. Cumulative Procedure\- Tax accounting in long-term contract, is computed on cumulative procedure. Cumulative procedures mean the inclusions and deductions are taken from the date of inception to year-end date for particular income year. Briefly:

Profit of gain = Sum of inclusions (profit and gain) from inception to reporting date (∑inclusions)

Deduction of direct expense= Sum of expense in the project for same period (∑eligible direct cost)

Cumulative procedure is not applicable in computing incomings (as per Sec.39) or outgoings of business assets (as per Sec.38). Person who is not oblige to pay installment tax and paying presumptive tax-payer cannot use cumulative procedure.

  186. Percentage of Completion: The inclusions and deductions are identified based on percentage of completion method. Percentage of completion for each year-end is to be computed based on actual direct cost incurred to estimated direct cost as:

Contract price say Rs.12 million

Contractor's Estimated cost for completion say Rs.10 million

Cumulative expense (direct cost) up-to year 1 say Rs.1 million

Cumulative expense (direct cost) up-to year 2 say Rs.3 million

In this case percentage of completion is computed as:

Percentage of completion=Cumulative expense/ Contractor's Estimated cost

  187. Ideal Format – For the computation purpose, initial contract amount and variation orders to be taken as Contract Amount. In case of any variation (means extra/less works) agreed upon or instructed by the employer, then the estimated cost to be revised and percentage of completion shall be computed on the actual cost incurred to revised estimated cost. Variations to be adjusted in the contract price and cost to be aggregated. The formula for characterization of inclusions shall be as follows:

Year |   
 | 1 | 2 | 3

---|---|---|---|---

Initial Contract Amount |   
 | X | X | X

Total of VOs (net) |   
 | Vt=V-v | Vt=V-v | Vt=V-v

Value Engineering |   
 | -VE | -VE | -VE

Adjusted Contract Amount | A | X+Vt -VE | X+Vt -VE | X+Vt -VE

Estimated Cost | B | Et | Et | Et

 |   
 |   
 |   
 |

This year Site-expense |   
 | Site Costt | Site Costt | Site Costt

Cumulative Site Expense | C | Costt | Costt | Costt

Percentage of Completion | D | (C)/(B)*100% | (C)/(B)*100% | (C)/(B)*100%

 |   
 |   
 |   
 |

Cumulative Revenue | E | A*D | A*D | Total Revenue*

Cumulative Deduction | F | C | C | C

Cumulative Profit | G | E-F | E-F | E-F

Previous profit | H | 0 | Gt-1 | Gt-1

This year gain (loss) | I | G-H | G-H | G-H

*This is real revenue in cumulative= X + Vt \- VE \+ Bonus - Delay/Liquidated Damage ± Claims ± Price Adjustments ± Foreign Exchange Risk ± Change in legislature ± acceleration ± work done by others etc.

  188. Some Critical Items- Variation Orders (VOs) and Value Engineering (VEs) adjust the amount of contract amount; so, these amounts to be adjusted with initial contract price. Provisional Sum is the amount included in the contract, but not with bill of quantity; so this is not part of initial contract for the computation purpose. Only VOs from provisional sum is adjustable in the Contract Amount. Price Adjustment and foreign currency risk factor adjust the running bills. Actual receipt from the Long-term contract is irrelevant for annual characterization of income or expense; so, these items to be excluded from revenue during the contract.

  189. Percentage of Completion\- Inclusion and deduction in the above case for the income year 1 and 2 shall be computed as follows:

Year | 1 | 2

---|---|---

% of completion | 10% (=1/10) | 30% (3/10)

Cumulative Revenue | 1.2 m (10% of Rs.12m) | 3.6 million (12m*30%)

Cumulative Deduction | 1.0 | 3.0

Cumulative Profit | 0.2 million | 0.6 million

Previous profit | 0 | 0.2 million

This year gain | 0.2 million | 0.4 million

  190. Direct Expense only\- Contractor may have its own office cost. The percentage of completion is to be computed in direct site cost only. Any office cost to be deducted thereafter. In the above example, say office cost is Rs.250,000 each year and contractor has single contract, income from business to be computed as follows:

Year (Rs.'million) | 1 | 2

---|---|---

Inclusions: |   
 |

Income from Long-term Contract (Sec.26) | 1.20 | 2.40 (3.6-1.2)

Total of inclusions | 1.20 | 2.40

Deduction for Long-term Contract (Sec.26) | 1.00 | 2.00

Other expense (Sec.13) | 0.25 | 0.25

Deduction of Expense | 1.25 | 2.25

Deduction of Loss | 0.00 | 0.05

Total Deduction | 1.25 | 2.30

Income from business | (0.05) | 0.10

  191. Running Bills is not a matter\- Contractor receives its payments based on contract terms and condition (called running bills, interim payment certificates, installments as the case may be). The agreed payment schedule shall be based on time or quantity of works and may be front loaded for some items and back loaded in remaining items. The exact payment shall not be any indicator for tax (even for financial) accounting. In the above example, say total of running bills for the first year is Rs.1.3 million and 2.2 million for the second year, the tax impact shall be same.

  192. Revision in the estimated cost- According to NAS/IAS 11, estimated cost of the contract need to examine at every reporting date. Income Tax Act, 2058 has not any detail method to revision it, so need to adjust its tax accounts based on Nepal Accounting Standards (Sec.22 and Rule 8), but Income Tax Manual (page413-415) referred NAS/IAS 11 and similar example of revision on estimates.

  193. If contractor estimates total cost at higher side- This is the main case of fear that Sec.26 could not be practically used for. Taxation authority is under fear the contractor may estimates total cost at higher side and tax deferral occurs, similarly contractors fear that their estimation would be challenged and burden of fee (50% or 100% u/s 120) with interest be charged. In IMF Model Act, there is estimation error of 20% (same percentage of error has recognised in Sec.118) which has demolished in the act. To tackle this gap, regulation provide as 'as prescribed by the Department'; but, IRD has not prescribed any method towards this.

In the United States, similar provision of long-term contract, if the estimation in the earlier years is found wrong (in higher-side or undermined), the tax deferral (or over tax payment) is subject of interest payable (or refund) under look-through approach.

  194. Bonus, Acceleration, Delay/Liquidated damage, Price Adjustments and Contractor's Claims -Bonus is awarded in the case, the contract completed before then anticipated date, it is includible in final payment at the final year income. Delay damages (sometimes called as liquidated damages) is deduction from payment due to delay on completion, these are cost for the project, but these cost should not be gross up for computing percentage of completion rather to adjust in the last year only. Price Adjustments or Currency risks or the claims (not VOs or VEs) to be adjusted in the final year.

Examples and Concept in above are general level only.

  1. ## Banking Business

  221. Tax Accounting \- A person is running a banking business along with other businesses. It has to treat the banking business as being run by a separate person. It means the accounts, activities, transactions; etc related to the banking business should be kept separate from the same of other businesses.

Banking business for tax purpose has clarified in Sec.59 as "banking business means a banking business being operated by a bank or financial institution which has received permission to do so according to prevailing law". According to this definition, banks and financial institutions licensed classified bank from Nepal Rastra Bank under Bank and Financial Institution Act, 2063 are banking business. There are four separate provisions regarding banking in tax:

  * Sec.24(3) : Accounts of banks is accepted in taxation too.

  * Sec.40(3): Loan classified to bad is deemed disposal of not-bad loan.

  * Sec.59(1a): Loan loss provision against loan up to 5% of outstanding loan is allowed as deduction, even provisions are not deductible u/s 24(2).

  * Tax rate for banking entity has 30%.

  222. Loan Loss Provision - A banking business is allowed a deduction of a loss of loan provided by it according to the regulation of Nepal Rastra Bank subject to a maximum ceiling of 5% of the outstanding loan as on the last day of the income year.

Actual expenses for a loan loss, if incurred, should be deducted from the provision outstanding on that date. In case it is deducted as an expense, it is not allowed for tax purpose.

In case the amount of loan loss provision is capitalized or utilized for distribution, or for payment of dividend in any income year, up to that amount it should be included in the taxable income of the income year.

Exactly same provision (except Non-Banking Assets) is applied in case of cooperatives.

  195. Loan Loss\- ABCD Bank Ltd. has supplied following status of loan and loan loss provision find eligible loan loss provision.

Rs.'000 | Year X | Year X+1 | Year X+2

---|---|---|---

Outstanding Loan | 1,000,000 | 1,200,000 | 1,300,000

Loan Loss Provision | 40,000 | 63,000 | 67,000

Here, according to Sec.59(1a), eligible loan loss provision is 5% of outstanding loan. The comparison is to be done with loan loss provision (carrying amount in balance sheet item), but expense is allowed or disallowed from this year provision expense. Hence, from next year, loan loss provision would be mix of allowed expense (tax base for the purpose of NAS/IAS 12) and disallowed expense both.

Rs.'000 | Year X | Year X+1 | Year X+2

---|---|---|---

Outstanding Loan | 1,000,000 | 1,200,000 | 1,300,000

Allowable 5% (A) | 50,000 | 60,000 | 65,000

Loan Loss Provision | 40,000 | 63,000 | 67,000

Previous disallowed | - | - | 3,000

Qualifying Allowable expense (B) | 40,000 | 63,000 | 64,000

Disallowable for this year (C=B-A) | - | 3,000 | -

Loan Loss Provision expense | 40,000 | 23,000 | 4,000

Disallowable this year (C) | - | 3,000 | -

Allowed expense (D= minimum (B,C) | 40,000 | 20,000 | 4,000

Cumulative allowed (Tax Base) | 40,000 | 60,000 | 64,000

Cumulative disallowed (Tax Base=0) | - | 3,000 | 3,000

  196. Tax base calculation \- Above calculation seems some complex but resolves most cases. For the most difficult cases, only tax base calculation is required (which is difficult in first instance but resolves all complex cases).

 |   
 | Year x | x+1 | x+2 | x+3

---|---|---|---|---|---

 | Tax Base of: (not carrying amount) | Tax base

 | Tax base

 | Tax base

 | Tax base

 | Loan and bills Opening base  
(if not tax base, Opening as per B/S+ Previous written off net of allowed) | 1,000.00 | 1,201.75 | 1,514.96 | 1,634.96

 | This year loan and bills addition net of refund | 200.00 | 300.00 | 100.00 | 150.00

 | This year loan and bills written off | 5.00 | 14.00 | 20.00 | 10.00

 | Recovery of written off (-) | - | - | - | -

 | Tax base of loan before write off | 1,205.00 | 1,515.75 | 1,634.96 | 1,794.96

 |   
 |   
 |   
 |   
 |

 | Opening LLP (allowed upto last year) | 48.00 | 57.00 | 75.00 | 81.75

PL | This year LLP expense (write off separate) | 9.00 | 18.00 | 15.00 | 10.00

PL | This year LLP written off on last year (if any) or written off | 5.00 | 14.00 | 20.00 | 10.00

PL | Less: reversal of LLP | - | - | - | -

 | Tax base of LLP before write off | 62.00 | 89.00 | 110.00 | 101.75

 |   
 |   
 |   
 |   
 |

 | 5% limit | 60.25 | 75.79 | 81.75 | 89.75

 | Allowed LLP as tax expense | 12.25 | 18.79 | 6.75 | 8.00

 | LLP | 9.00 | 18.00 | 6.75 | 8.00

 | Write off | 3.25 | 0.79 | - | -

 | Closing Tax base | This is required for deferred tax computation.

 | Loan and bills | 1,201.75 | 1,514.96 | 1,634.96 | 1,794.96

 | LLP | 57.00 | 75.00 | 81.75 | 89.75

  197. Loan Loss\- ABCD Bank Ltd. has supplied following status of loan and loan loss provision find eligible loan loss provision.

Rs.'000,000 | Year X | Year X+1 | Year X+2

---|---|---|---

Outstanding Loan | 1,000 | 1,200 | 1,300

Loan Loss Provision | 40 | 63 | 74

LLP Expense (net) |   
 | 44 | 37

In this case, 2nd and 3rd year has write off of loan. The LLP expense is allowed as follows:

Rs.'000,000 | IY X+1 | IY X+2

---|---|---

Loan and bills Carrying amount | 1,200 | 1,300

Prior year written off loan | - | 21

This year loan and bills written off | 21 | 26

Tax base- Loan and bills | 1,221 | 1,347

5% limit | 61.05 | 67.35

LLP Tax-base Opening | 40 | 61.05

This year LLP expense | 44 | 37

Total tax-base before disallow | 84 | 98.05

Disallowed this year | 22.95 | 30.70

Allowed LLP as tax expense | 21.05 | 6.30

Closing Tax base |   
 |

Loan and bills | 1,221 | 1,347

LLP | 61.05 | 67.35

 | 5.00% | 5.00%

  1. Continuous write off – Find the allowed LLP expense for the following years:

Rs.'000,000 | Year X | Year X+1 | Year X+2 | Year X+3

---|---|---|---|---

Outstanding Loan | 1,234 | 1,476 | 1,398 | 1,498.00

Loan Loss Provision | 74 | 82 | 92 | 113

LLP Expense (net) |   
 | 38 | 37 | 48

Answer LLP allowed

(inclusions) |   
 | 13.60 | (2.55) | 4.85

  2. Income of a Loan loss reversal - Bank loan loss is allowed to the extent of 5% of outstanding loan at the year-end u/s59. In case the provision already allowed is more than 5% of current loan, then the difference is inclusions. Such inclusions shall be in the cases of:

  * Reduction of loan advances, bills and NBA base (see ).

  * Reduction of LLP base itself (because LLP is allowed based on NRB).

  * Reversal of tax LLP to book write off of loan and bills u/s 25.

  * Winding up of banking business.

  200. LLP reversal – Manang Bank Ltd. has following status of loan loss provision and outstanding loan. Find status of LLP in second income year. (Rs.000)

Year Outstanding Loan LLP

IY 14th 2,000,000 110,000

IY 15th 1,900,000 120,000

In this case, LLP allowed in the first year is Rs.100,000. In the second year loan base has reduced and allowable LLP is Rs.95,000 (1,900,000*5%). LLP already allowed at deduction is reversed for tax purpose by Rs.5,000 (100,000-95,000).

In case the bank goes to liquidate in the next year, whole of the amount of LLP Rs.95,000 is to be included in taxable income on that year.

  201. LLP reversal and Write off – Manang Bank Ltd. has following status of loan loss provision and outstanding loan. Find status of LLP in second income year. (Rs.000)

Year Outstanding Loan LLP

Last-year 2,000,000 110,000

This-Year 1,900,000 120,000

This-Year LLP expense is 15,000

In this case, LLP allowed in the first year is Rs.100,000. In the second year, there is loan written off of Rs.5,000 (being LLP 110,00+15,000=125,000 comparing to closing LLP of Rs.120,000).

Outstanding loan |   
 | 1900,000

---|---|---

Written off loan |   
 | 5,000

Tax base of Loan |   
 | 19,05,000

5% of loan base (A) |   
 | 95,250

Accounting LLP |   
 | 120,000

Written off loan |   
 | 5,000

 |   
 | 1,25,000

Already disallowed | 110,000-2000,000*5% | 10,000

 |   
 | 1,15,000

Disallowed this year (B) | 115,000-95,250 | 19,750

LLP expense (net) |   
 | 15,000

Disallowed this year |   
 | 19,750

Allowed Expense (Inclusions) | (4,750)

  202. LLP in last year\- EFG Bank Ltd. has supplied following status of loan and loan loss provision find eligible loan loss provision.

Rs.'000 | Last Year | This Year

---|---|---

Outstanding Loan and advances | 1,000,000 | 1,200,000

Loan Loss Provision | 60,000 | 75,000

Here, opening loan loss provision is Rs.60,000,000, but 5% of opening loan and advances is Rs.50,000,000. This means Rs.10,000,000 is already disallowed loan loss provision and tax base for the purpose of NAS/IAS 12 is Rs.Rs.50,000,000. So, for this year expense of Rs.15,000,000 (75,000,000-60,000,000).

  1. ## General Insurance Business

  223. Tax Accounting \- Life insurance having tenure at least of 5 years, annuity and their re-insurance business is called investment insurance in taxation; insurance other than investments insurance are general insurance. If a person is engaged in a general insurance business along with other businesses, general insurance business has to treat as a separate tax unit. As per Insurance Act, 2052, a person having general insurance business cannot operate other business, but associated income from link of insurance shall be allowed. For a general insurance business along with other receipts as specified by the Act, these receipts are also to be included in computing the taxable income:

  * Amount derived during the year as a premium or a reinsurance premium on the risk covered by the business.

  * Amount derived by it during the year under any contract of re-insurance, guarantee, security, or indemnity in respect of the payment to be made by it as an insurer.

Generally, such an amount includes the commission to be received from a re-insurer and a portion of claim covered by the re-insurance. In practice, an insurer shows its portion of the claim as expenses during the year and as recoverable for the portion of re-insurer.

For a general insurance business along with other expenses allowed by the Act, these expenses incurred during the year are also allowed for deduction:

  * Payments made during the year by an insurer in the capacity of the business of general insurance. Accordingly, the amounts of claims paid during the year are deductible expenses.

  * Payments made as re-insurance premium to the re-insurer, guarantor, etc.

  * Following risk expenses to be deducted for calculation of taxable income:

  * 50% of the net premium credited to the income statement during the year, and

  * 115% of the pending and unsettled claims outstanding at the end of the year.

But, the company has to take these amounts that shown as expenses during the year as prescribed above as profit during subsequent year.

In summary, general insurance business characterize to insurance related income as part of inclusions (profit and gain) and insurance related expense as deduction of expense; summarized as:

Inclusions

---

Opening Risk Reserve

Premium less reinsurance cited

Reinsurance premium accepted

Recovery (Compensations) from reinsurers

Other income- interest, commission, other

Deduction of expense

Compensation payment

Premium refund, if any

Management cost, other than depreciation and repairs

Expense covered by Sec.13-19

Unexpired Risk reserve at year-end

  203. General Insurance\- Following are related information for year 1 and year 2 of Nepal Ltd. find income from business.[cited from Income Tax Manual, 2066]

 | Year 2 | Year 1

---|---|---

Premium less reinsurance | 400,000 |

Commission on reinsurance | 20,000 |

Unexpired risk (closing) |   
 | 150,000

Claimed lodged but not accepted (estimated) | 30,000 | 23,000

Commission on reinsurance accepted | 10,000 |

Agent commission | 15,000 |

Management expense | 100,000 |

Compensation paid | 100,000 |

Interest income | 50,000 |

Depreciation expense (as per Sec.19) | 60,000 |

Other income | 25,000 |

From above information income from business need to be computed as follows:

Inclusions | Year 2

---|---

Unexpired Risk Reserve b/d (150,000+23,000) | 173,000

Premium less reinsurance | 400,000

Commission on reinsurance | 20,000

Interest income | 50,000

Other income | 25,000

Inclusions (profit and gain) | 668,000

Deductions |

Agent commission | 15,000

Commission on reinsurance accepted | 10,000

Management expense | 100,000

Compensation paid | 100,000

Depreciation expense (as per Sec.19) | 60,000

Unexpired Risk Reserve (400,000*50%+30,000*115%) | 234,500

Total Deduction | 519,500

Income from business | 148,500

  1. ## Investment Insurance Business

  224. Tax Accounting\- Life insurance having tenure at least of 5 years, annuity and their re-insurance business is called investment insurance in taxation. So, investment insurance includes:

  * Life insurance (having tenure of at least 5 years- Nepal law granted the same)

  * Annuity business (we have not live example till)

  * Re-insurance of above.

"Investment insurance" is insurance that contains an investment aspect, i.e. where a return on the premium paid is expected. This type of insurance is broader than but includes the classic province of life insurance. Tax approach under the investment insurance is to treat investment insurance in a similar manner as an investment in shares of a company. This is clear from the manner in which income from an investment insurance business is calculated under Sec.(62). As in the case of capital contributions to companies, premiums received in the course of conducting an investment insurance business are not included in calculating income from the business. Similarly, proceeds paid on insurance by such a business are not deductible. Given this treatment, there is no apparent need to make adjustments for any volatility of investment insurance business such as those made with respect to general insurance. –IMF Commentary

In the income from investment insurance, insurance related items are excluded from tax and all other items, which are required to be included as per the other provisions of the Act, need to be included in inclusions (profit and gain) or in deduction. According to Sec.62, following have not tax incidence:

  * Amounts derived in respect of insurance as a premium and a re-insurance premium.

  * Amount derived by it during the year under any contract of re-insurance, guarantee, security, or indemnity in respect of the payment to be made by it as an insurer.

In summary, investments insurance business do not characterize to insurance related income as part of inclusions (profit and gain) and insurance related expense as deduction of expense, they shall be treated as investments; summarized as:

Includible | Not includible in taxation |

---|---|---

Inclusions | Life insurance fund | As capital

Other income- interest, commission, other | Premium less reinsurance | As capital

Deduction of expense |   
 |

Expense covered by Sec.13-19 | Compensation payment | As capital refund

 | Premium refund, if any | As capital refund

 | Life insurance Fund | Retained Earnings

  225. Non-recognition Rule \- There was a great differences and un-answered query regarding treatment of insurance related items in tax. Practically, there is still ambiguities in tax treatment in life insurance business (we have life insurance in active market). The verdict of act was not applied in those cases till Income Tax Manual, 2068.

Based on tax jurisprudence behind tax on investment insurance, and commentary on this provision, the answer would be:

1. Life insurance premium including reinsurance shall not be recognized as income (Sec.62(2)) and it shall not be treated as liability (Sec.63(3)). Here, cash is debiting but neither income nor the liability can be crediting. So, it is same as capital. To comply both the provision of Sec.62(2) and 62(3).

2. Allocation to life insurance fund has no tax impact, it is not an expense nor creation of asset nor distribution- similar as act and manual.

3. Compensation or surrender is not expense as per Sec.62(2) nor disposal of asset; and any compensation received from re-insurer is not an income nor incomings on any asset as per Sec.62(3). So it would be equivalent to capital refund and compensation received is equivalent to capital contribution (exactly same as in Sec.64(2)- the manual contradict with the provision of Sec.63(3) to this extent).

4. All the income is taxed as normal manner with usual deduction. Interest, bonus or any other contribution to insurer is to be forgotten as deduction. Since these expense are not allowed in tax, the base shall be higher and profit shall be tax paid at gross. After tax allocation is deemed in life insurance fund and on getting refund, either by way of compensation or by way of surrender, gain is to be taxed, similar to dividend.

  204. Investment Insurance\- Following are related information for income year of Sornim Life Insurance Ltd. find income from business. [cited from Income Tax Manual, 2066]

Premium less reinsurance | 1000,000

---|---

Commission on reinsurance cited | 10,000

Commission on reinsurance received | 15,000

Interest on investment and loan | 2,000,000

Other income | 40,000

Addition in life insurance fund | 1500,000

Payment of surrender of policy (premium paid Rs.300,000) | 250,000

Compensation to deceased insures' relatives (premium paid Rs.50000) | 400,000

Payment to matured policy (premium paid Rs.300,000) | 550,000

Agent commission | 100,000

Management cost | 600,000

Medical cost | 20,000

Tax depreciation | 100,000

Total insured sum | 50,000,000

From above information income from business as per Sec.62(2) and (3) including IMF commentary need to be computed in Income Tax Manual is as follows:

inclusions |

---|---

Interest on investment and loan | 2,000,000

Other income | 40,000

Commission on reinsurance received | 15,000

 | 2,055,000

Deduction |

Commission on reinsurance cited | 10,000

Agent commission | 100,000

Management cost | 600,000

Medical cost | 20,000

Tax depreciation | 100,000

 | 830,000

Income from Business | 1225,000

Company need to pay tax on Rs.1,225,000. The refunds have following tax treatments:

1. Premium of Rs.1,000,000 shall be equivalent to capital.

2. Life insurance addition is earning allocation from profit after tax plus premium (1,000,000+ 1225,000 less tax less shareholder financial accounting appropriation of profit).

3. Refunds are capital refunds. The gain on refund (Total refund – contribution= gain) is taxed at 5% as similar as distribution.

Similar to capital | Capital

Contribution | Retained

Earnings | Capital

Refund | Net

Capital

---|---|---|---|---

1. Premium less reinsurance | 1,000,000 |   
 |   
 | 1,000,000

2. Life insurance fund addition |   
 | 1500,000 |   
 | 1,500,000

3. Payment of surrender of policy |   
 |   
 | -250,000 | -250,000

Compensation to deceased insures' relatives |   
 |   
 | -400,000 | -400,000

Payment to matured policy |   
 |   
 | -550,000 | -550,000

Total of capital fund (of insures') | 1,000,000 | 1,500,000 | -1,200,000 | 1,300,000

  1. Investment Insurance\- Review the following table of revenue account of one business and profit and loss account for income year of A Ltd. The first column is accounting impact, second is for tax income from business and the third is insures' capital.

Revenue a/c (one business) |   
 | Tax Treatment

---|---|---

Particular | Current

Year | Income from

Business | Insurers'

Capital

Income |   
 |   
 |

Net Premium | 502,284,937 | 0 | 502,284,937

Investment, Loan And Other Income | 119,422,996 | 119,422,996 | -

Income From Policy Loan | 10,063,630 |   
 | 10,063,630

Other Direct Income | 4,798,662 | 4,798,662 | -

Provision for outstanding claims at the

beginning of year | 5,364,750 |   
 | 5,364,750

Total Income (A) | 641,934,975 |   
 |

Expenditure |   
 |   
 | -

Claim Payment (Net) | 44,665,356 | - | (44,665,356)

Agent commission | 44,573,855 | (44,573,855) | -

Medical Fee | 633,295 | (633,295) | -

Service Charges (Net) | 5,033,501 | (5,033,501) | -

Management Expenses | 40,483,556 |   
 |

Income Tax | 18,776,406 |   
 |

Provision for Outstanding claim to be paid at the end of the year | 690,000 | - | (690,000)

Total Expenditure (B) | 154,855,969 |   
 |

Surplus Transferred to Life Fund (A - B) | 487,079,006 |   
 |

Profit and Loss account |   
 |   
 | -

Income |   
 |   
 | -

Transferred from Life Insurance fund | 98,475,398 |   
 | 98,475,398

Income From Investment Loan and Others | 11,246,228 | 11,246,228 | -

Total Income (A) | 109,721,626 |   
 |

Expenses |   
 |   
 | -

Management expenses | 10,290,456 | (10,290,456) | -

Provision for loss | 3,340,532 |   
 |

Provision for Employees Bonus | 8,735,513 | (8,735,513) | -

Income tax | 234,107 |   
 |

Total Expenses (B) | 22,600,608 |   
 |

Net profit/(loss) C = (A \- B) | 87,121,018 | 66,201,266 | 570,833,359

  1. ## Retirement Fund

  226. Tax Accounting \- Retirement fund is arrangement as a separate person to pay retirement payments for all person having income from employment, business and investments. Retirement payment shall be made from retirement funds. Based on their nature retirement funds are three types: approved retirement fund (ARF), contributory unapproved retirement funds (contributory URF) and non-contributory unapproved retirement fund (non-contributory URF). Retirement payment can be paid, in addition to above three mechanism, from provision accounts and charging from profit accounts.

  227. Approved Retirement Fund - According to Section 63(1), Employees Provident Fund established under Karmachari Sanchayakosh Act, 2019 and retirement fund established by Citizen Investment Trust established under Citizen Investment Trust Act, 2047, are statutorily approved retirement funds. These funds need not be registered with or required to get approval from IRD. But if a resident person desires to establish an approved retirement fund, has to achieve approval from IRD.

ARF concept reduces tax revenue of government, even it has introduced in Income Tax Act, 2058. The concept behind it is "particularly with an increasing proportion of the population consisting of retirees and the diminishing ability or commitment of governments to appropriately provide for retirees. This is a highly political area and one that is particularly sensitive to local considerations. In the usual manner, the Sample simply provides one example of a possible approach. In many cases this approach will not be appropriate, particularly where there is heavy government involvement in the provision of benefits to retirees. The approach under this Division is standard in providing an incentive to save for retirement. This incentive takes the form of a limited exclusion from income for contributions to an approved retirement fund and exemption for income derived by such a fund but taxation of all funds removed from the fund. Therefore, the incentive is one of deferral only-IMF Commentary".

Except KSK and retirement funds of CIT, conditions applicable for seeking for or granting of approval, as per Sec.63 and Rule 20, are as follows:

i. Only resident person may apply for approval.

ii. There should at least 1000 members and paid up capital should be at minimum Rs.1 crore.

iii. The funds collected (either capital or contribution) by the fund should be invested in accepted investments of:

\- Investment in Government bonds;

\- Investment in banks or investment in finance companies having license from NRB to conduct financial transactions;

\- Investment for consortium financing; and

\- Investment in beneficiaries other than its own shareholders.

iv. The management of the fund should be separate from the employer.

v. The contribution amount should be deposited in the fund, within 25 days (30 days in case of Ashadh).

vi. The retirement payments to the beneficiaries could be made only under these circumstances:

a. On retirement of the employee;

b. On achievement of an age of fifty eight years of the beneficiary; or

c. On death or on being permanently disabled of the beneficiaries.

vii. Fund should get its account audited from an licensed auditor.

  228. Tax Accounting in Approved Retirement Fund - ARF tax accounting is simple - all the income and expense are includible or deductible except:

  * Contributions received from members.

  * The retirement payments to the members.

Inclusions

---

Other income- interest, commission, other except contribution received from beneficiaries

Deduction of expense

Management cost, other than depreciation and repairs

Expense covered by Sec.13-19 except refund to retired beneficiaries

Income From Business

Taxable income based on this income from business is not taxed vide provision of Sec.64(2).

  229. Tax Accounting in withdrawn of Approval from ARF - In case an approval of an approved retirement fund is withdrawn by IRD, it has to pay income tax @ 25% on the amount calculated as follows:

Income year = date of approval to date of withdrawn of approval (might be more than a calendar year)

Income Year: Approval to withdrawn date

---

Inclusions

Sum of Other income- interest, commission, etc. for whole period

Sum of contribution received from beneficiaries for whole period

Deduction of expense

Sum of Management cost, other than depreciation and repairs

Sum of Expense covered by Sec.13-19

Sum of refund to retired beneficiaries for whole period

Income From Business

  230. Benefits of member of ARF - There are certain benefits awarded in case of members (natural person- resident and non-resident both) as:

At the time of contribution: Minimum of following amount is allowed as reduction to compute taxable income for the income year:

  * Rs.300,000

  * One third of assessable income

  * Actual contribution

At the time of being member: Interest accrued and crediting into the accounts of member is not tax on the year of depositing or crediting in the respective accounts.

At the time of payments: There is a token tax on retirement payments received from ARF as follows:

  * In case of lump sum payments up to Rs.500,000 – no tax.

  * In case of lump sum retirement payments from Rs.500,001 to Rs.1,000,000; first Rs.500,000 has no tax, remaining amount is taxed at 5% as final withholding tax.

  * In case of lump sum retirement payments more than Rs.1,000,000; first Rs.50% has no tax, remaining amount is taxed at 5% as final withholding tax.

  * In case retirement payment is made on installment, it shall subject of 15% withholding tax and it shall be final in the hand of recipient.

  231. Unapproved Retirement Fund - The retirement funds, other than approved retirement funds, are called unapproved retirement funds. URF creation has many methods, any person can operate a URF or according to Rule 20 (3), IRD has power to withdraw the approval then it became a URF. URF, if a separate person need to file its tax return as usual entity.

Benefits of member of ARF

There are certain benefits awarded in case of members (natural person- resident and non-resident both) as:

At the time of contribution: Contribution to URF is after tax amount, so it has not any direct benefits.

At the time of being member: Interest accrued and crediting into the accounts of member is not tax on the year of depositing or crediting in the respective accounts. But there is practical difficulty for bankers keeping deposits of URF, their interest is subject of withholding tax u/s 88.

At the time of payments: There is a token tax on retirement payments received from URF at 5% on gain. Non-contributory URF shall not taxed like this. In case of gain from non-contributory URF, withholding tax shall be 15% and shall be final u/s 92.

  5. # Income from Employment

  232. Definition of Employment -Meaning of employment has not defined in the act or regulation and some inclusion as accounting definition has given in definition part under Sec.2 as "employment that includes a past, present or prospective employment." Since there is not clear legal definition, it should be defined in normal tongue as we generally understand.

Commentary of IMF Model act has explained employment as "Employment is the dominant definition and whether an employment exists is primarily determined according to general law. Employment is typically an earning activity consisting pre-dominantly of the provision of labor by an individual. The definition of "employment" is extended, in particular, to in clued most "managers" of entities, e.g. directors of a company and trustees of a trust, see the definition of the latter term in section (2). The primary reason for this extension is to ensure that these managers are subject to wage withholding. An alternative approach is to treat the activities of these managers as a business and subject payments to them by their entity to withholding as service fees. Under this approach, tax withheld would be adjusted under the tax instalment system. "Employer" and "employee" are defined in terms of "employment" and all of these terms make it clear that only an individual may be the subject of employment."

  233. Income from Employment: Tax Accounting - According to definition in Sec.2 and Sec.22, income from employment is to be accounted in cash basis of accounting. Cash basis means cash basis and deemed cash basis both. Any payment paid to third party or to associated person on behalf of employee, is deemed to be received in cash. Fringe benefits and contribution to retirement fund are deemed to be received in cash.

  234. Income from Employment: includible - All the amount received during the income year from the present, past or prospective employers in consideration of the work is inclusion of income from employment. Under this principle, some of payments are exception as exclusion list in on page 161. The payment, would be either in cash or deemed cash, if paid by employer, its associates or other third party if any.

  235. Income from Employment: Source- Employment income is classified as domestic if the work has done in Nepal. Employment from GON is exceptionally linked with payment source as domestic income. Employment exercised domestically represent domestic wealth created which is basic tax base of the act. Basically, as per Sec.67, following are the income from employment having source in Nepal:

  * Income derived from work in Nepal. (some exceptions are given in to )

  * Employment from GON (whether in Nepal or in aboard)

  * Some works in foreign country are taxed in Nepal (see examples to ) as having source in Nepal.

  * Crews working in cross boarder transports like from aero-plane or ship from Nepal have employment income having source in Nepal.

  236. Inclusions on Employment - The following incomes are to be included in income from employment for tax purpose. These heads are derived from Form Income Tax Dr. 18-03-03-64 and Sec.8 of Income Tax Act, 2058.

Head of income | Basis of valuation

---|---

Wage, Salary ~Sec.8(2)(a) | Gross amount in cash basis

Amount in lieu of leave ~Sec.8(2)(a) | Gross amount in cash basis

Amount for overtime work ~Sec.8(2)(a) | Gross amount in cash basis

Fees ~Sec.8(2)(a) | Gross amount in cash basis

Gift relating to employment ~Sec.8(2)(a) | Gross amount in cash basis

Bonus ~Sec.8(2)(a) | Gross amount in cash basis

Amounts for other facilities ~Sec.8(2)(a) | Gross amount in cash basis

Commission ~Sec.8(2)(a) | Gross amount in cash basis

Dearness allowance ~Sec.8(2)(a) | Gross amount in cash basis

Life Subsistence allowance ~Sec.8(2)(b) | Gross amount in cash basis

Rent ~Sec.8(2)(b) | Gross amount in cash basis

Entertainment or Conveyance allowance ~Sec.8(2)(b) | Gross amount in cash basis

Other Personal allowances ~Sec.8(2)(c) | Gross amount in cash basis

Reimbursement or settlement of personal cost ~Sec.8(2)(d) | Gross amount in cash basis

Amount for accepting any condition in employment ~Sec.8(2)(f) | Gross amount in cash basis

Payment for retirement or termination of or loss of employment ~Sec.8(2)(e) | Gross amount in cash basis

Retirement payment or contribution to a retirement fund ~Sec.8(2)(f) | Gross amount in deemed cash basis

Other payments relating to employment ~Sec.8(2)(g) | Gross amount in cash basis

Amount for vehicle facility ~Sec.27(1)(b) | 0.5% of salary

Amount for accommodation facility ~Sec.27(1)(b) | 2% of salary

Amount of facility by chauffeur, kitchen-man, guard, gardener, or other domestic helpers ~Sec.27(1)(c) | Actual amount paid less contribution

Amount of food, snacks or entertainment ~Sec.27(1)(c) | Actual amount paid less contribution

Amount paid by employer for utilities in accommodation ~Sec.27(1)(c) | Actual amount paid less contribution

Interest saving on the privileged loan from employer ~Sec.27(1)(d) | Amount saving then market rate

Other amount of employment | Gross amount

Most of the items includible in income from employment is self-explanatory. Some of the items are leave encashment, cumulative payment on retirement (), bonus or perquisites.

  206. Cumulative on Retirement\- Shrawan 15, Mr. Lama received Rs.250,000 as leave encashment from his employer. As per the record of employer, as on Chaitra 18, 2058, the leave encashment payable to Mr. Lama was Rs.150,000. In this case, the amount of leave encashment accrued after Chaitra 19, 2058, (Rs.100,000) shall only be included in the taxable (FWHT@15%) to Mr. Lama.

  207. Accrue in period not on amount of money\- Shrawan 15, Mr. Mijar retired and got 10 month salary in lieu of leave Rs.250,000. As per record of employer, as on Chaitra 18, 2058, leave accrued to Mr. Mijar was 10 months (salary Rs.15,000 p.m.).

In this case, the amount of leave encashment accrued after Chaitra 19, 2058, is nil and whole amount is exempted vide public circulated dated 2059.3.20 and Income Tax Manual.

  237. Bonus or Incentives- Bonus, incentives, awards, gifts or prizes provided by an employer or its associates are includible in income from employment. Non-cash items are to be included at market value as per Sec.27(1). But, if these payments are non-current and casual in nature and paid upto Rs.500 at a time, that is not taxable.

  238. Perquisites - All the perquisites provided by employer or its associates to employee or to its associates are includible in income from employment of employee at market value except on the following cases:

  * Accommodation facility provided to employee, value benefited from accommodation deemed to be 2% of salary (salary means basic pay plus grade for the concern month). Employee in this case might be monthly paying, day wage worker or any other compensation types irrespective of nature of pay having employment relationship.

  * Vehicle facility provided to employee, value benefited from vehicle deemed to be 0.5% of salary (salary means basic pay plus grade for the concern month). Employee in this case might be monthly paying, day wage worker or any other compensation types irrespective of nature of pay having employment relationship.

  * In case of personal helpers provided to any employee by employer as chauffeur, kitchen-man, guard, gardener, or other domestic helpers; or munchies, entertainment; or water, electricity, telephone or similar utilities; value of benefits received by that person shall be 'amount paid for these by the employer less any contribution by the employee benefiting it.'

  * In case of interest free or lower interest debt from employer, value of benefits received by that employee shall be 'amount saved in interest based on prevailing market rate'.

  208. Accommodation\- Employer has provided a house facility to one of employees against a payment of Rs.1,000 per month on use of accommodation. The salary for the income year found Rs.400,000.

In this case, the quantified amount of the house facility comes to Rs.8,000 for the year. As being employee, method of compensation has not considered whether monthly or otherwise.

  209. Labors- Basanta Industry has 300 workers paying piecemeal compensation at Rs.200 per unit of production. Basanti and Basantaz produced 25 and 27 units and got Rs.5,000 and Rs.5,400 for that month. There is a staff bus routed in the line of both staff including other. Does it valuable benefit?

No.

  210. Accommodation and Vehicle- Pradeep is an employee of R. Enterprises and during the income year, received as follows: [ICAN]

Basic pay Rs.10,000 per month Rs.120,000

Dearness allowance Rs.24,000

Provident fund 10% of the basic pay and

Dearness allowance Rs.14,400

Bonus for last year Rs.10,000

Dashain expenses for one month Rs.12,000

Total cash salary Rs.180,400

R. Enterprises has allotted a house for his residence for which it is paying Rs.6,000 per month as rent and has also offered a car for his personal use during off houRs.The firm is paying Rs.3,000 to the driver for the car provided to him. Here, Computation of income from employment:

Basic salary Rs.120,000

Dearness allowance Rs.24,000

PF contribution of employer Rs.14,400

Salary being paid regularly Rs.158,400

Bonus Rs.10,000

Dashain expenses Rs.12,000

Accommodation (2% of Rs.158,400) Rs.3,168

Vehicle facility (0.5% of Rs.158,400) Rs 792

Driver's salary Re. 0

Income from employment Rs184,360

  211. Income Tax as benefit- Sakangya, Italian nation working with Italiyana Nepal Branch getting Rs.20,00,000 per year net of tax. His stay is 240 days. Find the benefit.

In this case, income to be grossed up. As being a resident the benefit (tax amount) shall be:

Tax Rate | Net Pay | Gross Pay | Benefit

---|---|---|---

1% | 198,000.00 | 200,000.00 | 2,000.00

15% | 85,000.00 | 100,000.00 | 15,000.00

25% | 1,650,000.00 | 2,200,000.00 | 550,000.00

35% | 67,000.00 | 103,076.92 | 36,076.92

Total | 2,000,000.00 | 2,603,076.92 | 603,076.92

  212. Income Tax as benefit- Facility of Sakangya, in is one quarter and a small car then, find the benefit.

In this case, income to be grossed up. As being a resident the benefit (tax amount) shall be:

Tax Rate | Net Pay | Gross Pay | Benefit

---|---|---|---

1% | 158,400.00 | 160,000.00 | 1,600.00

15% | 85,000.00 | 100,000.00 | 15,000.00

25% | 1,680,000.00 | 2,240,000.00 | 560,000.00

35% | 76,600.00 | 117,846.15 | 41,246.15

Total | 2,000,000.00 | 2,617,846.15 | 617,846.15

Vehicle and accommodation

|

=2,617,846.15 *2.5%/0.65*35% | 35,240.24 | 35,240.24

 |   
 | 2,653,086.39 | 653,086.39

  239. Payments not Included in the Income from employment (Non-recognition) \- There are some payments, those seem as being relating to employment but these payments are not included in computing income from employment:

a. Any amount received by an employee for which exemption is given under Section 10 of the Act. In this regards any remuneration being paid through public fund of any foreign government is exempted, if the recipient is resident or non-resident due to this employment nexus; e.g., any person working in mission in Nepal drawing salary from foreign nation is exempted, even personal status is resident.

In case of security personnel getting pension from public fund of foreign government, these pension is also exempted. In case of any non-Nepalese resident person (or family members) gets remuneration from foreign public fund, those income are also exempted.

b. Any amount received which is subject to final withholding of tax; e.g. meeting allowance, retirement payments.

c. Work-time meals or refreshments provided by the employer in equal terms for all the employees at working place or uniform applicable to working place only.

d. Any reimbursement of expenses incurred by the employee:

  * That serves the purpose of the business of the employer; or

  * That would otherwise be deductible in calculating the individual's income from the business or investment.

  * Reimbursement of outstation cost- travelling or daily allowance

e. Any prescribed small amounts, which are too small and thus unreasonable or administratively impracticable to make accounting for them. The amount prescribed by the Rule is Rs.500 at a time. The expenses prescribed by the Rule include tea expenses, stationery expenses, prizes, gifts, emergency medical facility, or other such payments as specified by IRD.

f. Any amount paid as employment from the expense where matching income from that expense is exempted in hand of natural person is tax exempted. For example; agricultural income of a natural person is exempted in tax, wage paid to workers from natural person farm owner is exempt in hand of workers, and even wage is part of income from employment. From this principle, agro-wage paid by entity is subject of income from employment.

g. Outstation cost (TADA)- Travel allowance at outstation is paid to employee by employer, but it is the cost to perform employer's work, so it is not includible in income. Similarly, cost for living outstation is not also not the income of recipient. Internationally daily allowance shall be fixed at the level where is should not be the income of person. In case daily allowance or travel allowance has given for personal purpose (e.g. compulsory travel, home leave travel), it shall be includible in income.

  240. Deduction in computing Income from employment \- Apart from some exemptions, the Act has not provided for any deduction for computing income from employment. This means that are included in the payments for computing income from employment are the final inclusions in taxable income.

  1. # Retirement Payment

Retirement payment has two separate taxation methods with some exemptions:

  241. Exemption on retirement payment \- Retirement payment accumulated till 2058.12.18 is tax exempted.

Retirement payment, in form of gratuity, accumulated leave, provident fund or similar retirement scheme accumulated till 2058.12.18 is tax exempted in the hand of employee. In case of medical cost not utilized on that date; payment of retirement medical cost up to Rs.180,000 is tax exempted.

  242. Final WHT - Retirement payment final withholding taxed as income from employment.

Retirement payment, in form of gratuity, accumulated leave, provident fund or similar retirement scheme accumulated after 2058.12.18 is final taxed in hand of employee of GON. Retirement payments through ARF final taxed computed as:

  * In case of lump sum payments up to Rs.500,000 – no tax.

  * In case of lump sum payments from Rs.500,001 to Rs.1,000,000; first Rs.500,000 has no tax, remaining amount is taxed at 5% as final withholding tax.

  * In case of lump sum payments more than Rs.1,000,000; first Rs.50% has no tax, remaining amount is taxed at 5% as final withholding tax.

Retirement payment, in form of gratuity, accumulated leave, provident fund or similar retirement scheme accumulated after 2058.12.18 and paid through unapproved retirement fund, is final taxed in hand of employee in the gain portion of payments.

  213. Governmental Staff\- Shrawan 15, 2067, Mr. Lama received Rs.300,000 as gratuity from GON. As per the record of the employer, as on Chaitra 18, 2058, the gratuity payable to Mr. Lama, supposing that he is retiring on the date, was Rs.250,000. In this case, the amount of gratuity accrued after Chaitra 19, 2058, (Rs.50,000) shall only be included in the taxable income of Mr. Lama.

In case above payment were disbursed by GON to its employee or paid to any employee from ARF, the tax shall, being payment is less than Rs.500,000; be nil.

  214. Governmental Staff\- Mr. Wantawa takes retirement, on Jesth 15, 2067, under a scheme from Finance Ministry and receives Rs.1,000,000 as a compensation for the earlier retirement, and Rs.600,000 as an amount of gratuity. As per the service record with the Ministry, the amount of gratuity accrued, as on Chaitra 18, 2058, was Rs.500,000. In such a case, the tax liability for the retirement payment received shall be as under:

Compensation received Rs.1,000,000

Gratuity received Rs.600,000

Total amount Rs.1,600,000

Less: Amount of gratuity accrued as on 18.12.2058: Rs.500,000

Balance Rs.1,100,000

Less: 50% of Rs.1100000 or Rs.500,000 whichever is

Higher Rs.550,000

Remaining amount Rs.550,000

Tax amount 5% on Rs.550,000 Rs.27,500

This tax is a final withholding tax.

  215. Exclusion on Employment- All payments from employer, even indirect or paid to the associated person or third person is to be included in computing the tax of a natural person. State the exceptions in this principle.

According to Section 8(3), the following need not be included while calculating the remuneration obtained by a natural person through employment:

  * Amounts exempt under Section 10- Remuneration from Foreign government, pension given to ex-police, ex-army and non-citizen resident from foreign government, appointed in terms with tax exemption with Nepal Government,

  * Payments subject to final deduction of tax- retirement payments, meeting allowance, remuneration for pat time teaching.

  * Meals and refreshments provided by the employer to the employee at the place of work that are available to all the employees on equal terms.

  * Settlement or reimbursement of the following expenses incurred by an employee:

    * In case the expenses meet the business purposes of the employer~ Travelling allowance, Daily allowance, payments to promotional expenses or to parties, or

    * Expenses, which are or would be exempted while calculating the income of a natural person from business or investment~ payments/ reimbursements for expenses for agricultural income (it intimates wage paid to agro-worker is exempted income in the hands of worker), payments to workers and staff of Cottage Industry (with limitations & since 2062.63)

  * Payment of the prescribed small amounts maintenance of whose accounts is impractical or difficult from the administrative viewpoint like tea, stationary, tips; prize, emergency medical expenses and other prescribed amounts (not prescribed yet) not more than Rs.500.00 vide Rule 6.

  1. [2003-June] \- Mr. Ram is a retired Civil Servant and Pension holder. His wife Mrs. Mohani is a housewife. Ram has received pension Rs.10,500 per month for 13 months including Dashain allowance. Calculate the tax liability for the income year 2059-60 while Mr. Ram is residing in class (D) location.

  2. [2006-Dec] - Mr. Y, a married person has the following incomes/ losses and investments for the year ending on 31.3.2005. Calculate his taxable income for the financial year 2004-2005.

(a) | Interest on debentures | Rs.2,000

---|---|---

(b) | Interest on bank accounts | 10,000

(c) | Dividend from companies | 20,000

(d) | Salary and interest for being a working partner in a firm (share in firm's income Rs.50,000 excluded) | 64,000

(e) | Business loss from proprietary business | 81,000

(f) | Rental income from house property fully let-out | 18,000

(g) | House tax paid for let-out property | 500

(h) | Interest paid on capital borrowed for purchase of self-occupied residential flat | 18,000

(i) | Long-term capital gain on sale of plot | 1,60,000

(j) | Deposit on CIT Account | 5,000

  3. [2006-June] - Calculate taxable income and tax amount for the financial year 61/62 of Mrs. X, a widow, with no children, employed by a bank. Explain the tax implication on the followings:

  1. Provident fund as on the date 18 Chaitra 2058 was Rs.500 thousand, which was approved retirement fund and total provident amount of Rs.1.2 million is received at her retirement on Jestha 30, 2062.

  2. She gets Rs.400,000 from unapproved retirement fund in which her contribution was 300 thousand.

  3. She also gets Rs.100 thousand in total as medical benefits related FY 55/56.

  4. She received 10 years pension amount Rs.one million in advances. She has no other income.

  5. She also received Rs.5,000 as widow allowances from government.

  219. [2005-June] - Mr. S. Rana received the following amounts during the income year 2060-2061. Calculate his taxable income explaining with reasons for including or for not including any particular item in the taxable income.

Salary Rs.25,000 per month

Dashain Allowance Rs.15,000

Dearness Allowance Rs.10,000 per month

Employer's Contribution to approved P.F. 10% of Salary

  1. He contributed similar amount to Provident Fund.

  2. He retired from services from 1st Mangsir 2060. He received a pension of Rs.5,000/- per month from the date of his retirement. He joined service on 1st Mangsir, 2020. He also received gratuity of Rs.6,00,000 from the employer.

  3. He was allowed free accommodation by the employer, who allowed him to stay till Ashad 2061.

  4. He received his Provident Fund amount of Rs.800,000 from the approved Provident Fund on 1st Poush 2060. The Balance of Provident Fund amount in his account as on 19th Chaitra 2058 was Rs.600,000.

  5. He was also paid a sum of Rs.10,000 by the Managing Director as his personal token in appreciation of his sincere services to the employer.

  6. He received a sum of Rs.50,000 as unutilized leave salary as per the rules on 1st Magh, 2060.

  7. He was provided one car for both official and personal purpose. Employer allowed him to retain car with him till end of Ashad 2061.

  8. During Shrawan 2060, he was admitted to a private hospital for a week and the employer spent Rs.75,000 on his medical treatment to the hospital.

  9. Other employees presented him with a silver casket engraving costing Rs.25,000.

  10. He received a dividend of Rs.95,000 from various companies.

  1. [2005-June] - Discuss the taxability or otherwise of the following receipts by quoting the relevant sections of the income tax act.

  1. Sri Ram Bahadur Khadga receives pension of Rs.5,000 per month form Kolkota Police department.

  2. Sri Dinesh Basnyat receives an award of Rs.1,00,000/-for exemplary services during his term in Lebanon from UN through the Royal Nepal Army HeadquarteRs.

  221. [2004-June] - Mr. D employed in an undertaking and gets the following remuneration:

Basic Salary | - | Rs.36,000

---|---|---

Dearness Allowance | - | 50% of salary

House Rent Allowance | - | Rs.10,000

Employer takes a house on rent for Mr. D paying a rent of Rs.20,000/- per month. Out of which he recovers Rs.10,000 from Mr. D. The employer pays the electricity charges, phone bills and water charges. Personal phone calls are recovered from Mr. D. Mr. D has taken a Life Insurance policy for Rs.5 lakhs and pays a premium at the rate of Rs.1,250 p.m. He is entitled to Provident fund calculated at 10% of his salary and a similar amount is contributed by the employer and paid in to the Citizen Investment Trust. In addition, the employer deposits Rs.30,000 towards gratuity to the Citizen Investment Trust. Mr. D owns a car. But the car maintenance expenses are paid by the Company.

Mr. D's wife is employed as a teacher drawing a salary of Rs.10,000/- p.m. She is also entitled to 10% Provident Fund which is deposited with the Employee Provident Fund. She has also taken an Insurance Policy for Rs.5,00,000 paying Rs.12,000 premium per annum. The school bus takes her to the school in the morning and drops at home in the evening. The school provides free transport in the school bus. Advise whether they should submit separate returns and work-out the tax payable.

  1. #  DTAA related employment taxation

  243. General view \- We have DTAA with 10 states. Remuneration income of resident in Nepal or resident in contracting state may have different formula from income derived from treaty affected heads. Article 15 (in case India 14) of all the treaties have provision regarding tax on employment.

Income from employment in all DTAA case is chargeable in the state of residence (in DTAA there is single resident state). In case the person exercising employment and deriving remuneration from other contracting state (source state), the tax may be charging in source state. In , income has taxed in India based on source country. In case source country tax on remuneration there shall be some informative difficulties to tax it. For example Mr. Dahal, in , if employed by Nepal Ghee for Indian market survey for 5 months, the exact works shall be done in India and the employer is not Indian tax resident. In that case, based on work place, source is India and employer is beyond Indian tax net. The income could become beyond tax net in any county. Similarly, in case Mr. Dahal works for survey conducted by any South Africa Company, then exact works shall be done in India, person receiving remuneration is Nepali and expense to be booked in South Africa. The remuneration shall be beyond tax net of all three countries. In such case Article 14 of DTAA with India allows Nepal to tax on those income having source in India.

  244. Source Country tax\- Mr. Dahal is working with Indian Oil Corporation draws Rs.300,000 as salary in the income year. Since, Mr. Dahal is working in India, as per DTAA with India, Indian Taxation Authority charge income tax on remuneration received by Mr. Dahal. The method shall be as per India income tax law or with withholding method.

To tax such source country income by resident country (Nepal) there are three conditions to be fulfilled by Nepal (contracting state):

a. the stay should be less than 183 days in source country, and

Country | How to compute this | Example

---|---|---

India | less than 183 days in previous year (April -March )

|

Austria, China, Norway, Pakistan, Thailand, Sri Lanka | less than 183 days (Sri Lanka–90) in any 12 months | &

Korea, Mauritius, | less than 183 days in any 12 months commencing or ending the fiscal year concern | to

In previous year (April 1 to March 31), in case of India and less than 183 days in any 12 months period commenting or ending in fiscal year concern in other cases.

b. the employer is not resident of other contracting state (either of 10 states), and

c. payment should not linked to PE on that state.

In summary,

Source country shall tax on remuneration, if – a) resident of resident state stay 183 days or more in source country; or b) remuneration has paid from resident of source country.

Resident country shall tax on remuneration, if – a) resident of resident state stay less than 183 days ( as mentioned above) in source country; and b) remuneration has paid from non-resident or PE of source country.

Apart from above, remuneration received by teachers and researchers is taxed on resident country for the first two years of first entry into source country in case of China, India, Korea, Mauritius, Qatar, Sri Lanka and Thailand according to Article 20 or 21 or SAARC tax treaty.

  245. SAARC Tax Treaty – SAARC concluded a limited tax treaty on 2005 Nov 13 in Dhaka. As per that limited DTAA, student stipend upto USD 3000 per annum is exempted in the country of study and the income of a professor, teacher or researcher is deemed in the country where s/he was resident just before entering into another country. In these cases, income tax is levied by the country of immediate residency of income earner.

  222. DTAA- 183 days\- Mr. Rupakheti is working with South African survey conducted in India draws Rs.400,000 as salary. Stay in India was January 1 to August 31. In this case, income generated by Mr. Rupakheti is taxed in Nepal for previous year ending March 31, because his stay was 90 days only. India cannot charge income tax on these remuneration. In the second previous year, his stay reached to 183, so remuneration for that year is taxed in India. In Nepal, same can be taxed with foreign tax credit.

  223. 183 days in DTAA\- Mr. Lamsal is working with South African survey conducted in China draws Rs.400,000 as salary. The stay in China was October 1 to April 30. In this case, income generated by Mr. Lamsal is taxed in Nepal for income year ending December 31, because his stay was 92 days only. China cannot charge income tax on these remuneration. In the second year, his stay reached to 212 days (even overlapping the period of 92 days), so the remuneration for that year is taxed in China. In Nepal, the same can be taxed with foreign tax credit.

  224. 183 days in DTAA\- Mr. Oslo has come to Nepal as employee of Norwegian consulting to prepare and file a bid to Nepal project. His stay was from Srawan 25 to Bhadra 24 and drew remuneration from its home office. Latter the bid submitted had accepted and whole team of 10 Norwegians were employed since Baisakh 1. In this case, first remuneration relating to bid is not from PE in Nepal so is taxed on Norway. Latter case, all the employee are taxed Nepal based on withholding by PE.

  225. 183 days in DTAA\- Mr. Rana is working with South African survey conducted in Korea draws Rs.400,000 as salary. The stay in Korea was October 1 to July 31. In this case, income generated by Mr. Rana is taxed in Nepal for income year ending December 31, because his stay was 92 days only. Korea cannot charge income tax on these remuneration. In the second year, his stay reached to 212 days, so the remuneration for that year is taxed in Korea. In Nepal, the same can be taxed with foreign tax credit.

  226. 183 days in DTAA\- Mr. Rana is working with South African survey conducted in Korea draws Rs.400,000 as salary. Stay in Korea was October 1 to May 31. In this case, income generated by Mr. Rana is taxed in Nepal for income year ending December 31, because his stay was 92 days only. Korea cannot charge income tax on these remuneration. In the second year, his stay is 151 days, so the remuneration for that year is taxed in Nepal only.

  227. Some complex\- From January 1 to December 1, Mr. Vatsa lived in Korea. On January 1 of next year Nepal Company hired Mr. Vatsa in Nepal and seconded to Korea survey for period of 15 to 31 March. His stay seems from April 1 to March 31 is 292 days, but earlier period has consumed in income year (commencing or ending the fiscal year concern) hence his stay shall be counted to 17 days only and any remuneration paid on Korea work shall be taxed in Nepal only. Korea cannot charge income tax on this.

  228. Funny Question\- Mr. Kuwar, Kathmandu based, for each month of Nepal income year worked with Pakistan company in all DTAA 10 states and in first 10 months and rest in leave with his family. In each country he drew Rs.200,000 p.m basis. Find taxability.

All the income except derived on working in Pakistan is taxed in Nepal only, not elsewhere.

  229. Funny Question\- Mr. Kuwar, Mumbai based, for each month of Nepal income year worked with Pakistan PE of Nepal Company in all DTAA 10 states and in first 10 months and rest in leave with his family in Nepal. In each country he drew Rs.200,000 p.m basis. All the income is taxed in Pakistan based of DTAA with Pakistan

  230. Funny Question\- Mr. Kuwar, in the following income year in either case of and , working with same employer in Nepal. Based on his performance, he got 20% bonus working aboard in subsequent year. How does it taxed?

  6. # Income from Investments

  246. Concept of investments \- Investments as defined in Sec.2 as own in asset or assets by any person other than assets for personal affairs and assets for employment or business. Due to proviso non-business chargeable assets deemed to be investments assets. By this definition investments include the assets other than for personal use and for business. Hence, one can classify total of assets as:

  * Assets on personal affairs (except non-business chargeable assets, if any)

  * Assets in business (trading stock, depreciable assets and business assets)

  * Investments assets (tax word- non business chargeable assets)

Investments assets are described in a few places of the act. Most cases, investments assets are described as non business chargeable assets. In this text 'investments assets' and 'non-business chargeable assets' are interchangeably used.

Personal affairs are not tax attractive. But in some rare conditions, assets under personal affairs are tax attractive as non-business chargeable assets. Land, building and securities are defined as non business chargeable assets in Sec.2 except:

  * Relating to business as trading stock, depreciable assets and business assets;

  * Relating to natural person in case of personal house owned at least 10 years and resided at least 10 years

  * Membership in retirement fund

  * Land and building disposed below than Rs.5 million in case of natural person and

  * Transfer of above assets within 3 generation.

Land or building owned by a natural person may become non business chargeable asset in the point of disposal, if above conditions not fulfilled in full.

Conceptually, Income from investments includes the income attached from those investment assets or from disposal of investment assets themselves (practically or some legally, these incomes are taxed under 'Income from Business' head):

  * Income from use of investments assets

  * Net gain on disposal of investments assets.

  247. Component of Income from Investments \- Income from investments is to be accounted, according to Sec.22, on cash basis of tax accounting for natural person and company for tax purpose should account in accrual basis. Entity other than company may keep its tax accounting in either cash or in accrual basis of accounting. Practically, almost head of inclusions (profit and gain) under income from investments are final withholding taxed income for a natural person and falls under inclusions (profit and gain) of income from business in case of firm or entity; so, rare income recognised in 'income from investments'.

Sec.9(2) explains the inclusions in income from investments as the inclusions (profit and gain) as (most are final taxed income, hence not includible in inclusions):

(a) Dividend and interest received from that investment, payments received in consideration of natural resource, rent, royalty, gains made from investment insurance, and gains made from the benefit of retirement fund for which no approval has been obtained Sec.63, or retirement payments received from the approved retirement fund.

(b) The net gain made from the disposal of the non-business taxable assets of the investment of the person calculated under Chapter 8.

(c) Balancing charge on disposal of the depreciable assets of the investments.

(d) Gifts received by the person in relation to the investment.

(e) Retirement payments made in relation to the investment, and the retirement contributions along with amounts deposited in the retirement fund for that person.

(f) Amounts received in accepting investments restrictions, and

(g) Other amounts to be included according to Chapter 6 or 7, or Section 56.

NB: Investments income for person having investments business is taxed under income from business source, and most cases for natural person getting income from Nepal source, income from investments is taxed under final withholding tax method. Hence, practically, there are very few cases taxed as income from investments.

  248. Accounting method \- Based on tax accounting method prescribed in Sec.22 above heads can be classified as:

Head of income | Comments

---|---

Dividend ~Sec.9(2)(a) | If paid by resident – final or no tax

Gain from investment insurance ~Sec.9(2)(a) | If paid by resident – final

Interest ~Sec.9(2)(a) | Shall final for most natural person

Rent ~Sec.9(2)(a) | If received by natural person- final

Payment for natural resources ~Sec.9(2)(a)

|

Royalty ~Sec.9(2)(a)

|

Balancing charge on pool disposal ~Sec.9(2)(c)

|

Gift relating to investments ~Sec.9(2)(d)

|

Retirement payment, relating to investments ~Sec.9(2)(e) | Normally final

Amount on accepting investments restrictions ~Sec.9(2)(f) |

Changing in accounting policy ~Sec.22(6) |

Gain of foreign exchange ~Sec.24(4) |

Reversal of written off debt ~ Sec.25(1) |

Interest saving on the privileged loan from employer ~Sec.27(1)(d) |

Part of indirect payment ~Sec.29 |

Part of joint owned assets ~Sec.30 |

Compensation ~Sec.31 |

Other payments relating to investments |

  249. Inclusions - Income includible in inclusions (profit and gain) under income from investments are as follows:

Dividend:

Dividend, if not a final withholding taxed or if not waived u/s 54 is includible in inclusions (profit and gain).

According to Sec.53, distributions below are treated as dividend:

  * A payment made by an entity to any of its beneficiaries in any capacity, or

  * A capitalization of income.

A payment made by an entity to any of its beneficiaries in any capacity is deemed as distribution but it excludes following payments to the beneficiaries from the distribution of profit:

  * Payment for payment \- In case any beneficiary obtain benefit of any payment, goods or services against the payments, goods or services provided to the entity, the payment is not treated as distribution of profit (refund of loan, payment for goods or service are example);

  * Within tax regime \- If payment by the entity to its beneficiary is taxable income or final taxed income (except distribution tax) in the hand of beneficiary, then the payment is not a distribution of profit (remuneration of directors, meeting allowances, interest on loan are examples).

  * Wealth reduction \- The payment or giving any asset which does not reduce the market value of net assets is not distribution of profit (giving negative-valued dumping assets, e.g. expired pesticides, unused radio-active dump, banned equipments etc. would be examples) .

  * Market value net worth – Payment beyond net worth (in market value) is not a distribution, like:

Market value |   
 | Market value | Book value | Remarks

---|---|---|---|---

Total assets | ≥ | Total liability | Capital Contribution |

Less: Payments |   
 |   
 |   
 | Distribution

Total assets | ≥ | Total liability | Capital Contribution | To the extent of ≥, distribution thereafter capital refund

Payment from retained earnings is profit-first rule u/s 53(5). But abovementioned dividends is taxed at 5% final withholding taxed income in case distributed by a resident company (for tax purpose) and not taxed in the hand of recipients' in other cases of resident entity. Only dividend from non-resident, except controlled foreign entity is part of inclusions. This leads only the distribution from non-resident entity having holding below controlling interest is includible in inclusions.

  231. Net worth Tax\- In following case of Ansari Ltd., non-resident paid Rs.100,000. On the date of payment:

Particulars | Tax Base | Market value

---|---|---

Trading Stock | 100,000 | 105,000

Depreciable Assets | 100,000 | 90,000

Business Assets | 100,000 | 85,000

Non Business Chargeable Assets | 100,000 | 110,000

Total Assets | 400,000 | 390,000

Liability | 100,000 | 100,000

Retained Earnings | 100,000 |

Capital Contribution | 200,000 |

Total of Equity and Liability | 400,000 |

Assuming the payments is not for matching of any goods or services or for employment or from CFE;

Market value |   
 | Market value | Book value | Remarks

---|---|---|---|---

Total assets | ≥ | Total liability | Capital Contribution |

Rs.390,000 |   
 | Rs.100,000 | Rs.200,000 |

Less: Payments Rs.100,000 |   
 |   
 |   
 | Distribution Rs.90,000

Total assets | ≥ | Total liability | Capital Contribution | Capital refund Rs.10,000

Distribution from non-resident entity, Rs.90,000 is includible in inclusions.

  232. Distribution and Capital Refund\- In the following case of Jain company Ltd. (non-resident), on the date of payment to its shareholder:

Particulars | Tax Base | Market value

---|---|---

Trading Stock | 100,000 | 115,000

Depreciable Assets | 100,000 | 90,000

Business Assets | 100,000 | 85,000

Non Business Chargeable Assets | 100,000 | 125,000

Total Assets | 400,000 | 415,000

Liability | 100,000 | 100,000

Retained Earnings | 100,000 |

Capital Contribution | 200,000 |

Total of Equity and Liability | 400,000 |

In the day of above balance sheet, asset valued Rs.110,000 has transferred to its shareholder. Then, assuming payments is not for matching of any goods or services or for employment or from CFE;

Market value |   
 | Market value | Book value | Remarks

---|---|---|---|---

Total assets | ≥ | Total liability | Capital Contribution |

Rs.415,000 |   
 | Rs.100,000 | Rs.200,000 |

Less: Rs.110,000 |   
 |   
 |   
 | Distribution Rs.110,000

Rs.305,000 |   
 | Rs.100,000 | Rs.200,000 |

  233. Capitalization of RE\- In the following case of Ibrahim company Ltd. (non-resident), Company capitalized whole retained earnings:

Particulars | Tax Base | Market value

---|---|---

Trading Stock | 100,000 | 115,000

Depreciable Assets | 100,000 | 90,000

Business Assets | 100,000 | 85,000

Non Business Chargeable Assets | 100,000 | 125,000

Total Assets | 400,000 | 415,000

Liability | 100,000 | 100,000

Retained Earnings | 100,000 |

Capital Contribution | 200,000 |

Total of Equity and Liability | 400,000 |

Here, total of capitalization (of retained earnings or other accounts) is distribution, so Rs.100,000 is distribution. If it would be CFE its capitalization would have no tax impact.

  250. Distribution other than Profit ~Sec.56(3)- Distributed out of any provision created for any probable expenses in earlier years or Distributed out of any capital reserve shall be some examples.

  234. Distribution without profit- Let take an example for it:

Balance sheet before distribution

 | Carrying Amount | Tax Base | Market Value

---|---|---|---

Capital Contribution | 1,000,000 | 1,000,000 |

Retained Earnings | 1,000,000 | 950,000 |

Business Liability | 1,000,000 | 1,000,000 | 975,000

 | 3,000,000 | 2,950,000 | 975,000

 |   
 |   
 |

Trading Stock | 1,000,000 | 1,000,000 | 1,200,000

Depreciable assets | 1,000,000 | 900,000 | 1,100,000

Business Assets | 1,000,000 | 1,050,000 | 950,000

 | 3,000,000 | 2,950,000 | 3,250,000

Net-worth | 2,000,000 | 1,950,000 | 2,275,000

As per Company Act, 2063, distributable profit for the company is Rs.1,000,000. Assuming AGM of the company declared the dividend of Rs.100,000. Then the tax impact shall be:

Distributable amount as per Sec.53(4) is Rs.1,275,000 (2,275,000-1,000,000); out of which Rs.950,000 is distribution from tax-paid retained earnings (tax base of RE) and remaining is distributable amount but corporate tax not paid. In the given case, actual distribution is Rs.1000,000, so whole amount is distribution and Rs.50,000 (1,000,000-950,000) is includible in inclusion for income from business under Sec.56(3).

in page 173 has given another type of example in this regard.

  251. Tax Implications on Dividend (Section 54) - Dividend paid by a resident company or partnership firm is subject to 5% final withholding tax. In examples from to , assuming they are non-resident entity, the dividend is part of inclusions, if the entities are resident dividend tax shall be 5% of Rs.90,000, Rs.110,000 and Rs.100,000.

According to Sec.54(3) a company or partnership firm that receives dividend after deduction of the tax, is not required to deduct tax on dividend paid to latter's shareholders out of the amount of dividend received (so called upstream dividend). This system in tax is called tax imputation. Dividend income received by any person (upstream dividend) to be recorded separately as tax imputation for re-distribution.

Dividend income from CFE is not a tax subject and a part in incomings for calculating net outgoings of investments. But, tax imputation allows for corporate tax payment in source countries.

  235. Tax imputation on dividend \- Ugrachandi Ltd. received Rs.200,000 (net) dividend per year from its investments for four years. The dividend distributed from company is follows. The tax to be charged on distribution is as follows:

Year | Profit after tax | Dividend included | Dividend paid | Remaining dividend | Dividend Tax Base

---|---|---|---|---|---

1 | 500,000 | 200,000 | 0 | 200,000 | 0

2 | 500,000 | 200,000 | 500,000 | 0 | 100,000@5%

3 | (500,000) | 200,000 | 500,000 | 0 | 300,000@5%

4 | (500,000) | 200,000 | 0 | 200,000 |

5 | (500,000) |   
 |   
 | 200,000 |

Alternative answers are available.

  252. Interest - Interest income is part of inclusions. The definition of interest is same in accounting and a list of interest income has given in page 95. Interest shall be rewards or premiums for deposit, loan, bonds, debenture, deep bond, treasury bills, annuity, finance lease, installment sale, hire purchase or similar deferred payment.

  253. Payment for Natural Resources - Section 2 says that a payment made in consideration of:

  * The right to take water, minerals, or other living or non-living resource from the land; or

  * For taking out, in whole or part, of natural resources or living or non-living minerals as calculated on the basis of quantity or value of these materials taken from the land.

are payments for natural resources.

  254. Net Gain from the Disposal of Non-Business Chargeable Assets - In case, a person disposes off its non-business chargeable assets (investment assets) during a year and there by derives a gain as calculated under Sec 36 of the Act, the gain is included in income from investment of the person for the year.

According to Section 36(2) net gain from the disposal of non-business chargeable assets of the investment of a person for an income year are calculated as follows:

Particulars | Formula

---|---

Total of gains on gain making items of disposal of non-business chargeable assets during the year | ∑ gain u/s 37 this year

Less: Total of losses on loss making disposal of non-business assets during the year | ∑ Loss u/s 37 this year

Less: Any unrelieved net loss out of any losses of business assets or investment of the person for the year | ∑ Net Loss from business other investments this year

Less: Any unrelieved net loss for a previous years out of the losses of the investment, any business, or other investment of the person | ∑ Net Loss from business other investments Previous years

Less: Any unrelieved net loss for a previous years out of the losses of the investment, any business, or other investment of the person, unrelieved due to lapse of set off period of 7 years or 12 years, as the case may be | ∑ Loss from business other investments Previous years unrelieved due to time

Net gain from disposal of non-business assets | XXX

Example of computation has given in .

  255. Income from controlled foreign entity- According to explanation under Sec.69; 'controlled foreign entity' means a non-resident entity in which, in any income year, a resident person has a direct interest or an indirect interest through one or more interposed non-resident entities; in case such a person is associated to that entity, or in case the person to be regarded as associated and any other not more than four resident persons are associated to that entity, such an entity shall also be regarded as a 'controlled foreign entity'. Income of a CFE is taxed under head of Income from Business, mainly. This definition can be explained under example as:

  236. Symmetrica Example\- Company A, non-resident hold 51% shares in Company B, another non-resident. Company Z, resident hold 51% of shares in Company A. State relation.

Here, Z and A as well as A and B are associates having direct shareholdings for the purpose of Sec.2. So, Z and B are associates under same Section. In this case, both companies are controlled foreign entity for Z, having direct control of 51% in A and indirect control of 51% from A in B. Income of B at 26% and income of A (except dividend income from B- Sec.69(2)) is to be included in inclusions (profit and gain) of Z.

  237. Example of CFE\- Nepal Ltd. holds 70% of shares of Myanmar Ltd. registered in Myanmar. Later has 90% holdings in Japan Ltd., which has 80% holdings in Bhotan Ltd. Bhotan Ltd. has 90% holdings in Cambodian Ltd; latter has 80% holdings in Bangla Ltd. All the companies were registered in the country named as companies. In Bangle Ltd. four other resident Nepalese associated with Nepal Ltd. hold 20% shares. Then, for Nepal Ltd.

 | Mnmar Ltd. | Japan Ltd. | Bhotn Ltd. | Cambdia Ltd. | Bangla Ltd.

---|---|---|---|---|---

Holdings to latter company | 70.0% | 90.0% | 80.0% | 90.0% | 80.0%

Holdings by other 4 residents |   
 |   
 |   
 |   
 | 20%

Underlying Holdings of Nepal Ltd. | 70.0% | 63.0% | 50.4% | 45.4% | 36.3%

Status for Nepal Ltd | CFE | CFE | CFE | CFE | CFE

In the above case, Myanmar Ltd. is controlled foreign entity with direct investments for Nepal Ltd. Japan Ltd., Bhotan Ltd., Cambodia Ltd. and Bangla Ltd. are controlled foreign entity controlled through interposed entities.

  238. Income from CFE\- Nepal Ltd. holds 70% of shares of Myanmar Ltd. registered in Myanmar. Later has 90% holdings in Japan Ltd. Both subsidiaries earned taxable income of Rs.10,000,000 excluding dividend income. Corporate tax paid is 25% of net income in respective countries. Both company distributed Rs.5,000,000 dividend during the year.

Myanmar Ltd. (directly controlled-Subsidiary) and Japan Ltd. are controlled foreign entity for Nepal Ltd; control is through interposed entity of Myanmar Ltd. (Fellow subsidiary in corporate law).

CFE | Attributable Income | Proportionate to Nepal Ltd

(Inclusions). | Qualifying foreign tax credit

---|---|---|---

Myanmar Ltd. | 10,000,000 | 7,000,000 | 2,500,000*70%=1,750,000

Japan Ltd. | 10,000,000 | 6,300,000 | 2,500,000*63%=1,575,000

Dividend, actually received in not tax vide Sec.69(2), but included in incomings for investments in shares in Myanmar Ltd.

Tax paid by CFEs, to the extent of proportionate income from that CFE, is allowed as eligible qualifying foreign tax credit. Tax for this purpose is both corporate tax and distribution tax paid during the year (Nepal income year) and further includes tax paid to central or local government of country of income. Of course, as usual to other foreign tax credit, tax paid in country other than having source of income is not eligible qualifying credit. Furthermore, this tax credit is indirect tax credit, because the tax paid is by CFE not by charging person itself.

  239. CFE controlled by natural person\- in the case of , let assume Mr. Nepal holds 70% of shares of Myanmar Ltd. registered in Myanmar. Later has 90% holdings in Japan Ltd. Both subsidiaries earned taxable income of Rs.10,000,000 excluding dividend income. Corporate tax paid is 25% of net income in respective countries. Both company distributed Rs.5,000,000 dividend during the year.

In this situation also, the tax impact shall be the same as of Nepal Ltd. Here, the critical is 'control' rather than 'naturality'.

  240. Distribution from CFE\- Nepal Ltd. invested Rs.30 million to acquire shares on Myanmar Ltd. in . In the second year Myanmar Ltd. issued right shares at 1:1 basis, as per Myanmar's foreign investment policy Nepal Ltd. could not acquire further shares. In the second year Myanmar Ltd. earned attributable income of Rs.8 million before paying Myanmar tax equivalent to Rs.2 million.

In this case, Myanmar Ltd. (as well as Japan Ltd.) is not a CFE. Tax base of investment is Rs.38,300,000 and any dividend from Myanmar is taxed on receipt basis.

Computation of Investments | Amount Rs.

---|---

Outgoings at inception | 30,000,000

Amount included in taxable income |

Myanmar Ltd. (1st year income) | 7,000,000

Japan Ltd. (1st year income) | 6,300,000

Total Outgoings (Sec.38) | 43,300,000

Incomings |

Actual dividend | 3,500,000

Net Outgoings/ Tax Base (Sec.38(2)) | 39,800,000

  241. Disposal of foreign investments having CFE\- Due to uncertainties in Myanmar, Nepal Ltd. disposed all shares at Rs.40,000,000 during the 2nd year. Then,

Incomings (Sec.39) | Rs.

---|---

Amount received at inception | 0

Amount received during holding period | 3500,000

Amount received at disposal | 40,000,000

 | 43,500,000

Outgoings (Sec.38) |

Amount Paid at inception | 30,000,000

Amount paid during holding period | 0

Amount paid at disposal | 0

Amount included in income due to reason of receipt | 13,300,000

 | 43,300,000

Gain (loss) (Sec.37) | 200,000

Since there is single gain for Sec.36, net gain includible in taxable income from investments is Rs.200,000.

Particulars | Formula

---|---

Total of gains on gain making items of disposal of non-business chargeable assets during the year | 200,000

Less: Total of losses on loss making disposal of non-business assets during the year | 0

Less: Any unrelieved net loss out of any losses of business assets or investment of the person for the year | 0

Less: Any unrelieved net loss for a previous years out of the losses of the investment, any business, or other investment of the person | 0

Less: Any unrelieved net loss for a previous years out of the losses of the investment, any business, or other investment of the person, unrelieved due to lapse of set off period of 7 years or 12 years, as the case may be | 0

Net gain from disposal of non-business assets | 200,000

  256. Other inclusion in inclusions - Followings are part of inclusions (profit and gain) in income from investments

  * Rent

  * Royalty

  * Net Gain from the Disposal of Depreciable Asset

  * Gift Received by the Person in Respect of the Investment

  * Any Amount Received in Compensation of Accepting any Limitation

  * Change in Basis of Accounting ~Section 22 (6):

  * Gain from Exchange Fluctuation ~Sec.24 (4) and Sec.28

  * Recovery of Bad Debts, liability need not to be paid ~Sec.25

  * Indirect Advantage from Related Person (Sec.29):

  * Compensation Received (Sec.31):

  257. Amounts not Included Income from Investment \- Following incomes, being similar as income from investments are not includible in inclusions (profit and gain) on income from investments:

Exempted: Amounts received, which are exempted from tax as discussed in Sub-chapter , are not included in income from investment.

Dividend: Dividend distributed from entity other than company for tax purpose is not includible in inclusions (profit and gain) under Sec.54.

CFE: Dividend received from controlled foreign entity, under Sec.69, if taxed under head of income from investments; is not part of inclusions (profit and gain) in income.

Final Taxed: Amounts received, which are subject to final withholding of tax, are also not included in income from investment.

  258. Allowable Expenses \- The allowable expenses are described while discussing on the income from business. The Sections and expenses allowed are reproduced for your reference.

a. General Deductions (Sec 13);

b. Interest Expenses (Sec.14);

c. Repairs and Improvement Expenses (Sec.16);

d. Depreciation Allowance (Sec.19);

Subject to Sec.22 basis of accounting and Sec.21 disallowable expense, the expense is allowed in computing income from investments is same principle of deductible expense for computing income from business, as discussed under Chapter Deduction of Expense.

# CHAPTER-III  
TAX PAYMENT AND TAX ASSESSMENT

___________________________________________________________

  7. #  Withholding Advance and Installment Tax

  259. Concept of withholding tax -Withholding tax is payment of tax at the point of received deducting tax from gross received. This type of tax is based on PAYE-concept (Pay As You Earn). This reduces payment burden to the payer, easy to collect with minimum cost for collection and regular revenue generation vehicle for the government.

According to Income Tax Act, 2058, only resident payer paying any payments covered by Sec.87 to 89 having source in Nepal need to withhold income tax at the point of payment. Hence, to deduct withholding tax:

  * Resident Payer\- Payer must be resident.

  * Nepal Source \- Source of income should be in Nepal.

  * Listed items -Payments should be covered by either Sec.87 to 89.

If all three criterions meet on any payment, payer MUST deduct withholding tax. Withholding tax is of two types: i. final withholding tax and ii) creditable withholding tax.

  260. Concept of Final Withholding Tax Payments – The payments where the levied withholding tax is final tax to the recipient are Final WHT. Final WHT payment is not part of inclusions or taxable income. Out of final WHT payment, dividend is imputation item (see in pg. 174) where redistribution is non-taxable; remaining items under final WHT, if redistributed are subject of distribution tax. Any WHT item of payment payable to the non-resident is always final WHT.

  261. Items for Final Withholding Tax Payments \- According to Sec.92, some of withholding taxed payments are final taxed in the case of recipient. Person getting final withholding taxed income need not be included in the taxable income. Following payments are final withholding taxed payments:

Income or payment | Conditions applicable | Rate for 2072-73

---|---|---

Interest having source in Nepal | In case a resident bank, finance company, a listed company, or bond issuing entity pay interest to a natural person on personal deposits | 5%

Interest having source in Nepal | In case a resident bank, finance company, a listed company, or bond issuing entity pay interest to a exempted entity | 15%

Rent having source in Nepal | Rent for land and/or building with or without including the attachments or equipment installed in that land or building paid to natural person | 10%

Meeting or part-time teaching allowance | Meeting fee and periodical teaching fee. | 15%

Retirement payments | Retirement payments from GON or from ARF (computation as per Sec.65) | 5%

Retirement payments | Gain on payments of URF | 5%

Dividend | In case of resident ( tax purpose) company | 5%

Gain on investment insurance | Gain on Investments Insurance | 5%

Windfall gain | Amount received from any type of windfall gain except exempted by GON. | 25%

All payments to a non-resident | If Withholding tax is applied in the payments making to a non-resident, the payments shall be final at applicable withholding tax rates. |

  262. Basis of withholding by employer\- Every resident employer need to deduct tax on the payment of remuneration based on computation of tax on taxable income at the rate given in sch. 1.

Withholding tax on employment payment is based on estimated income of an employee. The estimation need to done at the beginning of first payment of remuneration. Any changes on estimation need to adjust at the time of changes.

Employee has other type of income those to be taxed on him/her too. For the purpose of withholding tax, employer should consider payment under own system paid directly to employee or any person upon his direction or for associates of employee.

  263. Conditions for Tax Deductions by Employer – In case:

  * Resident employer

  * While paying any amount in any form

  * Source in Nepal is to be included in calculation of income

  * Received by any employee or worker from employment

  * Must deduct tax at rates mentioned in schedule 1 on estimated income.

  * Donation cannot be reduced on computing WHT, medical cost and retirement contribution to be taken from employer's record only.

If all the cases above are fulfilled, then:

Step 1: Compute yearly tax based on estimated income at the time of first payment.

Step 2: Deduct monthly tax based on tax computation on the prorate basis.

  242. Simple case of withholding tax: In 160 income from employment is Rs.220,360 including provident fund contribution of Rs.14,400. Assuming the contribution was single side and was approved. Then tax to be:

Income from employment/Assessable income Rs.184,360

Reduce: Contribution to ARF Rs.14,400

Taxable income Rs.169,960

Tax to be paid: 1% on Rs.169,960 Rs.1,699.60

Monthly withholding tax Rs.1,699.60/12= Rs.141.63.

  243. Estimation Changed- During Falgun on above, employer awards a prize of Rs.100,000 for each of employee working on that date. Then withholding tax shall be deducted as follows:

 | Original | Revised |

---|---|---|---

Revised Taxable income | Rs.169,960 | Rs.269,960 |

Tax to be paid @ 1% | Rs.1,699.60 | Rs.200,000 | Rs.2,000

Tax to be paid @ 15% |   
 | Rs.69,960 | Rs.10,494

Tax to be paid | Rs.1,699.60 |   
 | Rs.12,494

Less: already deducted |   
 | 141.63*7 | Rs.991.41

Remaining deduction |   
 |   
 | Rs.11,502.59

Monthly Tax | Rs.141.63 |   
 | Rs.2,300.52

  244. Pay Scale based- Mrs. Alibadan is working in a private company since IY 2060.04.01. Find the tax to be deducted per month for 2070.71 under pay scale of Rs.15,000-1000(15)- 30,000. Sanchaya kosh contribution is 10% by both.

Computation of income from employment and tax at source

Basic salary (Rs.15000*12) | 180,000

---|---

Grade (10000*12) | 120,000

Employer's contribution to Fund (300000*10%) | 30,000

Income from employment/assessable income | 330,000

Reduction: Contribution to ARF |

Minimum (Rs.300000 or 110,000 or Rs.60000) | 60,000

Taxable income | 270,000

Tax (2000+70000*15%) | 12,500

Less: Female employment tax credit | 1,250

Tax Payable | 11,250

Monthly withholding tax | 937.50

  1. Tax free salary, to gross up\- In case any person appointed in the term of tax-free pay, employer need to pay the tax required. For example, Mr. Rakhel Desai has appointed in MD at the term of tax free salary. During this year, he has drawn Rs.22,77,000 as salary. How much is the tax per month for IY 2072.73?

GROSS UP | Net Rs. | Gross Rs. | Tax Rs.

---|---|---|---

Gross Up Rs.250,000*99% | 2,48,000 | 2,50,000 | 2,000

Gross Up Rs.100000*85% | 85,000 | 1,00,000 | 15,000

Gross Up upto Rs. 25 Lakh | 16,12,500 | 21,50,000 | 5,37,500

Gross Up remaining/65% | 3,31,500 | 5,10,000 | 1,78,500

 | 22,77,000 | 30,10,000 | 7,33,000

Withholding tax per month |   
 |   
 | 61,083

  2. Tax free salary, additional allowance\- Rs.100,000 per month has increased since Chaitra in , then withholding tax shall be as:

GROSS UP | Net Rs. | Gross Rs. | Tax Rs.

---|---|---|---

Gross Up Rs.200,000*99% | 198,000 | 200,000 | 2,000

Gross Up Rs.100000*85% | 85,000 | 100,000 | 15,000

Gross Up upto Rs.25 Lakh | 1,650,000 | 2,200,000 | 550,000

Gross Up remaining/65% | 744,000 | 1,144,615 | 400,615

 | 2,677,000 | 3,644,615 | 967,615

Already withheld |   
 |   
 | 501,487

Remaining Tax |   
 |   
 | 466,128

Withholding tax per month |   
 |   
 | 116,532

  3. Foreigner as employer- Mrs. Yadavi Gautam, Humla based national, is a foreign staff of Far England Inc. registered in the United States of America. The company has some short-term assignment in Nepal handled by Mrs. Gautam. The company draws USD 40,000 from that assignment and disbursed Rs.510,000 as salary and allowances to Mr. Gautam. The payment was made through banking channel. Mrs. Gautam has some agricultural income of Rs.300,000 in joint family. Last year, she suffered with some short sightless regarding left eye and curing cost was Rs.21,000 during that year. Before employment with Far England Inc. she donated Rs.20,000 from sale of cash crops from joint farming to Prime Minister Relief Fund for donating flood victims. Find income tax those to be computed by employer and employee both and method of payment.

  264. WHT on Service Fees - Service fee are subject of withholding tax as follows:

Service provider's status | Billing Status | Withholding rate

---|---|---

VAT Registered Person | VAT Tax invoice | 1.5%

VAT unregistered resident

company | no Tax invoice | 1.5% of Billing amount

Non-resident | no Tax invoice | 15% of billing amount

Foreign employment agent | Paid by resident company | 5% of payment

Commission other than above |   
 | 15% of gross pay

Royalty |   
 | 15% of gross pay

Meeting allowance |   
 | 15% of gross pay

Part-time teaching fees |   
 | 15% of fees

Sales Bonus | Not billed | 15% of bonus paid

  248. Tax invoice\- CA Firm issued a tax invoice having audit fee plus applicable value added tax of Rs.339,000. Here, taxable amount for the purpose of Value Added Tax Act, 2052 is Rs.300,000 and Value Added Tax is Rs.39,000. Withholding tax is to be deducted on Rs.300,000 at 1.5% i.e. Rs.4,500.

In case of service fee is paying without VAT and receiver is resident person - rate of withholding tax is 15% of bill amount. In case the service provided is non-resident the rate of withholding tax is 10% according to Sec.89(3).

  1. No VAT invoice, resident\- CA Firm issued an invoice having audit fee of Rs.90,000. Here, the bill has issued by VAT unregistered person; and hence withholding rate applicable is 15% on gross. So, WHT is to be deducted on Rs.90,000 at 15% i.e. Rs.13,500.

  2. No VAT invoice, non-resident\- CPA Firm having registered office in New York, issued an invoice having fee of Rs.1,000,000. Here, the bill has issued by non-resident and hence withholding rate applicable is 15% on gross. So, withholding tax is to be deducted on Rs.1,000,000@15% i.e. Rs.150,000.

  265. WHT on Interest- Interest is subject of withholding tax as follows:

Resident Payer | Payee | Condition | WHT rate

---|---|---|---

Bank & FIs, Bond Issuer , listed Co. | Natural Person | Personal deposit | 5%

Any person | Resident Bank and Financial Institution |   
 | No WHT

 | Exempted Entity |   
 | 15%

Any cases | Other then above | except DTAA | 15%

Micro Credit, cooperatives, postal bank | Natural Person

If interest upto Rs.25,000 | Personal deposit | No tax

Any person | Unit issuer, ARF |   
 | No WHT

DTAA withholding in interest

Contracting State | Default (Maximum) | Other

---|---|---

Austria, India, Pakistan, Norway, Sri Lanka | 15% | 10% for banking

Mauritius | 15% | 10% for banking, insurance, investment co.

China, Korea, Qatar | 10% |

Thailand | 10% | 15% for Financial Institution and Insurance

  266. Other items subject to WHT - The table below shows the details of withholding tax deductible incomes, conditions applicable, rate of withholding tax:

Income | Conditions applicable | Rate for

2072.73

---|---|---

Payment for natural resources | No further conditions. | 15%

Rent | No further conditions. | 10%

Inter regional interchange fee | Inter regional interchange fee payable to a bank issuing credit card. | None

Lease rent on aircraft | No further conditions. | 10%

Retirement payments | Paid by GON or ARF - calculation as per Section 65 (1)(b) | 5%

Retirement payments | Paid by an URF- gain | 5%

Dividend from company | No further conditions. | 5%

Insurance Gain | Gain | 5%

Windfall gain | Amount received from any type of windfall gain except exempted by GON. | 25%

  267. Withholding from Contract Payment \- According to Sec.89; resident person paying contract payment (including payments paid in last 10 days too) more than Rs.50,000 has to withhold tax at source at the rate of 1.5% of the amount of payment.

In case of contract awarded to non-resident having source of income in Nepal, the rate of WHT shall be as follows (Sec.89(3):

  * In case of a service- 10%

  * In case of aircraft repair and other contract- 5%

  * Other cases, as notified by IRD.

In case an insurer make re-insurance with any foreign re-insurer, there should be a withholding tax at the rate of 1.5% of the payment of the premium.

For the purpose of Sec.89, explanation for contract has given as:

i. Supply of goods or manpower;

ii. Construction, installation or establishment of tangible assets or structures or service thereto;

iii. Any act prescribed by IRD as contract or agreement;

According to the overall concept associated with the prevailing tax law and provisions of Sec.6, only the income having sourced in Nepal is taxed for non-residents. Based on this principle and legal provision, supply from foreign party without any permanent establishment in Nepal is not taxed in Nepal. Every persons having business of Trading with a Country (Nepal) is not taxed either by corporate tax or by withholding mechanism. Of course, person having Trading in a Country is treated as entity (PE).

  251. Long-term contract and running bill\- Out of contract price Rs.12 million, contractor submits Rs.2.26 million running bills including value added tax on the last day of income year.

Here, payment is Rs.2 million and contract is subject of 1.5% i.e. Rs.30,000 on taxable amount of running bills is to be withhold.

  252. Withholding tax on dividends- The Profit and Loss Appropriation A/c of Sirkata Limited is abstracted hereunder. Find the tax consequences of dividend payable by company as Tax Collection at Source (TCS). Kasyap Sodari is a member of company holding 20% of paid up capital, how much is amount he actually receives.

Profit and Loss Appropriation A/c |

---|---

Profit for year | 500,000.00

Accumulated profit b/d | 1,500,000.00

Distributable Profit | 2,000,000.00

Proposed Dividend | 1,052,631.58

Balance transfer to Balance Sheet | 947,368.42

Here, for purpose of company

Amount of dividend Rs.1,052,631.58

Tax at source for Dividend@ 5% Rs.52,631.58

Net amount payable Rs.1,000,000.00

For the purpose of Kasyap Sodari

Amount of dividend Rs.210,526.32

Tax at source for Dividend@ 5% final withholding Rs.10,526.32

Net amount receivable Rs.200,000.00

  253. Withholding tax on dividends- The Profit and Loss Appropriation A/c of Sirfata Limited is abstracted hereunder. Find tax consequences of dividend payable by company as Tax Collection at Source (TCS). Kasyap Sodari is a member of company holding 20% of paid up capital, how much is amount he actually receives.

Profit and Loss Appropriation A/c | Rs.

---|---

Profit for year | 500,000.00

Accumulated profit b/d | 1,500,000.00

Distributable Profit | 2,000,000.00

Capitalization of Profit by making paid up value make up to Rs.90.00 | 1,500,000.00

Balance transfer to Balance Sheet | 500,000.00

Dividend capitalization is deemed as cash dividend. Capitalized profit is to be taxed as per Section 88(1) at rate of 5%. In the given case, Rs.1,500,000.00 is distributed (actually capitalized) and tax at source is to be paid by each of shareholder .These should be arranged by company as per Section 90(3). The company cannot pay WHT in name of shareholders because if it pays for tax it will be deemed as distribution and the same is attraction of TCS of 5%.

  254. Withholding tax on payment of gain from Insurance Investment- RBS is an insurance company in life insurance business. It paid Rs.230,000.00 to Mr. Rishibant Odarkani in account of 20 years life insurance being maturity. The annual premium was Rs.5,000.00 payable in 1st January of each year. Find Tax Collected at Source payable by RBS.

Here, payment of Investment insurance Rs.230,000.00

Premium paid (Rs.5,000.00* 20) Rs.100,000.00

Gain from Investment Insurance Rs.130,000.00

Tax to be collected at source @ 5% Rs.6,500.00

(Payable as final WHT as per Sec. 92(c) and Explanation given under Section 62)

  255. Payment of gain from Insurance Investment- RBS is an insurance company in life insurance business. It paid Rs.230,000.00 to Mr. Odarkani in account of 20 years life insurance being death at 6th year. The annual premium was Rs.5,000.00 payable in 1st January of each year. Find Tax Collected at Source payable by RBS.

Here, payment of Investment insurance Rs.230,000.00

Premium paid (Rs.5,000.00* 6) Rs.30,000.00

Gain from Investment Insurance Rs.200,000.00

Tax to be collected at source @ 5% Rs.10,000.00

(Payable as final withholding tax as per Section 92(c) and Explanation given under Section 62.Vide Advance Ruling to Nepal Life Insurance Company dated 2060.2.14, Withholding tax should be made on the gain deducting premium paid from total payment even in case of death also.)

  256. Payment of gain from Unapproved Retirement Fund- Dabibi Kadanr is a member of a retirement fund not recognized by IRD. In retirement from service of employer, he got Rs.1,200,000.00. During working period he contributed Rs.500,000.00 in different months of employment. Advise tax treatments in hands of Mr. Kadanr and in hands of retirement fund.

Here, payment of Unapproved Retirement Fund Rs.1,200,000.00

Contribution Made towards Fund Rs.500,000.00

Gain from Unapproved Retirement Fund payments Rs.700,000.00

Tax to be collected at source @ 5% Rs.35,000.00

(Payable as final withholding tax as per Sec.92(d) and Explanation given under Sec.65)

  257. Payments to a security service \- Panorama p. Ltd., a manpower supply company. It supplies security guards to Sagarmatha Ltd. for Rs.500,0000.00. What shall be tax consequences in the contour of withholding tax?

Vide Advance Ruling dated 2060.8.12 to Hotel De La Annapurna, man power service is a contract, 1.5% withholding tax is applicable.

  268. Is withholding required- According to Sec.90(3) a withholding agent is obliged to pay the quantum of withholding tax even not deducted at the point of payment (so-called deemed- withholding tax). Payment of withholding tax without withheld can be recovered from the concern withholdee. Any interest or fee cannot be recovered from the withholdee.

  269. What is security of tax withheld - Sec.90 provides the withholding amount for the month of payment to be deposited into revenue within 25 days from closure of month of payment. If not so paid, Sec.103 provides WHT amount shall not be part of (~bailment) liquidation and have over priority in case of bankruptcy.

But in case of a deemed tax deducted at source, both the withholdee and the withholding agent are jointly or severally responsible for deposit of the amount to the Revenue. The responsibility of both the parties ends on payment of the amount to Revenue. In case the withholding agent deposits the amount of tax deemed deduction to the Revenue, he gets a right to recover the amount from the withholdee, but interest of fee cannot be recovered.

  270. Certification for Tax Deducted at Source - A withholding agent require to issue a withholding certificate (practically tax credit cannot be claimed using it, especially in case of e-return) to the withholdee within 25 days (in case of employment 30 days from closure of income year or retirement) of closure of payment month.

  271. Forms for payment of tax - There are variety of forms in case of payment of tax.

Withholding Tax Return: In case of payments subject to Sec.87 to 89, payer need to deduct tax at source and need to deposit in revenue with monthly form of tax deducted at source. Person making withholding tax need to file monthly Withholding Tax Return in the concern IRO. On failure to file monthly return, fee @ 1.5% of amount of withhold tax for the month and on failure of pay withheld tax, an interest @15% on the due amount, need to pay.

Advance Tax Collection Return: In case of payments subject to Sec.95A, collecting agent need to collect tax at source and need to deposit in revenue with monthly form of tax collected at source. Person making withholding tax need to file monthly Advance Tax Collection Return in concern IRO. On failure to file monthly return, fee @ 1.5% of amount of withhold tax for the month and on failure of pay withheld tax, an interest @15% on the due amount, need to pay.

Installment Form: Every person having annual tax payment of Rs.5000 or more need to file an estimated tax return within Push-end of income year. Person need to pay 40% of estimated tax within Push-end, up to 70% of estimated tax up to Chaitra-end and up to 100% of estimated tax up to Ashadh-end of income year. Estimated tax should not be less than 90% of annual tax to be paid for income year. Format of Estimated Tax Return is prescribed and in form of e-return too.

Tax Return: Remaining tax, after computing based on annual transaction need to pay with income tax return. The format of tax return are prescribed by IRD according to Sec.77(1). Now there are debit series (to pay tax) and credit series (to reduce tax) forms for annual return.

  272. Place for payment of tax - There are 22 Inland Revenue Offices and one Large Tax Payers' Office to pay income tax for any person require to deposit income tax in revenue accounts. Inland Revenue Office has territorial jurisdiction but Large Tax Payers' Office has turnover jurisdiction. In the district, where Inland Revenue Office is not situated, District Treasury and Comptroller's Office has prescribed to pay tax.

Mode of payment of tax: Income tax can be paid in cash (if allowed by IRO) or by way of bank deposit in prescribed bank account. In none case, payment in form of kind is not possible.

  273. Time for payment of tax - Tax payer including withholding agent need to pay tax within the period prescribed in the act. On failure to pay interest @ 15% p.a. is charged on the month and part of month basis. Summary of tax payment time-frame is as follows:

Form of tax | Time to pay | Corresponding Sec.

---|---|---

Withholding tax at source | 25th day of closure of month of payments | Sec.90: Period bar

On failure interest @15% p.a.

Advance tax | 25th day of closure of month of payments | Sec.95A, failure interest @15% p.a.

Installment tax | Push-end up to 40% of estimated tax (36% of real tax)

Chaitra-end up to 70% of estimated tax (63% of real tax)

Ashadh-end up to 100% of estimated tax (90% of real tax) | Sec.94: on failure interest u/s 118 need to pay

Remaining tax | Upto Ashoj-end of next year | Sec.99: on failure interest u/s 119

Tax on reassessment | As prescribed in the assessment | Sec.102/122

  1. Complexity of Share disposal -Take an example for discussion: Investor B or B Inc. is holding (not a matter of either 100% or majority only) company of Foreign A Inc. Foreign A Inc. is holding company of Foreign H LLC (not a matter of either 100% or majority only). And, Foreign H LLC. has shares in Nepal Ltd (any proportion of minority, majority or 100%).

  1. If investor B or B Inc. disposed shares in Foreign A Inc.- there is no NEPAL tax impact for Nepal Ltd. or its holder Foreign H LLC.

  2. If foreign H LLC. disposed its shares in Nepal Ltd., then:

    1. If 100% or majority holdings:

      1. Impact to net gain on disposal of shares to Foreign H LLC (disposing investor): advance tax of 15% is levied as per Sec. 95A and 25% corporate tax is levied as per Schedule 1 [as per Sec. 67, this gain might not to be taxed in Nepal, but we are taxing, no one challenged it till now.]

      2.  Impact to buying investor: distribution from profit of Nepal Ltd. (including impact of iii below) is taxed to disposing investor as per Sec. 58- dividend stripping.

      3. Impact to Nepal Ltd: all the assets and liabilities on the date of share transfer (controlling shareholdings changed) is to be assumed to be disposed by Nepal Ltd. (old-controlled) as per Sec. 40(3)(e) to Nepal Ltd. (new-controlled) at market price and corresponding gain/loss offset is allowed as per Sec. 57 and valuation at market price as per Sec. 41. [Market price gain is taxed at corporate tax rate and gain is business income].

    2. If minority holdings:

      1. Impact to net gain on disposal of shares to Foreign H LLC (disposing investor): advance tax of 15% is levied as per Sec. 95A and 25% corporate tax is levied as per Schedule 1 [as per Sec. 67, this gain might not to be taxed in Nepal, but we are taxing, no one challenged it till now.]

      2. Impact to buying investor: distribution from profit of Nepal Ltd. (including impact of point ) is taxed to disposing investor as per Sec. 58- dividend stripping.

      3. Impact to Nepal Ltd: none upto majority changes (this change is countable for future share disposal for the purpose of Sec. 57, of course).

  3. If shareholders of Nepal Ltd. is foreigner, no repatriation tax is levied- because this is not the repatriation of profit of PE.

  4. In case, controlling shareholders of Nepal Ltd is resident company (say, Nepal LLC), all the tax impact is same as in para. above.

  5. In case, controlling shareholders of Nepal Ltd. is natural person, then the impact is:

    1. Same as in para. above, for the foreigner shareholder natural person [disposed upto 2068/8/3 advance tax of 15% was final withholding, thereafter income form investment]. Form Income Tax Dr.4 to be filed (since no PAN is with natural person shareholder, or person having PAN Dr18 form to be filed].

    2. For disposing investor is resident natural person:

      1. Listed shares: 5% is advance tax, form Dr.4 to be filed, if not PAN holder and Dr. 18 for PAN holders.

      2. Unlisted shares: 10% is advance tax, form Dr.4 to be filed, if not PAN holder and Dr. 18 for PAN holders.

      3. Corporate tax of progressive upto 35% is levied if shares are held by form (not personal name).

  274. Concept of Installments - Similar to withholding tax, annual tax is required to pay upon Pay As You Earn (PAYE) basis. Peron having annual tax of Rs.5,000 or higher from income from business or income from investments need to pay installment tax according to Sec.94 and 95.

  275. Estimated income tax return - Within Push-end of income year, person need to file an estimated tax return showing estimated income and expense, so estimated tax payable within the income year. Based on estimated tax return, tax payer need to pay installment tax as follows:

Up to Push-end during income year 40% of estimated tax

Up to Chaitra-end during income year 70% of estimated tax

Up to Ashadh-end during income year 100% of estimated tax.

Inclusion: Advance tax in form of installment tax shall include the following payments:

i. Previous installment paid (including earlier years),

ii. Withholding tax deducted on receiving of payments.

iii. Withholding tax not deducted on receiving payment but deposited u/s 90(3).

iv. Medical tax credit, if applicable.

Arbitrary estimation: Installment tax shall be within abovementioned limit of estimated tax; but in case of arbitrary estimation or estimation not filed, there are two measures to control viz: (i) Reassessment of estimated tax return u/s 95(7); and/or (ii) Charging of interest under Sec.118.

  276. Interest in case installment tax is insufficient - In case a person need to file its Estimated tax return and installment of income tax. Payment of inadequate tax (below than estimation error of 20% of real tax) is subject of interest at 15% p.a. for month and part of month basis, under the provision of Sec.118. Relaxation of 20% goes till Ashoj of next year for 2066.67 and 10 for 2067.68. [Examples are given with 20% relaxation].

  259. Paid on time \- N estimated Rs.1000,000 as estimated tax and paid Rs.400000, Rs.300000 and Rs.300000 at Push, Chaitra and Ashadh. Actual tax assessed under Sec.99 found Rs.1300000 settled on Kartik-end with filing tax return. Interest shall be:

Due on | Installment due | Paid Rs. | Deficit Rs. | Period | Interest

---|---|---|---|---|---

Push –I | 130000*40%*90%=Rs.468000 | 400,000 | 68,000 | 3 month | 2,550.00

Chaitra-II | 130000*70%*90%=Rs.819,000 | 700,000 | 119,000 | 3 month | 4,462.50

Ashadh – III | 130000*100%*90%=Rs.1170,000 | 1,000,000 | 170,000 | 3 month | 6,375.00

 | Interest u/s 118 |   
 |   
 |   
 | 13,388

Interest to be paid for deficit since Kartic for all due amounts at 15% according to Sec.119, so, interest u/s 119 is Rs.3,750 [ (1300000-1000000)*1/12*15%].

  1. Paid after due\- N estimated Rs.1000,000 as estimated tax and paid Rs.400000, Rs.300000 and Rs.300000 at Push, Baisakh and Jeth respectively. Actual tax assessed under Sec.99 found Rs.1300000. Interest under Sec.118 shall be as follows:

Due on | Due Rs. | Paid Rs. | Deficit Rs. | Period | Interest

---|---|---|---|---|---

Push | 468000 | 4,00,000 | 68,000 | 3 | 2550

Chaitra | 819000 | 4,00,000 | 4,19,000 | 1 | 5237.5

Baisakh | 819000 | 7,00,000 | 1,19,000 | 1 | 1487.5

Jeth | 819000 | 10,00,000 | 0 | 1 | 0

Ashadh | 1170000 | 10,00,000 | 1,70,000 | 3 | 6375

Interest u/s 118 |   
 |   
 |   
 |   
 | 15,650.00

  2. Paid after due\- N estimated Rs.1000,000 as estimated tax and paid Rs.400000, Rs.300000 and Rs.300000 at Manshir, Baisakh and Bhadra respectively. Actual tax assessed under Sec.99 found Rs.1300000. Interest under Sec.118 shall be as follows:

Installment | Due Rs. | Paid Rs. | Deficit Rs. | Period | Interest

---|---|---|---|---|---

Push | 468000 | 4,00,000 | 68,000 | 3 | 2550

Chaitra | 819000 | 4,00,000 | 4,19,000 | 1 | 5237.5

Baisakh | 819000 | 7,00,000 | 1,19,000 | 2 | 2975

Ashadh | 1170000 | 7,00,000 | 4,70,000 | 2 | 11750

Bhadra | 1170000 | 10,00,000 | 1,70,000 | 1 | 2125

Interest u/s 118 |   
 |   
 |   
 |   
 | 24,637.50

  277. Collection of Advance Tax \- Sec.95A is relating to the collecting advance tax on disposal of non-business chargeable assets. All cases, gain are computed according to Sec.37 (see page 175).

In case of disposal of shares and securities: advance tax on gain on disposal at 10% for natural person and 15% for other (in case of listed stock 5% for natural person and 10% for other). This advance tax is to be done by stock market for the listed shares and person responsible to transfer (dakhil-kharij) in other case.

In case of disposal of land or building having disposal value over Rs.3 million, advance tax is to be paid to Malpot Office at:

  * If ownership is less than 5 years 5%

  * If ownership is 5 years or more 2.5%.

  * If ownership and residency in building is more than 10 years- no tax.

In case of any gain on commodity market, 10% is collected by the market form gain-making party.

  262. Building Disposal\- Mr. Dipak Malik disposed a building with land of 4000sft at Rs. 4500,000. Three years earlier, the land and building was transferred from his father, who purchased the same as follows. The cost paid by his father was Rs.24 lakh and registration cost etc. was Rs.1 lakh.

Then, the advance tax is:

Ownership | Taxability | Gain Rs. | Advance Tax

---|---|---|---

12 years | None | - | -

8 years | Yes | 2000,000 | 50,000

4 years | Yes | 2000,000 | 100,000

  263. Building Disposal\- Mrs. Rasaili purchased a building 12 years earlier at Rs.24 lakh and registration cost etc. was Rs.1 lakh. In the meantime, she went to United Kingdom for 4 years for employment. After retuning back, the building sold at Rs.45 lakh.

In this disposal, there is gain of Rs.20 lakh and ownership is more than 5 years, Malpot Office collects the tax of Rs.50,000. In this case, the ownership period is more than 10 years, but she reside there less than 10 years. So, this is the disposal of non-business chargeable asset.

I n case, she sold this building during her stay in UK and became non-resident, the advance tax collectible by the Malpot office is same; but she need to pay tax @25% through Income Tax Return.

  264. No time-limit on Disposal of land\- Mrs. Sunar purchased a land on 2051 at Rs.24 lakh and registration cost etc. was Rs.1 lakh. In the meantime, she went to United Kingdom for 4 years for employment. The building sold at Rs.45 lakh. She sold the land at Rs.45 lakh. If she sold the land on 2058 end, market price would be Rs.30 lakh.

In this disposal, there is gain of Rs.15 lakh and ownership is more than 5 years, Malpot Office collects the tax of Rs.37,500. In this case, the cost of land deemed as market price on 2058 Chaitra as per Sec.40(5).

In case, she transferred the land to member within 3 generation without any consideration, the tax is not levied. The cost for the transferee, in that case, will be Rs.30 lakh.

  1. # Assessments

  278. Timing \- Within three months from closure of income year or within the period specified under Sec.100 in case of jeopardy assessments charging person having taxable income (or loss to be carried forward) need to file income tax return in given formats of Form Income Tax Debit series. In such case of filing, tax is deemed to be assessed under Sec.99(1). The period of filing could be extended to further three months, but tax payment period cannot be extended, so interest is levied on due amount of tax. On the due date, if charging person do not file the tax return, it is deemed the assessment has done.

  279. Format on Returns - For assessing income tax, tax payer need to file income tax return. Income tax return is combination of various tax formats.

Name of orm | Description | Comment

---|---|---

Applicable to natural person having Nepal source only

Dr.01–03–03–64 | Business only having turnover Rs.2 million and profit up to Rs.2 lacs | No annexure

Dr.04–03–03–64 | Having non-business chargeable assets income only | PAN not required

Other person other than above

Dr.03–03–03–64 | Every person can opt | Variety of annexure

Dr.05–01–02–62 | Tax assessment u/s 70 | Cross boarder transport

Annexure |   
 |

Dr.10–03–03–64 | Tax Computation of Natural person | Annexure 1

Dr.11–03–03–64 | Tax Computation of Entity | Annexure 2

Dr.15–03–03–64 | Computation of income from Business | Annexure 5

Dr.16–03–03–64 | Computation of income from Employment | Annexure 6

Dr.17–03–03–64 | Computation of income from Investments | Annexure 7

Dr.18–03–03–64 | Computation of income from NBCA | Annexure 8

Dr.19–01–02–62 | Repatriated Income | Annexure 9

Credit Forms |   
 |

Cr.01–03–03–64 | Advance Tax | Annexure 10

Cr.02–03–03–64 | Medical Tax Credit | Annexure 11

Cr.03–03–03–64 | Prior year tax credit |

Cr.06–02–03–64 | Foreign Tax Credit | Annexure 12

  280. Period of Tax Return - As already mentioned and prescribed under Sec.96, income tax return to be filed (called assessment u/s 99) within 3 months from date of closure of income year. These periods, under Sec.98; can be extended up to 3 months upon written request and due approval before closing of the time to filing or extended time to filing return.

  281. Deemed Assessment \- According to Sec.99(2), on the due date, if tax payer could not file the tax return, it is deemed the assessment has done at the quantum of tax those already deposited into taxation authority -advances tax is deemed as tax payable and not further tax deemed to be paid.

  282. Delayed Assessment \- In case income tax return has filed after due date, then it is delayed assessment (belated tax return). In case of belated tax return, fee under Sec.117(1)(b) is applied. In such situation, higher of 0.1% p.a. of assessable income without deducting any amount or Rs.100 per month is imposed as fee.

  283. Types of Assessment - There are three types of assessments in income tax:

Self Assessment | :Direct Assessment Sec.99(1)

---|---

 | :Deemed Assessment Sec.99(2)

Re-assessment | :Amended Assessment Sec.102

Jeopardy Assessment | :Periodic Assessment Sec.100

  284. Self-Assessment \- Filing of income tax return as per Sec.96, is direct assessment for the purpose of Sec.99. For this purpose, belated tax returns are also direct assessment.

If a charging person did not file its income tax return in time then, it is deemed as the tax return has filed on time to the quantum of tax deposited into tax administration (installment + withholding tax), this type of assessments is deemed assessment. In deemed assessment:

a. The total tax liability of the taxpayer during the year is equal to the amount of withholding tax deducted on payment received and the amount of advance tax paid by it; and

b. Collected tax is deemed as tax liability, so, no more tax payable for the year by the taxpayer.

Why 'deemed assessment' is central concept in tax administration. The filing of an income tax return and even the non-filing of an income tax return are treated as an assessment on the due date. This provision counterbalances to the power of tax administration to raise amended assessments under Sec.101 and 102.

  285. Jeopardy Assessment \- Assessment raised in circumstances where there is concern for securing that payment of tax will be made is jeopardy assessment. Grounds for jeopardy assessment by the department are as follows as per Sec.96(5) or 73:

a. The person becomes bankrupt, is wound-up, or goes into liquidation;

b. The person is about to leave Nepal indefinitely; or

c. The IRD otherwise considers it appropriate.

d. Competent authority of foreign tax administration, as per Avoidance of Fiscal Evasion Treaty with, seek tax evade in that country.

Jeopardy assessments is two types based on part of income year:

  * for period of running income year (between Srawan to Ashadh, any period as income year), and

  * for complete income year but before normal due date of assessment (Srawan to Ashoj of next year).

Jeopardy assessments is two types based on person assessing it:

  * self-assessment by charging person itself, and

  * by taxation authority.

IRO serve a notice to the charging person to submit a tax return for the specified period or IRO may assume that deemed assessment has done by the charging person. Then, Sec.100 (2) has given an authority to IRO to make a jeopardy assessment on the basis of the best judgment.

  Regular assessment: Normal assessment requirement is based on period of jeopardy assessment. In case the assessment is for a part of income year (first case), normal assessment to done filing the return; otherwise, in case jeopardy assessment has done for whole year, further assessment need not be file.

Opportunity of hearing: In case of jeopardy assessment, IRO issues a notice to the person giving opportunity for points raised by the authority. The reply and supporting to be submitted within 7 days.

Person without taxable income in Nepal: In case of competent authority of contracting state having treaty regarding 'Avoidance of Fiscal Evasion' seek any tax arrears on that country to be collected from the person in Nepal, then taxation authority can collect the tax to the extent of valid and bona fide request of competent authority according to Sec.73. The assessment based on these request are assessment classified as jeopardy assessment of tax collecting for another country.

  286. Amended Assessment - Sec.101 and 102 provides the IRD with a broad power to amend assessments those filed or deemed as filed. This broad power is a necessary balance to self-assessment. Amended assessment power has extended to self- assessments, jeopardy assessments, as well as assessments amended by IRD itself.

Amended assessment has a legal time limit restriction, which is primarily an encouragement for the tax administration to perform its duties in a timely fashion. General time limit of 4 years from due date has provided in Sec.101, but an exception in the case of fraud, in which case there is no time limit. For example, for income year 2067.068, the due date of filing an income tax return is end of Ashwin, 2068 (in case time is extended the latest date may be the end of Paush, 2068 legal due date is Ashwin-end). In that case four-year period counts till end of Ashwin, 2072. This time limitation has exception if the assessment is affected by fraudulent work or order of court of law.

  287. Procedure for reassessment – Following are the procedures:

Sampling of tax payer: IRD take samples based on its own information for assessing the income tax returns. Mainly, samples are taken based on data analysis from computer data within IRD under transparent weights of parameter (data and information within IRD are secret under Sec.84).

Sec.83 Notice: Most cases, assessment is substantiated by audit of information (called full audit within IRD). To seek documents and information require to judge the return under full audit, IRD issued a letter under Sec.83 to submit their requirement of information. Person need to file the information within 15 days of the receipt of notice. Failure to file information on stipulated time leads Sec.117(2) fee.

Notice u/s 101(6): Before issuing an final amended order or assessment IRD issues a notice u/s 101(6) stating the reason of disagreement on the fact and figures of the self- assessment return filed with them. The evidences or replies is to be filed within 15 days of receipt of this notice.

Reassessment Notice u/s 102: In case IRD is not satisfied with the evidence and replies filed by charging person, it issues amended assessment with details of following information:

a. Total of tax: levied tax, advance tax, further payable tax;

b. Tax computation method (slice by slice calculation);

c. Reason for amending the assessment;

d. The period tax due is payable; and

e. Place, time and method of appeal against the order in case un-satisfaction with amendment.

  288. Defective Documents (Sec.80)- In case of amended assessment, jeopardy assessment or other cases, the document issued from IRD shall be effective and correction can be done without re-processing all legal procedures if:

a. The documents are issued in conformity and valid materially with the Act; and

b. The documents are duly addressed to the person, to whom it is to be served, according to the common understanding.

The IRD can rectify a defect those were detected in an issued document, if the defect does not involve a dispute as to interpretation of the Act or facts involving a particular person.

  265. Jeopardy and Regular Assessment\- On Manshir 16, Inland Revenue Office ordered C Ltd. to file Income Tax Returns for the period within income year ended on that day. Company, of course, file the return and paid tax assessed so far. The business of the company is continuously run on. At the year-end the status were found as follows:

Period till Manshir 16 After Manshir 16

Sales 10,000,000 10,000,000

Cost of goods sold 6,000,000 6,000,000

Operating cost 1,000,000 1,000,000

Depreciation 0 1,000,000

State how the tax return to be prepared and mode of tax payments.
  2. # Appeals

Appeals available in the act are of two types: Administrative review and appeal to Revenue Tribunal.

  289. Administrative Review \- This is an internal review by the DG under the tax administration. This type of review often be the most efficient manner to resolve disputes between the tax administration and persons; relatively quick, simple and low cost then in court or tribunal proceedings.

According to Sec.114, an application against the following decisions are eligible for an administrative review:

a. advance ruling issued u/s 76 by IRD;

b. order to pay deemed withholding tax in case of re-assessed by taxation authority u/s 90(8)

c. reassessment of estimation of advance payment by a taxpayer made by a Tax Officer u/s 95 (7);

d. decision by a Tax Officer to require a taxpayer to file a return of tax u/s 96(5) or 97;

e. decision of a Tax Officer with regard to an extension of time for filing returns u/s 98;

f. jeopardy assessment under Section 100, an amended assessment under Section 101, an assessment of expenses incurred on auction sales under Section 105 (5), or penalties imposed u/s 117 to 121;

g. notification by the IRO of an amount to be set aside by a receiver u/s 108 (2);

h. order by a tax office to a debtor of the taxpayer to pay the amount due to the tax office instead of to the taxpayer u/s 109 (1);

i. order by a Tax Officer to a person to pay tax on behalf of a non-resident person u/s 110 (1);

j. decision of IRO on an application by a taxpayer for a refund of tax u/s 113 (5); and

k. decision of IRD on an application by a taxpayer for extension of time within which to file an objection u/s 115(3).

In case, Tax Officer has not issued extended period of application for extension of time u/s 98, an application for a refund of tax under Sec 113 (3) or a notice of decision by IRD for extension of time under Sec.115 (3), within 30 days of the application filed by the taxpayer, the aggrieved person may treat the application as rejected by the IRD and can apply for an administrative review under Section 115.

  290. Procedure for Administrative Review–Following are the procedures:

Place: Director General, Inland Revenue Department.

Locus Standi: Aggrieved person

Court fee: Rs.5 postage ticket (security deposit of one third of disputed amount required)

Time: Within 30 days (if extended upon request within 7 days from end of 30 days next 30 days) of the receipt of the notice of decision.

Objection procedure: The aggrieved applicant should file an application on the matters to be reviewed. The objection process gives the tax administration an opportunity to reconsider the decision in question and amend the decision in any respect or disallow the objection. Upon investigating the fact of review, DG of IRD may accept or reject the objection in whole or in part giving its decision.

In case IRD has not decide the objection within 60 days of filing, the applicant may, by a notice in writing filed with IRD, treat the application as rejected.

According to Sec.115 (4) and (5), the filing of an objection does not of itself affect a stay or otherwise limit the enforceability of a reviewable decision. This means, in principle, the tax administration can proceed to collect tax in a tax assessment that is objected to.

  291. Appeal to Revenue Tribunal - Person aggrieved by a decision of the Director General (decided or deemed to be decided within 60 days) may file an appeal against it to the Revenue Tribunal.

  292. Procedure for Appeal - Following are the procedures:

Place: Revenue Tribunal established by Revenue Tribunal Act, 2031.

Locus Standi: Aggrieved person

Court fee: Rs.5 postage ticket (security deposit of one half of disputed amount required)

Time: Within 35 days (if extended upon request within 7 days from end of 30 days next 30 days) of the receipt of the notice of decision.

Objection procedure: The aggrieved applicant should file an appeal on the matters to be resolved. Copy of appeal to be file with IRD within 15 days of appeal. to Tribunal.

Decision : Decision of the tribunal regarding question of fact shall be final for both party. Normal appeal against Revenue Tribunal cannot be done. In case question of law, compliance of compulsory procedural law or case of wrong ratio decidenci (major evidences), if Supreme Court allows an appeal against Revenue Tribunal, an appeal in Supreme Court is possible.
  3. # Fees, Interest and Penalties

In case of non-compliance relating to documents, tax law prescribes fee for non-compliance, in case tax not paid on time interest is prescribed and in case, offence regarding tax law there is penalty.

  293. Fee: non-compliance in documents

Fee has provided in Sec.117, Sec.119A, Sec.120 and Sec.121:

Belated Estimated Tax Return or non : According to Sec.117(1)(a), if a person fails to file an estimated tax return within Push-end during income year, fee of Rs.2,000 per return shall be charged.

Belated Tax Return: In delayed in submission of final tax return under section 96, it has to pay the following fees under Sec.117(1)(b):

i. In case presumptive tax payers as specified by section 4 (4), Rs.100 per month of delay.

ii. For other taxpayers 0.1% of assessable income without deducting any amount or Rs.100 per month of delay whichever is higher.

Failure to Maintain Accounts and Records: According to Sec.117(2), a fee of 0.1% per annum on assessable income without any deduction or Rs.1,000 per annum whichever is higher is charged for :

i. Documents not kept as per Sec.81,

ii. Reply of notice u/s 83 not provide,

iii. Income tax return has not filed u/s 96(1) and

iv. Auditor denied to attest the return u/s 96(3).

Belated Monthly Withholding Return: As per Sec.117(3); in case a withholding agent required to deposit withholding tax fails to file monthly return, fee of 1.5% per annum of the withholding amount calculated on the basis of each month of delay treating a part of a month as one month.

Fee for non-compliance: According to Sec.119A, IRD can charge a fee equivalent to fine under Sec.128 on noncompliance of the law including delegated legislation.

False or Misleading Statements: Fee under Sec.120 is imposed on a person who makes a false or a misleading statement as follows:

i. In case of erroneous statements without willful act (Act rea presence but not mens rea): 50% of tax short-paid (plus tax).

ii. In case of false or fraudulent statements with willful act (Act rea and mens rea both presence): 100% of tax short-paid (plus tax).

  294. Aids and Abets: According to Sec.121 a person who knowingly or negligently helps, aids, abets, or advises any person to commit any of the tax offences, a fee of 100% of short-payment of tax by the advice is levied to the assisting person.

  295. Interest : nonpayment of tax

Interest at 15% per annum for month and part of month basis is charged on the amount on the tax not paid or short-paid. There are two separate sections regarding interest payments: Sec.118 for short payment of installment tax (see and above). Sec.119 for short payment of other tax.

  296. Fine and Penalty : Criminal Offences by a person - Chapter 23 has provided for remedies on criminal offences. These offices to be investigated by tax authorities and case to be filed with District Court by Attorney General (District Attorney) as governmental case. All the decision of District Court may be challenged in Appeal Court as usual manner. Followings are the recognized offences, those to be committed by an officers and remedies against the officers:

Offence of a Failure to Pay Tax (Sec.123): Person fails to pay tax payable within the prescribed time without any reasonable grounds- fine Rs.5,000 to Rs.30,000 or an imprisonment for a term of 1 month to 3 months, or both.

Offence of Making a False or Misleading Statement (Sec.124): In case of false or fraudulent statements with willful act (Act rea and mens rea both presence), either by not providing material information or omitting material information from the statement; the person is liable to pay a fine of an amount ranging from Rs.40,000 to Rs.160,000 or an imprisonment of 6 months to 2 years, or both.

Offence of Impending or Coercing Tax Administration (Sec.125): A person committing following offences shall be liable to a fine Rs.5,000 to 20,000, or an imprisonment of 1-3 month, or both:

a. Obstructing an officer in the performance of duties under the Act;

b. Defying notice issued u/s 83; or

c. Obstructing, in any way, the enforcement of the Act.

A person attempting to commit these offences shall be liable to half of the penalty chargeable to person who has committed the offences.

Penalty to the aid and abet (Sec.127): Person who knowingly or negligently helps, aids, abets, or advises any person to commit any offences under the Act or counsels or induces another person to commit such an offence, shall be liable to a half of the penalty (in case of governmental officials equivalent) that is imposed on the main offender.

Offence of a Failure to Comply with the Act (Sec.128): Person who fails to comply with any provision of the Act, unless otherwise specified in the act, shall be liable to a fine of Rs.5,000 to Rs.30,000.

Offences Committed by Tax Officers (Sec.126): Every Officer or any employee of IRD or any other person, if breach the rule of privacy given in Sec.84 is liable for to a fine up to Rs.80,000, or an imprisonment up-to one year, or both.

Person not authorized to collect the tax collected it or person attempt to collect tax or any amount in terms of tax, but does so, shall be liable to a fine of Rs.80,000 to Rs.240,000 or an imprisonment 1-3 years, or both.

Departmental Action against Tax Officer (Sec.133): In case Tax Officer has, negligently, assessed any tax liability and there-by, the tax liability of an assessee either increased or decreased or Tax Officer has not completed the amended assessment within the time limit prescribed by Sec.101 (3); then the Department may take departmental action based on Civil Servant Act, 2049

Works of good faith (Sec.136): Tax Officers by saying that an officer, who takes any action with a good motive in course of performing duties, shall not be penalize to that action. As defined in Nepal Interpretation Act, 2010, 'good faith' means act something or not acting something with negligence or otherwise but with honest is interpreting as 'good faith'.

  8. # International Taxation

This Chapter is for advance level study only. Reader for working level may be benefited from few of these IPs only.

  1. # International Taxation General

  297. No international taxation \- Every person tells about international taxation; but there is no international taxation. The tax impact of a transaction or income or person within more than one tax-jurisdiction is covered under international taxation. International taxation problem arise in two scenarios:

a. activities of resident in foreign country and

b. activities of a non-resident in own country.

The objective of international taxation are: a. national wealth maximization; b. tax equity; c. economic efficiency; d. avoidance of fiscal evasion of a resident of a non-resident.

National wealth maximization is possible from more income to the resident and more revenue for state, both. International aspect of taxation should set in domestic law, in such a way that could be attractive to the investor as well as state.

In all cases, any tax matter to be settled based on domestic tax law, not based on any foreign tax law. Many contradictory elements may be resolved from tax treaty.

  298. Resident-resident conflicts- Resident means the person belonging to a country and non-resident is person not belonging to respective country, in broad-sense. Residency of a person is determined based on domestic tax law of each country. So, a person may resident of more than one country. To mitigate no-double residency (resident-resident conflict), tax treaty is a solution. A person cannot be resident of both contracting states under tax treaty (so-called Double Tax Avoidance Agreements, hereinafter DTAA). In case same person became resident as per their respective tax laws; under DTAA, same person may not be resident of both states; for a double residency, Article 4(2) has tie-breaker rule to determine single residency.

  299. Residence and source principles of taxation-Any person may have taxable income elsewhere in the world. For reference to a person, country of residence is self-explaining; country of source of income may be domestic or foreign. Of course, foreign (and domestic) income of resident is taxable and domestic income of non-resident is taxable. In this way, foreign income of a resident (full-tax liability) as well as Nepal income of non-resident (limited tax liability based on source) also taxable in Nepal.

  300. Double taxation - If same person's same income in the same period is taxed more than one time in the same hand, this is the case of double taxation. Double taxation itself may be juridical double taxation or economic double taxation (see pg 53). To mitigate problem of double taxation, unilateral relief (as per Sec.71) is allowed or tax treaty is another good measure for it. Double taxation hampers the growth of international trade or investments. If a resident of a country is earning income from foreign, obviously double taxation arise- source country taxed its domestic income based on source to non-resident and resident county tax the same income based on residency.

  301. Double non-taxation\- If income earned by a person is not taxed in any country either in source country (due to tax system of residency tax or tax incentives) or in resident country (due to tax system of source tax or exemption of foreign income), no tax is levied at all, is double non-taxation. Double non-taxation makes international trade and investments more vulnerable. But in some cases, this is good tool for attract foreign investments, hence an important item of treaty-negotiation.

  * If resident-country has source-basis taxation and source-country has resident-basis taxation: double non-taxation.

  * If resident-country has source-basis taxation and source-country has tax incentives: double non-taxation.

  * If resident-country has global-basis taxation and source-country has source or global basis taxation: double taxation.

  * If resident-country has residence-basis taxation and source-country has tax incentives: forgiven tax by source country is levied in country of resident.

Almost domestic tax laws are, nowadays, taxing by both systems: source basis for non-resident and global basis for resident. Under this system, double taxation is possible but double non-taxation is not possible.

  302. Means to avoidance of double taxation- Double taxation in same income is avoided either through:

  1. Unilateral taxation provision in the domestic laws: under this method foreign tax is allowed as credit or exempt or expense without any treaty. Resident of Nepal obtains unilateral tax avoidance u/s71 under credit method or expense method.

  2. DTAA: under this method the source tax is allowed as credit or exempt based on treaty provision. Nepal has tax treaty with 10 countries, and credit method is used for all cases (one exception of exempt method).

  303. Method of elimination of double tax\- Elimination of double taxation is of following types:

  1. Non-recognition: Many income derived from source country, based on DTAA, is recognized in country-specific and income itself is not double tax (waiver from international norms of worldwide tax). For this, 'is taxed in source country only' or similar wording are expressed in treaties.

  2. Exemption method: Under this method, resident country allows foreign income exempt from domestic tax assessment. The benefit for the taxpayer is the amount of tax in source country is final for domestic tax and compliance cost is minimum with low administrative burden. Under exemption method DTAA, it ensures that tax forgiven by the source country does not deposit into the treasury of resident-country. This method is horizontal equity for investments. Almost developed countries have such DTAAs.

Exemption may be of two types: simple exemption and exemption with progression. If the exemption is such, that has no impact in tax of domestic income, this is just a revised form of territorial taxation. In other cases, exemption is allowed but income is clubbed into gross income and higher rate (if progressive tax system) is levied based on that gross income is exemption with progression.

  3. Credit method: Under this method, resident country allows foreign tax paid in the source country (not in other country) is allowed as tax credit (of course to the extent of average tax payable in the resident-country). Comparing to exemption method, it has some drawbacks like:

  * This is beneficial for taxpayer having high-taxing source (no further tax). In case, low tax in source-country then in resident-country, taxpayer need to pay further tax and administrative cost/burden.

  * In case, low tax in source-country then in resident-country, tax on income earned in source-country deposited into the treasury of resident-country.

  * There are many compliance constraints- especially raised due to tax-year differences, accounting system differences, forex, certification and translations etc.

  * In case, source country has tax incentive attraction, there is no benefits for the investor; so, incentive attraction leads failed.

  4. Income exempt from domestic tax assessment\- The benefit for the taxpayer is the amount of tax in source country is final for domestic tax. Under exemption method DTAA, it ensures that tax forgiven by the source country does not deposit into the treasury of resident-country. Almost developed countries have such DTAAs. Exemption may be of two types: simple exemption and exemption with progression.

  304. Credit Method: Full Credit or Ordinary- Foreign tax credit method may be full credit or ordinary credit. Under full-credit, all the tax paid in foreign state is allowed as credit. For example, if foreign source income is 1000 and foreign tax paid at 32% 320; domestic income is 2000 and tax rate is 25%; under full credit method, whole 320 is allowed as tax credit on tax in Nepal 750 and payable 430 only. Under ordinary credit, resident country allows foreign tax credit to the extent of effective tax payable in country of resident. In the same example under ordinary credit, foreign tax credit of 250 is allowed and 500 is tax revenue;

 | Full Credit | Ordinary Credit

---|---|---

Domestic income | 2,000 | 2,000

Foreign income | 1,000 | 1,000

Total income | 3,000 | 3,000

Domestic tax@25% | 750 | 750

Foreign tax credit | 320 | 250

Domestic tax liability | 430 | 500

Foreign tax paid@32% | 320 | 320

 |   
 |

Net income for company | 2,250 | 2,180

Impact of full tax credit is that, domestic country waives own tax revenue for foreign source.

  305. Credit Method: loss in some cases- Credit method of foreign tax elimination is almost good method for mitigate objective of international taxation, but some cases, it has negative impact to the resident tax payer due to effective high rate. Let take an example, Nepal's foreign income is taxed at 25% on net income (taxable income) and Thailand taxed 15% on interest income to a Nepali resident. Suppose, Nepal Ltd. borrowed a loan of Rs.100 million @9% p.a. interest and invested in Thailand bond @10% p.a; then

Thailand income Rs.10 million

Tax @10% based on DTAA Rs.1.5 million

Net income from Thailand Rs.8.5 million

Nepal income Rs.10 million

Interest expense u/s 14 Rs.9 million

Taxable income in Nepal Rs.1 million

Tax@25% Rs.0.25 million

Less: Foreign tax credit Rs.0.25 million

Net tax payable in Nepal Re.0

Here, effective net loss after tax is Rs.0.5 million (8.5-9.0). But, due to taxing gross income in Thailand and net income in Nepal, the tax accounting shows a profit or gain of 0.75 million.

  306. Contracting State and Other Contracting State- Under the bilateral tax treaty, two contracting states named as contracting state (normally other country for referral or normally country having source for referral of income) and other contracting state.

  307. Treaty-shopping - States entered into a treaty based on their legislature power delegation for the benefits of citizens. But the tax is levied to the resident rather to citizen. Hence, tax treaty (so-called DTAA) are some more exceptional than other treaty. Logic of tax treaty is the reduction of tax rates, tax ambiguity and procedure (simplified) for resident of either country of treaty. Persons from third country may plan to get benefits of tax treaty between to country by using company in one of them. For instant, interest income received by Korean resident or China resident or Qatar resident from loan employed in Nepal is taxed at maximum of 10% of gross interest (apart from 15% final for non-resident, as per Sec.88/92). The treaties are open document can be obtained free of cost. Any person from UAE, if wants to loan injection into Nepal, may open a company in Qatar or a person from Philippines, may lend into Nepal through company in China. In such case, investing company is resident of contracting state (incorporation basis resident in respective countries as per their domestic tax law). Resident seek reduced rate, but actually this benefit of tax treaty flown to resident of UAE or Philip by company. Getting tax benefit by a person from third country is called treaty shopping. This benefit has flown to those unintended person from company registered in Qatar or China are called conduit company. Treaty negotiator should address the cases of treaty shopping measures. Sec.73(5) denied treaty shopping expressively.

  308. Conduit Company - See tax shopping above.

  309. Tax Sparing - The taxing system in two countries need not be same. Same income, due to many economic situations, may be taxable income in one country and may be exempt income or incentive concession in another state. Then, such incentive or exemption, if taxed in residency-country, it is simple transferring of source country revenue tax to resident-country revenue and no benefits to intended taxpayer. To avoid such tax-transferring mechanism, tax sparing provision on treaty is inserted. Under tax sparing, the exemption or incentive granted by source-country is allowed in tax computation in the resident-country (progression may even be).

For example, Nepal allows 7 to 10 years tax-exemption to electricity producer. Suppose an Italian company developed hydel plant and earned Rs.200 million p.a. for 1st 10 years; Nepal will not tax in this income, but Government of Italy taxed its income in usual corporate rate (say 30%). In this case, the company is not benefiting Nepal tax incentive, because, it requires to pay same tax in Italy. This is simply siphoning Nepal tax to government of Italy. By this reason, no foreign company shows attraction of Nepal tax incentives.

  310. Double dipping - Lease and loan are two complex international tax avoidance tools. Due to different tax accounting systems (so-called recognition rule or non-recognition rule), these items prepares tax avoidance plate-forms even legally too. For example, if loan is injected instead of equity, source country corporate and distribution tax is avoided because interest is deductible and taxed generally at substantial low rate. This is mitigated in international taxation by way of provision of thin capitalization rule in unilateral laws. Similar case of lease, in case of finance lease for one country, same may be operating lease for another country (due to definition gap or non-recognition of finance lease). In such case, lessee receives deduction of interest and depreciation expense (even with acceleration, if any) and lesser also receives deduction of depreciation. Here, depreciation in the same asset is claimed by both lesser and lessee. Such double deduction (in the same hand or in same asset) is called double dipping. A good treaty-negotiation and exchange of information is required to mitigate such.

  311. Transfer pricing - The area of international taxation is transfer pricing between associated persons transacting cross-border. Limited summery of transfer pricing has given in page 81.

  1. # Double Tax Avoidance Agreement

  312. Effect of DTAA – In case, there is DTAA with any country, then: i. the tax is levied according to the act, DTAA itself is not taxing law; ii. Source of income is determine as per law, DTAA may determine the source, in case of contradiction, DTAA source prevails; iii. The tax is levied at the rate and method of act, DTAA reduce the tax rate or procedure; iv. Some cases, DTAA may neglect the tax being source transfer or non-recognition procedure; v. In case, there is not clear tax-sparing provision, resident country levies the tax as per their rate and procedure; vi. DTAA is for source country only (except v case).

  313. Categories of Articles of DTAA\- DTAA has five broad categories of its articles, if it is a comprehensive. In the limited DTAA (like SAARC or Indo-Pak) there is not clear distinction of categories. The major categories are: i. application of DTAA; ii. Distributives rules (active income, passive income and other income); iii. Elimination of double tax; iv. Prevention for fiscal evasion; and v. miscellaneous provisions. The articles within a DTAA may be very from treaty to treaty. The description here are based on UN Model.

  314. Application Articles – Article 1 to 5 initial application and Art. 30-31 effectiveness of treaty are two separate sub-category of this type. Following are the brief coverage of those Articles:

Art. | Head | Coverage

---|---|---

1 | Person covered | persons applying treaty

2 | Taxes covered | taxes applying treaty

3 | General Definitions | Major terms of words within treaty

4 | Resident | Method to determine residency

5 | Permanent Establishment | Method to determine residency

30 | Entry into force | Methods of operation of treaty

31 | Termination | Method of terminating treaty

  315. Distributive Rules – The contracting states charge the tax based on income with its source. The source is determined based on tax law of each county. There may be a claim of same income by both states showing their tax law. DTAAs determine the source of some of common incomes. Many cases, this source may have exclusive taxing right to resident-country or source country or to both. The general guideline is as follows:

Active Income

Resident country has exclusive taxing right

  * Article 7 Business Profit not from PE

  * Article 8 Shipping and air transport

  * Article 20 Students

  * Article 15 Dependent Personal Services if now worked in that state

Source country has unlimited primary taxing right

  * Article 16 Directors' Fee

  * Article 17 Artistes and Sportspersons

  * Article 19 Government Service

  * Article 7 Business Profit of PE

  * Article 14 Independent Personal Services (having fixed based: UN Model only)

Passive Income

Article 12 Royalties: OECD Model: Resident country has exclusive taxing right; UN Model: Source country has limited primary taxing right

Resident country has exclusive taxing right

  * Article 13 Capital Gains not from PE

  * Article 18 Pension

Source country has limited primary taxing right

  * Article 10 Dividends

  * Article 11 Interest

Source country has unlimited primary taxing right

  * Article 6 Immovable Property

  * Article 13 Capital Gains of PE

Primarily tax is levied to the resident in country of residence; source country have in-transit taxing right under treaty. But, in substance, this lies primary taxing right with source country and shared taxing right with country of resident. Any income if not taxed in source or resident country may be taxed in another one.

  316. Elimination of DT – In case any income has exclusive taxing right to any country, elimination of double tax is not required. Elimination of double tax (Article 23) is required in following cases only:

  1. Source country has primary taxing right under distributive rule;

  2. Source country taxes the income as per domestic law;

  3. Tax has paid in source country; and

  4. Resident country taxes same income as per domestic law.

  317. Reduced Rate facility - Nepal entered into bilateral tax treaty with 10 countries. There are some tax rate reduction facility in the treaties. The reduced tax rate facility, normally allowed in case of passive income of interest, dividend, royalty. Any conduit company is not allowed the reduced rate facility u/s 73(5), even the beneficiary is resident of contracting state.

  266. Examples on Internation Taxation – Some of the examples relating to International Taxation are given as follows:

DTAA related residency- from to

PE, Repatriation, cross-border transportation– from to

Foreign tax credit- from to

DTAA related employment- sub-chapter pg. 167.
PART II VALUE ADDED TAX ACT

  1. # Basic Concept of VAT

Value Added Tax (VAT) is levied as an indirect tax on each supply within Nepal.

  1. Concept of VAT \- Value added tax is levied on the taxable transaction with a single rate of 13% in every point of value add. VAT is charged on person making value add. For any charging person dealing in goods or services, value addition by the person is computed as a system as:

For a system of production | INPUT | PROCESS | OUTPUT

---|---|---|---

Value Addition System | INPUT | VALUE ADD | OUTPUT

Economic system | PURCHASE | VALUE ADD | SALES

Example

for a manufacturer |

10,000 |

1,000 |

11,000

For a trader | 11,000 | 1,000 | 12,000

For f service provider | 12,000 | 1,000 | 13,000

Value add in case of VAT is slightly different than usual use on economics. In economics, value add means additional cost incurred plus profit on the process, but in VAT accounting, value add means all the cost on which VAT has not paid on purchase (or not allowed for set off) plus profit. So,

Value add in VAT= Sales plus all transaction associated taxes- VAT paid (and allowed) purchases

VAT required being collected in transaction value on sale of taxable transaction by registered person. In examples above, VAT collection is required at value of supply (output). VAT collected on the supply is output tax. For VAT rate of 13%, output tax on manufacturer's sale (of Rs.11,000) (means to be collected) is Rs.1,430.

VAT is charging on the person dealing VAT attractive goods or services within VAT regime. The person collects output tax (Rs.1,420 in our example), but amount charging to the person may not be all of output tax. The person can set off his allowed input tax credits from the collection of output tax. Hence, charging person is charged VAT in the difference of output tax and allowed quantum of input tax credits.

Charging of VAT = output tax- allowed input tax credit

In all the examples above, suppose the manufacturer's purchase of goods or services is Rs.10,000 is subject of VAT paid purchase and VAT paid is allowed in full, and then VAT is imposed as follows:

Charging of VAT = 1,420- 1,300 = 120

  2. Value Add\- State law tax people on the many of the occasions and activities like:

  * On producing goods (Excise duty- Inland Indirect tax)

  * On sales or making value add in economy (Sales tax/ Value Added Tax- Inland Indirect tax)

  * On wealth creation/contribution to value add (income tax- Direct tax)

  * On holding the wealth (property tax- Direct tax)

  * On transferring wealth (death tax or departure tax)

Value added tax is imposed on the supply within the territory on making value add (value creation on comparing VAT paid purchase, input). Let's see a value added statements of river bed (sand) has extracted and sold to contractor. The cost of sand is nil, because earth give it at nil cost. Labor charge or equipment charge or royalties is needed say Rs.100,000 paid for labor. The sales were for Rs.250,000. In this case, input (VAT paid) is nil and hence value add is Rs.250,000. Buyer was a trader and expense for storage of Rs.25,000 and interest paid for fund is Rs.10,000. Trader sales these sands at Rs.300,000.

 | Input

(purchase) | Output

(sales) | Value add

(Sales- purchase) | Contributories

---|---|---|---|---

Extractor | 0 | 250,000 | 250,000 | Extractor- Rs.150,000

Labor –Rs.100,000

Trader | 250,000 | 300,000 | 50,000 | Trader-15,000; Lender- 10,000 Land Lord-25,000

Value added tax=13% | Paid | Recovered | Payable to State | Assessable income for income tax

In above statements of value add, in the first line of extractor, the value add is Rs.250,000 (VAT is imposed on these value add). Contributory for that value add are extractor Rs.150,000 (income from business) and labor Rs.100,000 (income from employment). Assuming all the incomes were taxed at 25%, the Value Added Statements shall be as:

VALUE ADDED STATEMENTS

Contributors | Value Add

In the economy | Tax | Value added

(Final and Net) | % of

value add

---|---|---|---|---

Indirect | Direct

Extractor | 150,000 | 32,500 | 37,500 | 112,500 | 39.82%

Labor | 100,000 | 0 | 25,000 | 75,000 | 26.55%

Government | 0 | 0 | 0 | 95,000 | 33.63%

Total Value add | 250,000 | 32,500 | 62,500 | 282,500 |

In the second line of trader, the value add is Rs.50,000 (VAT is imposed on these value add). Contributories are required to include their contribution to pay income tax.

Hence Value Added Tax is tax on value addition (further cost plus profit over VAT paid purchase) made by any person.

For the purpose of foreign trade and public procurement, the term 'Value Add' shall be the addition on the price of goods within the country or said economic region.

  3. World-wide use\- Value Added Tax is consumption tax is of some 150 economy and states. All the members of OECD (except the US) has VAT. European Union members must enact VAT to become or to be held on its membership. VAT is neutral and equitable tax system with fair and simple accounting. Under functional VAT mechanism, almost all the supply to be under VAT and should be single rate. Otherwise, it creates the economic gaps and fails the revenue system. Hence, there should be less and least exemptions under VAT. Items exporting from the state, if exempted, or items producing from exempted items as input raw material and exporting from state, become less competitive in the foreign market (see 241).

  4. Territorial Jurisdiction\- VAT has wide coverage indirect tax applicable for territorial economic value addition. For VAT purpose, all the person, whether legal or physical or governmental agencies (central or local government) or association (joint venture, partnership, consortium or body of individuals or similar) are taxable person. Being territorial jurisdiction in nature, any foreign branch of Nepalese business is beyond the scope of tax; any Nepal business wing of foreign subject is charging person.

The main principle of VAT is 'keep intact the tax base'.

  5. Transaction covered by VAT - Value Added Tax Act, 2052 is law having territorial jurisdiction and hence be enacted within geographical boundaries of the nation only. According to Sec.5 all the transaction within Nepal are covered by VAT (so-called supply). Resulting, VAT is imposed on the transaction (supply) as:

  * Goods or services imported into Nepal (transaction place is deemed in custom frontiers of Nepal for goods; and place of transaction is place where the benefits of service received in case of service)

  * Goods or services transacted within Nepal (transaction place is as per Rule 15 and 16)

  * Goods or services export from Nepal (transaction place is deemed in custom frontiers of Nepal, in case of export of service- zero rate is allowed as originating principle)

  6. Transaction outside Nepal\- If any person, whether registered in Nepal, having permanent inhabitant of Nepal or citizen of Nepal or otherwise similar; dealing goods or services beyond above 3 geographical territorial cases is not charging any VAT on its transaction. But, any person having transaction outside Nepal, later take goods into Nepal (example EXW purchase) place of transaction is deemed in custom frontier.

For example, Phekurel Ltd. has a branch in Dhaka, Bangladesh, Financial Statements is prepared and monitored monthly under NFRSs. During the month, sales from head office is Rs.20 million and sales from branch is Rs.10 million equivalent. How much VAT need to pay, if input tax credit is Rs.2 million.

In VAT, only the transaction in Nepal is subject of VAT. Any sale or purchase beyond territory of Nepal, is not transaction for VAT accounting, even the person is registered person. Here, sales from Nepal are Rs.20 million is output and output tax is Rs.2.6 million.

  7. Domestic branch of a Foreign – In the contrast, domestic branch of foreign subject is taxing unit under VAT. For example, say a branch of Dhaka Ltd. registered in Bangladesh has sales is Rs.10 million from Nepal branch.

In VAT, all the transaction in Nepal is subject of VAT irrespective of registration of main corporate body. Branch in Nepal is a person for VAT purpose, even the corporate person is not a registered person. Here, sales from Nepal branch is Rs.10 million and output tax is Rs.1.3 million. So VAT payable is Rs.1.3 million.

  8. Nepal Work billed to foreign- Nepal branch of Italian Company seconded some staff to Singapore Company and billed Rs.1.5 million. Latter has one assignment in Nepal performed by those seconded staff and billed to Nepal customer of Rs.2 million. What is the VAT impact?

Here are three players in VAT; Singapore Company works for Nepal through seconded staff of Nepal branch of Italian company, so it should get registered and issued tax invoice to Nepal customer. VAT paid by Nepal customer is output tax for Singapore Company. Nepal branch of Italian company works in Nepal, so need to issue tax invoice to Singapore Company and to collect VAT as output tax. The place of supply in both cases in Nepal; place of payment, currency of payment or place of invoice or nationality of parties is irrelevant for VAT.

  9. Charging and Reverse Charging -VAT is charging to a registered person as taxable person. Every registered person need to file VAT return within specified period (25 days as per Sec.19) from closure of tax period. Any amount due on VAT to be paid by that person.

In some specified cases, unregistered person need to collect and pay the tax as similar as registered person. Peron need to get registered and need to collect tax, if not registered, Sec.20(1) empowers Tax Officer to assess tax in the person having transaction in Nepal or Sec.5B empowers for force registration order.

In general principle of VAT, registered person collects VAT and purchaser pay VAT to the seller not to the Revenue itself. Buyer need to pay VAT to the registered person seller. Register person pays VAT to the Revenue as Charging Person. In some cases, buyer requires to pay VAT directly to the revenue, not to the supplier is called reverse charging. Reverse charging system is required to keep the horizontal equity of all the transactions within the state economy. If the supply from any special type of person is beyond the scope of VAT, the supply made from regular businessman faces the discrimination based on VAT. To keep the equilibrium on the competency and to remove tax-bias in the transaction, reverse charging system is applied. Unlike other countries, person need not issue any self-invoice in case of reverse charging as in many countries requires so.

Many purchases of registered person may not VAT. In such cases, VAT is not required to pay by the buyer, but buyer recovers and pays VAT on output and hence subject of VAT. For example, no VAT is payable in labor or salary expense, but seller collects VAT on sales contributing from this labor, means states recovers VAT as Value Add.

  10. Reverse Charging cases – Following three are reverse charging cases under VAT Act, 2052:

  * S ervice receiver from foreigners\- According to Sec.8(2), any person (registered or not) in Nepal receiving service from person outside Nepal need to pay VAT for that service (on the local currency based on NRB exchange rate on date of supply not date of payment). If the person is registered person, it can set off such payment as other purchases. The payment is to be made within 25th days from the closure of month of supply. In case, VAT paid in this reverse charging system is input, that is indifference for the person paying it, and if the person is not registered person or for exempted output, this amount is cost, as usual.

  * Housing Developers\- According to Sec.8(3), any person (registered or not) in Nepal engaged in constructing commercial buildings, apartments, shopping malls or similar having value more than Rs.5 million need to pay VAT on the construction cost, if not paid to a registered person. The payment is to be made within 25th days from the closure of month of supply. Of course, this VAT is cost for developers, since housing is VAT exempt business.

  * Importation\- If any person imports goods from aboard, VAT need to pay at custom point on date of importation.

In the VAT terminology, taxable person is person paying VAT to the revenue (in the context of Nepal, it may be registered person, unregistered person collecting VAT or person under reverse charging). The term 'taxpayer' refers to person exactly paying VAT economically.

  11. VAT is not part of cost – VAT payment on its purchase by a registered person having VAT attractive output is receivable as input tax (except no-credit items and a part of partial credit item). The input is allowed for VAT paid against purchase of trading as well as capital items, and for expense too. This mechanism makes the VAT is not part of cost for a registered person.

For example, a registered person purchased at Rs.1000 plus VAT, pays Rs.1130; and sold same item at Rs.1000 plus VAT receives Rs.1130. In this case, its accounting sales and cost is both Rs.1000 and profit is nil. The VAT Rs.130 (recovered and paid both) is not part of cost here.

  12. VAT is part of cost or income\- For a registered person, VAT is not part of cost or income as explained in above. There are some exception of this general rule where VAT is part of cost or source of income. In the following cases, VAT is part of cost of purchase:

  1. VAT paid purchase by registered person- VAT paid on no-credit items (e.g. &c.), no credit part of partial credit item (), or purchase through abbreviated tax invoice.

  2. VAT paid by unregistered person- All the VAT paid by unregistered person (for business use or for consume).

  3. VAT included in the cost of unregistered person, if sold to registered person and re-sales by latter, VAT is cost with cascading effect too.

In case of square off and refunds under Schedule 1 or 2, the refunded part of square off part is income for the recipient.

  13. Definition of Terms \- Terms defined in Value Added Tax Act, 2052 and Value Added Tax Regulation, 2053 are described in the concern Chapters, if they are likely to be good for study. Some of common terms are described in this Chapter.

Consideration, according to Sec.2, is anything to be received for money, goods, services or value. Consideration shall be assumed on paid or payable basis payment (likely to be accrual basis) or received in future in lump sum or in installments. A consideration may be in cash or cash equivalents (so-called barter with goods, services). There are wide difference between no or partial consideration and bad-debt. In no-consideration, nothing will be received, and in partial, only some part of consideration will be received. But in bad-debt, for VAT purpose, consideration is received at full. VAT is levied in the supply with consideration only.

Director General, as per Sec.2, is the director general of the Department under the Ministry of Finance authorized by Nepal Government to be responsible for tax administration. At Present, the Department of Inland Revenue is called the department for VAT purpose.

Electronic device, as per Sec.2 (ta1) is apparatus of transmission including computer, fax, E-mail, internet, electronic cash machine and fiscal printer as prescribed and approved by IRD.

Group companies and entities, are; according to Sec.2 (cha1), are following entities as:

  1. An individual related in a group entity or representative of a group entity operating a business.

  2. In case the permanent address of businesses of two or more entities is the same.

  3. In case one individual or group of individuals directly or indirectly has control over the management of the group entity.

Person, as per Sec.2(tha) is any person such as a natural person, groups of natural persons, constitutional body, corporate body, etc engaged in taxable transactions.

Registered Person, as per Sec.2(da), is one who has taken registration under section 10 of the Act.

Services, according to Sec.2 (cha), are anything other than goods.

Tax, according to Sec.2 (ka) is value added tax and according to Sec.27, the fines, interest and penalties charged as per the Act shall also be treated as tax.

Taxable Transaction, as per to Sec.2(ga) is transaction which is subject of VAT and not a transaction of VAT exempted goods or services.

Taxable Value, according to Sec.2 (gha) is value of sale or purchase on which VAT is imposed for the buyer.

Tax Officer, as per Sec.2(na) is any Tax Officer or chief Tax Officer appointed for the purpose of this Act by Nepal Government or any other officer designated by GON and empowered to use the power of a Tax Officer in accordance with the provisions of this Act.

Transaction, as per Sec.2(kha) is, supplying any goods or services.

Supply, according to Sec.2 (chha) is supply as the act of selling, exchanging and delivering any goods or services, or act of granting permission thereof or of a contract thereof for a consideration.

  1. Group Company\- Sunakheti Ltd., Bhimkheti Ltd., Jamarkheti Ltd. and Karkheti Ltd. are four company owned by Mr. Uperkheti. The head office for all companies is same place, but there are four accountants one for each. Mr. Uperkheti is worried about monthly VAT return for each company. Being the key person, he wants to file a single return. Is it possible?

Does the answer is different in case, Karkheti Ltd. is filing trimester basis?

In VAT, group company or group entity is for inter-company transaction at market value and not for consolidated VAT return. There is not any concept of consolidated VAT accounting or consolidated VAT return in VAT. Even, surplus money of one unit of group company cannot be set off with another company.

  14. Tax period- according to Sec.18 tax period is, period prescribed by Act or Rules for calculation of net VAT payable or receivable. Registered person has to adopt a:

  * Monthly- as per Nepali calendar as tax period. As per Rule 26, these different tax periods could be adopted by certain specific registered person as:

  * Bimonthly Tax period: Registered Person having taxable transaction during previous 12 months more than Rs.2 million but not more than Rs.10 million and hotel and tourism sector, if desires so, tax period is 2 months. The tax period shall be, Shrawan and Bhadra, Ashwin and Kartik, Marg and Paush, Magh and Falgun, Chaitra and Baisakh and Jestha and Ashad.

  * Different tax period: Registered person maintaining computerized accounts, if it could not report in Nepalese month system, may apply Tax Officer to adopt different tax period date with same period according to Rule 26.

  * First Tax period: First tax period of a registered person shall be period of day of registration to end of concern tax period.

  * Deregistration Tax period: Last tax period in the case of deregistration of a registered person shall be period of 1st day of tax period to date of deregistration.

  * Temporary registration Tax period: In case of a temporary registration, tax-period is period of exhibition, which may overlap a calendar month-end.

  15. Tax Officer- based law\- VAT is Tax Officer based law (unlikely as income tax is the Department based). The provisions of VAT law are vested with Tax Officer. According to Sec.2, Tax Officer includes:

  * Tax Officer as appoints by GON (TO);

  * Chief Tax Officer (CTO);

  * Chief Tax Administrator (CTA);

  * Directors of IRD;

  * Deputy Director General; and

  * Any other officer designated by Nepal Government and empowered to use the power of a Tax Officer in accordance with the provisions of this Act. Under this rule, GON designated District Treasury Officer as Tax Officer in the districts not having any Inland Revenue Offices.

  16. Appointment of TO\- Sec.3 empowers GON, for the purpose of the Act, appoints Tax Officers in the required number and if deemed necessary, may designate any officer of Nepal Government to act as a Tax Officer. Due to these rights, GON has ease registered person in the district not having an IRO to file their returns in District Treasury Comptroller's Office.

  17. Jurisdiction of TO\- Jurisdiction of a Tax Officer shall be fixed by GON according to Sec.4. DG of IRD may specify a Tax Officer to inspect transactions of taxpayers beyond his/her jurisdiction as cross-jurisdiction. In such cases, the jurisdiction fixed by GON may be changed by DG or DG has right to seconded any Officer to the jurisdiction of another Officer. The right to DG has allowed because of leave, absence, vacation, suspension or overruling to jurisdiction of respective tax officer.

  18. Delegation of Power\- Tax Officer can delegates the power vested by the law to its subordinates except for assessment and punishment. Director General cannot delegates the power vested to him/her. GON cannot delegate the power to any person but can appoint the VAT experts for assessment purpose.

  19. Exempted Goods and services\- Even VAT law is imposed in all cases of transactions covered by above 3 cases, but some of the items of goods or services are exempted from VAT too. Schedule 1 of act has listed so many items of transaction are exempted. In the VAT exempted goods or services, output tax need not be collected, nor person dealing such items can get any input tax credits. Person dealing VAT exempted goods or services only, need not get it registered. Following group of items are VAT exempted according to Schedule 1 of the act, the details is being amending yearly:

Group | Group Name | Group No. | Group Name

---|---|---|---

Group 1 | Basic Agricultural Products | Group 8 | Cultural, Artistic and Sculpturing services

Group 2 | Goods of basic needs | Group 9 | Transportation: passengers or goods

Group 3 | Livestock and Livestock products | Group 10 | Professional or professional services

Group 4 | Agro-inputs | Group 11 | Other goods and services

Group 5 | Medical treatment & health services | Group 12 | Land and Building

Group 6 | Education | Group 13 | Betting, Casino, Lottery

Group 7 | Books, Newspapers and Printings |   
 |

There are some square off items embraced in Schedule 1 list. These items in schedule 1 are VAT attractive for the purpose of sale or purchase, but VAT need not be deposited into revenue.

  20. Conditional Exempt supply\- Exemption as given in Sch.1 is item-based. The items scheduled in Sch.1 is tax exempt in all cases of supply, whether supplied by registered or unregistered person. There are some cases in Sch. 1, which are exempt if they are supplied under given conditions and are VAT attractive in reversed condition, examples are:

  * Food or rent by hotel, restaurant, cafeteria, canteen or similar.

  * Training by GON or GON Undertaking

  * Power producing equipment- recommendation of AEPC/DOE

  * The listed items in Para. (B) of Group 11 of schedule 1.

  21. Transfer of Business (Sec.5A)\- In case of transfer of business under either of the following two conditions value added tax will not be applicable on the transfer of ownership of a business: (a) When a registered person sells its business to any other registered person; or (b) A business is transferred to any inheritor on the death of an owner.

In case a registered person transfers the whole of its business to any other registered person, the transferor is not required to charge tax on the transfer, if Form of Schedule 4 has agreed and submitted with the Tax Officer. In this case, VAT liability due or further raised of the transferor, or VAT credit in the hand of transferor shall be shifted to the transferee.

  22. Exemption and imputation\- In case of import of goods, the Minister of Council may waive the VAT charging at customs point by issuing waiver notice in rajpatra. Unless clearly allowed specially, VAT has to be collected by the seller on its supply of same item; VAT imputation is allowed by special notice. For example, GON allows VAT exemption of importation of item A, a non-exempt item. This means the importer will not pay VAT at customs. At the time of supply of same item to another person or then after, the question arise VAT is to be collected or not. In such case, exemption if clearly allowed VAT is exempt in subsequent supply, otherwise levied as usual.

  2. No cascading effect – In case a tax is levied on itself, this effect of tax is called as cascading effect. Many cases of excise duty has cascading effect. In the case of VAT, it has designed to free from cascading effect. VAT is levied in total of taxable amount, which is before VAT itself. For example of zero-profit, A sells an item at Rs.1000 plus VAT to B, so B pays Rs.1130 in total. B sells the same item at Rs.1000 plus VAT, here the selling price is Rs.1000; so, VAT is Rs.130. B pays Rs.130 to A and Re.0 to authority and in total Rs.130. In this case, no VAT is levied on first VAT of Rs.130.

There is some unique exception in general rule of no-cascading effect. In case a unregister seller 'C' purchase same item from registered person 'A' and sales to registered person 'B' and 'B' sales to other, there is cascading effect of VAT within zero-profit.

Seller | A | B | C

---|---|---|---

Registered | Registered | Unregistered | Registered

Selling Price | 1,000 | 1,130 | 1,130

VAT | 130 | 0 | 146.90

Cost of purchase |   
 | 1,130 | 1,276.90

Input tax | 0 | 0 | 0

  23. Place of Supply\- VAT is, as explained earlier, imposed in the transactions in territorial basis, hence place of transaction is important. Similarly, VAT require to pay within prescribed time-frame whether the consideration received or not, and hence timing of supply is also important.

Following are the place of supply for any goods under Rule 15 or services under Rule 16 for any transaction:

i. Sale or Transfer of Movable Goods: In the case of movable goods transferred, the place where such goods were sold or transferred,

ii. Immovable Goods: In the case of any immovable goods whose location can't be transferred even if their ownership is changed, the place where such goods are located,

iii. Imported Goods: In the case of imported goods, entry customs point in Nepal,

iv. Self-consumption: In case any manufacturer or vendor supplies the goods to itself, the place where the producer or vendor of such goods resides.

v. Service: The place of supply of a service shall be the place where the benefit of that service is received.

Supply of goods or services, based on above principle, if the location is in Nepal, then the transaction is covered by VAT.

  24. Effective consumption place not actual transfer place\- Place of supply test refer the consumption place not physical transfer place (destination principle). There are some cases, where the supplier itself is the buyer and place of goods is in the same location, but VAT supply may be recognized. For example, transfer of trading goods to duty-free shop is supply at zero-rate, but the place of physical goods may be same to same vendor and just intention (with required formalities) changed. Same principle apply to a goods transfer to store of international flight for sale or consumption or entry into air-cargo terminal. NOC sales air-fuel to airlines in Nepal (actual supply place is within Nepal) but zero-rate applies intending to use beyond Nepal.

  25. Supply without actual supply (Deemed Supply)\- In many cases of supply for VAT, actual supply is not a core point. For example:

  * Self-consumption:

    * Trading stock consumed (no VAT on intermittent process).

    * Remaining VAT attractive items at deregistration.

    * VAT paid purchase, not used for VAT attractive output.

  * Transfer to duty-free shop.

  * Transfer to international flight for consumption or for sale.

  * Transfer to international air-cargo for export.

  26. Timing of supply- When the supplier deems to receive VAT in the supply is one major items in VAT. In case of supply of goods, earliest of following shall be time for supply under Sec.6(2):

a. Date of invoice (even goods is not manufactured or possessed)

b. Date of possession on goods/ date of removal of goods (even title is not transferred or even title transferred but not transported into own store)

d. Date of consideration (the amount shall be consideration plus VAT)

In case of supply of services, earliest of following shall be time for supply under Sec.6(2):

a. Date of invoice

b. Date of rendering service.

c. Date of consideration.

Sec.6(4) empowers DG, in the case of a transaction for which more than one provisions as prescribed above are applicable at once, the supply time shall be as prescribed by DG.

  27. Timing of supply specialty\- There are few exception given in Sec.6(3), regarding timing of supply as explained earlier are:

a. In case of continuous services of telecommunication services or similar other public services, when the tax invoice issued.

b. In case of contractual provision for paying partially the value of goods or services in more than one day on an installment basis, earliest of due date paid date. This provision is applicable of continuous service and periodic payment contracts. For example, if a tuition teacher provide service to home-child continuously or professional expert monitors business regularly (may be occasionally too) and payment is monthly, then VAT is levied at earliest of month-end (accrue date) or date of payment.

c. In the case of used goods for which an offset is not allowed, the time when such goods or service are used.

  28. No bad-debt in VAT\- Nevertheless, supply dates are earlier and mix of accounting cash-basis or accrual-basis, as per S.6. This leads, there may not be any accrual liability for the VAT accounting and hence no bad-debt chances. There is not the concept of bad debt in VAT, even VAT is levied based on accrual. The reason behind this is input tax credit is allowed under the same footing.

  29. Advance or consideration – Date of payment of consideration is one critical date in VAT (see ) supply. Another critical economic phenomenon is 'advance', whether distinct from 'consideration' or not. Payment of consideration is subject of timing for supply but 'advance' is not. Hence, clear distinction of two words is required.

In the advance, cash flow is allowed by the prospective buyer to manufacture or to mobilize. In case the assignment not fulfilled, advance is required to return (with interest, if agreed so) to the payer. It can be utilize for intended purpose as agreed. In the consideration, this is payment of future (or concluded) works. The recipient is allowed to use the fund as it requires. Cash-Before-Delivery (CBD) is payment of consideration, whereas 'mobilization advance' is advance.

  3. Earlier date\- Rupakheti Impex and Kalakheti Impex entered into a contract of sale of some furniture. For this former produced some articles of furniture and latter make them marketing as dealer. During the month, 25 units of furniture were taken by Kalakheti Impex against cost payment of Rs.200,000 in last month. For the next month production Rs.300,000 were paid. Rupakheti Impex issued Rs.240,000 invoice covering 10 units of furniture issued this months and 30 units issued last months. How much is output tax?

VAT is deemed collected at the earliest of date of invoice, date of possession on goods or consideration paid (219). In the given case, Rs.300,000 consideration has received earliest as production and sale of coming month, so VAT to be collected on this sum.

  30. Single Rate\- Universally, VAT is single rate tax. The rate may be vary from country to country or one time to another within same country or one province to another province. According to Sec.7, there shall be single rate of 13% for VAT. VAT exempted goods or services as per Schedule 1, is not subject of VAT. In case of transaction covered by Schedule 2, the rate of tax is 0%. In summarized form, there are three types of VAT incidence on the transaction:

  * Single Rate - 13%

  * No VAT- Items of Schedule 1

  * Zero Rated- Transactions of Schedule 2

  31. Zero rated facility \- Zero rated tax means tax charged at zero rates, whereas no VAT means not charging VAT, or getting input tax credits. Schedule 2 provided a list of transaction those to be charged at 0%. In zero rated tax, input tax credit is allowed but collection shall be nil, based on this nature, sometimes call as 'input tax with exemption'.

The principle behind 'zero-rate facility' is 'destination principle' in case of export and 'cost benefits' for other cases. In case of export, importing country charge the indirect tax as destination principle. In case of power producer, zero-rate makes low cost of construction.

  32. Distinction of Zero rate and Exempt – In both cases of Zero rate or Exempt VAT, supplier collect nothing, but the concept is different as:

  * Zero-rate tax means tax charged at zero rates, whereas Exempt means not charging VAT.

  * Zero-rate is conditional whereas Exemption is item-based.

  * Zero-rate supply is VAT attractive and hence getting input tax credits, Exempt supply do not obtain inputs.

  * For the buyer, zero-rate purchase is free of VAT in full; but there might be VAT within Exempt supply.

  * In zero rate, input tax credit is allowed but collection shall be nil (input tax with exemption) whereas no input tax in Exemption.

  * In the Exempt items, no zero-rate facility is allowed.

  33. Export of goods, zero-rate- In case it is proved that the supply is made as follows, zero-rate facility is allowed:

  * Goods exported from Nepal (by any person);

  * Goods stores on a flight to a destination outside Nepal (by any person whether air-carrier or supplying to it or other person having such business); or

  * Goods stored on an international flight having destination outside Nepal for retail sales, for supplies or for consumption Nepal (by any person whether air-carrier or person supplying to it or other person having such business).

  34. Export of Service, zero-rate- In case Services provided to any person belonging to outside Nepal, zero-rate facility is allowed:

  * A supply of services by a person resident in Nepal to a person residing outside Nepal and having no business establishment, agent or legal representative acting on behalf in Nepal.

  * A supply of goods or service by a registered person to a person residing outside Nepal.

  35. Other cases of zero-rate\- following are other cases of zero-rates, than export of goods and services:

  * Diplomatic Supply: Import of goods or services by accredited diplomat individual or office or any individual working in duty exempted diplomats on recommendation of Ministry for Foreign Affairs.

  * Prior Exempt Project: Any purchases of goods from a registered dealer in Nepal by any person to whom exemption of sales tax was provided as per the agreement with a project till the agreement is in force, on a recommendation of the related project, the person shall avail the zero VAT facility.

  * Economic Zone Supply: Sales of raw materials and finished goods to any industry established at notified special economic zone.

  * Power Sector Supply: Sales of battery required for plants and equipment for use in production of solar energy duly approved by Alternative Energy Promotion Centre by a domestic producer directly to the solar power producing unit.

  * Power Sector Supply: Sales of plants and equipment required for hydro power project produced by a domestic producer and directly supplied to the project upon approval of Alternative Energy Promotion Centre or Department of Electricity.

##

  1. # Assessment and Collection of Tax

  36. Types of Assessment\- VAT is assessed under mainly three styles of assessments: self- assessment (Sec.18), jeopardy assessment (Sec.22) and assessment by Tax Officer (Sec.20).

  * Self-assessment: Within 25th day of closure of tax period, registered person need to file VAT return to Tax Officer. Self-assessment is of two types- documentary return and e-VAT return. In case of business transferred, parties with condition beyond the control or similar, there is joint self-assessment too.

  * Jeopardy assessment: If there is a reason to believe Tax Officer as collection of VAT is in jeopardy by way of person leaving Nepal or transferring property or removing or concealing assets, a Tax Officer, with the approval of DG, may immediately assess and collect the tax due, or about to become due.

  * A ssessment by Tax Officer: According to S.20, the tax officer may assess the VAT for a registered person or for other. Assessment by tax officer may be re-assessment (of filed VAT return) or first assessment.

  37. Grounds for assessment by Tax Officer (Sec.20 (1): Under the following grounds and conditions Tax Officer can make tax assessment:

a. If a return is not submitted within the time limit;

b. If an incomplete or erroneous return is filed;

c. If a fraudulent return is filed;

d. If the Tax Officer has a reason to believe that the amount of tax is understated or otherwise incorrect;

e. If the Tax Officer has a reason to believe that the taxpayer has caused under-invoicing;

f. If under-invoicing/partial credit within group companies;

g. In case person required to get registered operated business without registration;

h. In case of sales without issuing invoices;

i. In case unregistered person collects the tax;

j. In case VAT paid item not using in VAT attractive output;

k. In case of reverse charging cases.

Assessment by tax officer is risk based sampling based on above conditions. In 2066 Ashadh, there were 69653 registered persons and tax administration could checked the returns tune to 1626 (last year 2483) person only. Out of 1626 assessments, 299 persons file their appeal with Director General.

  38. Bases of the assessment by TO (Sec.20 (2): The Tax Officer may make such tax assessment on one or more of the following bases:

a. Proof of transactions;

b. A tax audit report on transactions submitted by the concerned Tax Officer; and

c. Tax paid on a similar transaction by another person.

Burden of proof (Sec.20(3): The burden of proof lies on Tax Officer for reasons of assessment.

  39. Time limit for assessment by TO (Sec.20(4): Assessment by Tax Officer need to be finalized within four years from the date of a tax return being filed. If the stipulated time expires the return so filed shall be considered to be true and valid. For example, for a person filing VAT return monthly, assessment of VAT returns for 2067.68 (12 returns), if filed on due date, could be done till 2071 Srawan 25 in full of 12 returns (income tax re-assessment can be done till 2072 Ashoj-end). But, in case of fraudulent return reassessment tenure is unlimited.

  40. Opportunity to hearing (Sec.20(5): As per evaluation of VAT return and documents produced to the Tax Officer, any quarry or Preliminary Assessment shall be sent to the person under Rule 29(1). Reply of Preliminary Assessment to be submitted within 15 days of receipt of notice. In case the Tax Officer satisfied with the reply on Preliminary Assessment, the point raised shall be omitted and remaining points to be included in Final Assessment issuing under Rule 29(3).

  41. Collection of Tax by TO\- Registered person need to pay tax on the due date of filing the VAT return, i.e. within 25th days from tax period ending date. In case of final assessment by Tax Officer as per Rule 29(3), these amount (tax including any fee, additional duty, interest, fine etc.) within 7 days of such final assessments.

In any case on failure of tax payment on due dates, Tax Officer is authorized to, according to Sec.21, collect the due amount from any or all of following methods:

a. By offsetting the amount, if any, to be refunded to taxpayer,

b. By seizing movable or immovable property of the taxpayer;

c. By selling through public auction all or part of the assets at one time or in an appropriate series;

d. By recovering from the taxpayer's bank account or other financial institutions.

e. By recovering from amounts due the tax payer by GON, or State Owned PEs or local bodies.

f. By recovering from, upon pre-approval of the taxpayer, third party owes to the taxpayer; or

g. By withholding import, export or transaction of the taxpayer.

Procedures as prescribed in Rule 53 has given in .

  42. Auction Procedure- According to Rule 53, auction of seized assets to be disposed as following procedures:

  * Wholly or partially-Auction may be wholly or partially.

  * Public notice\- A 15 days public notice to be issued indicating the property to be auctioned, reason for, place and date of auction.

  * Witnesses\- There should be witness from local authority, nearby public office and if possible taxpayer or representative.

  * Expense-All the expenses incurred on auction shall first of all be borne out of amount realized from auction; tax, charges, penalties and interest payable by the taxpayer shall then be realized from the balance; and the surplus, if any, shall be refunded.

  * Stoppage of auction\- In case, prior to execution of the auction sale but after issuing public notice, person wants to pay the entire amount including all the expenses relating to auction sale, tax, charges, penalties and interest due to the person, the same shall be collected and the auction shall be stopped. In case Tax Officer receives information that the person has deposited sufficient amount in his account in a bank or a financial institution, and if such amount is realized the remaining actions shall be stopped.

  * Priority of payment-In partial realization, even auction of whole or part of assets and property finalized, priority of proceeds shall be as auction sale, interest, charges, penalties and tax.

  * Perishable goods- According to Rule 54, perishable goods to be sold before it likely to decay, rot or wear out even the auction of assets even in case, court order for 'as it where order' till final court decision, but the property is because of prolonged period of stoppage resulting from the court order. In case the aggrieved person filing petition or appeal in court of law, win the case, the realized value to be refunded to the person. The taxpayer shall not be entitled to claim for the return of the goods or articles.

  2. # Registration and Deregistration

VAT is charged to the registered person except few cases. Person need to get registered with VAT is called 'registered person'.

  43. Certificate of Registration\- According to Sec.10(4), Tax Officer shall register willing person submitting prescribed application for registration and shall issue a unique registration number, in the prescribed form and time, together with a certificate of registration. Since 2058 registered person get same permanent account number (Tax Payer's Identification Number, TPIN) of all taxation purpose, even to VAT also. In case any person applied for VAT, but not required to get it registered, Tax Officer needs to issue a letter, within 7 days from date of application, that registration is not required. In case, Tax Officer needs any clarification/document upon investigation, those should be provided within 7 days from date of seeking of clarification.

  44. Loss of registration certificate- In case the registration certificate torn, lost, or destroyed, the person shall submit an application to the respective Tax Officer for duplicate certificate with a fee of Rs.100, as per Rule14. Tax Officer shall issue a duplicate copy of registration certificate within 15 days from date of the receipt of the application.

  45. Changes in description of registration\- In case of any changes in particulars as mentioned in the application for registration, the registration certificate to be amended as followings:

  * In case of change of address- before 15 days of change (Rule 9);

  * In case of change in business line or objective clause- before 15 days of change (Rule 9);

  * In other cases of changes- within 15 days of that event (Sec.10(7).

  46. Display registration certificate\- Registered person shall display the registration certificate at an eye-catching place in principal place of business or at every branch an attested copy, if branch it has, according to Sec.10(5).

  47. Use of TPIN\- As provided in Sec.10 (6), registered person compulsorily use registration number (TPIN- now PAN) in following documents:

i. Documents relating to income tax;

ii. Documents relating loan application for commercial or industrial purpose from any bank for an amount of Rs.1 lakh or more;

iii. Documents relating to import and export.

iv. Documents relating to VAT (invoice, credit note, debit note, purchase book, sales book etc.) or excise or customs.

  48. Compulsory Registration - As already mentioned, since 2058 IRD provides Permanent Account Number (PAN) for income tax as well as VAT purpose. Person having registration for VAT purpose, date of registration in VAT is mentioned. There are certain cases, where the person has not registered for income tax but for VAT only. There are some cases, that exempted entity has VAT registration too.

At the time of registration in VAT, there are so-called two types: Compulsory and Voluntary.

Existing VAT attractive transaction\- According to Sec.10 (1), person going to start business of VAT attractive goods or services need to apply for VAT to a tax officer in the prescribed form of Schedule 1 to 3 of VAT Regulation, 2053.

VAT exempt goods or services, falls to VAT regime\- According to Sec.10(2), person already engaged in the business of VAT exempt goods or service, but the goods or service declared as taxable (previously it was not taxable) need to apply for registration within 30 days of the declaration as taxable or engagement in such business.

Place and business-line specific thresholds\- From 2062 to 2072, registration policy adopted by the VAT law was based on 'expansion of tax-payer base' and many items and places became icon for registration. Since 2072.4.1, the policy seems to restore to the original position and registration made compulsory based on threshold. All the place-specific or business-line specific registration procedure are withdrawn from that date. Only this provision has not extended to the temporary registration [or missed this time].

Turnover over thresholds\- In case the person engaged in the business, not registered in VAT due to small vendor being below the threshold limit and crossed it, then within 30 days from date of crossing of limit it should apply for registration.

  49. Thresholds – Following are the threshold for small vendor and compulsory registration in VAT:

  * Turnover more than Rs.50 lakh in last 12-month in goods.

  * Turnover more than Rs.10 lakh in last 12-month in services or goods and services both.

[Turnover, for above cases and for tax-period ceiling, is higher of sale or purchase of VAT attractive items excluding VAT itself.]

  * Import more than Rs.10 thousand for business.

  * Bank loan Rs.10 lakh or more for business.

  * Stock more than prescribed limit (including common godown).

  50. Registration not required – Following are the cases, registration has not required:

Exempted item dealer: According to Sec.10(3), person dealing exclusively in goods or services which are included in schedule 1 as exempt goods or service need not get it registration. But, there are some items scheduled in Schedule 1 are under square off VAT system. Person dealing with such square off system, even covered by Sch. 1, need to get them registered for getting benefits of square off.

Small Vendors: According to Sec.9, notwithstanding anything contained in other provisions of the Act, some exemption on registration has allowed. Rule 6 prescribed thresholds for transaction of Rs.5 million during a period of 12 months (any set of continuous 12 months). For this purpose, transaction means purchase or sale either capital items or trading items or service or any items of VAT attractive.

  51. Voluntary Registration \- Any small vendor may apply itself for VAT registration and this is so-called voluntary registration. After registration, either compulsory of voluntarily, the right and duties, books of accounts etc. are same for all. Only person intend to have turnover in coming 12-months reach to Rs.50 lakh may apply for it.

  52. Temporary registration \- Any unregistered person desiring to engage in any short-term taxable transactions of goods or services at fair, show, demonstration, display, exhibition etc., has to apply along with recommendation letter from organizer for a temporary registration according to Sec.10A. In the application, Tax Officer may demand deposit for it too. Existing registered person can transfer goods for transaction to the place of exhibition or fair.

Within 7 days from completion of the fair, show, demonstration, display, exhibition etc., temporarily registered person has to submit VAT return of the transactions made thereon. In case failure to do so, the organizer is responsible for that.

  53. Deregistration \- Registered person who is unable to continue his taxable business or other cases as provided in Sec.11, may apply for DEREGISTRATION from VAT (deregistration upon request). Section 11 has specified certain conditions under which Tax Officer make deregistration itself (suo-motto deregistration).

Conditions for deregistration \- According to Sec.11(1), Tax Officer may make cancelation the VAT registration under following conditions:

a. Ceases to exist -In the case of an incorporated body, if the incorporated body is closed down, sold or transferred or if it otherwise ceases to exist;

b. Death\- In the case of an proprietorship or partnership firm, if the owner or any of partner of firm dies;

c. Dissolution\- In the case of a partnership firm, if it is dissolved;

d. Ceases to taxable transaction -If a registered person ceases to be engaged in taxable transactions;

e. Zero return\- In case registered person submits zero tax returns continuously for 1 year (may be sue motto/forced deregistration).

f. Non-filer\- In case the registered person has not submitted tax return till the date (may be sue motto forced deregistration).

g. Registration error\- If a person is registered in error (may be sue motto forced deregistration).

h. Temporary registration\- In case of temporary registration under Sec.10A, or 10B after closure.

i. Small vendor\- In case registered person registered voluntarily and turnover in next 12-months will not reach to Rs.50 lakh, shall be deregistered as per Finance Act, 2072. Those who wants to keep their registration live require to apply to Tax Officer separately.

Procedure for deregistration\- Registered person willing to cancel its registration, need to file an application in Form No. 11 of the Rules. Tax Officer receiving deregistration application makes necessary inquiries and may decide for cancellation the registration.

VAT Return after application-The registered person need to file monthly VAT return after applying for deregistration to latest to 3 months from date of application, if decision of cancellation nor obtained. In case, Tax Officer has not decided within 3 months, further VAT return is not required according to Sec.11(1B). One should forget, there may be VAT attractive purchase or sale during this period after application to deregistration too.

Effect of deregistration\- In case the registered person has unsold stock of inventories or capital goods at the time of de-registration, it has to pay the tax on those goods as at their market value. According to circular dated 2055.9.5, in case of market value could not be ascertained at the time of deregistration (and in case of self-use too), cost price shall be assumed as market price. In all cases of VAT, if assessed later in the transaction done before of deregistration, person deregistered from VAT is responsible for it.

In case a person deregistered from VAT in the past and wants to obtain registration now, need to apply as a new person. Permanent Account Number is same in all cases.

  2. # Taxable Value

  54. Central concept\- VAT is computation of tax in easy methods, simple to understand and minimum cost for compliance. This Chapter describes the quantification requirements. Core principles is:

(i) All sales during tax period by registered person to be included in output and must collect VAT on taxable value of the transaction – Output and output tax.

(ii) Collected VAT can be set off with allowed VAT paid purchases during last 12 months, if not already set off – input and input tax.

(iii) Difference need to be paid –VAT (debit or credit)

  55. Meaning of \- In case of sales or self-consumption, taxable value means the value of transaction on which VAT shall be charged irrespective of sales proceeds in financial accounting or in income tax. According to Sec.12, it is amount received from the buyer as consideration. Taxable value includes cost of goods, transportation cost, transit insurance, applicable duties (except VAT) and profit of the sellers, if any.

For taxable value, there must be consideration (Sec.2 definition of supply). If any goods or service is free or with no consideration, no VAT is levied. Of course, if the supply is without consideration is like of gift, no input tax credit is availed; if the supply is like of business 'sample or complementary', input tax credit is allowed. In the other-side if the supply is not with full-consideration (partial consideration), the supply is within the scope of VAT but tax-base erosion by way of consideration. In such case, full consideration is VAT-base.

  56. Cash consideration- As per Sec.12 of the Act the taxable value is the value charged by the supplier for the goods or services where the consideration is payable in cash except VAT payable in form of cash. It includes value of the invoice, any duties collected for third party including profit margin, freight and distribution expenses incurred by supplier, excise duty or other taxes except VAT less discounts, commission or any other trade discounts. Vide circular dated 2056.2.28, in case of cash consideration includes any fee or penalty that should be included in taxable value too.

  57. Import- According to Sec.12(5) and Rule 48; in case of import of goods, respective custom office collects VAT based on taxable value. Sec.12(6), provides the revaluation of purchase price at market price in case of significant under-invoicing or reasons to be believed. Taxable value for the purpose of import shall be landed cost up-to boarder (cost paid to vendor, transit cost or other cost) plus duty charged by the Customs Officer except VAT.

  58. Self-use- In case of self-use of asset, market value on the date of use is deemed as taxable value. Conversion of raw materials to work-in-progress or to finished goods is not self-consumption. Capital goods are also not deemed as self-use (exactly, capital goods are those, which are used by itself). In fact, in case any trading goods is used as capital asset, then it deemed as self-use. But, the concept has differently explained in para. 16 of Explanatory Notes to the Law on the Value Added Tax, on IMF Model as "if taxable person applies goods or services acquired for use in taxable activity to a different use, the change in use is treated as supply by the taxable person".

  4. Inter-branch \- Are transactions in Goods between a Branch in Nepal and a Branch/ Head Office of the same Legal Entity in another country, within the scope of VAT, or are they ignored? In such case, inter-branch transaction between branches in Nepal is not 'supply' and hence no VAT is levied. In case, inter-branch transaction cross the border then it is a supply and VAT is levied as import or export. For example, branch in Biratnagar send some goods to Nepalganj Branch, no VAT impact; but Biratnagar Branch send to Bangladesh Branch it is export.

  59. Barter system- According to Sec.12(4), in case of a barter system, the market value of goods given shall be treated as the taxable value of goods bartered. Here is a question which of the rate to be taken- item out or item in; the act is not clarified the matter. The valuation is similar quantification as in NAS/IAS 18 Revenue in financial accounting.

  60. Under-invoicing and partial consideration- According to Sec.12(6), value of goods or services is under-invoiced (much lower than prevailing rate), taxable value shall be market value. Similarly, according to Sec.12(7), value of any goods or services is settled by partial consideration the taxable value shall be market value.

  61. Taxable value for wood- According to Sec.12A; auction of wood of national forest, taxable value shall be higher of royalty or the amount of auction. Buyer, if VAT registered person can get input tax credit based on VAT paid vouchers without tax invoice.

Private and community forest wood, (royalty is not applicable), taxable value shall be computed on the basis same as wood of national forest.

  62. Taxable value for notified goods\- According to Sec.14(6), IRD has authorized to prescribe any item of goods to issue notice publicly or to any specified person to publish the retail price (distributor rate, whole-seller's rate and retail rates). In case registered person sold goods of such notified goods to any unregistered person shall have to issue the invoice at the consumer price and VAT shall be charged on the consumer price.

  63. Taxable Value in case of used goods \- According to Rule 33, taxable value for secondhand goods dealers or used materials is difference of sales and VAT included cost of sales.

Taxable value for used goods =Selling value of the goods- purchase price including VAT

A registered person dealing used or secondhand goods, need to maintain purchase register and sales register containing the following particulars:

Purchase Register | Sales Register

---|---

Date of Purchase | Date of sale

Particulars giving full information of the goods | Particulars giving full information of the goods

Buying price excluding tax | Selling price, excluding tax

Rate of tax | Taxable value = purchase price (including VAT) - the selling price (excluding VAT)

Amount of tax | Rate of tax and Amount of VAT

Total amount paid | Total amount received

In case the purchase price of every item of used goods exceeds Rs.10,000, separate records of buying or selling shall be maintained. In case of used goods sold in loss (loss means purchase price + further cost+ VAT paid on purchase – selling amount without VAT); Taxable amount is nil and tax invoice need not to be issued.

In case a registered person is observed by Tax Officer that it has not maintained the prescribed records satisfactorily, Tax Officer may impose VAT on the total selling price of the goods sold by such taxpayer, and the Tax Officer may issue a written order requiring him to pay such tax along with the next tax return. Impact of normal sales of goods and used goods deals is explained in .

  64. Import of VAT attractive item – Import is subject of VAT. In case of import of goods, customs officer collects VAT 'as supplier' to the total of all cost upto border plus all the duties associated with import. In case the customs duty is levied on modified value, then VAT is levied on modified based accordingly.

All amount in Rs. | Transaction-Value Based | Modified Valuation

---|---|---

Cost paid to foreign vendor | A | A'

Transit cost (transportation upto border) | B | B'

Transit cost (insurance upto border) | C | C'

Transit cost (other) | D | D'

Landed cost/ CIF value/DAT value/Customs-duty base | E=Sum(A:D) | E=Sum(A':D')

Customs Duty | F | F

Other Duty Base | G=E+F | G=E+F

Other Duty | H | H

Taxable value (for VAT) | I=G+H | I=G+H

VAT@13% | I*13% | I*13%

In case of import of service, there is direct reverse charging system according to Sec.8(2).

  5. Import of VAT attractive item – Ashakheti Impex importing an equipment costing Rs.30,000,000 from Germany. The transportation cost is shared by both importer and seller as CIF basis. For the part of Ashakheti Impex it is Rs.200,000 and Rs.100,000 paid for transit insurance. Custom rate for such equipment is 15%.

Here, the item is subject of VAT, any item imported is deemed as transacted in custom frontier of Nepal as per Rule 15. VAT is charged on the purchase cost including all the cost incurred up to custom point. In the given case, cost incurred is Rs.33,000,000 plus 15% custom. So, VAT required to pay is Rs.4,933,500.

Cost till custom | 33,000,000

---|---

Custom Duty | 4,950,000

Total Cost | 37,950,000

VAT @ 13% | 4,933,500

  6. Import of VAT exempted item- Kavarkhet Impex importing an equipment costing Rs.300 million from Germany. The transportation cost is shared by both importer and seller as CIF basis. For the part of Kavarkhet Impex it is Rs.200,000 and Rs.100,000 paid for transit insurance. Custom rate for such equipment is 1% under code 84 of harmonized system.

Here, the item is exempt from VAT according to Schedule 1. So, no VAT is charged on the import.

  65. Market Value Concept - VAT is charged on the cash or equivalent of consideration in almost cases assuming the taxable value (Transaction Value, TV based Tax Base). In specified cases transaction or deemed transactions for the purpose of VAT, the valuation is to be required in market value.

Market value~ arm length: As per Sec.13, market value of goods or services supplied shall be determined as the consideration between unrelated parties at arm-length for the supply of goods or services would generally be agreed on if the transaction were made under similar circumstances of characteristics, quality, quantity materials, and any other relevant factors.

  66. Market value Valuation by registered person - In following cases, registered person will records the transactions at market value:

  * Barter system transaction (Sec.12(4): see above)

  * Partial Consideration (Sec.12(7): see above)

  * Remaining stock and capital items at deregistration (Sec.11(3)

  * Remaining stock/capital items at shifting to Exempted business or self-consumption of trading stock (Sec.17(4) and Rule 15)

  67. Market valuation by Tax Officer \- In the following cases, transactions to be reassessed at market value by the Tax Officer:

  * Above cases of market valuation if not done by tax payer itself. (Sec.20 and Rule 29)

  * Under-invoicing (Sec.12(6): Sec.20 and Rule 29)

  * Remaining stock if could not show at physical verification by Tax Officer (Rule 40)

  68. Market price determination- In the following cases, market price is determined as follows:

Cost Price for market value: Market valuation of transaction in the cases of self-consumption and at the time of deregistration, market price shall be determined at cost price vide circular dated 2055.9.5.

Method of determination: Tax Officer has right to fix the market price based on similar goods transacted as per Rule 22. According to same rule, if Tax Officer could not ascertain market price, then Director General shall prescribe the method to take similar goods of different suppliers.

  69. Registered Person has to collect - It is normal principle of VAT is that, tax to be collected by a registered person recognized by taxation authority. There are some cases, even other person need to collect such tax. VAT is to be collected by registered person according to Sec.8(1). In the case of supply of goods or services, registered person need to collect VAT at the transaction value by way of tax invoice.

In case any person in Nepal, receives any service for foreign country, then the person getting benefits from those service need to pay VAT on service so received according to Sec.8(2). Such system of paying VAT is called reverse charging system. According to Sec.8(3), person engaging in construction of apartments, shopping complex, or commercial buildings having value more than Rs.5 million, the person need to pay VAT on the cost paid to any unregistered contractor as reverse charging.

  70. Persons collecting tax other than registered person - Unregistered person cannot collect VAT as per above para. In case any unregistered person collected VAT on its sales, then VAT shall be assessed by the Tax Officer as per Sec.20. But, there are certain cases, where the collecting person shall not be VAT registered person too.

  * Custom Offices: In case of import, the respective custom office collects VAT on the taxable value calculated as per the Act. For this, the direct expenses incurred up to the custom office (landed cost) and duty those collected by custom office are considered for calculation of the value of the goods.

  * Government and International Agency: In case of any sale or service by GON, Local Authorities (VDC, Municipality, DDC), Nepal based International Organizations or Missions need to collect VAT, even if they are not registered person.

  * Wood Sellers: In case any person sales wood from forest (governmental, community or private forest), the person need to collect VAT, irrespective of its registration in VAT.

VAT Return \- Registered person has to submit tax returns in the format prescribed in Schedule 10 of VAT Regulation, 2053 within 25 days from end of tax period as per Sec.18. Time specified for this purpose may be extended in case of conditions beyond the control. Place of submitting VAT return is Tax Office in the districts where Inland Revenue Office located or to District Treasury Comptroller's Office otherwise.

  71. Bank Guarantee in import for export and for duty-free shop - Sec.8A provides some administrative facility to the importer whose imported material is re-export with value addition and duty free bonded warehouses. In such case, importer may use bank guarantee for the portion of VAT payable in import at customs.

Conditions for re-exporter: Bank guarantee facility is availed upon following conditions:

  * Manufacturing industry exporting more than 60% of its sales during last 12 months or duty free shops under bonded warehouse facility.

  * This facility is availed to importing raw materials only.

  * Exporter's value add on the raw material is at least 10%.

Conditions for bonded warehouse: Bank guarantee facility is availed upon following conditions:

  * There should be bonded warehouse for duty free shops.

  * Sale of duty free alcoholic goods and cigarettes should be limited to diplomatic person or entity getting duty facility by Ministry of Foreign Affairs.

The bank guarantee in both cases shall be released by the custom office as prescribed by IRD.

  72. Exemption on VAT attractive Items -Council of Ministers in the recommendation of Ministry Of Finance issuing public notice published in Nepal Gazette may waive any import of VAT attractive items to be exempted in full. Yearly Finance Act(s) empowers GON to do so. These waivers are of two types:

  * Case to case exemption: There are numerous examples (somewhat more than 500 cases in a year) of such waivers of VAT attractive imports. Such exemptions are mainly given to the imports of VAT attractive items usable for social or similar purpose or gifted goods for them. Person importing goods under these terms cannot use such goods as commercial trading items.

  * Blanket exemption. Similarly, there are cases where VAT has waived by notice for whole of the transaction in case of import or local sale or purchase.

  3. # Offset of Tax

  73. VAT Return \- Registered person requires collecting VAT on its every transaction except items covered by Schedule 1. These collection need to pay to the governmental consolidated revenue accounts. Paying to revenue accounts, registered person can offset VAT paid by it in purchases.

Central conceptual principle (with some defined exception) of offset is that, VAT paid on purchase having VAT attractive output can be set off. VAT set off is allowed by way of input tax credit.

The form for VAT items might be taken as follows:

 | Taxable Value | Tax

---|---|---

Output (+) | A | A*13%

Input (-) | B | B*13%

Value Add (Credit) | A-B | ±(A-B )*13%

Opening Credit (-) | - | C

VAT Payable (Credit) | - | ±(A-B )*13%-C

  7. Input tax credit- A Ltd. engaged in VAT attractive industrial products has following VAT paid purchases (Purchase price is not include VAT, shall be net of VAT, if otherwise provided clearly):

  1. Expansion Equipment purchased at Rs.500,000 not installed till security cost incurred Rs.20,000.

  2. The entire building materials for expansion purchased at Rs.20,00,000.

  3. Interest Rs.15,000 and admin salary Rs.50,000 paid and Rs.30,000 payable.

  4. Office admin expenses include Rs.113,000 paid for stationary and telephone including VAT.

Here, output (sales- actually happened or intended to happen) is VAT attractive. VAT paid purchases are:

Name of Item | Cost paid Rs. | VAT paid Rs.

---|---|---

Equipment | 500,000 | 65,000

Security | 20,000 | 2,600

Building material | 2,000,000 | 260,000

Stationary and telephone expense | 100,000 | 13,000

Total | 2,620,000 | 340,600

Interest is exempt items under Schedule 1 and salary is part of value add, so no VAT requires paying. In this case, output of A Ltd. is VAT attractive output, all VAT paid on purchase is allowed to input tax. There is not a question that whether actual sales done this month or not or the installation might be ongoing too. Assuming A Ltd. following sales VAT input tax (offset allowed) shall be as follows:

Sales Rs.

if | VAT collected

(output tax) | Input tax Credit | VAT payable

(Carry forward)

---|---|---|---

500,000 | 65,000 | 340,600 | (275,600)

20,00,000 | 260,000 | 340,600 | (80,600)

30,00,000 | 390,000 | 340,600 | 49,400

  74. Full credit - VAT paid on purchase is allowed as full set off to registered person if output is VAT attractive only. In above example output is assumed as VAT attractive, so VAT paid is fully allowed as credit.

VAT credit to be claimed within 12 months of purchase and not required to claim at the first month. There is not concept of 'put to use' of asset purchased in VAT.

  75. Input tax- No credit \- There are some cases where VAT paid on purchase is not allowed- no credit, even if output of registered person is VAT attractive. Following are no-credit items:

  * In case output (Intended or actual sales) is VAT exempted for the purpose of Schedule 1, VAT paid on purchase is not allowed for credit as per Sec.5(3).

  * VAT paid on Entertainment is not allowed for credit -Rule 41.

  * VAT paid for consumption of drinkable items (soft drink, water, juice or similar)- Rule 41.

  * VAT paid for consumption of liquor items (beer, wine, whiskey, or similar)- Rule 41.

  * VAT paid for consumption of Motor Spirit as per Rule 41 (Petrol for light vehicle)- Rule 41.

Last three cases are allowed at full credit in case of dealer, only consumption is no-credit.

  76. Partial Credit \- In case any person not dealing in automobiles business, if purchase automobiles (at least three wheelers vehicle running in road with passenger) for own use, only 40% of VAT paid is allowed as credit. This type of credit is called partial credit.

  77. Proportionate Credit \- VAT paid on purchase is allowed as full set off if output of registered person is VAT attractive only. Similarly, VAT paid on purchase is not allowed as credit in full if the output is VAT exempted. There shall be the cases, where registered person deals both VAT attractive and VAT exempt items at a time; in such situation VAT credit is allowed on the VAT paid purchase of:

Raw materials for VAT attractive output | Full Credit | Rule 40(3)

---|---|---

Raw materials for VAT exempted output | No credit | Rule 40(3)

Common Cost (raw materials or overheads) | Proportionate of sales | Rule 40(4)

  78. Input tax- Loss of asset \- In case of loss of asset by fire, steal, accident or damages, terror, rotting, expiry of period of consumption or similar events make loss of assets or dispose at lower rate, then input tax credit (for new items) or credits already allowed as input tax is allowed at following stage as per Sec.16B and Rule 39A:

  *     * Registered person has to apply to Inland Revenue Office within 30 days of loss, damage, expiry or whatever in writing.

  * Inland Revenue Department shall form an investigation committee to find the fact. Committee shall investigate and finalize the quantum of tax credits to be allowed. Report of committee is to be executed by Inland Revenue Office to the extent of Rs.1 lakh and higher by Inland Revenue Department.

  * If loss granted by tax administration, input tax credit on items already claimed as input is continuously allowed and new item can be claimed for input tax credit.

  79. Input tax- Documentation \- Input tax credit is availed upon the following documentations:

Input tax credit on local purchase:

  * Tax Invoice of purchase (no abbreviated tax invoice except issued by ECR for high-speed diesel).

  * In case of purchase from governmental agency or international agency or wood-sellers (see Sub-chapter for Persons collecting tax other than registered person), VAT paid is eligible without tax invoice as per Sec.17(5), see .

  * PAN and name of the buyer need to be mentioned in Tax Invoices.

  * Purchased item should use or intend to use in the business.

Input tax credit on import:

  * Import related documents (pragyapan patra, commercial invoice, VAT paid slip, etc.).

  * In case of goods were released on dharauti, evidence supporting that has deposited into revenue.

  * Purchased item should use or intend to use in the business.

Input tax credit on reverse charging:

  * Imported service invoice

  * Purchased service should use or intend to use in the business.

  80. Input tax- Stock at the time of registration \- VAT input tax credit is availed for purchase by registered person only. But, as per Rule 43 (1), a person, at the time of registration, if any stock or capital items are in stock purchased through valid VAT creditable documents shall apply to a Tax Officer in form of Schedule 16 of VAT Regulation, 2053. The stock in this form deemed as purchased after registration. One point requires to be considered is that the purchases before 12 months cannot be taken as input for VAT computation.

  81. Tax payment - The excess of tax collected during a tax period (output tax) over tax paid on purchases (input tax) during the same tax period shall be paid to revenue within 25 days of the end of the tax period in form of cash or bank transferred. In case of delay, additional duty to non-payment at 10% p.a. and an interest of 15% p.a. on due amount is levied.

As already mentioned, there are some persons who collect VAT without registering in VAT (GON, Local Authorities, International Organizations & Missions, wood sellers). The act is unclear on the date and method of payment of VAT so collected whether to deposit VAT at once of collection or within 25th days of next month. As per words for other registered person, it would be the date within 25th day of closure of month of collection of VAT.

  8. Full Credit\- Dhablakoti Ltd. is producing bottled beer. During the month, it purchased Rs.300,000 construction materials, Rs.600,000 bottle crown, Rs.1 million malt and Rs.100,000 stationary. Construction materials was for office building. Out of bottle crown and stationary, 80% is found in stock. During the month it sold Rs.3 million from old stock. How much input tax credit availed?

Here, output is VAT attractive, none of the purchase are qualified for partial or no VAT, hence all the purchase are qualifying for input-tax credit.

 | Taxable Value | Input tax | Output tax

---|---|---|---

Sales | 3000,000 |   
 | 390,000

Construction Materials | 300,000 | 39,000 |

Bottle Crown | 600,000 | 78,000 |

Malt | 1,000,000 | 130,000 |

Stationary | 100,000 | 13,000 |

Total |   
 | 260,000 | 390,000

  9. Full Credit, Sales not started\- Sallakoti Ltd. is producing can beer. During the month, it purchased Rs.300,000 construction bricks, Rs.600,000 marble, Rs.1 million iron rod and Rs.100,000 stationary. Construction materials was for factory building. After completing factory buildings, its production shall be started. How much input tax credit availed?

Here, output is VAT attractive, none of the purchase are qualified for partial or no VAT, hence all the purchase are qualifying for input-tax credit (assuming VAT registered).

 | Taxable Value | Input tax

---|---|---

Construction bricks | 300,000 | 39,000

Marble | 600,000 | 78,000

Iron rod | 1,000,000 | 130,000

Stationary | 100,000 | 13,000

Total |   
 | 260,000

  10. Credit without Tax Invoice – List the input tax credit vehicles those are eligible for credit. Is there any chance where input tax credit is availed without Tax Invoice?

Tax invoice is major and default supporting to claim input tax credit. Apart from tax invoice, there are some cases where input tax is allowed without tax credit supporting:

  1. Bills from Electronic Cash Register.

  2. VAT paid voucher against wood from forest.

  3. VAT paid voucher against reverse charging.

  4. VAT paid voucher against import.

  5. VAT collected by GON, Local Authorities or INGOs u/s 15(3).

  11. Export and Credit\- Dharmakoti has net income of Rs.500,000.00 from export of merchandise. Office overhead cost excluding VAT was Rs.200,000 and gross profit was 20% on sales. 50% of cost of goods sold attracting VAT. Find VAT consequences.

Here, Gross profit is Rs.700,000 so sales Rs.35,00,000 and cost of goods sold Rs.28,00,00. So, VAT paid purchase is Rs.1600,000 (1400,000+200,000) and hence VAT paid is Rs.208,000. Assuming export was VAT attractive items, input tax credit availed is Rs.208,000 and can claim for refund under Sec.24.

  12. Export and Proportionate Credit\- Bastakoti Ltd. has following transaction during the month, find VAT credit allowable for the coming month:

Opening Credit | 10,000

---|---

Purchase net of VAT | 1000,000

Salary for the month | 100,000

Purchase of a car with VAT | 1130,000

Purchase of Office Supplies | 100,000+VAT

Sale- Local | 1000,000

Sale- Export | 1000,000

Out of sales one half is vat attractive.

Here, out put is mixed- VAT exempted and VAT attractive both. Sales ratio is 50% and input cannot be related with output. In such situation, input tax credit is allowed in proportion of sales, i.e. 50%.

 | Taxable value | VAT paid | Input tax credit

(50% of eligible)

---|---|---|---

Opening Credit |   
 |   
 | 10,000

Purchase net of VAT | 1000,000 | 130,000 | 65,000

Salary for the month | 0 | 0 | 0

Car purchase with VAT (40%) | 1,000,000 | 130,000 | 26,000

Purchase of Office Supplies | 100,000 | 13,000 | 6,500

 |   
 | 273,000 | 107,500

 |   
 |   
 |

Sale- Local | 500,000 |   
 | 65,000

Sale- Export | 500,000 |   
 | 0

 |   
 |   
 | 65,000

VAT payable (refundable) |   
 |   
 | (42,500)

Since export is more than 40%, credit of Rs.42,500 can be claimed as refund.

  13. Proportionate Credit, direct relation\- Jalakoti P. Ltd. sales vegetables. During the month following sale and purchase (VAT to be adjusted) made. Find VAT impact.

 | Purchase | Sales

---|---|---

Garlic | 20,000 | 10,000

Potato | 20,000 | 10,000

Vegetables | 20,000 | 30,000

Tea | 20,000 | 30,000

Purchase of Office Supplies | 20,000 | 10,000

Here, output is mixed- VAT exempted and VAT attractive both.

 | Purchase | Sales | Remarks

---|---|---|---

Garlic | 20,000 | 10,000 | VAT attractive

Tea | 20,000 | 10,000 | VAT attractive

 | 40,000 | 20,000 | VAT attractive

 |   
 |   
 |

Potato | 20,000 | 30,000 | VAT Exempted

Vegetables | 20,000 | 30,000 | VAT Exempted

 | 40,000 | 60,000 |

Office Supplies | 20,000 |   
 | Mixed

Purchase of Garlic (HS code 0703.20.00) and tea is VAT attractive, so purchase (Rs.40,000 VAT Rs.5,200) is allowed for input tax credit. Out of Office supplies, 25% is eligible for input tax credit, i.e. Rs.650 (Rs.20000*25%*13%).

  14. Export of exempted items is less competitive- Exporting of exempt item is costlier than VAT attractive items in the line of destination principle. Let take an example of handicraft here:

 | Cost | VAT | Total cost

---|---|---|---

Wood | 2000 | 260 | 2260

Chemical and nails | 200 | 26 | 226

Paints | 100 | 13 | 113

Labor | 400 | 0 | 400

Factory repair | 20 | 2.6 | 22.6

Factory depreciation | 100 | 0 | 100

Other cost | 300 | 39 | 339

Total Cost | 3120 | 340.6 | 3460.6

 |   
 | 10.9% |

Handicraft is exempted item for VAT Act, 2052. So, the cost of exporter is, in above case, Rs.3460.60; if it would be VAT attractive, the cost would be Rs.3120. Hence, exporter of Nepal cannot export any handicraft at below than Rs.3460.60 plus export formalities cost and transport, whereas, its competitor shall sell at that price with 10.9% of profit. In case of export of exempted items, Nepal is levying VAT at certain level.

  15. Reverse Charging Credit\- Gairikoti P. Ltd. a VAT registered firm received some service from India. The bill was Rs.100,000. Company paid Rs.13,000 as reverse charge. During the month company has sales of Rs.1 million. Find VAT impact.

Here VAT paid is Rs.13,000 and collection is Rs.130,000. VAT paid without bill is allowed as credit in the case of reverse charging.

  16. Credit on dharauti\- Bhinakoti Co-operative working in Nala Kavre has imported Rs.100,000 costing material from India on Chaitra. Custom Office confused on import code and custom rates. Preliminarily, it set 30% custom and accordingly, the goods were cleared. The confusion were sent to Custom Department, which latter on Jeth it fixed the rate of custom at 5%. On clearing goods, Bhinakoti Kept Rs.30000 as Custom and 16,900 as VAT in dharauti. All the goods were sold during Chaitra. What shall be the VAT accounting?

Here VAT paid is Rs.16,900 is not on the account of VAT fixed, it was dharauti. According to Sec.12(8), input tax credit is allowed as and when the collector settled it as consideration. Dharauti cannot be claimed as input tax in chaitra or in Baisakh. Input tax credit of Rs.13,650 is allowed in Jeth only.

  17. Cases of dharauti\- No credit on VAT paid in form of dhàrauti is allowed. This cases is usual in importation of goods (regular import and import-back of exported goods). Few cases, advances against goods sales are not similar situation, where advances include the VAT amount too.

  18. Assessment on market value\- Burlakoti Ltd. is a trading company sales Tibet imported garlic. During the month it sold Rs.200,000 garlic to its dealer Durakoti in Dhulikhel at Rs.100 per kilogram. In the mean-time, dealer and director of the company became close relatives due to marriage between two families. Next month, consideration were reduced to Rs.50 per kilogram.

Partial consideration to be valued at market rate (Sec.12(7).

  19. Remaining Stock at deregistration- Durakoti P. Ltd has following fixed assets and trading stock. The company is going to liquidate. Find VAT impact on liquidation:

 | Carrying Amount Rs. | Market Value Rs. | Remarks

---|---|---|---

Property Plant and Equipment |

20,000 |

unknown | Accumulated depreciation Rs.100,000

Trading Stock | 20,000 | 10,000 |

Receivables | 40,000 | 10,000 | Rs.5000 VAT credit

Liability | -20,000 | -20000 |

 | 60,000 | 0 |

All assets deemed to be sold at market value ~Sec.11(3).

  20. Credit of asset shifting to exempt-business- Durakoti P. Ltd, in has shifted to exempted business, find VAT impact on liquidation.

All assets deemed to be sold at market value ~Sec.17(4).

  21. Output tax in case of partial consideration- Barakoti Ltd. is a trading company sales imported goods. Normal price is Rs.1000 per unit. One unit is sold at Rs.600 being a friend. Find VAT.

Partial consideration to be valued at market rate (Sec.12(7).

  22. Credit in case of partial consideration- Sidhakoti Impex purchased the goods sold by Barakoti Ltd. at Rs.600 per unit. Normal selling price is Rs.1000. Tax invoice was issued at Rs.600 and it is informed that Barakoti Ltd. paid VAT at market value of Rs.1000. How much VAT is allowed as credit?

Partial consideration to be valued at market rate (Sec.12(7) in case of seller, but buyer can claim input tax credit based on tax invoice i.e. paid value only.

  23. Credit in barter- Kalikoti Ghee Ltd. exports 100 quintal vanaspati ghee to Tibet under barter of 10,000 set of sandles. Market price of sandle is valued at Rs.100 for the purpose of custom. What shall be the VAT impact?

Here, sale value of sales is Rs.1000,000 (market value of incoming goods as per NAS/IAS18). VAT charging on sales is zero because of export. In case the barter is within Nepal, these value were taken as taxable value of sales.

  24. Credit in barter- Kalikoti Ghee Ltd. exports 100 quintal vanaspati ghee to Tibet under barter of 1,000 lambs. Market price of a lamb is valued at Rs.2,000. What shall be the VAT impact?

Here, lambs are vat exempted; but VAT on export is zero rated.

  25. Credit by used goods dealer- Mehakoti Ltd. is dealing with used goods. During the month following transaction were done.

 | Purchase

(including VAT) | Sales

(before VAT) | Remarks

---|---|---|---

Chairs |   
 | 22,000 | Last month purchase Rs.12,000

Tables | 20,000 | 22,000 |

Rack | 40,000 | 30,000 |

Black Table | 10,000 | 8,000 |

Red Table | 10,000 |   
 | Still in Stock

 | 80,000 | 82,000 |

Here, VAT is chargeable in the sales value excluding VAT and purchase value with VAT and in case, there is loss tax invoice need not be issued.

Taxable Value=Sales-Purchase price including VAT on individual basis.

In the above example, Rack and black table are sold at lower then VAT included cost, in both case tax invoice need not be issued nor VAT can be offset as per Rule 19. There shall be no VAT credit or refund in case of used goods dealer. In the profit making cases:

 | Purchase

(including VAT) | Sales

(before VAT) | Taxable Value

(Sales- Purchase) | VAT

(Payable)

---|---|---|---|---

Chairs | 12,000 | 22,000 | 10,000 | 1,300

Tables | 20,000 | 22,000 | 2,000 | 260

 | 32,000 | 44,000 | 12,000 | 1,560

  26. Used goods dealing as normal- Mehakoti Ltd. in above, if treat the transaction as normal trading, what shall be VAT impact?

Here, all VAT paid purchases (including overheads and other cost as usual) are eligible of input and sales during tax period is output as:

 | Taxable Value | Tax | Notes

---|---|---|---

Output | 82,000.00 | 10,660 | 82,000*0.13

Input | (70796.00) | (9,204) | 80,000/1.1.3

Value Add (Credit) | 11,204 | 1,456 |

  27. Delay payment by registered person- Sapkota Impex filed VAT return for Manshir with VAT payable Rs.110,000. Payable amount could not be paid till Falgun. In Magh Rs.10,000 is credit. Find fine and interest impact.

Here 15% p.a interest under Sec.26 and 10% p.a. additional duty under Sec.19(2) is levied.

  28. Delay payment by un-registered person- Jaukota Impex sold some trees grown in the factory side and collected VAT as per Sec.12A. VAT collected was Rs.100,000 in Manshir. Payable amount could not be paid till Falgun. Find fine and interest impact.

Here 15% p.a interest under Sec.26 and 10% p.a. additional duty under Sec.19(2) is levied, even the person is un-registered.

  29. Delay payment due to assessment by Tax Officer - Hastikota Impex paid self assessed tax on 2069 Magh. Around 4 years of filing of return, Officer assessed Rs.20,000. Find fine and interest impact.

Here, there was payable in the month concerned, any additional tax on the month of payment is subject of 15% p.a interest under Sec.26 and 10% p.a. additional duty under Sec.19(2). Debit or credit position thereafter shall not be considered.

  30. Delay payment due to finding an error- B. Ent. filed VAT return on due date. After 20 months from date of filing, one bill found not totaled having Rs.20000 sales. What shall be VAT impact?

This sales Rs.20,000 is to be declared in 20th month and interest need to pay for the period.

  31. Proportionate Credit\- Mixed Ltd. dealing with sale of dairy products. Following are purchase during the month, find the amount of value added tax to be paid by Mixed Ltd:

Opening Credit | 10,000

---|---

Purchase of capital items net of VAT | 1000,000

Wage paid to capital equipment operation | 100,000

Salary for the month | 100,000

Purchase of a car with VAT | 1130,000

Purchase of Office Supplies | 100,000+VAT

Sale-fresh milk and curd | 1000,000

Sale- Ghee and Paneer | 1000,000

Sale- Pasturised Milk in Plastic packet | 1000,000

During the month, plastic granules imported on 3 months earlier at Rs.100,000 has fired and damaged. VAT credit was taken at 30% on last month. Milk Purchase ledger for the month was destroyed on the same fire.

  32. Proportionate Credit, Common\- Calculate VAT credit available in the following cases:

Purchase under VAT Rs.300,000

Wage paid Rs.100,000

Telephone cost Rs.20,000

Other overhead attracting VAT Rs.50,000

Sales books Rs.400,000 copy Rs.100,000

  33. Loss of assets, first point credit\- Garlic was lost by fire in the month of purchase in . What shall be the VAT impact?

  34. Loss of assets, credit already taken\- After laying in stock for 4 month after purchase in , stock of black tea found loss due to expiry. What shall be the VAT impact?

  35. Credit on purchase before registration\- Siwakoti JV is small contractor purchased cement bags amounting Rs.1130,000 including VAT on Chaitra. After these purchases, JV get it registered with VAT and make a construction bill of Rs.500,000 within Chaitra. What shall be the VAT impact?

  36. VAT on bad debt- If the business writes off a Bad Debt, can VAT previously reported on a Tax Invoice/ VAT return and paid to the authorities be recovered?

  37. Taxable value\- When an engineer employed by an entity in another country is seconded to an entity in Nepal, and the charge is actual cost of Rs.100,000 plus a 5% fee of Rs.5,000, what is the value for VAT? Is it Rs.5000, 100000 or 105,000?

  38. Taxable value\- Healthy Bottlers Pvt. Ltd. is a manufacturer of glass bottle packaged beverages. The Company supplies packaged bottles of beverage, billing the selling price of the beverage. In addition to that, it gets certain amount from the dealers as deposit for the glass bottles supplied to them. When the dealer returns the empty bottles, the amount of deposit is refunded. A tax officer, during his inspection of the company, found that bottles worth Rs.2, 00,000 were not in physical stock. He made tax assessment under section 20 of the VAT Act and treated the shortage of bottles as sold by the company. The company had proved that the bottles were in stock with various dealers in due course of return. However, the tax officer did not accept the contention and charged tax and penalty on the deemed sales of the bottles. Critically examine the contention of the tax officer. [2009 June]

  39. Catch up effect\- Mr. Deshmukh, an importer imported certain goods at Rs 50,000. No VAT was paid on its import. The goods passed to the final consumer through a retailer. Both middlemen incurred Rs 1,000 each for administration expenses. Both middlemen charged 15% profit margin on selling price. Find Cost price to the final consumer and VAT payable to the government at each stage. [2009 June]

  40. [2003- Dec] -M/S 'X' Co. Ltd (Hydro power Generation Electricity Company) whose total turnover in F/Y 2059 /60 is Rs.150 crores and net profit before tax is Rs.20 crores. The company has entered into a contract for Rs.60 crores with 'Y' Ltd of India (Registered in VAT in Nepal) to erect and install one Hydropower project in Nepal. 'Y' Co. Ltd. has taken few equipment on hire from 'X' Co. Ltd. and paid hire charges to 'X' Co. Ltd amounting to Rs.18 lacs in the financial year. What rates of TDS will be applicable on the payment of this hire charges and also state the implications if any, of Value added Tax Act on the said companies.

  4. # Tax Refund

  82. Over paid VAT\- As discussed above registered person need to pay VAT at the amount which is over then input tax credit available to it.

VAT Payable = Output tax - Input tax credit

When the difference is +ve, the amount need to and if the difference is –ve, it shall be credit for the next tax period. According to Sec.24(1), this credit can be set off with output tax of next tax period. By this way, there shall be continuous credits for a person too.

VAT Credit (carried forward) =Opening Credit + Input tax - Output tax

Registered person can claim a refund of VAT on these credits with defined conditions.

  83. Refund for registered person - There are two cases, where refund to registered person is allowed in regular condition:

Continuous Six Month Credit\- If registered person has continuous credit of VAT for six months; credit is eligible for VAT refund as per Sec.24(3). After continuous six months, registered person can claim the refund; but claim should be made within 3 years of month of so credit raised as per Sec.25A. Continuous six months may starts from any month, because VAT has not concept of year-end or cut-off date.

Significant Exporter\- In case any registered person has export during the month at least 40% of total sales in that month, the credit is eligible for VAT refund as per Sec.24(4).

Effect of Claim of Refund\- When a person applied for the refund of the tax under either method, cannot claim for set-off against the tax payable even the refund were not done. In case, IRO refuses the refund claim, it issues a credit note for crediting in VAT return.

  41. Carried forward credit\- Chamling Co-operative Ltd. working in Bhojpur has sales Rs.500,000. During Chaitra month it purchased furniture Rs.100,000; trading stock Rs.400,000 (30% laid in stock under FIFO); telephone bills Rs.10,000; stationary purchased and used in last month Rs.10,000 were not claimed in VAT. All the items of sale of purchase were under Tax Invoice.

Here, all the items are VAT attractive and output is VAT attractive. Cooperative can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items.

Particulars | Taxable Amount | Output Tax | Input Tax | Net Tax

---|---|---|---|---

Sales | 500,000 | 65,000 |   
 |

Purchases | 520,000 |   
 | 67,600 |

VAT Payable |   
 |   
 |   
 |

VAT Credit carried forward |   
 |   
 | 2,600

  42. Carried forward credit\- Bantawa Ltd. working in Bhojpur has following sales and purchases without VAT. Can refund claim in Falgun return?

Month | Sales | Purchase

---|---|---

Bhadra | 500,000 | 600,000

Aswin | 520,000 | 500,000

Kartik | 600,000 | 500,000

Mansir | 450,000 | 500,000

Push | 320,000 | 500,000

Magh | 400,000 | 500,000

Falgun | 350,000 | 500,000

Here, all the items are VAT attractive and output is VAT attractive. Company can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items.

Month | Sales | Purchase | Output

Tax | Input

Tax | Credit

---|---|---|---|---|---

Bhadra | 500,000 | 600,000 | 65000 | 78000 | -13000

Aswin | 520,000 | 500,000 | 67600 | 65000 | -10400

Kartik | 600,000 | 500,000 | 78000 | 65000 | 2600

Mansir | 450,000 | 500,000 | 58500 | 65000 | -6500

Push | 320,000 | 500,000 | 41600 | 65000 | -29900

Magh | 400,000 | 500,000 | 52000 | 65000 | -42900

Falgun | 350,000 | 500,000 | 45500 | 65000 | -62400

Here, Rs.2,600 need to pay in Kartik. None of credit reached for continuous six months and hence cannot claim any refund.

  43. Carried forward credit\- Rai Ltd. working in Bhojpur has following sales and purchases before VAT. Can refund claim in Falgun return?

Month | Sales | Purchase

---|---|---

Bhadra | 500,000 | 600,000

Aswin | 520,000 | 500,000

Kartik | 520,000 | 500,000

Mansir | 450,000 | 500,000

Push | 320,000 | 500,000

Magh | 400,000 | 500,000

Falgun | 350,000 | 500,000

Here, all the items are VAT attractive and output is VAT attractive. Company can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items.

Month | Sales | Purchase | Output Tax | Input Tax | Credit

---|---|---|---|---|---

Bhadra | 500,000 | 600,000 | 65,000 | 78,000 | -13,000

Aswin | 520,000 | 500,000 | 67,600 | 65,000 | -10,400

Kartik | 520,000 | 500,000 | 67,600 | 65,000 | -7,800

Mansir | 450,000 | 500,000 | 58,500 | 65,000 | -14,300

Push | 320,000 | 500,000 | 41,600 | 65,000 | -37,700

Magh | 400,000 | 500,000 | 52,000 | 65,000 | -50,700

Falgun | 350,000 | 500,000 | 45,500 | 65,000 | -70,200

For Falgun tax return, last continuous six month is Bhadra. There is continuous credit of Rs.7,800 for last six months. Company can claim a refund of Rs.7,800 in Falgun.

  44. Significant Export\- Rujhali Ltd. working in Terhathum has following expected sales and purchases without VAT. How much refund can it could expect?

Month | Sales | Purchase | Export | Capital Expense

---|---|---|---|---

Bhadra | 500,000 | 600,000 | 45% | 45%

Aswin | 520,000 | 500,000 | 45% | 45%

Kartik | 600,000 | 500,000 | 45% | 45%

Mansir | 450,000 | 500,000 | 45% | 45%

Push | 320,000 | 500,000 | 45% | 45%

Magh | 400,000 | 500,000 | 45% | 45%

Falgun | 350,000 | 500,000 | 45% | 45%

Here, all the items are VAT attractive and output is VAT attractive. Company can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items. VAT Credit or refund is not based on whether the purchase is for capital input or raw materials or overheads, so all the purchase is qualifying for credit or refund, as the case may be.

Month | Sales | Purchase | Export | zero rated | Local

Sales | Output

tax | Input

Tax | Credit

---|---|---|---|---|---|---|---|---

Bhadra | 500,000 | 600,000 | 45% | 225000 | 275,000 | 35,750 | 78,000 | -42,250

Aswin | 520,000 | 500,000 | 45% | 234000 | 286,000 | 37,180 | 65,000 | -27,820

Kartik | 600,000 | 500,000 | 45% | 270000 | 330,000 | 42,900 | 65,000 | -22,100

Mansir | 450,000 | 500,000 | 45% | 202500 | 247,500 | 32,175 | 65,000 | -32,825

Push | 320,000 | 500,000 | 45% | 144000 | 176,000 | 22,880 | 65,000 | -42,120

Magh | 400,000 | 500,000 | 45% | 180000 | 220,000 | 28,600 | 65,000 | -36,400

Falgun | 350,000 | 500,000 | 45% | 157500 | 192,500 | 25,025 | 65,000 | -39,975

Since all the sales have significant export of 40% in all months, credit amount can be claimed every month.

  45. Significant Export\- Naulakha Ltd. working in Terhathum has following sales and purchases without VAT. Company's policy of VAT refund is claim as and when eligible. How much refund it claimed in each month?

Month | Sales | Purchase | Export

---|---|---|---

Bhadra | 500,000 | 600,000 | 45%

Aswin | 520,000 | 500,000 | 25%

Kartik | 600,000 | 500,000 | 45%

Mansir | 450,000 | 500,000 | 35%

Push | 320,000 | 500,000 | 45%

Magh | 400,000 | 500,000 | 25%

Falgun | 350,000 | 500,000 | 35%

Here, all the items are VAT attractive and output is VAT attractive. Company can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items. So all the purchase is qualifying for credit or refund, as the case may be.

Month | Sales | Purchase | Export | zero rated

sales | Local

Sales | Output

tax | Input

Tax | Credit | Refund

---|---|---|---|---|---|---|---|---|---

Bhadra | 500,000 | 600,000 | 45% | 225000 | 275,000 | 35,750 | 78,000 | -42,250 | 42,250

Aswin | 520,000 | 500,000 | 25% | 130000 | 390,000 | 50,700 | 65,000 | -14,300 |

Kartik | 600,000 | 500,000 | 45% | 270000 | 330,000 | 42,900 | 65,000 | -36,400 | 36,400

Mansir | 450,000 | 500,000 | 35% | 157500 | 292,500 | 38,025 | 65,000 | -26,975 |

Push | 320,000 | 500,000 | 45% | 144000 | 176,000 | 22,880 | 65,000 | -69,095 | 69,095

Magh | 400,000 | 500,000 | 25% | 100000 | 300,000 | 39,000 | 65,000 | -26,000 |

Falgun | 350,000 | 500,000 | 35% | 122500 | 227,500 | 29,575 | 65,000 | -61,425 |

  46. Refund of Reverse Charging VAT- Thuling Ltd. working in Chatara has got some service from Kulung Inc. registered and working in the United States. Cost paid for service was Rs.1 million. Company paid Rs.130,000 in IRO as reverse charging payment. Apart from these services, company has not any purchase during the month. Sales amounting the month was Rs.2 million including 1.3 million export. Find VAT implication.

Here, all the items are VAT attractive and output is VAT attractive. Company can offset all the VAT paid purchase since there are not any no VAT items nor partial VAT items. So all the purchase is qualifying for credit or refund, as the case may be.

Sales | 2,000,000

---|---

Local Sales | 700,000

Export Sales | 1,300,000

Output tax | 91,000

Input Tax | 130,000

Credit | 39,000

Refund | 39,000

  47. Non-LC Export-Mr. Shyam, a businessman, submits his VAT return for the month of Falgun according to which total sales for the month was Rs.10, 00,000 and purchase was Rs.6, 00,000. Out of the total sales, Rs.6, 50,000 was export to Tibet (Non L/C). He had no previous debit/credit balance in his VAT return. He claims the refund of the excess tax paid on purchase on 25th of Chaitra. State the time and amount of claim he is entitled to. Also mention the documents (if any) he requires to claim the refund. [2009 June]

  84. Refund for persons other then registered- According to Sec.25, VAT paid by following person or paid for following event may be refunded, upon request for refund within 3 years from the date of transaction on which the claim for refund is based:

a. Diplomats\- Diplomat (privileged on a reciprocal basis from Ministry of Foreign Affairs); person engaged in Regional or International Organization or missions having diplomatic privileges. This refund shall not be allowed for diplomats for purchase of goods or services at a time for less than Rs.1,500 as per Sec.25 (1a).

b. International institution\- Institution or VAT paid by such institution on which Ministry of Finance, has granted the privileges of tax exemption;

c. Projects under bilateral or multilateral agreement\- Tax exemption project by Ministry Of Finance under bilateral and multilateral agreement; and

d. Collection by mistake\- Any tax collected by mistake.

e. Tax refund to a foreign tourist-Foreign tourist visiting in Nepal, if purchased and take goods away from Nepal via air transport (accompanied baggage only) shall refund VAT paid on those assets, if the cost paid is higher than Rs.25,000. A service charge of 3% of refund is charge on refund.

f. Export of hand-arts-If a person exports hand-arts (exempt item) through export trading house, VAT paid on purchase is refundable.

g. Scooter for incapacitated person-VAT paid for scooter for use of incapacitated person is refundable in the certification.

  85. Square Off \- Collection of VAT on sale of goods or service, but same not required to deposit in revenue accounts or need to deposit and gets refund is square off arrangement. There are many items tested and imposed VAT under square off arrangement. For the year 2072.73 Matches (wooden), Tyres, Tubes, dhup, cotton cloth sales by concern Industry are square off items.

  86. Refund as income- In some cases VAT law allows the sellers to collect VAT, pay it into the revenue account as usual registered person. Latter they request for refund. This is the tool to the cost competitiveness to the seller and low price to the buyer. For 2071.72 following are the case of refund. These refunds are availed to the manufacturing industry (in case of cellular mobiles - importer) only.

  * To the manufacturer/producer, if sold to the registered person buyer:

    * 50% of VAT on sale of own product of cloth, oil/ghee, tea

    * 70% of VAT on sale of own product of sugar

  * To the manufacturer/producer, if sold to the anyone buyer:

    * 25% of net VAT from sale of own product maida

    * 50% of VAT on sale of own product of dairy product

    * 25% of VAT on sale of own product from used copper/brass alloy.

  * To the importer of cellular mobile phone, if sold to the registered person buyer: 60% of VAT paid on importation.

  48. Impact of refund-Refunds as explained in above have significant impact in VAT revenue, financial accounting and profit. In the general rule of VAT, it should not be a part of income to the recipient. But in the above cases, state loose not only the VAT revenue, but also pays extra VAT then its real collection. Say, seller collected Rs. 100,000 as output tax and paid Rs. 100,000 VAT for domestic goods/import. As a general rule, it pays nothing being output and input tax is same. In case of refund, it obtains as follows:

Case | Refund Income/ State fund loose

---|---

Cloth, oil/ghee, tea, dairy product | Rs.50,000

Sugar | Rs.70,000

Maida | 0

Used copper or brass alloy | Rs.25,000

cellular mobile phone | Rs.60,000

  87. Limitations for Refund \- Refund has some limitations as:

Small purchase by diplomats\- Diplomats purchasing any item less than Rs.5,000 at a time cannot claim for refund.

Small purchase by tourist\- Tourist purchasing and taking any item Rs.25,000 or less cannot claim for refund.

Duty Meal\- VAT paid for inputs of duty meal for staff cannot be claimed as credit or refund vide circular dated 2056.12.3.

Relevant Person\- In case of any refund is granted to any person or institution, only obliged person can claim for refund as per Sec.25(2) and circular dated 2056.12.3.

Used goods Dealer\- VAT paid by used goods dealers cannot be claimed for refund.

#

  5. # Invoices and Credit Notes

  88. Basic concept for Invoice \- Person selling goods or services need to issue invoice along with the goods or services. The invoice shall be issued by either registered person or other with few exceptions.

Registered person need to issue invoices in prescribed formats, whereas unregistered person may form own format with minimum prescribed requirements. Only format is prescribed but not a specified color paper required for invoices (most country need prescribed color).

Recharge invoices between divisions within a legal entity is not required invoices; but transportation of goods from one unit to another having different location within Nepal need to fulfill the conditions laid in Internal Transport of Commercial Goods Regulating Directives, 2065. Cross boarder transportation to own unit, of course, is an export for VAT.

Invoices under VAT are required to issue directly out of its commercial invoicing systems. This means tax invoices can be used for accounting of transaction, financial statements, income tax and other revenue recognizing accounts.

  89. Tax Invoice \- Registered person need to issue Tax Invoice as prescribed in Schedule 5 of VAT Regulation, 2053 as per Sec.14. The format of Tax Invoice is reproduced here:

P articulars to be filled indicating the kind of goods/services, size thereto, model or brand, if any.

Tax invoices shall be in triplicate, the first copy goes to the buyer, and the second copy is to be kept in a file and shall be produced to Tax Officer as required. Invoice should be printed with 'tax invoice' on the face of it.

Invoice should starts from serial no 1 each year vide circular dated 2055.3.32 and cannot be hand written serial number vide circular dated 2055.7.10. Different branch or departments within same roof can use their own serial at a time vide circular dated 2054.7.29.

In case of general insurance business there is separate type of tax invoice under Schedule 5A of Regulation. There is a unique provision for issuing tax invoice that in case a used goods dealer selling any item more than Rs.10,000 with negative value addition need not to issue tax invoice as per Rule 19. Input tax credit or refund, if any can be allowed upon purchases through tax invoices only.

  90. Consumer Level Tax Invoice \- Inland Revenue Department can direct any person to publish the retail price of specified goods for specific period as per Sec.14(6). In case of such notice is issued, the respective person should not sell or transfer such goods without publishing the retail price of the specified goods. In this case, according to Sec.14(7), person while selling such goods to any unregistered person (even to distributor or whole seller or retailers) shall have to issue the invoice at the consumer price and VAT shall be charged on the consumer price. Distributor or whole seller's or retailers' commission or discounts to be deducted after charging VAT. Such sales to be billed under format given in Schedule 5B of VAT Regulation, 2053. The sketch function of this invoice shall be as:

SN | Particulars | Rate per unit

(Consumer Price Rs.) | Total

Rs.

---|---|---|---

 |

 |   
 |

 |   
 | Total Rs. |

 |   
 | VAT @...% |

 |   
 | Discount |

 |   
 | Net Amount |

It is also provided that in case the person desires to issue such invoice voluntarily while selling such goods to registered person also, it may do so.

  91. Abbreviated Tax Invoice \- In case a retailer request Tax Officer to issue Abbreviated Tax Invoice and if Tax Officer allowed, the retailer can issue such abbreviated tax according to Rule 18 in the form prescribed in Schedule 6. In case, registered retailer authorized for issuing an Abbreviated Tax Invoice, it shall not be issued for amount more than Rs.5,000 including VAT and other duties. In Abbreviated Tax Invoice, name of each goods or rate or VAT amount need to be shown and be issued as 'miscellaneous goods' or similar.

There is a barrier to buyer buying goods or services through Abbreviated Tax Invoice is that, input tax credit cannot be claimed by use of Abbreviated Tax Invoice. In case buyer requires tax invoice, retailer supplier has to issue tax invoice as required by the buyer.

VAT collected on the sales through abbreviated tax invoice shall be computed as follow TAX FORMULA:

Sales amount = Seles including VAT*100

(100+ Rate of VAT)

VAT Collected = Seles including VAT*Rate of VAT

(100+ Rate of VAT)

Electronic Cash Register & Computerized Billing - According to Rule 18A, Inland Revenue Department may direct any person to issue invoices using Electronic Cash Register Machine or computerized billing procedure. In both cases, individually permission for use of prescribed machine is required. Under this power, IRD prescribed 10 business complexes and 22 business for which ECR is compulsory.

  92. Definition of Credit Note\- The document issued to credit to another party without obtaining any payment is Credit Note. In the acknowledgement of Credit Note another party issues the Debit Note. In case, any substance of issued Tax-Invoice has changed (in tune of price, discount, renegotiation or similar cases), the person issues the Credit Note to another party to reduce the receivables.

There is no format for Credit/Debit Note in the Nepal law, but its requirement is somewhat similar as of Tax-Invoice. In many countries, Credit Note is controlled by taxation authority with prescribed format, colored paper or issued by authority on request.

  93. Content of a Credit Note-According to Rule 20, any change in matters of issued invoice due to any reason, the person has to issue debit note or credit note for such changes in value of the goods. Person issuing invoice, conceptually issued a credit note. Even credit note is a crucial matter in tax as many countries has policy of pre-printed credit notes issued by government. Rule 20 has not prescribed format for debit/credit note, but person need to keep a register of such notes. Debit/credit note include following information:

a. Serial Number of the debit or credit note,

b. Date of issue,

c. Name, address and PAN of the supplier,

d. Recipient's name, address, and PAN if a registered person,

e. Serial number and date of the tax invoice concerned,

f. Particulars of the goods/services and reason of issuing note,

g. Amount credited or debited,

h. Tax amount credited or debited.

g. Credit or Debit Note to be maintained in the issued note.

General format of Credit/Debit Note is almost similar as the 'Tax Invoice' and additional requirement is corresponding invoice on which the note has been issued.

  94. Aggregation of retail sales in invoice – In case the retailer (general seller, petrol pump) where abbreviated tax invoice issued to the buyers. Aggregation of those bills requires to be made on tax invoice and enter into VAT sales book. In case of export, Nepal tax invoice is not required, rather commercial invoice is issued, exact amount of tax invoice must issue in this case too.

  95. Invoice by unregistered person-According to proviso under Sec.14(1), unregistered person having annual turnover of more than Rs.1 million, has to issue an invoice, at least, having information regarding name of the firm, address of the firm and PAN of the firm in consecutive serial number of the invoices. Obviously, these invoices should not tag as TAX INVOICE.

  96. Signature in invoice\- In practice, signature in the Tax-Invoice is common in Nepal. Many cases, it seems with stamp too. But the VAT law is silence on it. VAT law says, Tax-Invoice must be issued sequentially and all points must be written.

  49. Forex invoice\- For an invoice raised in a currency other than the local VAT reporting currency,

a. What exchange rate must be used to convert the invoice values into the local VAT reporting currency?

b. Is the exchange rate that must be used a daily or monthly rate?

c. Are there any alternatives available in terms of what rate to be used?

d. Must the foreign exchange conversion be shown on the Tax Invoice?

  50. Taxable Value\- If a contract valued at Rs.1000,000 is completed and the customer refuses to pay the full value because of commercial reasons or dispute and then contractor agrees to reduce the contract price, must contractor continue to invoice the full Rs.1000,000 and then also a credit note for the agreed reduction, or is it sufficient to document the price change in a contract amendment and only to invoice up to the value of the amended contract value?

  6. #  Accounts and Records

  97. Up-to Date Records of Transaction- According to Sec.16 and Rule 23, registered person need to keep its VAT and accounts up to date. In case of person have computerized accounting for VAT, the same need to be up to date too. Purchase Book and Sales Book shall be kept in form as attested by Tax Officer.

According to Sec.16(3A), any unregistered person having VAT attractive business with turnover more than Rs.1 million requires to keep Purchase Book and Sales Book attesting itself.

Dealers dealing with used goods need to keep its records for each assets it purchased and sales.

In case registered person fails to keep records up to date, the fine as:

  * In case attested books not maintained- Rs.10,000 for registered person and Rs.1000 for unregistered person~(Sec.29(1)(chha) and ~(Sec.29(1)(chha1).

  * Documents to be retained for the period of six years as per rule 23(7)- on failure there is a fine of Rs.10,000 for a registered person~(Sec.29(1)(ja).

  * VAT account record if not update - Rs.10,000 for a registered person~(Sec.29(1)(nga).

  98. Types of Records- There are only 3 types of VAT account books. VAT shall be ascertained based on normal accounting documents. According to Rule 23 and Sec.16, a taxpayer has to maintain following records:

a. VAT Account – This is VAT ledger prescribed in Schedule 7 of Regulation. It is summery of purchase or import and sale or export including input VAT and Output VAT. Practically, this record seems not in common use.

b. Purchase book – According to Form prescribed in Schedule 8 of Regulation, registered person and unregistered person having VAT attractive business turnover Rs.1 million or more need to record all transaction of purchase and import in this book. Practically, this record seems mandatory use. In Purchase book, purchases on which input tax credits (even overheads and consumables) to be recorded as purchase. Goods or services without VAT or with VAT but input tax credit is not allowed are to be recorded as exempted purchase.

c. Sales book- According to Form prescribed in Schedule 9 of Regulation, registered and unregistered person having VAT attractive business turnover Rs.1 million or more need to record all transaction of sale and export in this book. Practically, this record seems mandatory use.

  99. Other Records -Apart from above mentioned statutory VAT books, other documents (or computerized records if allowed by Tax Officer) to be kept by a person are as follows as per Rule 23:

  * Records regarding transactions, cash, etc

  * Copies of Tax Invoices and Abbreviated Tax Invoices

  * Tax Invoices received on purchases

Documents regarding import and export

  * Records and copies of Debit or Credit Notes

  * Register of free or sample goods as per Rule 24.

  100. Free or Sample goods- A registered person need to maintain separate records for free goods or samples it received or distributed by it according to Rule 24. The Rule is silence in regards of records for free goods or sample received or distributed by an unregistered person.

  101. Records of a used goods dealer -According to Rule 33, used goods dealers need to keep separate records for each dealing of used goods. Particulars required in such records are described in Sub-chapter 231.

In case a registered person dealing used goods is found not to have satisfactorily maintained the records as prescribe, Tax Officer may impose VAT on the total selling price of the goods sold by such taxpayer, and the tax officer may issue a written order requiring him to pay such tax along with the next tax return.

  102. Records in digital formats -A registered person may, with the approval of the Department, maintain the records required to be maintained using computers or another similar mechanical system or the method as prescribed by the Department. Since, 2072.4.1, person having digital format which produce VAT sales book and VAT purchase book, need not keep certified manual VAT books.

  103. Inspection Records -Tax Officer may inspect the records maintained by a registered person at any time during working houRs.Sec.16 (1A) authorizes Tax Officer to have an access, as and when needed, to the computer database of the taxpayer too. Data base and records shall be in normal access of Tax Officer and need to preserve for six years.

During the inspection, all the records shall make available the details and documents relating to the records demanded by Tax Officer. If Tax Officer seek the copies thereto, person need to make printed at his own expense.

In case of inspection, registered person need to provide necessary staff in order to assist as required by Tax Officer.

  104. Certification of Records -There are required certification of VAT books and some records. Purchase book and Sales book need to be certified by Tax Officer. These certifications are to be done at:

  * tax-payer submits an application to the office for the certification;

  * during the period of tax audit, or

  * at the time of inspection.

Computerized records are to be maintained upon approval from Tax Officer. Electronic Cash Register and Computerized Billing is to be certified as per requirements of Directives.

### PART III ACCOUNTING

# Financial Accounting and Tax Accounting

  105. Income Tax impact on Financial Accounting- Income Tax and Value Added Tax have own technical accounting system. There are certain accounting impacts of income tax and VAT in financial accounts too. Income tax itself has three types of impacts in financial accounting:

  * Current tax expense as per NAS/IAS 12 Income Tax: Income tax payable for the income year concern need to recognize as expense in the books of accounts based on income tax rate and taxable income. These accounting entries are based on tax law but need on accounting and presenting in financial statements. Foreign taxed income is recognized in net of foreign tax in accounting, or in case of CFE no income is recognized in financial statements but need to pay tax.

  * Deferred tax expense as per NAS/IAS 12 Income Tax: Deferred income tax is tax adjustments need to be done on accounting assets or liability. This is purely accounting concept, but figures of deferred tax are based on tax law.

  * Accounting of withholding tax: Withholding tax has direct relation with financial accountings. In case of payment is final withholding taxed, income on financial accounting to be recognized at net, and in case of payment is subject of withholding tax but not final accounting is to be done at gross income.

  106. Value Added Tax impact on Financial Accounting -VAT itself has three types of impacts in financial accounting, except for used goods dealers:

  * Input tax, if allowed, purchases to be accounted in net of VAT: VAT paid as receivables.

In case paid VAT is allowed to set off with VAT collected or may carry forward as credit or may refund, such VAT shall be recognized as 'receivables' in financial accounts.

  * Input tax, if not allowed, purchase to be accounted at gross value paid including VAT: VAT paid as expense.

In case paid VAT is not allowed to set off with VAT collected, such VAT shall be recognized as 'expense' or to capitalize in the concern asset in financial accounts.

  * Square Off: VAT is to be collected but need not to pay or be refunded.

In square off VAT, amount received or refunded to be recognized as income in financial accounts.

  51. Income Tax Expense, Current tax- Rana Impex computed its tax to be paid for income year is Rs.300,000 as per Income Tax Act, 2058. The accounting entry shall be as:

Income Tax Expense (current tax) Dr. 300,000

To Income Tax Payable 300,000

In case the persons is Permanent Establishment, current tax includes corporate tax and repatriation tax both. For the income which is under final withholding tax procedure, no current tax is computed.

  52. Income Tax Expense, Deferred tax- Rupakheti Ltd. computed its deferred tax liability for the year is Rs.200,000. Last year deferred tax liability was Rs.250,000. These calculations were done on temporary difference of all assets and liabilities in balance sheet and tax base as per tax laws. The accounting entry shall be as:

Deferred Tax Liability Dr. 50,000

To Income Tax Expense 50,000

  53. Source for Tax Base – For deferred tax calculation, all the assets and liability tax base requires to be compare with the carrying amount of the respective item. Source of tax-base is income tax law, for the trading stock it is Sec.15 (closing stock for tax). Similarly, for depreciable assets, tax-base is 'opening depreciation base for the next year' as computed in Schedule 2 of Income Tax Act, 2058. For business assets and liabilities, tax-base is net-outgoings u/s38(2) or net-incomings u/s 39(2). Any difference from the tax-base is temporary difference for calculation.

  54. Deferred Tax calculation steps: Deferred Tax is a financial accounting requirement. Following are the calculation steps:

 | Step 0 | Step 1 | Step 2 | Step 3

---|---|---|---|---

 | Carrying Amount | Tax Base | Temporary

Difference | Deferred

Tax

Capital | 1000 | NA | NA | NA

Retained Earning | 1000 | NA | NA | NA

Loan | 1000 | 1000 | 0 | 0

Current Liability | 1000 | 1000 | 0 | 0

Provisions | 1000 | 0 | -1000 | -250

Total | 5000 | 2000 |   
 |

PPE | 2000 | 1800 | 200 | 50

Current Assets | 2000 | 2050 | -50 | -12.5

Preliminery expense | 1000 | 0 | 1000 | 250

Total | 5000 |   
 |   
 | 38.5

  55. Financial Accounting of withholding tax, gross\- Knawar P Ltd. has issued service charge tax invoice of Rs.100,000 and received in time. Then accounting shall be as follows:

At the time of issuing tax invoice:

Named party Dr. 113,000

To Service Charge Income 100,000

To Value Added Tax 13,000

At the time of receiving payments

Bank Dr. 111,500

Advance Tax Dr. 1,500

To Named Party 113,000

  56. Financial Accounting of withholding tax, gross\- Lamsal P Ltd. has received dividend income of Rs.100,000 and paying company withhold Rs.5000 as final tax. Then accounting shall be as follows:

Bank Dr. 95,000

To Dividend Income 95,000

  57. Financial Accounting of VAT\- Dahal P Ltd. has purchased iron rod costing Rs.100,000 and other construction materials Rs.300,000 for wall construction; coca cola Rs.10,000 for worker. Wage paid Rs.100,000. Output of company is VAT attractive. Then accounting shall be as follows:

Compound Wall Construction Dr. 511,300

Value Added Tax Dr. 52,000

To Bank 563,300

(~VAT paid on coca added in cost, other VAT recognized as receivables)

  58. Financial Accounting of VAT\- Dahal P Ltd. in above example, if being food-store (VAT exempted) the accounting shall be as:

Compound Wall Construction Dr. 563,300

To Bank 563,300

(~VAT paid on all items need to added in cost)

***

By Same Author

PSRD Series Book Title (Edition) No. of Copies Year

01/2007 Income Tax and Value Added Tax (1st edn. reprint) 2,200 2064

02/2008 Income Tax and Value Added Tax (2nd edn. reprint) 4,000 2065

03/2008 Deferred Tax: Theory and Example (1st edn.) 2,000 2065

04/2009 Income Tax and Value Added Tax (3rd edn.) 4,000 2066

05/2009 Tax Circulars (1st Edition) 3,000 2066

06/2010 Taxation IPs (1st Edition reprint) 2,000 2067

07/2010 Income Tax and Value Added Tax (4th edn.) 2,500 2067

09/2011 Public Procurement Law (1st edn.) 2,000 2069

10/2012 Income Tax and Value Added Tax (5th edn. reprint) 2,000 2069

11/2013 Income Tax and Value Added Tax (6th edn.) 2,000 2070

12/2013 Taxation IPs (2nd Edition) 2,500 2070

13/2014 Income Tax and Value Added Tax (7th edn.) 2,000 2071

14/2014 Income Tax and Value Added Tax (1st English edn.) 2,000 2071

15/2015 Income Tax and Value Added Tax (8th edn.) 2,000 2072

16/2015 Taxation IPs (3rd Edition) 2,000 2072

For evaluation of taxing system in any country, Please follow the 'Benchmarking Taxation' in Taxation IPs (Dahal, Bhava Nath, 2nd edition, 2013, PSRD Kathmandu, page 1-7)

 Concept and philosophy of permanent establishment taxation is widely described in 'Model Tax Convention (condensed version, 17 July 2008)- published by OECD Committee of Fiscal Affairs- OECD 2008 pp. 80-114. Similar provision with OECD 2010, UN 2011.

 In case of DTAA countries, except Sri Lanka, the tenure is 183 days instead of 90 days. In various DTAAs this period may vary (see IFBD for detail).

 If any payment is subject of withholding tax and recipient is Non-resident, that is always Final Withholding Taxed (FWT) item; conversantly, if any payment received by resident, it is always part of taxable income, even the source country it is taxed as final withholding tax.

 "Employment" is the dominant definition and whether an employment exists is primarily determined according to general law. Employment is typically an earning activity consisting predominantly of the provision of labour by an individual. The definition of "employment" is extended, in particular, to in clued most "managers" of entities, e.g. directors of a company and trustees of a trust... The primary reason for this extension is to ensure that these managers are subject to wage withholding. An alternative approach is to treat the activities of these managers as a business and subject payments to them by their entity to withholding as service fees. Under this approach, tax withheld would be adjusted under the tax instalment system. "Employer" and "employee" are defined in terms of "employment" and all of these terms make it clear that only an individual may be the subject of employment. ~ Commentary of Model Act, IMF.

 "Business" is defined broadly in section 345(Sec.2 in Income Tax Act, 2058) to include trades, professions, vocations, and arrangements with a business character. In this way, the term is used throughout the Sample as a shorthand reference to these types of activities. If a business activity may also be characterised as employment, primacy is given to the characterisation as employment. However, unlike employment, business is an earning activity typically consisting not only of the provision of labor but of the combined provision of labor and capital. ~ Commentary of Model Act, IMF.

 In assessable income which is final withholding in nature, no reduction is allowed.

 "The income tax is primarily targeted at wealth creation or value added. In the context of domestic persons, the income tax seeks to track payments from person to person in order to identify any person by whom or in whose hands value is added and tax that person with respect to the addition. This is achieved though the netting of an intricate set of inclusions and deductions. For example, through a deduction for interest paid on a loan used in conducting a business, part of the apparent value added by a business will be allocated to the lender. Part of this value added allocated to the lender may be further allocated to other persons where the lender claims deductions. The overall system is to tax in full the net value added within a particular economy." ~ para. 141 of Commentary of Model Act, IMF.

 According to Sec.69, dividend from CFE is incomings for the investments; hence, not income having foreign source (here dividend is not based on residency of payer).

 In case any payment paid in advance or in accumulated form, on cash basis of tax accounting tax to be paid at higher marginal rate. In such situation, by the act of parliament, the computation of tax can be split in numerous years, is called Tax Relief in taxation world. GON allows Tax Relief for VRS of its employees in two cases.

 Deferred Income Tax based on temporary difference is accounting phenomenon, not a tax impact.

 Schedule is amending each year by yearly Finance Act/Ordinance, it is strongly suggested to users be update for tax rates for the particular Income Year.

 In some tax regime zero-rated tax is called as lump-sum deduction or lump-sum exemption or basic relief or zero-bracket amount. Similarly, in some tax-jurisdiction, such benefit is allowed by way of credit rather than zero tax (similar to female employment tax credit or medical tax credit), where tax levied fully and reduced the tax liability at equitable basis.

 If there is employment income, tax is charged at 1% instead of 0%. This tax is earmarked with Social Security hence so-called Appropriated Tax. Since 2072.73, pension-earner not require to pay this 1%.

 Similar to BOOT, if transferee is other than GON, is called Investment Properties (Block E for Depreciation) and taxed at default rate of 25%.

 Unlike this option, some tax-economy has different practice as: Ethiopia or Oman-earlier loss first, Denmark- not with interest income, India- depreciation separately.

 The words in Sec.40(3) are extremely subjective and practically, bad debt write off are not allowed, so reversal has not tax impact. The interest waived in case of bank loan has allowed an amnesty to pay tax at 20% in 2064.65 vide Sec.28 of Finance Act, 2064.

 Vide public circular dated 2059.4.28, if 0.5% of salary is added as benefit, cost paid to chauffeur is not includible or cash-payment for the same including fuel.

 This case, interest rate is not given, trial & error IRR 8.856% or use PVIF table.

 Effective Interest rate (IRR) 6-months compounding =((1+r)½ -1)*2.

 As per BAFIA and Directives of NRB, banks in Nepal cannot open any bank account with fictitious name not having legal status; BUT banks in Nepal are opening JV named bank account.

 Scissors transaction- Tax avoidance arrangement by a company trading securities buys controlling shares in a company (so tax rate is 5% final) and resells the company at a loss, which is allowed as set off of loss from its other business income (so tax saving is 25%).

 Software sale shall be service fee- decision dated 2060.6.22. Many software sale would constitute royalty income, the substance to be evaluated based on the contract of sale.

 Sec.24(4) and Sec.28, contradictory each other, NAS/IAS 11 and Sec.28 is similar.

 Any fine or fees on breach of contract is business expense.

 Due to wordings, any expense of an investment company is not allowed, so amendment requires inserting 'except dividend income'.

 Turnover means sum of profit and gain (∑Profit and Gain and inclusions under business, investments and employment)

 A minor investments of GON is enough for this purpose.

 The circular and provision of Sec.5 of Bonus Act, 2030 is totally mismatched. As per Bonus Act, 2030, bonus to be 10% of taxable income, which is deductible expense. In practice, probably no one adopting Bonus Act, 2030.

 Tax is levied on realization basis, but there are so many places where the tax has not based on realization basis rather based on accounting basis (similar in accrual basis). These items based on accrual basis are called 'transactional tax treatment'.

 Conceptually, the returns are of two type- defined return and deferred return. In defined return contract, anyone can reliably estimate the quantum of return during any future period; e.g. 8% 10 years bond earns Rs. 8 in 4th year. Here, the return is defined. Other returns, on which return for particular period cannot be estimated (for tax every six months) are deferred return contracts.

 If there is 'disallowed LLP' in past or present, tax-base of LLP is always 5% of tax-base of loan, bills and NBA.

 Vide public circular dated 2059.4.28, if vehicle facility of 0.5% is added as benefit, cost of chauffeur is not includible.

 If these benefits are regular, cost less contribution is income otherwise this constitutes market price.

 See footnote 32.

 It shall not be personal expenses for the purpose of Section 21 vide Explanation to Section 21.

 This method seems complex (as residential status computation as per Income Tax Act, 2058), but both model prescribed this method. Almost developed country DTAA are in this line.

 Gross up system is paying withholding tax by the payer assuming that has deducted during the payment. The deposited tax is benefit to the withholdee and it behaves like forward shifting of indirect tax.

 Bond Issuer- e.g.- Citizen Investments Trust, Nepal Rastra Bank, Bank Hybrid Bonds.

 But consider Vodafon case in India in similar situation and having similar tax law in India

 Disposal of Shares or securities in Nepalese Entity held by non-resident is source in the country of residency of that non-resident beneficiary –Explanation of Sec.67

 There are good examples, where the source-basis taxation is levied, rather worldwide income of resident is taxed. Hong Kong SAR, South Africa and some Latin American countries till taxed on source only. Hence, if individual from Hong Kong received employment income from UAE, no tax is levied (both in UAE and Hong Kong- double non-taxation).

 The revenue is measured at the fair value of the goods or services received, adjusted by the amount of any cash or cash equivalents transferred. When the fair value of the goods or services received cannot be measured reliably, the revenue is measured at the fair value of the goods or services given up, adjusted by the amount of any cash or cash equivalents transferred.- NAS/IAS 18.12.

 Proportionate Credit has not defined. In practice, Tax Officer and Tax Payers use yearly sales proportion, though there is not year concept in VAT accounting.

 There are numerous difficulties and ambiguities for used goods dealers, practically, and hence such dealers present themselves as normal trader.
