Allowable Business Expenses in Nepal

CMA Seven-Point Deductibility Test

Before claiming an expense, ask:

1. Was the expense actually incurred?

There should be a genuine liability or payment.

2. Does it relate to the relevant income year?

Timing rules must be considered.

3. Was it incurred to derive taxable business or investment income?

A private expense does not become deductible merely because a business paid it.

4. Is it revenue or capital in nature?

Capital expenditure normally requires separate statutory treatment.

5. Is there a specific provision dealing with the expenditure?

Examples:

• interest;

• trading stock;

• repairs;

• pollution control;

• research and development;

• depreciation;

• losses.

6. Is it prohibited under section 21?

Even commercially reasonable expenditure can be specifically disallowed.

7. Is adequate evidence available?

Invoices, PAN information, bank payment, TDS compliance and other records may be necessary.

Common Categories of Potentially Deductible Expenditure

Subject to statutory requirements, business expenses may include items such as:

• employee remuneration;

• office rent;

• utilities;

• telephone/internet;

• professional fees;

• business travel;

• advertising;

• insurance;

• repairs;

• bank charges;

• interest;

• software/subscriptions;

• business supplies;

• trading stock costs;

• tax depreciation;

• qualifying research and development;

• qualifying pollution-control expenditure;

• bad debts where statutory conditions are satisfied;

• other expenditure directly connected with deriving taxable business income.

Each category must still pass the statutory test.

Employee Costs

Business-related employee remuneration may generally be deductible where:

• genuinely incurred;

• supported by payroll/employment records;

• PAN-related requirements are satisfied;

• TDS has been correctly handled;

• the payment is not personal expenditure disguised as salary.

Maintain:

• employment agreement;

• payroll;

• attendance where relevant;

• bank/payment proof;

• TDS record;

• SSF/PF/CIT records where applicable.

Rent

Business-premises rent can generally form part of deductible expenditure where genuinely incurred for business purposes.

However:

• personal residence portions should be separated;

• related-party rent should be commercially supportable;

• applicable TDS should be deducted and deposited;

• agreements and payment evidence should be retained.

Professional and Consultancy Fees

Examples:

• audit fees;

• legal fees;

• accounting fees;

• engineering fees;

• management consultancy;

• IT consultancy.

Deductibility should be tested together with: business purpose + invoice + PAN/VAT status + TDS compliance + payment evidence.

Interest Expense

Interest requires separate analysis under section 14.

Questions include:

• Was borrowing used to generate taxable income?

• Is part of the borrowing personal?

• Is the borrowing related-party?

• Is it cross-border?

• Does transfer pricing apply?

• Does withholding apply?

• Is any part capitalised or otherwise governed by a special rule?

Therefore:

Loan exists → interest deductible

is not a safe rule.

Trading Stock

Section 15 contains specific rules for trading stock.

Tax computation may require analysis of:

• opening stock;

• purchases;

• production costs;

• closing stock;

• valuation;

• damaged/obsolete stock;

• stock disposals.

Inventory accounting in financial statements and the tax computation should be reconciled.

Repairs vs Improvements

Section 16 requires a distinction between repairs and capital improvements.

Repair

Generally restores or maintains an asset.

Improvement

May increase capacity, extend useful life, substantially alter the asset or otherwise create capital value.

Example: Replacing a small damaged component may be a repair.

Constructing an additional storey on a building is unlikely to be an ordinary repair.

The tax and accounting treatment should both be reviewed.

Pollution-Control Expenditure

Qualifying pollution-control expenditure is dealt with under its own statutory provision.

This can be particularly relevant to:

• manufacturing;

• hospitals;

• industrial facilities;

• environmentally sensitive businesses.

It should not simply be added to ordinary operating expenditure without checking the statutory limits.

Research and Development

Section 18 provides special treatment for qualifying research and development expenditure related to business development or improvement of production/processes.

Acquisition of certain assets/property is subject to separate treatment.

For software development, product development, technical testing and process improvement, examine the nature of the expenditure and the statutory distinction between qualifying research expenditure and acquired assets.

• software development;

• product development;

• technical testing;

• process improvement;

• internally developed intangibles.

Tax Depreciation

Accounting depreciation should normally be added back in preparing the tax reconciliation, with the appropriate tax depreciation deduction calculated separately under section 19 and Schedule 2.

Therefore: Accounting depreciation

≠

Tax depreciation

The tax computation should use the relevant tax asset group, tax pool and prescribed rate.

Business Losses

Section 20 allows eligible losses to be carried and utilised subject to statutory limits.

The current framework distinguishes, among other matters:

• ordinary business losses;

• investment losses;

• foreign-source losses;

• losses connected with exempt income;

• specified infrastructure/project losses;

• change-in-control restrictions.

A loss should therefore be tracked by source and character, not merely as one accumulated balance.

Donation Deduction — FY 2083/84

Finance Act 2083 increases the monetary ceiling for qualifying donations.

The current working limit is the lower of: NPR 300,000

or

5% of adjusted taxable income

The limit applies only to a qualifying donation under the statutory recipient and other conditions.

A donation should not be claimed merely because the business made a charitable payment. The recipient and statutory conditions must qualify.

CSR Expenditure — New FY 2083/84 Provision

Finance Act 2083 introduces a specific deduction for qualifying Corporate Social Responsibility expenditure required under prevailing law.

The deduction is subject to a ceiling of 1% of total taxable income under the new provision.

This should be distinguished from:

• ordinary donation;

• advertising/sponsorship;

• voluntary charity;

• sector-specific CSR obligations.

The business must first determine whether the expenditure qualifies under the applicable CSR law.

Cash Payment Restriction — Important FY 2083/84 Change

Finance Act 2083 significantly tightens the section 21 cash-payment restriction.

The current-year change: Old general threshold: NPR 50,000

New threshold: NPR 25,000 per transaction and the previous turnover-based limitation has been removed, making the rule applicable more broadly.

Example

Business purchases office equipment costing NPR 40,000 and pays entirely in cash.

The expenditure must be reviewed under section 21 rather than assumed deductible.

Exceptions

The Act contains specified exceptions, historically including categories such as certain payments to government/government-owned institutions, specified agricultural producers, locations without banking facilities and mandatory cash situations.

The current statutory exception list should be verified for FY 2083/84 before relying on an exception.

Share and Debenture Issue Expenses — FY 2083/84

Finance Act 2083 changes the section 21 treatment of expenditure incurred in issuing shares or debentures.

The Finance Act 2083 amendment removes share and debenture issue costs from the specified capital-expenditure definition. The remaining deduction conditions still apply.

Apply the ordinary deduction tests before concluding that a particular issue cost is deductible.

Therefore the safer formulation is:

Share/debenture issue expenditure is no longer automatically excluded solely under the former capital-expense treatment, but its actual deductibility must still satisfy the remaining Income Tax Act requirements.

Documentation Checklist

For every material deduction:

• Invoice/bill obtained

• Supplier identity verified

• PAN included where required

• VAT invoice obtained where applicable

• Business purpose documented

• Payment evidence retained

• Cash-payment restriction checked

• TDS requirement checked

• Capital/revenue treatment checked

• Related-party relationship checked

• Contract/agreement retained

• Expense recorded in correct FY

• Tax adjustment documented

• Supporting evidence retained for audit

Example — Accounting-to-Tax Adjustment

Accounting profit before tax: NPR 5,000,000

Included in accounting expenses:

• accounting depreciation: NPR 600,000

• personal director expense: NPR 150,000

• income-tax penalty: NPR 50,000

Tax depreciation allowable: NPR 800,000

Simplified reconciliation: Accounting profit: NPR 5,000,000

• accounting depreciation: NPR 600,000

• personal expense: NPR 150,000

• non-deductible penalty: NPR 50,000

− tax depreciation: NPR 800,000

= Indicative taxable income: NPR 5,000,000

The example illustrates why merely reading the accounting profit is insufficient.

Common Mistakes

Claiming every P&L expense

Ignoring TDS requirements

Using accounting depreciation for income tax

Treating capital improvements as repairs

Paying large expenses in cash

Claiming personal expenditure paid through the company

Claiming donations without checking the statutory recipient/ceiling

Treating every CSR payment as automatically deductible

Carrying losses without source/year tracking

Related CMA Resources

• Business Income

• Expenses Not Deductible

• Cash Payment Restriction

• Tax Depreciation

• Business Losses

• Donation Deduction

• CSR Deduction

• Interest Expense

• Repairs vs Capital Expenditure

• Accounting-to-Tax Reconciliation

• TDS on Services and Contracts

Further guidance and practical checks

Tax deductibility should be established from the Income Tax Act rather than the accounting ledger alone. Evidence, payment method, withholding compliance and the purpose of expenditure should be reviewed together.