Business Income in Nepal — Income Tax Guide

For income-tax purposes, business is broader than buying and selling goods.

It may include:

• trade;

• commerce;

• profession;

• vocation;

• manufacturing;

• service activity;

• consultancy;

• contractual activity;

• organised commercial operations;

• other income-generating activities falling within the statutory definition.

A Chartered Accountant's professional practice, for example, ordinarily generates business income, even though the business is providing professional services rather than selling goods.

Section 7 broadly includes profits and gains from carrying on business.

Typical components include:

Sales and operating revenue

Revenue from goods manufactured, traded or otherwise sold in the normal course of business.

Service and professional fees

Examples:

• accounting services;

• legal services;

• consultancy;

• engineering;

• software services;

• management services;

• repair services;

• professional assignments.

Trading stock

Amounts relating to trading stock are dealt with under the specific statutory computation rules.

Business asset gains

A gain from disposal of a business asset can enter business-income computation rather than being treated under the ordinary natural-person non-business capital-gain regime.

This distinction is important.

Before applying a capital-gain rate to any asset disposal, ask:

Was this property a business asset or a non-business chargeable asset?

Business-related gifts and incentives

A gift received because of a commercial relationship can be business income.

Example:

A distributor receives an expensive item from a supplier after achieving an annual sales target.

Although described as a “gift”, the benefit arose from the business relationship.

It should therefore be analysed as business income, not automatically as a windfall gain.

Compensation and restrictive payments

Payments received in connection with agreeing to restrictions on business activity or arising from other business-related arrangements may also enter business income.

This is one of the most important classification issues.

Interest, rent and royalties normally look like investment income.

However, where such an amount is directly related to the taxpayer's business, section 7 can bring it into business income.

Example — Interest

An individual receives interest from a personal fixed deposit.

Starting classification: Investment income

But a financing company earns interest as the core return from its lending operations.

Starting classification: Business income

The fact that both payments are called “interest” does not mean they have the same income-tax character.

A natural person providing services may be:

• an employee; or

• an independent business/professional.

The label used in an agreement is not always conclusive.

Relevant facts may include:

• employment relationship;

• control and supervision;

• commercial independence;

• ability to serve multiple customers;

• bearing business risk;

• ownership of tools/assets;

• method of remuneration;

• contractual obligations.

If the amount arises from employment, section 8 employment-income treatment takes priority.

A payment should not be treated as a windfall merely because it is unusual.

Ask: Was it connected with employment?

If yes → employment analysis.

Was it connected with business?

If yes → business analysis.

Was it connected with investment?

If yes → investment analysis.

Only after those tests should the windfall-gain provisions be considered.

Assume a resident consultant earns: Professional fees: NPR 3,000,000 and has eligible business expenditure of:

• office rent: NPR 360,000

• employee remuneration: NPR 800,000

• communication: NPR 100,000

• professional software: NPR 150,000

• tax depreciation: NPR 120,000

Assuming all expenses satisfy the statutory requirements: Gross business income: NPR 3,000,000 less

Allowable deductions: NPR 1,530,000 = Indicative taxable business income: NPR 1,470,000

This is only the business-income computation. The person's overall taxable income may require combining other income, losses, concessions and credits.

A business may report: Accounting profit = NPR 2,000,000 but taxable business income may differ because:

• accounting depreciation differs from tax depreciation;

• some expenses are not tax deductible;

• specific statutory deductions may differ from accounting treatment;

• provisions may be treated differently;

• tax losses may be available;

• exempt income may need adjustment;

• capital and revenue treatment may differ.

Therefore:

Accounting profit ≠ automatically taxable income

A tax reconciliation is normally required.

Section 11 provides numerous tax concessions for qualifying activities, sectors, locations and taxpayers.

IRD has separately published the FY 2083/84 Section 11 business concession notice.

Depending on eligibility, concessions may apply to areas including:

• agriculture;

• manufacturing/special industry;

• information technology;

• employment generation;

• exports;

• Special Economic Zones;

• energy projects;

• infrastructure;

• qualifying geographic areas;

• other specified industries.

A concession should normally be applied after determining the underlying taxable income and ordinary tax liability, according to the wording of the particular concession.

A business should retain appropriate evidence including:

• sales invoices;

• purchase invoices;

• contracts;

• bank statements;

• payment evidence;

• PAN/VAT documents;

• payroll records;

• TDS certificates;

• inventory records;

• fixed-asset register;

• depreciation schedule;

• related-party agreements;

• foreign transaction documents;

• supporting vouchers;

• tax returns and reconciliations.

Using accounting profit as taxable income without reconciliation

Treating every receipt as ordinary sales revenue

Treating business-related gifts as tax-free

Treating business-property gains under the ordinary personal capital-gain rules without classifying the asset first

Classifying interest or rent only by the name of the receipt without considering business connection

Claiming expenses simply because they appear in the profit and loss account

• Identify all revenue streams

• Classify each income stream

• Separate employment/investment/windfall amounts

• Identify business-connected investment-type receipts

• Review business asset disposals

• Reconcile revenue with VAT/TDS records

• Reconcile books with bank statements

• Review allowable deductions

• Review non-deductible expenditure

• Calculate tax depreciation

• Review losses

• Check Section 11 concessions

• Reconcile TDS/advance tax

• Prepare accounting-to-tax reconciliation

• Allowable Business Expenses

• Expenses Not Deductible

• Tax Depreciation

• Business Losses

• Section 11 Business Concessions

• TDS on Services and Contracts

• Accounting-to-Tax Reconciliation

• Income Tax Return Filing

Business-income classification can materially change applicable deductions, TDS, return requirements, tax rates and capital-gain treatment. Transactions should therefore be classified on their substance and statutory treatment rather than accounting description alone.