Rup Bahadur Khadka has over 30 years of experience as an expert in the development and implementation of tax policy, tax legislation, tax administration, inter-governmental fiscal relations and social security system. He has worked on tax policy and administration in countries including Afghanistan, Azerbaijan, Barbados, Mongolia, Solomon Islands and Ukraine. Formerly, he was the member of Permanent Revenue Advisory Board and the Chairman of High Level Tax System Review Commission appointed by the Government of Nepal and Senior Tax Advisor for the USAID funded Strengthening Core Economic Governance Institutions in South Sudan II (CORE II) Project among other positions. Additionally, he has authored books such as the SAARC Tax System (2015) and the Nepalese Tax System (2014).
“If you have a lot of taxes, it increases the cost of compliance of the taxpayer, as well as the collection cost of the government. This results in lower revenue generation”.
He was honored by the Government of Nepal in 2014 for the active role he had played in the design and implementation of VAT and in 2016 for his contribution to overall reform of the Nepalese tax system.
Avant Shrestha of B360º caught up with Dr. Rup Bahadur Khadka at his residence in the capital to talk about his career as a tax expert and the Nepali tax system and its implementation.
What has your life journey been like?
I obtained my Masters degree from Tribhuvan University and joined the Ministry of Finance as a working official right off the bat. One and a half years later I completed my PhD with a dissertation on ‘Commodity Taxation in Nepal’ and I have been actively involved in tax policies and their implementation on the national scale for a while now. Since 2003, I have been working on an international level.
After completing my PhD, I became a member of many task forces and committees in Nepal and was actively involved in the preparation and implementation of VAT. Afterwards, I was also involved in the design of the new Income Tax Act. In 2003, I started working internationally; first as member of the International Monetary Fund technical mission to Barbados then Turks and Kakos Island and after that I worked in almost 20 countries and was involved in tax reform, tax administration, capacity building, conducting tax education programmes, preparing tax policies for various governments.
What is the current situation of the tax system in Nepal?
The overall design of our tax system is not bad; in fact, it is actually good. We have a limited number of taxes; for example, Custom Duties, VAT, Income Tax and Excise Duties. These are four major taxes on the national level. This is a common practice; these taxes are levied throughout the world. Particularly since the mid-80s, there’s been a trend to limit the number of taxes and implement only broad-base taxes.
If you have a lot of taxes, it increases the cost of compliance of the taxpayer, as well as the collection cost of the government. This results in lower revenue generation. So instead of that there is a trend around the world to abolish minor taxes or amalgamating them into larger taxes and having a limited number of broad base taxes. We have a similar situation with the four taxes. And these are modern, common taxes.
How has the Nepali Tax System performed in recent years?
In terms of performance, if you look at the revenue collection; it has been increasing overall 20% for the last 15 to 20 years, and this is a result of the policy of tax reform initiated in the mid-1990s. There were many tax reform programmes… reform of tax system as well as the reform of tax administration. Additionally, VAT was introduced in 1997, in place of the four taxes such as Sales Tax, Hotel Tax, Entertainment Tax and Contract Tax. VAT is a modern, transparent and economically neutral tax. Whenever you levy a tax, these taxes also generate cost to the economy and this level of cost is different. Theoretically, the cost of VAT to the economy is the lowest and that is why it’s called a growth oriented type of tax. It puts less burden on the economy if it is implemented properly.
Plus, there was a new income tax law and this law is fairly modern and transparent and simple, but there are some issues with implementation. Design is very good when you compare it with other SAARC countries or countries around the world. When you compare our structure and their structure, our system is good, but there are implementation issues. And there are also some deviations over the last couple of years. From the original design there are some deviations which I believe shouldn’t have been done, and which need to be “cleaned” in order to reform the tax system.
What are the current problems in the tax system here?
Let us take an example of the VAT system; this tax works well if it is implemented according to its principle. If you deviate from the principle, it becomes less effective. For example, items costing over Rs.5000 you have to buy from VAT registered seller and for business transactions up to 1 lakh, you have to buy from a VAT registered individual. These sorts of small obstacles make VAT implementation weak. These sorts of things weren’t in the original design. Under the VAT system these sorts of exemptions don’t aid the economy.
The best way to implement a VAT system is to make it simple. Business investments should be free from burden of VAT. It happens when tax credit system works properly with refund system, if these two aspects are implemented well, then business isn’t taxed under VAT.
What about the exploitation loopholes in the tax system, what needs to be fixed?
The main thing is the implementation of proper administration in order to check for leakage. Our current system is based on the system of self-assessment, which means taxpayers are themselves responsible to assess their tax and pay these taxes. This system works properly only when tax administration is strong and effective and they carry out effective tax audits. If these things aren’t done properly, then there’s possibility of taxpayers cheating the system.
What is the government doing about tax havens and attempts to exploit tax loops?
I do not know enough to speak about this, but I can tell you that this happens in other countries as well where there are tax holidays.
In some countries there are tax holidays that provide tax incentives or exemption to foreign tax investment. And what happens is that somehow the capitals that are being sent to tax heaven countries enter the country in the form of direct foreign investment in order to take advantage of these tax holidays. Maybe some of these happen here as well but I am telling you based on the experiences of other countries as well.
What policies do we need to prevent cases such as Ncell from repeating?
We have to fix international taxation policies. What are now the best principles and practices regarding international taxation have to be adopted. Now that our country has been transformed into a federal system, both national and provincial governments nowhave authority to levy tax. But they need to be coordinated so that there is no duplication and multiple taxation. This is so that the tax system of one level does not affect that of another level.
Under what criteria does the government levy tax policies?
The main objective of tax is to generate revenue. This means that government levies tax in such a way that it generates required revenue. That is one thing; but on the other hand, it is also necessary to consider other factors. On one hand, it is necessary to levy taxes to generate revenue to develop infrastructure and develop the economy, but on the other, taxation also generates cost to the economy. There is economic cost of taxation, there is compliance cost of taxation, and there is administration of taxation; the government has to balance these things. The government has to balance the costs to the economy during taxation so that it doesn’t inhibit development. At the same time taxation is levied to obtain social objectives, for example in the case of income tax, it is levied with progressive rate which means high income people get higher taxes vs those with low income resultant that after-tax distribution becomes more equitable.
Is the current tax system beneficial to the country?
It is necessary to generate revenue. To develop the economy, to develop infrastructure and for a social security system, taxation is important. But it is also always necessary to try and minimise the negative effect of taxation. Overall it’s the tax system isn’t bad but it is important to make the system transparent and simple. For example, reduce unnecessary documentation and automate tax administration to make it more transparent and less time consuming.
Your book, The Nepalese Tax System is an overview about the Nepali tax system and tax administration and the process of its evolution. In brief could you explain to us the measures for design of a tax system and reforms of tax administration in Nepal?
Well, tax reform must be looked at from various angles. Tax system should be structured in such a manner that it generates revenue. Small unnecessary taxes that make developing businesses difficult and prove to be a hassle to collect and pay must be smoothed out so that the economy can grow without issue. The tax system must be made as simple as possible so that people will comply with it. If someone doesn’t understand the system why would they follow it and follow it well, right? At the same time, we need to spread information regarding the system and ensure that the implementation of taxes is done properly. Administration must be good as well. Just because the tax design is good, it doesn’t assure success of the policy. In the mid-1990s, the focus was largely on tax design, yet those tax designs weren’t applicable to certain countries and their economies. That was how we learned the importance and proper implementation of tax administration.