Despite the government's target of increasing revenue relative to gross domestic product (GDP) over the next five years, experts believe achieving this goal will be challenging. Since the COVID-19 pandemic began, the government has struggled to meet revenue targets, largely due to a sluggish economy and a decline in imports over the past two years.
However, the government's recently released five-year Medium-Term Revenue Mobilization Strategy aims to raise the revenue-to-GDP ratio to 23.5 percent by the end of Fiscal Year (FY) 2028/29. At the end of FY 2023/24, this ratio stood at 18.6 percent, according to the Ministry of Finance. The ministry's data indicates that the revenue-to-GDP ratio fell during two of the last three years, though there was slight improvement last year.
According to the strategy, the tax revenue-to-GDP ratio is projected to rise from 16.2 percent to 20.9 percent within five years. This 4.7 percent increase is expected to result from the implementation of various action plans and revenue enhancement measures included in the strategy. Additionally, tax administration reforms, including customs improvements, are anticipated to contribute an extra 0.1 percent.
The strategy outlines several revenue-boosting measures, such as reviewing personal income tax rates for high earners, reducing the number of items exempt from value-added tax (VAT), raising the minimum VAT threshold, imposing a green tax on petroleum products, and rationalizing non-tax revenue based on costs. Other reforms include improving the e-payment system and strengthening revenue research mechanisms.
Earlier, a high-level advisory committee on tax reform, led by Bidyadhar Mallik, submitted a report with similar recommendations. Tax experts, however, caution that while the proposed reforms are necessary, achieving the revenue target without significant economic growth will be difficult. The economic growth rate, impacted by the COVID-19 pandemic, has remained low. The government estimated economic growth at 3.87 percent last year and has set a target of 6 percent for the current year. The World Bank forecasts 5.1 percent growth for Nepal this year, though this projection was made before accounting for damage caused by recent floods and landslides.
Nepal's revenue-to-GDP ratio was once the highest in South Asia and remains among the region's best. However, the prolonged economic slowdown has contributed to a decline in this ratio. "The easing of economic activity in recent years has affected customs, VAT, and excise duties," Mallik said. He added that Nepal's revenue-to-GDP ratio remains the highest in South Asia despite these challenges.
According to the Ministry of Finance, the revenue-to-GDP ratio peaked at 21.5 percent in FY 2020/21 but fell to 17.9 percent in FY 2022/23. Last year, it improved slightly to 18.6 percent. The decline has been linked to the economic impact of the pandemic and the government's import control policies.
Comparatively, according to the International Monetary Fund, India's revenue-to-GDP ratio in 2022 was 19.39 percent. The OECD Revenue Statistics in Asia and the Pacific 2023 report shows revenue-to-GDP ratios of 10.3 percent for Pakistan, 11.5 percent for the Maldives, and 10 percent for Bhutan.
Mallik believes the ambitious target set in the Medium-Term Revenue Mobilization Strategy is achievable, but only if the economy grows and the recommended reforms are implemented. He emphasized the need for new tax sources and efforts to cultivate a positive attitude towards paying taxes.
Economist Chandramani Adhikari echoed this sentiment, saying that at least 7 percent economic growth is needed to meet the revenue targets over the next five years. He stressed that sustainable revenue growth can only occur through dynamic economic activity driven by increased investment, which in turn raises income and direct tax collections.
Adhikari also noted that nearly half of government revenue is derived from customs duties. As a result, when imports decline, so does tax revenue. About two years ago, the government had to lift restrictions on the import of various goods due to the negative impact on revenue.
The strategy also sets specific tax targets for the next five years. It aims to increase income tax collection to 6.9 percent of GDP. Personal income tax is expected to rise from the current 2.5 percent to 3.7 percent, while corporate income tax is projected to increase from 2.2 percent to 3.2 percent.
Additionally, the strategy targets raising VAT collection to 6.2 percent of GDP within five years. Of this, 2.5 percent is expected to come from domestic VAT, and 3.8 percent from VAT on imports. The Ministry of Finance also aims to increase excise duty collection to 3 percent of GDP, with 2.4 percent coming from domestic excise duties and 0.6 percent from import-based excise duties.
The strategy includes plans to raise customs duties from 3.4 percent to 4.5 percent of GDP. It emphasizes maintaining a balance between the revenue needed for economic and social development and the expectations of the private sector and taxpayers.
Mahesh Bhattarai, joint secretary of the Ministry of Finance, said the strategy focuses on improving the country’s overall tax policy, administration, governance structure, institutional framework, policy implementation mechanisms, and monitoring and evaluation systems. He added that the strategy would serve as a systematic blueprint for restructuring the tax system. "Now, it will be implemented effectively," he said, noting that the government will introduce a progressive tax system that encompasses all income sources.