August 1: Nepal has not yet become a completely investment-friendly country, according to a recent report prepared by the US Department of State.

Despite considerable potential – particularly in the energy, tourism, information and communication technology (ICT), infrastructure and agriculture sectors – political instability, widespread corruption, cumbersome bureaucracy, and inconsistent implementation of laws and regulations have deterred potential investment, reads the 2023 Investment Climate Statement issued by the US Department of State.

The report has mentioned political instability as a major obstacle to investment.

“The COVID pandemic coupled with a fresh bout of political instability slowed reform efforts that might have made Nepal a more attractive investment destination. While the Government of Nepal (GoN) publicly states its keenness to attract foreign investment, this has yet to translate into meaningful practice. Despite these challenges, foreign direct investment (FDI) into the country has been increasing in recent years.”

The report further states that corruption, laws limiting the operations of foreign banks, lingering challenges in the repatriation of profits, controlled currency exchange facilities, prohibition of FDI in certain sectors as well as a minimum foreign investment threshold of NPR 20 million (USD 154,000), and the government’s monopoly over certain sectors of the economy (such as electricity transmission and petroleum distribution), undermine foreign investment in Nepal.

Political uncertainty is a continuing challenge for foreign (as well as domestic) investors. Nepal’s ruling parties have spent much of their energy over the last years on internal political power struggles instead of governance, added the report.

“While fresh elections in November 2022, and a new government has raised hopes for political stability, this is not guaranteed. Political instability often engenders policy stagnation and uncertainty.”

Nevertheless, the report states that Nepal’s location between India and China presents opportunities for foreign investors. Nepal also possesses natural resources that have significant commercial potential.

Hydropower – Nepal has an estimated 40,000 megawatts (MW) of commercially-viable hydropower electricity generation potential, which could become a major source of income through electricity exports. Other sectors offering potential investment opportunities include agriculture, tourism, the ICT sector, and infrastructure. The tourism sector is recovering from the downturn due to the pandemic.

According to the report, Nepal offers opportunities for investors willing to accept the inherent risks and unpredictability of doing business in the country and who possess the resilience to invest with a long-term mindset.  While Nepal has established some investment-friendly laws and regulations in recent years, significant barriers to investment remain, including the following reported by the business community:

A lack of understanding of international business standards and practices among the political and bureaucratic class, and a legal and regulatory regime that is not quite aligned with international practices also impede, hinder, and frustrate foreign investors, states the report.

 “Elements of Nepal’s tax regime, in particular, may be inconsistent with international practices, and could trip-up foreign investors as has happened in two cases in recent years.”

According to the report, immigration laws and visa policies for foreign workers are cumbersome.  Inefficient government bureaucratic processes, a high rate of turnover among civil servants, and corruption exacerbate the difficulties for foreigners seeking to work in Nepal.

Nepal’s geography also presents challenges, adds the report.  The country’s mountainous terrain, land-locked geography, and poor transportation infrastructure increases costs for raw materials and exports of finished goods.

Trade unions—each typically affiliated with parties or even factions within a political party—and unpredictable general strikes can create business risk, although this problem, once common, has diminished in recent years.

According to the report, the potential use of intimidation, extortion, and violence – including the use of improvised explosive devices – by insurgent groups targeting domestic political leaders, GoN entities, and businesses remains a source of potential instability, although this threat too has diminished in recent years (the country’s most prominent insurgent group—led by Netra Bikram Chand, also known as Biplav—agreed in March 2021, to enter peaceful politics, for example).

As Nepal has adopted a federal structure, new tax policies will be introduced at the local and regional levels, so there is a danger of investment being affected if double taxation is imposed, mentions the report.

"It is questionable how consistent Nepal's tax system is with international standards," the report said.

The dispute about the capital gains tax on the purchase and sale of ownership of Ncell, the decision made by the Nepalese court are presented as an example.

“In 2019, a Malaysian company, Axiata (owner of NCell, the largest private telecom company in Nepal), was made to pay $450 million for alleged tax evasion over the 2016 transfer of NCell’s ownership from its previous owners, Swedish firm Telia Sonera. The Supreme Court’s verdict on this case has set the precedent for placing buyers on the hook for the tax liabilities of the sellers.”

 The report further said that the US Embassy is aware of at least one U.S.-owned subsidiary in Nepal that is involved in a tax dispute with the GoN. Nepal’s Department of Revenue Investigation (DRI) has taken the company to court under the Income Tax Act 2002 and the Revenue Leakage (Investigation and Control) Act 1996.

The current implication of these cases is that Nepal’s tax regime—particularly the above two Acts—needs to be carefully considered by foreign investors when buying/selling companies in Nepal to understand their local tax liabilities.