There is wide disparity in income generating capacity of different provinces in the country, with Province 6 and Province 3 making smallest and biggest contribution to the central government’s revenue, respectively, the latest report of the Ministry of Finance (MoF) shows.

Revenue generated by Province 6 accounts for 0.24 percent of the central government’s total revenue, while Province 3 makes the biggest contribution of 48.56 percent to the federal government’s income.

Among others, Province 2 makes the second biggest contribution of 24.34 percent to the central government’s revenue, followed by Province 5 (15.87 percent), Province 1 (7.89 percent), Province 4 (1.82 percent) and Province 7 (1.29 percent), the MoF report says.

The revenue collected by the provinces, however, should not be seen as a barometer to gauge their income generating capacity to cover their recurrent and capital expenses, according to Revenue Secretary Shishir Kumar Dhungana. “Since provinces have to handover a very big chunk of this income to the central government, they cannot do anything with the money for development of their areas,” Dhungana said.

For example, Province 2 has emerged as the second biggest contributor to the central government’s revenue. But it may not be able to use a big chunk of this income, as most of the revenue comes from the Birgunj Customs Office. Birgunj is the gateway to over 60 percent of the country’s imports. As a result, the customs office in Birgunj collects a big portion of customs duty, value added tax (VAT) and excise duty. This is the same with Province 3, which collects a large chunk of income tax, VAT and excise duty and Province 5, which is home to Bhairahawa and mobilises quite a big portion of customs duty, VAT and excise.

Major sources of revenue in the country are VAT, income tax, and customs and excise duties, which together make a contribution of over 80 percent to the central government’s income. The constitution has said income generated from collection of these taxes and duties will go towards the central government coffers. 

The new Intergovernmental Fiscal Management Act has, however, made it mandatory for the central government to distribute 15 of the revenue generated from value added tax (VAT) among local bodies and another 15 percent among states. Also, 15 percent of excise duties generated from sales of domestic products must be distributed among local bodies and another 15 percent among states. 

In spite of this arrangement on revenue sharing, a World Bank report says tax collection in federal Nepal will not be significantly different from the unitary system, as approximately 80 to 85 percent of the total revenue is likely to remain with the central government. 

This means sub-national taxes will account for less than 1 percent of the gross domestic product, and are likely to represent less than 2 to 3 percent of total general government revenue. 

The Intergovernmental Fiscal Management Act has allowed local bodies to collect property, house rent, real-estate registration, vehicle, land, entertainment, advertisement, business and hoarding board taxes. 

Local bodies are also allowed to impose fees on services, tourism, vehicle parking, rent raised by organisations like trusts (guthis), collection of herbs and scrap, and operation of carts, rickshaws, cable cars and boats. 

The provinces, on the other hand, are allowed to collect real-estate registration, vehicle, entertainment, advertisement, agricultural income, road construction and maintenance, ticket and sin taxes (particularly gambling in casinos and lottery). Provinces can also impose fees on services and tourism, and collect fines.

But historically contribution made by subnational governments in central government’s revenue has remained low in Nepal. For example, own-source tax income of local bodies accounted for 1.14 percent of the central government’s tax revenue in Fiscal Year 2014-15. That share stood at 1.12 percent in 2013-14 and 1.25 percent in 2012-13. 

The contribution of own-source income of subnational governments in central government’s revenue is not likely to change much in the federal set up, because of lack of economic activities in many local bodies and provinces.

“This means local bodies and provinces should put in efforts to enhance compliance rate of taxes and fees that they are allowed to collect. Otherwise their dependency on the central government to fund their expenses will not go down,” Dhungana said.