Taxation of Mergers and Acquisitions in Nepal (2025)

The taxation of mergers and acquisitions (M&A) in Nepal is governed by the Income Tax Act, 2058 (2002) (“Income Tax Act”) and the Income Tax Rules, 2059 (2002) (“Income Tax Rules”). While the law does not explicitly define “merger” or “acquisition,” it regulates such transactions through provisions on share transfers, asset disposals, and changes in control—most notably under Section 57. This article examines how Nepal’s tax law treats M&A events, with particular focus on ownership changes, valuation methods, and treaty interactions.

I. Capital Gains Tax on Share Transfers

Capital gains tax is levied on the profit realized from the disposal of shares. This applies equally to M&A-related transfers, whether by individual shareholders or entities and whether through private arrangements or public offerings. The applicable tax rates depend on the nature of the shareholder and type of share.

Where companies issued shares at a premium through a Further Public Offering (FPO) and distributed bonus shares as dividends from the proceeds, such distributions are taxable. The Supreme Court has affirmed that the value of bonus shares issued from FPO-derived funds constitutes income and must be included under Section 56(3) of the Income Tax Act, 2058.

In the context of mergers and acquisitions, any gain resulting from a bargain purchase—where an entity acquires another at a value below fair market value—is subject to tax. The Supreme Court has held that such economic gains represent taxable income under the Income Tax Act, even if they arise through restructuring transaction.

II. Section 57: Deemed Disposal Triggered by Ownership Change

Section 57 of the Income Tax Act provides that where there is a change of 50% or more in a company’s underlying ownership within three consecutive income years, the entity is deemed to have disposed of all its assets and liabilities at market value. Although the tax liability is imposed at the company level, it arises due to a change in ownership at the shareholder level.

The key features of Section 57 include:

• • Tax is computed based on the difference between the market value and the tax base of the assets.

• • Once triggered, the provision mandates tax payment by the company itself, not merely its owners.

• • The taxable amount is assessed based on recognized valuation methodologies.

In Bottlers Nepal v. Inland Revenue Department, the Revenue Tribunal upheld the use of the Discounted Cash Flow (DCF) method to value assets for purposes of deemed disposal. The court confirmed that DCF is a suitable and objective approach and rejected internal transaction documents when unsupported by evidence. Importantly, tax authorities do not have discretion to apply arbitrary valuation models once DCF is judicially upheld.

Section 57 also applies to indirect ownership changes. In Axiata Investments & Ncell Private Limited vs. Large Taxpayers Office, the Supreme Court confirmed that the sale of Reynolds Holdings by Telia Sonera, which resulted in an 80% change in underlying ownership of Ncell Pvt. Ltd. (Nepal), triggered Section 57. The Court held that the provision applies not only to direct share transfers but also to changes in “underlying ownership”—defined to include interests held through multiple interposed entities. The focus is on the shift in economic control, not just legal formalities.

However, exceptions to Section 57 are recognized. These include:

1. Section 57 shall not apply where, in the context of startup venture capital or private equity funds, new shareholders or partners are added and the capital is increased, assuming the number of shares and the capital held by the original shareholders and partners remain unchanged.
2. Involuntary transfers such as those occurring by reason of death or inheritance. A forthcoming Supreme Court judgment may further clarify the extent of this exception.

III. Taxing Mergers: Conditions for Deferral and Neutrality

The Act provides mechanisms for non-recognition of gains in legitimate reorganizations, provided specific conditions are met.

Section 45 allows associated resident persons to transfer business property, trading stock, and depreciable assets at tax base value, deferring tax. To qualify, the assets must retain their character, and there must be continuity of at least 50% ownership.

Section 46 and Rule 16 of the Income Tax Rules provide that share swaps and reconstructions may be treated as involuntary disposals. If the new securities are equivalent in value and the Inland Revenue Department approves the arrangement, gains will not be recognized immediately.

However, these deferrals can be nullified by Section 57. Even when a transaction qualifies under Section 45 or 46, if there is a change in underlying ownership exceeding 50%, the company will still be subject to immediate taxation. This layered interaction necessitates proactive tax structuring and close attention to changes in beneficial control.

IV. Double Taxation Avoidance Agreements: Navigating Treaty Relief

Nepal’s DTAAs with countries provide mechanisms to mitigate double taxation through reduced rates, source-based allocation, or tax credit provisions. In theory, such treaties may protect gains from capital taxation where ownership resides outside Nepal.

However, treaty relief is not always straightforward. The Ncell decision highlighted how DTAA benefits may be denied where underlying ownership is held by entities outside the treaty country. In that case, although the seller was a Norwegian entity, over 75% of its underlying ownership lay with Swedish companies, violating Section 73(5) of the ITA. Consequently, the taxpayer was disqualified from treaty protection. This demonstrates the need for careful tracing of ownership, residency, and beneficial control. For understanding the tendency of Supreme Court on the interpretation of tax treaties, read our article here.

V. Conclusion

Nepal’s tax framework for M&A transactions underscores the importance of ownership analysis, valuation integrity, and procedural compliance. While tax-neutral reorganizations are possible under Sections 45 and 46, the wide scope of Section 57 makes it a critical threshold test for all transactions involving control shifts. Courts have now established that Section 57 applies to underlying ownership changes, including indirect transfers, and that the DCF method is the appropriate standard for valuation. M&A stakeholders must structure deals to preserve continuity where deferral is intended and be vigilant about filing and installment tax obligations when control changes occur.