Accusations leveled against Cotiviti by DRI

Posted by Parajuli Sushil 8 months Ago 3 Comments 80 Min Read

Facts about DRI’s Investigation on Cotiviti

Facts about DRI’s Investigation on Cotiviti

On 31st March 2024, Department of Revenue Investigation “DRI”, (not to be confused with Inland Revenue Department “IRD”) published a press release that it has pressed charges against Cotiviti Nepal Pvt. Ltd. for alleged revenue leakage with a total demand of NPR 10,364,522,642. The investigation claims to have uncovered Cotiviti’s irregularities in share ownership changes and transaction taxes for direct taxes and indirect tax relating to export income. 

The press release provides a detailed account of the investigation, revealing that Cotiviti Nepal Pvt. Ltd., despite being a fully foreign direct investment company, failed to disclose changes in share ownership and control. It is alleged that the company evaded taxes under Sections 57, 95Ka and 5 of the Income Tax Act, 2058 (ITA). Additionally, the company was found to be exclusively providing services to its parent company, Cotiviti Inc USA, while unlawfully benefiting from zero-rated indirect taxes under the Value Added Tax Act, 2052 (VATA). Many individuals from Cotiviti Inc USA associated with the company, are implicated in these offenses. Charges have been formally filed in the High Court, Patan, under the Revenue Leakage (Investigation and Control) Act, 2052.

Here is the link to the press release by DRI: राजस्व अनुसन्धान विभागद्धारा दश अर्व छत्तिस करोड पैतालिस लाख बाइस हजार छ सय वयालिस सजाय मागदावी 
Here is the link to the ongoing case at the High Court, Patan: वादी अनुसन्धान अधिकृत केदार कोइरालाको प्रतिवेदनले नेपाल सरकार प्रतिवादीहरु Cotivity, Inc. मुख्य कम्पनी को सहायक कम्पनी कोटीभिटी नेपाल प्रा. लि., Registration# 07-080–06860 Case# 080-FJ-0159

In the ensuing weeks, we were inundated with a barrage of news cycles centered around this case. Below, I have tried to compile some of the well written news articles on the matter:

  1. एउटै कम्पनीबाट पाँच अर्ब १८ करोड कर छली
  2. कोटिभिटी प्रकरण : हरेक वर्ष ‘फुल अडिट’, जालसाजी कसरी हुन्छ प्रमाणित?
  3. कानुनविपरीत ५१ करोड भ्याट छुट दिने ६० कर अधिकारी छानबिनको घेरामा
  4. कोटिभिटी मुद्दामा कानुनको अपव्याख्या, ६८ अर्बको आईटी उद्योग धराशायी हुने जोखिम

These news articles provide a deeper idea on the details outlined in the DRI’s press release, shedding additional light on the transactions involved. We will delve into them comprehensively in the following discussion.

Rudra’s tweets and Reddit

Following the lodging of the case, Rudra Pandey, the original co-founder of D2HawkEye Nepal (which later transformed into Cotiviti through subsequent M&As), expressed dissatisfaction with the investigation and the assertions made by the DRI investigators. His tweets provide insight into the core of the investigation and highlights the frustration felt within the IT industry (and Service Industry, Business Process Outsourcing Industry as a whole) in Nepal due to this investigation and the nature of charges pressed against Cotiviti. 

Bhava Nath Dahal, an esteemed tax practitioner in Nepal, also expressed reservations about the assertions made in this investigation, as evidenced by his tweets. I share these gentlemen’s tweets because as they say – words carry the weight of the world. Below are some excerpts from his tweets:

A multitude of voices chimed in on the facts, matter and value of this investigation, with opinions flooding in from all corners. Among them, some insightful perspectives surfaced on Reddit, which I’ll share below:

Cotivity Nepal sold to -> Infinite
byu/goldenBrownLeaf intechnepal
Cotiviti's Tax case can have severe impact on IT sector of Nepal.
byu/pchugger intechnepal
Case filed against Cotiviti Nepal demanding 10 billion 36 crores 45 lakhs in the revenue scam
byu/Sandbox_01 intechnepal

What is Cotiviti Nepal and what does it do?

The ultimate parent company of Cotiviti Nepal Pvt Ltd is Cotiviti Holdings Inc which is a publicly traded company as COTV in New York Stock Exchange with a market capital of ~4.2 billion as of 6th April 2024. See stock tracker of Cotiviti Holdings Inc here in this link. 

Based on the publicly disclosed information in Securities and Exchange Commission (SEC) USA, Cotiviti Holdings Inc provides analytics-driven payment accuracy solutions, primarily focused on the healthcare sector. Their services include prospective and retrospective claims accuracy solutions for healthcare payers in the USA. Cotiviti provides solutions to analyze claims for accuracy with respect to billing accuracy, contract compliance, payment responsibility, and clinical appropriateness. They also offer services to optimize operations and enterprise-wide claims payments and trends, including selective anti-fraud, waste, and abuse analytics, ongoing surveillance and longitudinal analytics, and comprehensive claims history analytics in the healthcare industry of the USA. 

Unlike Cotiviti Inc USA, no public data are available in relation to Cotiviti Nepal Pvt. Ltd. except for its registration details PAN 301616191 and Pvt Ltd 28334/060/061. Based on the information available in the charge sheet of the case lodged against Cotiviti Nepal Pvt. Ltd., the nature of its operation in Nepal and its economically dependent subsidiary relationship with the parent company it can be reasonably concluded that the Nepal unit (i.e. Cotiviti Nepal Pvt. Ltd.) is a support function office for the parent company in the USA. At least that’s what Rudra Pandey’s tweet suggests – he claims Nepal’s unit to be a cost center. 

The history of the Cotiviti Nepal Pvt. Ltd.’s ownership is not public information. From what I know, (feel free to suggest any changes if I am wrong here), it started as a data analytics / software service company called D2Hawkeye Pvt. Ltd. in Nepal fully owned by D2Hawkeye Inc in USA. D2Hawkeye Inc was co-founded by J. Christian Kryder with Rudra Pandey where Mr. Pandey served as Chief Technology Officer. D2Hawkeye Inc was later acquired by Verisk Analytics Inc after which D2Hawkeye became Verisk Health where Mr. Pandey served as Chief Operating Officer. Later, Verisk Analytics Inc was acquired by Verscend Technologies Inc (owned by Veritas Capital). Later Veritas Capital also completed the acquisition of Cotiviti Holdings Inc which led to the rebranding of Verscend Technologies Inc as Cotiviti Inc. At each stage of such acquisition and rebranding the name of the private limited company in Nepal was also changed starting from D2Hawkeye to Verisk to Verscend to finally Cotiviti. 

I believe the timeline went as follows for the above transactions: 

  1. 2001 AD: D2Hawkeye Inc was founded by J. Christian Kryder and Rudra Pandey in Massachusetts, USA (Nepal Subsidiary called D2Hawkeye Pvt. Ltd. was established a few year later)
  2. 2009 AD: D2Hawkeye Inc was acquired by ISO Analytics under Verisk Analytics Inc (Nepal Subsidiary was rebranded to Verisk Information Technology Pvt. Ltd.) Reference
  3. 2016 AD: Verisk Analytics Inc was acquired by Veritas Capital under Verscend Technologies Inc (Nepal Subsidiary was rebranded to Verscend Technologies Pvt. Ltd.) Reference
  4. 2018 AD: Cotiviti Holdings Inc was acquired by Verscend Technologies Inc (Nepal Subsidiary was rebranded to Cotiviti Nepal Pvt. Ltd.) Reference

Again, it would be really helpful if someone fact checked what I gathered above. Based on the above information the transactions of 2009 AD and 2016 AD are changes in control and ownership, and are potentially subject to the application of Section 57 of the ITA. But the charges lodged by the DRI against Cotivit have only considered the transaction of 2016 AD as a transaction subject to change in ownership under Section 57. 

Is/Was Cotiviti exiting Nepal?

This was something I found from the on the crevices of the Reddit which disclosed some more facts to this spectacle. Recently the website of Cotiviti Nepal was updated to reflect the following changes: 
“For future career opportunities in Nepal, please visit our partner, Infinite Computer Solutions. Visit Cotiviti’s website for more information on our healthcare and retail solutions. The Cotiviti Nepal website will be archived.”

The Reddit thread from around January 2024 (months before the charges were filed by DRI against Cotiviti) revealed that employees at Cotiviti Nepal were asked to sign resignation letters and new employment contracts with Infinite Computer Solutions on short notice. While this action may seem suspicious at first glance, credit is due to the company management for facilitating the employee reassignment as it was employing around 700 employees within Nepal. The reason for this arrangement is unclear, but some Redditors speculate that decreasing revenue of Cotiviti Inc USA may have prompted the decision to scale back its operations in Nepal. Given that all operations were conducted online with no financial transactions occurring in Nepal, closing the office was a straightforward decision for the company. However, the ongoing investigation by the DRI since the third quarter of 2023 AD likely hindered any formal exit plans by Cotiviti Nepal prior to the investigation. 

Reference:
1. कोटिभिटीद्वारा ५ अर्ब १८ करोडभन्दा बढी कर छली, वर्षैपिच्छे स्वामित्व परिवर्तन 
2. कोटिभिटी प्रकरणपछि कूटनीतिक असन्तुष्टि जनाउने अमेरिकी तयारी

But whether the closure of the Nepal unit was a decision to scale back operations in Nepal or a part of the acquisition agreement between private equity firms Veritas Capital and KKR & Co is unknown. As per the Reuters news from Feb 14, 2024 Private equity firm KKR & Co has agreed to acquire a 50% stake from the present investment manager Veritas Capital in Cotiviti Holdings Inc at a valuation of the company at around 10 billion USD. This is yet another news in the present Cotiviti spectacle that will definitely see unfold in the future.

Reference: 
1. KKR to acquire a stake in health tech firm Cotiviti | Reuters
2. एनसेल जस्तै कर छलीको अर्को काण्ड, अमेरिकी कम्पनीले रु. १० अर्ब कर छलेको दाबी सहित मुद्दा – Insurance Khabar

DRI's Accusations Soar to Olympic Pole Vault Heights

Before delving into the detailed discussions on the lodged charges, let’s begin by reviewing the list of allegations made against Cotiviti by the DRI under the Revenue Leakage (Investigation and Control) Act, 2052 (RLICA): 

SNCharges Lodged Tax  Interest  Fees  Penalty  DRI Penalty  Total  % Total
1Tax u/s 95Ka of ITA
Interest u/s 119 of ITA
Fees u/s 117 of ITA
Penalty u/s 120 of ITA
DRI Penalty u/s 23 of RLICA		36,091,56141,956,4404,195,64436,091,562118,335,207236,670,4142.28%
2Tax u/s 5 of ITA
Interest u/s 119 of ITA
Fees u/s 117 of ITA
Penalty u/s 120 of ITA
DRI Penalty u/s 23 of RLICA		60,152,60271,183,0853,049,21960,152,602194,537,508389,075,0163.75%
3Tax u/s 57 of ITA
Interest u/s 119 of ITA
Fees u/s 117 of ITA
Penalty u/s 120 of ITA
DRI Penalty u/s 23 of RLICA		32,008,76836,409,9753,117,74032,008,768103,545,251207,090,5022.00%
4Tax u/s 7(1) of VATA
Interest u/s 26 of VATA
Fees u/s 19 of VATA
Penalty u/s 29(2) of VATA
DRI Penalty u/s 23 of RLICA		1,355,617,4561,232,765,066821,843,3771,355,617,4564,765,843,3559,531,686,71091.96%
Total 1,483,870,3871,382,314,566832,205,9801,483,870,3885,182,261,32110,364,522,642100.00%

In our discussions below, we will address each of these allegations. I must acknowledge from the outset that most of these numerous allegations lodged against Cotiviti are unprecedented and disheartening, except for those related to taxes under Section 57 of the ITA. Let’s give credit to DRI where credit is due, the investigation and quantification of the Section 57 taxes in the charge sheet and investigation report of DRI are quite well substantiated and articulated. However, 91.96% of the total amount claimed against the company related to disallowing the zero rated sales under VATA – which is causing a major meltdown in the industry. 

The Charges against Cotiviti: In Depth

Taxes u/s 57 of ITA for ownership change - this one seems okay-ish

The timeline of events that triggered Section 57

Based on the timeline outlined in the paragraphs above about Cotiviti Nepal, significant ownership changes occurred on two occasions. First, in 2009 AD, D2Hawkeye Inc was acquired by ISO Analytics under Verisk Analytics Inc. The second change took place in 2016 AD, when Verisk Analytics Inc was acquired by Veritas Capital under Verscend Technologies Inc for $820 million.

Cotiviti Nepal Pvt. Ltd., previously known as Versik Information Technology Pvt. Ltd., underwent multiple name changes approved by shareholders and the Company Registrar’s Office. Shareholder records reflect several ownership changes and the legal name of the entity in Nepal reflects several rebranding attempts made by the company as the underlying ownership of the company changed within the shores of the USA. The DRI raised concerns regarding non-compliance with tax obligations related to these ownership changes, leading to claims under Section 57 of the Income Tax Act.

What is Section 57? Section 57 of the Income Tax Act mandates revaluation of a company’s net assets at market value for tax purposes when ownership structure changes by 50% or more within three years. Any resulting gains from deemed asset disposal are subject to taxation as income. Detailed explanations of transaction interpretations, ownership, valuation, and tax implications under Section 57 have been covered in previous posts and will not be revisited here.

1. What the bug is Section 57?
2. Issues that arises when applying Section 57
3. Capital Gains Tax in Nepal
4. Principles underpinning the Ncell Case
5. Harvesting of Tax Attributes: but mostly tax losses
6. Section 95Ka of ITA: all about it
7. Section 57: Taxing Rule or Anti-Abuse Rule?
8. Section 57: But not the Ncell Case
9. A working hypothesis on the Ongoing Ncell Case – Tax Perspective

The $820 million transaction: A small portion of which is attributable to Nepal

The charges against Cotiviti pertains to ownership changes and the valuation of Verisk Information Technology Pvt. Ltd. in Nepal, specifically related to the sale of Verisk Health Inc to VCVH Holding Corp (a subsidiary of Verscend Technologies Inc) for $820 million in June 2016. There were multiple entities that were a part to this acquisition transaction so it’s important to note that this offshore transaction is not exclusively for the acquisition of the Nepal unit, so this situation is not exactly comparable to the Ncell Case, where all gains of the transactions could be arguably be attributed to Nepal where the entity in Nepal (i.e. Ncell Limited) had an operational independence. 

Cotiviti’s Nepal subsidiary allegedly failed to fully disclose the changes in ownership and the valuation of the unit in its documents and tax filings. The DRI found that Cotiviti’s response to the investigation lacked sufficient details, and when asked for the specific valuation of Nepal unit, Cotiviti mentioned initiating a valuation through KPMG USA. However, this valuation was deemed unacceptable by the DRI because it was being conducted years after the transaction took place. Consequently, the DRI utilized alternative valuation methods to assess the Nepal unit’s worth, focusing on market value, transaction records, asset assessments, and other criteria. The DRI’s evaluation of goodwill factored in profits beyond normal returns, indicating a significant increase in the company’s market value. 

The transaction agreement of this $820 million includes Cotiviti Nepal Pvt. Ltd. (formerly Verisk Information Technology Pvt. Ltd.) as one of the parties to the contract, which proves that the Nepal unit had the knowledge of this offshore transaction leading to change in the underlying ownership of the Nepal unit. This fact has been taken by the DRI as a matter of intentional suppression of the fact of the offshore sale of underlying shares also coupled with the fact that the Nepal unit failed to do the appropriate tax filing under Section 57 of the ITA, leading to the penalty under Section 120 of the ITA. 

DRI’s approach to computing the goodwill

DRI employed two approaches to calculate the goodwill attributable to Nepal entity for its valuation: 

  • Approach One: Bargain Gain Approach

Based on Paragraph 6: Discontinued Operations of the 10-Q Quarterly Report by Verisk Analytics Inc filed on 11/01/2016 to SEC in USA, DRI concluded that this transaction led to a gain to the seller Verisk Analytics Inc a $269 million from a total investment of $551 million in a transaction valued at $820 million, representing a profit margin of 48.92%. DRI argues that this profit is attributed to the company’s reputation based on a bargain gain approach. During the same period, Verisk Health Inc USA had a combined investment of Rs. 283,095,536 on Verisk Information Technology Pvt. Ltd. Calculating 48.92% of this total investment, the Nepalese company’s contribution is estimated at Rs. 138,490,336.
See Verisk Analytics Inc’s statutory filings to SEC for 2016 AD here in this link: Verisk Analytics Inc SEC Filings

  • Approach Two: Super Profit Approach

In addition to the goodwill calculation under Bargain Gain Approach discussed above, another method was employed to assess goodwill. DRI computed goodwill from super profits of Verisk Information Technology Pvt. Ltd. based on the equity fund and profits of the Nepal unit for the fiscal year 2015/2016 AD. The taxpayer’s equity fund as of Ashad end 2072, totaled Rs. 22,48,78,007 and its profit after tax was Rs. 5,82,17,829, indicating a return on investment exceeding the expected rate. The company earned Rs. 1,99,88,567 more than the anticipated return of Rs. 3,82,29,261 on the total investment of Rs. 22,48,78,007 at 17% which was an estimated expected return rate of Nepal unit based on the company’s valuation reports. Assuming this surplus profit of Rs. 1,99,88,567 earning will continue indefinitely, the company’s reputation value is estimated at Rs. 11,75,79,811 (1,99,88,567/17%), calculated by capitalizing the super profit by the expected return rate of 17%.

Using these two approaches, DRI reached an average goodwill amount of Rs. 12,80,35,073 and when added to the net assets valuation of the based on its financial statement Rs. 28,30,95,536 – the enterprise value of the company for the purpose of Section 57 was computed to be Rs. 41,11,30,609. 

A potential scope of higher goodwill valuation was missed?

While there are differing viewpoints on how Section 57 should be applied, particularly regarding the valuation approach for deemed disposal (either considering only the market value of the identifiable assets or considering entire enterprise value including all unique advantages and goodwill associated with that asset), we won’t delve deeply into that debate here. We’ve explored this topic extensively in our previous discussions, including Section 57: Taxing Rule or Anti-Abuse Rule? and Issues that arises when applying Section 57

For the sake of this discussion, let’s assume that Section 57 serves not only as an exclusive anti-abuse measure but also as a taxing rule. If so, there’s an argument to be made that the valuation of Cotiviti Nepal’s enterprise value, specifically concerning goodwill, by DRI investigators may have been conservative. 

It seems there was potential to assign a higher value to the goodwill, considering various factors beyond just the book value of assets. The investigators from DRI primarily considered the asset book value to allocate gains from acquisition transactions to the Nepal unit. However, they could have utilized alternative reasonable methods, such as number of employees being employed, price indices comparatives of Nepal and USA, profit allocation basis, involvement and dependencies of Nepal unit to its parent entity, related party transactions, functions performed, assets employed, risk assumed and similar other functional analysis that could have impacted the valuation of the Nepal unit using the, actually quite authoritative, FAR Test (Functions, Assets and Risks Test), which is usually followed in many OECD Model Tax documents for similar purposes. Personally, I believe there was an opportunity to arrive at a higher enterprise value for the Nepal unit, potentially resulting in increased tax liability under Section 57, if we acknowledge Section 57 as primarily a taxing mechanism. But personally I do not agree to the view that Section 57 is a taxing mechanism, rather I believe it to be a anti-abuse measure for shopping tax losses, in which case the enterprise value of the assets should not be considered for the Section 57 purpose but only the market value of the identifiable assets of the entity undergoing the change in control. Again, I do not subscribe to the view of expanded application of Section 57 as a taxing mechanism, but the interpretation from Ncell case has only worsened the meaning and substance of Section 57 in practice. I only wonder why the DRI didn’t go fully into adopting Section 57 as a taxing mechanism and lose the opportunity to assign a higher goodwill valuation to the Nepal unit, if they agree to Section 57 as a taxing mechanism. This is, of course, my opinion, and you are free to disagree.

The amount and tax rate that was applied to the Section 57 gain

The investigators at DRI applied 25% tax on the goodwill amount of Rs. 12,80,35,073 which they took as the gain from the deemed disposal triggered by the transaction leading to change in control in Nepal unit. However, we can reasonably have two reservations to this approach: 

The first one is pretty obvious, that the gain from deemed disposal under Section 57 is calculated by reducing the tax base of the assets of the taxpayer from the market value of the net assets (enterprise value as computed above). However, the approach taken by the DRI’s investigators is quite a deviation from the calculation of the taxable gain under Section 40(3)(e) of ITA. It is possible that the tax base of the assets of the entity were lower than the book value of the assets, which generally is the case, which could have earned a higher taxable amount for this purpose. 

The second issue pertains to the tax rate to be applied on gains under Section 57. The investigators from DRI based on the current market practice applied the standard business taxation rate (25%) to the gain from deemed disposal triggered by Section 57. This raises an academic discussion on the nature of these gains. Firstly, the gains under Section 57 are derived using the computation method prescribed under Section 40(3)(e). However, nowhere in the ITA does it specify that gains computed under Section 40(3)(e) should be treated differently in nature than other business income of the entity. In fact, under Section 7(2)(c) of the ITA, gains derived under Chapter 8 of the Act, for net gains from the disposal of the person’s business assets or liabilities of the business, are considered as business income and are not treated differently. Therefore, if this income were to be considered as normal business income, the tax rate applicable to Cotiviti Nepal unit could be quite different as per Section 11 of ITA, especially considering that it operates in the IT Service Industry, employs hundreds of workers, and earns exclusively from export income and so on. Hence, there is an argument to be made that the tax rate applicable on gains made from deemed disposal under Section 57 could be considerably lower than the 25% claimed by the investigators from the DRI.

This tax rate issue associated with gains under Section 57 should not be perceived as a discussion aimed solely at bargaining for lower taxes biased in favor of taxpayers. Let’s consider some examples to illustrate this point:

  1. Imagine a scenario where a company is in the construction, gestation, or loss-making phase but has significant income potential for the future. Due to the positive enterprise value, the company has an opportunity to set off its carried losses at the normal rate of 25% if it undergoes change in control. Later, when the industry becomes operational, the tax rate increases to 30%. This would allow the company to reclaim a 5% extra tax deduction benefit because its assets were revalued at a 25% income tax rate, because they would now be eligible for the deduction benefit at 30% income tax rate.
  2. Conversely, if the subsequent tax rate during the earning phase decreases to 20%, the company would bear an unnecessary cost of 5% of the revaluation amount because it paid taxes at 25% in the past but can now reclaim the tax deduction benefit at the rate of 20% only.
  3. In another scenario, a company enjoying a tax rebate and in the beginning of a tax holiday period undergoes deemed disposal due to a change in control under Section 57, paying the normal 25% taxes. However, it won’t be able to reclaim any tax deduction benefit during the tax holiday period, thereby losing the entire potential tax deductibles, rendering the concept of tax holidays meaningless.

What might be the possible solution to this? Perhaps, using business tax rates specific to the industry for the purpose of Section 57 could be a better approach to taxing gains arising under deemed disposal? Alternatively, it might be worth examining the net assets of the taxpayer undergoing a change in control and reflecting the Section 57 tax liability based on how these assets would be claimed for deduction under current tax scenarios for future? This is a thought-provoking topic that warrants further academic discussion and we will leave it there for this post.  

Taxes u/s 95Ka of ITA, because interest in resident entity was “indirectly” disposed

Yes: There is economic double taxation to foreign investors on capital gains arising from direct disposal of interest in entity resident in Nepal

Consider an example involving Entity A, a tax resident entity in Nepal and a fully owned subsidiary of Entity B in the USA, which is not resident in Nepal. Entity B sells its shares in Entity A to Entity C in the USA. This scenario presents a case of potential double taxation arising from the same capital transaction.

In this specific scenario, Entity A in Nepal undergoes a change in control under Section 57, subjecting it to a 25% tax rate on any notional gain derived from restating its net assets at market values. Additionally, Entity A is liable for another 25% tax on the gains arising from the transaction gain from the disposal of the shares under Section 95Ka(2)(Kha). The Ncell Case, where tax assessments were allowed to freely use transaction price as the valuation of net assets for Section 57 purposes and also for taxation under Section 95Ka, underscores concerns about potential instances of capital gain taxations running wild and free-range, with the transaction price acting as the open range for potential double taxation.

Some argue that the taxes under Section 57 are treated as business income and that the restated values of assets are tax deductibles in the form of depreciation and amortization in the future which differs from the final tax nature of Section 95Ka(2)(Kha), which is strictly a capital gains tax, therefore, legally, it may not be considered double taxation in the strict “legal” sense. However, the taxation of notional gains under Section 57, based on unrealized income from the transaction price, does carry a hint of economic double taxation, even if it does not meet the technical definition of “double taxation.”

So basically, yes, there is economic double taxation in Nepal for foreign investors who invest directly in entities in Nepal. 

Precedence from Ncell Case: Taxes u/s 95Ka of ITA doesn’t apply to foreign investors on indirect disposal of interest in entity resident in Nepal

Although the Ncell Case set the precedence to freely use transaction price as the valuation of net assets for Section 57 purposes (which was generally only considered for calculating gains under Section 95Ka(2) of ITA), it did establish one important conclusion that the investigators at the DRI failed to consider in Cotiviti’s case. 

Specific facts of the Ncell Case: Telia (entity in Norway) announced divestment of 100% stake of Reynod Holdings (entity in Mauritius) to Axiata (entity in Malaysia) for USD 1.365 billion. Reynold Holdings held an 80.00% direct shareholding in Ncell. Ncell argued that it should be exempt from taxes under Section 57 arising from this capital transaction because Telia, as the owner, is a Norwegian entity covered by the Double Tax Avoidance Agreement (DTAA) between Norway and Nepal. Ncell invoked Article 13 of the DTAA with Norway, which states that Nepal should not have taxing rights over the disposal of interests in Nepal by entities in Norway. However, the court rejected this argument for two reasons: Section 57 taxes the disposal (albeit deemed) of net assets within Nepal and should apply regardless of the DTAA with Norway. Furthermore, the court determined that Telia, based in Norway, is an intermediary company owned entirely by TeliaSonera Asia Holdings in the Netherlands. Section 73(5) of the ITA aims to prevent treaty shopping without genuine business operations, stipulating that tax exemptions cannot be granted if more than 50% of an entity’s vested ownership is held by a non-resident body not party to the agreement. 

The Ncell case highlighted the invalidity of relying on the DTAA with Norway for tax exemption due to treaty shopping without genuine business operations. However, the court did not tax the indirect disposal of interests in a Nepal-resident entity. Instead, it established that Section 95Ka taxes do not apply to indirect owners of Ncell. The court’s decision in fact allowed the adjustment of previously paid 15% taxes under Section 95Ka(2)(Kha) to be adjusted with the tax liability arising under Section 57. This interpretation led tax practitioners to conclude and come to a consensus that Section 57 indeed results in economic double taxation, but the taxes under Section 95Ka applies to foreign investors who have direct interest in the entity resident in Nepal. See these particulars in more detail in my other posts here: Section 95Ka of ITA: all about it and Principles underpinning the Ncell Case

But DRI Claims: Taxes u/s 95Ka of ITA applies to foreign investors on indirect disposal of interest in entity resident in Nepal

But the investigators from DRI in the case of Cotiviti have lodged claims for the Section 95Ka taxes arguing basically that the Section 95Ka(2)(Kha) applies even to entities that do not have direct foreign investment in Nepal. Pursuant to this view they took the rebranding and renaming attempts of the immediate parent company of Nepal unit (which were also evident from the shareholder register of the Nepal unit maintained at OCR, obtained as of various dates in the past) to construe that the ownership has in fact changed and that the taxes under Section 95Ka(2)(Kha) applies to the parent entity of the Nepal unit. For this the investigation team took the same enterprise value computed for the purpose of Section 57 taxes above, to come to a transaction price attributable to Nepal unit and reduced it by the capital investment in Nepal unit as of that date and applied the 15% taxes applicable to the foreign investors on gains arising out of the capital transaction as of that date. The 15% rate in the past has since been revised to 25% from FY 2075/2076. See the details of capital gain taxes applicable in Nepal here: Capital Gains Tax in Nepal 

My take in above paragraph, I am assuming that the direct parent company of the Nepal unit underwent a rebranding or name change in the USA, and that the previous parent company, Verscend Technology Inc and Cotiviti Inc are legally the same entities in the USA. I am assuming that the acquisition transaction involved non-immediate parent entities within the corporate group of Versend and Cotiviti. However, if Cotiviti Inc USA, entered Nepal as a new foreign investment, acquiring shares of the Nepal unit with a new foreign investment record, then it would make Cotiviti Inc USA, a direct investor in Nepal and the DRI investigators’ contention regarding taxes under Section 95Ka(2)(Kha) would indeed be justified. If my assumptions above are incorrect then the claim of the DRI actually aligns with the precedent set by the Ncell case and reflects the intention and practice of Section 95Ka in the market. Based on the charge sheet filed in the case, I think the DRI leaned on the assumption that the Cotiviti Inc USA acquired the shares from Verscend Technology Inc USA with a new foreign investment record in Nepal. This I could not confirm. 

Despite that, I think this is still an important claim lodged by the DRI investigators because at the present scenario, if we were to assume that Section 57 is business tax that gives equivalent amount of tax deductibles in the future in most cases, then it’s just Section 95Ka(2)(Kha) that actually taxes the gains arising under capital transaction. If that were the case, why should the taxes under Section 95Ka(2)(Kha) be applied only to the direct shareholders of the entity resident in Nepal – there is definitely an argument to be made from the perspective of the DRI on why the Section 95Ka(2)(Kha) tax should apply to equally to indirect shareholders as well. 

Even funnier (but disheartening), Cotiviti gets slapped not just with double taxation but with triple taxation

Now this is one is absolutely funny, gross misinterpretation of the Ncell Case by DRI. The claim that the Ncell case somehow paves the way for taxing the disposal of underlying interest in a resident entity as income sourced in Nepal under section 67 is utterly absurd. To be more precise, DRI claims that the Ncell case opened the way for the taxation of the disposal of underlying interest in entity resident as it constitutes as an income sourced in Nepal under section 67, the income made by the parent company on the transaction should be taxable in Nepal. 

The investigators completely misunderstood the Supreme Court’s interpretation, which clarified that the deemed disposal of net assets of a Nepal-resident entity constitutes Nepal-sourced income, but not the gains realized by the foreign investor. This kind of unprincipled and flawed interpretation of the source principle of taxation (which actually is a very sacred convention in international taxes) led to the introduction of many taxes under Section 95Ka of ITA. 

The introduction of Section 95Ka disrupted the traditional understanding that Nepal follows a source or residency-based principle of taxation. This section now taxes income not sourced in Nepal without amending Section 67 to classify such income as Nepal-sourced. The application of few advance tax withholding under Section 95Ka disregards the source-based principle for tax deduction. When Section 95Ka applies, the fact that the income is not sourced in Nepal does not relieve the person liable to deduct advance taxes on the determined gains.

The absence of this simple “source principle” convention was even more exacerbated with the DRI’s claim. They grossly misinterpret that merely investing in Nepal leads to taxation based on the source principle. The DRI contends that the foreign investor’s earnings arise from a capital transaction in Nepal (which is not a capital transaction in Nepal in Cotiviti’s case and not a direct disposal of interest in a Nepal entity), and that the gain is Nepal-sourced under Section 67 (without specifying the relevant subsection, as there are none). Additionally, they claim that foreign parent entity’s income under Section 5 (again, without specifying the relevant subsection) is subject to normal taxation under Annexure 1(2)(1) at a 25% rate (contradicting the source-based taxation principle under Section 6(b) and Section 67 of the ITA). For the computation of the gain for this purpose, DRI again used the same transaction price attributable to the Nepal unit, as calculated above. 

In summary, the DRI’s investigation into Cotiviti’s 2016 AD transaction vividly illustrates the gross injustice of Nepal’s tax regime towards investors, particularly foreign investors. Although there is a case that can be made for the claiming the taxes under Section 57 the other two charges are absolute folly. The DRI, tasked with conducting an “investigation,” recklessly taxes the same transaction not once (under section 57), not twice (under section 95Ka), but a staggering three times (under section 5). It’s no surprise that Rudra Pandey responded to this investigation with accusations of legal extortion and corporate persecution. This egregious taxation approach highlights the hostile environment faced by foreign investors operating in Nepal. And no, I absolutely care not for the “investors”, they definitely are not your friends, most of them are absolute sharks. But a clarity in laws, especially revenue related laws, benefits all. 

DRI gives a whole different meaning to “export income” under VATA

You can find a more detailed discussion on “When is the supply of service considered to be export?” in another post titled: What is Export Income? Nepal VAT Regulation. When I wrote this post nearly four years ago, I thought explaining the “Destination and Consumption Principle” of indirect tax for zero rating of export income would be unnecessary because it seemed quite straightforward. However, the recent interpretation of export income that the DRI applied in the context of Cotiviti has truly shocked everyone in the industry. 

What is “export income” as per DRI?

The investigation concerns revenue evasion related to zero-rated export sales outlined in Schedule 2(2) of VATA. This section specifies that only the services provided by a Nepalese resident to a person outside Nepal having no business transaction, business agent or legal representative acting on his behalf in Nepal are subject to a zero tax rate. 

DRI takes this argument and contends that sales made by the Nepal unit to its parent company in the USA do not qualify for zero-rated export sales under Annex 2(2) of the VATA is based on weak reasoning:

  1. DRI argued that Cotiviti Nepal Private Limited serves as a legal representative of its parent entity in the USA due to the Nepal unit’s dependence on Cotiviti Inc USA during the investigation.
  2. DRI claimed that the Nepal unit acts as a business agent for its parent entity in the USA because its sales income solely comes from its parent company in the USA.
  3. DRI asserted that the parent entity in the USA, engages in business transactions in Nepal because the Nepal unit is a subsidiary of the USA entity.

These arguments from the DRI are unfounded, illogical, and directly contradicts the true meaning of the export income exception under Annex 2(2) of the VATA, which we will delve into further below. Despite this, the DRI imposed a 13% value-added tax under Section 7(1), 15% annual interest on the taxes under Section 26 of VATA, a 10% annual fee on the taxes under Section 19 of VATA, and penalties amounting to 100% of the tax under Section 29(2) of the VATA. 

A new argument, not included in the charge sheet against Cotiviti but discussed in media interviews with DRI investigators, surfaced on the Kantipur TV program, regarding if the supply of the services from Nepal unit to the parent company in the USA could be termed as “self supply” under the VATA. But it’s important to note that this argument has not been included in the charge sheet itself, maybe because DRI found it not persuasive enough to pursue legally because that would be axiomatically illogical because “self-supply” is only applicable in the case of supply of goods. Even if one were to apply the self-supply logic to supply of services, because Rule 15 of the VAT Rules, 2053 states that for goods that are supplied to oneself (self-supply), the place of supply is the place where the producer/supplier of such goods resides. If one were to consider both the Nepal unit and the parent entity in the USA to be the same (for testing whether it is a self-supply) that would mean that place of the supply is the place where the producer/supplier of the services resides – which would be USA – hence qualifying for zero rated export income. 

Here is the link to the interview with Kedar Koirala from DRI who led this investigation into Cotiviti.
1. विदेशको कम्पनी, नेपालमा करछली । के हो कोटिभिटी प्रकरण ? NEWS TALK 
2. करमा राजनीति छिरेपछि बिग्रिएको राजस्व अनुसन्धान, कोटिभिटी बन्यो त्यसकै सिकार 
3. कोटिभिटीको अर्बौ राजश्व ठगीमा नेताको साथ ! 

What is export income? Why are indirect taxes zero rated on export? What are the global practices?

The reason why Value Added Tax is typically not applied to exports is primarily due to the consumption principle of VAT, which is based on where goods or services are consumed rather than where they are produced or sold. VAT is designed to be a consumption tax / destination based tax, meaning it is ultimately borne by the end consumer of goods or services in a particular jurisdiction. When goods are exported, they are not consumed within the exporting country but are instead consumed in the importing country. Therefore, applying VAT to exported goods would be inconsistent with the principle of taxing consumption where it occurs. 

To avoid burdening exported goods/services with domestic VAT, most countries exempt exports from VAT altogether. This exemption ensures that exported goods/services remain competitive in international markets by not carrying additional tax costs that would make them more expensive compared to locally produced goods/services in the importing country. Chapter 1.1 of the VAT Directive, 2069 also affirms the destination/consumption principle of the Value Added Taxes in Nepal. Here is the link to the excerpt. 

Chapter 13.1 of the VAT Directive, 2069 provides an additional documentation requirement in relation to the export of software and services – however it seems like it is intended to curb the chances for money laundering. If the payment receipt for exported software is not specified in the payment statement, verifying the export solely based on receiving foreign currency becomes challenging. Therefore, for taxpayers engaged in software production and exporting online services from Nepal via the internet or software, or any service intended for export outside Nepal, an export agreement must be established in accordance with Section 25(2) of the Customs Act, 2064. Such software is considered exported only after verification by the Nepal Rastra Bank, relying on the invoice and evidence of payment receipt from the respective importer. Here is the link to the excerpt. This is quite a burdensome requirement on the part of the export oriented service providers in Nepal and from what is being practiced in the market – receipt of foreign currency income under a valid contract for export of service and issuing invoices generally has sufficed for the recognition as export income. 

Under Section 7 of the VATA, VAT applicable transactions are taxed at the single positive rate of 13%. However, exempted goods under Schedule 1 are not taxed and zero-rated under Schedule 2 goods are taxed at the rate of 0%. 

Under Schedule 2(2) of the VATA service exported to person outside Nepal qualify for zero-rated tax at the rate of 0% when: 
1. A supply of services by a person resident in Nepal to a person outside the Nepal and having no business transaction, business agent, or legal representative acting on his behalf in Nepal
2. A supply of goods or services by a person resident and registered in Nepal to a person resident outside Nepal. 

This provision under Section 2(2)(1) of the VATA was grossly misinterpreted in during the Cotiviti’s investigation and the DRI deemed that since the export income of the Nepal unit did not qualify for the zero-rated tax under Schedule 2(2)(1) of VATA – Value Added Taxes would apply on such sales transaction with the parent company in USA. 

So what is the meaning of “business transaction” under Sch 2(2) of VATA?

Okay this is something that needs answering. Why was there ever a need to put the exception to zero-rated export income under Schedule 2(2) of VATA. Why were the terms like “business transaction”, “business representative” and “legal representative” used in this particular provision?

Let us consider two scenarios. 

Consider a scenario where a service consulting company in Nepal provides services to a local entity within Nepal, where the services are consumed and the benefits are received locally. However, if this local entity has a parent entity or head office located outside of Nepal, the consulting company might issue an invoice to the foreign parent entity and classify this as a zero-rated export of services, thereby avoiding the collection of value-added taxes (VAT) entirely. This practice is the rationale behind the “business transaction”, “business representative”, and “legal representative” exceptions outlined in Schedule 2 of the Value Added Tax Act (VATA). These exceptions are designed to address bad tax practices in situations where services provided locally in Nepal are technically invoiced to an overseas entity, enabling the company to claim zero-rated export status for VAT purposes. 

Consider another scenario, an audit firm in Nepal is assigned for a special independent audit (other than local and statutory audit) assigned by the head office of the branch in Nepal. The audit firm conducted an audit and reported its findings to the head office. It charged the head office for that service. Since the benefit of the service was received outside Nepal, exclusively by the head office and this cost is not intended to be recharged to the Nepal unit – it definitely doesn’t make sense to include value added tax to this service invoice as this is indisputably an export of service. Right? So, what I mean to conclude here is that it absolutely depends on the nature of the transaction. 

The requirement that the recipient outside Nepal should have no business transaction, business agent, or legal representative is in fact an anti-abuse provision that discourages artificial arrangements (like explained in example above) or structures to avoid VAT payment on services that are essentially benefiting entities within Nepal. The fact that determining the true nature and extent of the business relationships or representations in Nepal by foreign entities requires robust monitoring and oversight also proves that this is an anti-abuse provision. 

In the instant case of Cotivi Nepal’s export income derived from Cotivini Inc USA the transaction very perfectly aligns with the consumption principle of VAT and the transaction are fair, transparent, the end services of the enterprise are consumed by the citizens in USA andthere is no any difference in the economic substance and the legality of the transaction – so it very well qualifies as an zero rated export income. 

Place of Supply, Business Establishment and Zero Rating of Exports

Normally, when a service is supplied, the place of supply is deemed to be the place where the benefit of such service is received. Reference: Rule 16 of the VAT Rule, 2053. 

Because indirect tax laws are jurisdictional laws, for VAT purposes, the place of supply of a service is the place where that service is treated as being supplied. So for VAT purposes the place where a supplier or customer belongs will determine where the benefit of the service belongs and accordingly where the service is supplied and who accounts for the VAT in such cases: 

  1. Supply of B2B services: Place of supply is the place where the customer belongs
  2. Supply of B2C services: Place of supply is the place where the supplier belongs (except for services of a professional, technical, financial, intellectual or other intangible nature supplied to customers outside the jurisdiction – these includes consultants, engineers, consultancy bureaux, lawyers, accountants, and other similar services like data processing and provision of information) 

Because our local VAT laws do not speak on this topic of place of supply in depth – do refer to the UK VAT Guidance for this principle of place of supply of services. Most countries around the world follow a similar principle for zero rating the export of goods and service. See UAE’s “place of residence” rule here: UAE VAT: All about Zero-rating on Export Services 

The term “business transaction” and “business representative” has been used in the Schedule 2(2) of the VATA as an exclusion for the zero rating of the export income from service. What does this term mean? The use of the terms like “business transaction” and “business representative” has been used with a short sighted approach. When in fact this term should have been used to mean the term “fixed business establishment”. The better term is “fixed business establishment” which is an establishment which has the human and technical resources necessary for providing or receiving services permanently present and even where there is “fixed business establishment” the nature of the consmption of the service still matters. A business may have several fixed establishments, which may include a branch or agency. 

Let’s say an overseas business that sets up a branch comprising staff and offices in Nepal to provide services within Nepal – the Nepal branch is a “fixed business establishment”. 

Another example could be an overseas business that has contracts with Nepal customers to provide services; it has no human or technical resources in Nepal and therefore sets up a Nepal subsidiary to act in its name to provide those services – the overseas business has a fixed business establishment in Nepal created by the agency of the subsidiary. As expected there is quite a tricky dissection to be made here and it is equally important here to understand the meaning of what a “business” is – see that in my other post here: A Dummy’s Guide to Permanent Establishment – What is a business?  

Going back to the Cotiviti’s case, yes the parent company in the USA has a subsidiary in Nepal. And yes, of course by the virtue of being fully owned by a foreign company the Nepal subsidiary does not have “ownership independence” and also because of the economic, technical and managerial link to the parent entity in USA, it also arguably doesn’t enjoy the “operational independence” and yes it technically has its “fixed business establishment” in Nepal but that establishment doesn’t provide services in Nepal and even if it did it would be liable for indirect taxes of VAT only to the extent of its supplies of services within Nepal. So yes, the words of the law are not very intuitive but the investigators from DRI should have dived deeper into the legal intent of this exception principle in the Schedule 2(2) of the VATA. 

Our VAT law follows the destination/consumption principle of indirect taxation. It provides the zero rating benefit to export of goods and services like many countries around the world. Nepal, if it wants to, can very well bring about an amendment through the Finance Bill to not provide zero rating benefit to the export of goods and services if it wants to. In fact for comparison, that is what the legislators of Kenya did recently, and it was not deemed unconstitutional – (see the reference here: Kenya: High Court upholds imposition of VAT on exported services but that is not the position of our present tax laws – so this claim lodged by the DRI against Cotiviti for this disallowing the zero rating benefit for export of service is absolutely disheartening. 

Is there a litmus test to identify whether an export of service/goods qualifies for zero rating?

So, how should the test be done to identify whether the supply of the service is export of service qualifying for zero rating? 

In my opinion, to determine whether a service supply qualifies for zero-rated export status, several tests must be applied. Firstly this will require adherence to specific technical criteria, including receiving payment in foreign convertible currencies, having a valid service supply contract, and issuing a proper invoice in compliance with tax laws. In addition to these technical requirements, the following tests should also be satisfied:

  • Test 1: The service must be provided to a person who is a non-resident in Nepal, as specified in Schedule 2(2) of the VAT Act 2052.
  • Test 2: The service provided should directly benefit the non-resident recipient without the primary intention of benefiting the recipient’s establishment in Nepal, in accordance with Rule 16 of the VAT Rules 2053.
  • Test 3: The cost of the service provided should not be intended for direct recharge to Nepal without adding any value, aligning with the Consumption Principle of VAT.

I believe, if all these tests are successfully met, it can reasonably be concluded that the transaction related to the service supply qualifies as an export of service eligible for zero-rated VAT treatment. These tests ensure that the services are genuinely exported, align with the principles of VAT and qualify for zero rating, promoting fairness and compliance within the tax framework.

And what's with these exorbitant penalties and fees?

Penalties u/s 120 of ITA, 29(2) of VATA and 23 of RLICA: Double Jeopardy?

In the Ncell’s case, the Supreme Court has elaborated that the burden to prove the fraud under Section 120 of ITA lies with the assessing office and the basis for penalty under Section 120 of ITA can be applied only if the tax officer is able to prove through the facts and documents that: 
(a) the company has either knowingly, negligently or fraudulently submitted false or misleading statement on any matter or
(b) the company has not submitted the documents on its reach.
Else the penalty under Section 120 of ITA cannot be applicable. For more in depth discussion on this topic see my other post here: Principles underpinning the Ncell Case – Penalty under Section 120 of ITA

Similarly provision under Section 29(2) of VATA is also very much similar to the provision under Section 120. The penalties under Section 29(2) of the VATA apply in the nature of offenses of preparing false account invoices, evading tax by committing tax fraud, under invoicing and collecting tax without registration. 

In summary, based on the descriptions provided regarding the penalties under Section 120 of the ITA and Section 29(2) of the VATA, these provisions appear to address offenses that involve deliberate deception, fraud, or evasion of tax obligations. Criminal nature of charges involve offenses that are made knowingly, negligently, fraudulently, willful failure, deception. The nature of these offenses and the associated penalties suggest that they could be considered in the realm of criminal charges, especially given the serious implications and intentional misconduct involved. And even the Supreme Court in the case of Ncell Pvt. Ltd. v. Large Taxpayer’s Office 26-Aug-19 had alluded to this concept which was the reason why the court decided that the penalties under Section 120 should not apply in the case of Ncell Private Limited. The court referenced Section 120 of ITA, which outlines punishment for providing false or misleading information to the tax department. The inclusion of potential imprisonment and substantial fines underscores the gravity and legal classification of the offense as resembling a criminal act. See relevant reference here. A similar argument could be made in the nature of the penalties under Section 29(2) of the ITA. 

As per the prevalent revenue related laws, the super penalty of 100% of the amount in dispute is applied under Section 23 of the RLICA and this is applied in addition to the penalty under Section 120 of ITA and Section 29(2) of VATA. In Cotiviti’s case as well, the super penalty under RLICA was applied over the penalty under ITA and VATA. So based on the above, I think there might be an argument to be made that if a person is penalized under two different but revenue related laws for the same misconduct, it raises concerns about the potentiality of double jeopardy. The determination would hinge on whether the offenses are legally considered the same and whether the penalties serve duplicative purposes. A legal debate might be essential to assess the applicability of double jeopardy protections in this particular scenario. A topic for legal debate so we will leave it here for now. 

Non payment fines at 10% p.a. and non-filer fine at 18% p.a.: And that in addition to the regular 15% interest rate

It’s baffling that nobody seems to be addressing the exorbitant and extortionate provisions within the Value Added Tax Act (VATA) when it comes to tax payment. While failure to file tax returns and pay fines is undoubtedly serious, the penalties imposed on taxpayers are nothing short of outrageous, reaching up to a staggering 43% per annum of the tax payable in the form of interest and fees. If these provisions weren’t embedded in the law, they would unquestionably be labeled as racketeering.

Consider this:
1. Any delay in VAT payment incurs interest at a staggering rate of 15% per annum under Section 26 of the VATA.
2. On top of that, fines at a punitive 10% per annum are slapped on for any payment delays, as per Section 19(2) of the VATA.
3. As if that weren’t enough, delays in filing VAT returns result in fines at an astronomical 18% per annum under Section 29(1)(Ja) of the VATA.

In any reasonable context, this represents pure extortion. Why is there a need to extract up to 43% of the tax dues in the form of interest and penalties? And let’s not forget the additional 100% penalty under Section 29(2) that tax authorities seem all too eager to impose on taxpayers at their discretion. The 15% interest rate alone is exorbitant, but coupled with a 28% fine, the cumulative burden becomes utterly unsustainable.

It’s ironic that in a country where laws against profiteering and black-marketing exist, where penalties and imprisonment can be brought upon for receiving undue profits exceeding just 20%, the government engages in collecting interest at a jaw-dropping rate of 43% per annum on tax payable amounts, even in cases where there’s no deliberate deception or fraud. This blatant contradiction of law deserves urgent attention and reform. Reference: Section 3 of Black-marketing and Some Other Social Offenses and Punishment Act, 2032.

Yes, the claim against Cotiviti is greater than its combined revenues over the last 18 years - Bizarre

Alright, before wrapping up, there’s one more crucial aspect about the charge against Cotiviti Nepal that demands attention. I found it utterly perplexing and logically flawed how the sales figures were assessed in the DRI’s investigation. When computing Cotiviti’s export sales over the years, the investigators from DRI decided to include the amount of input VAT refunds received by Cotiviti Nepal from the IRD back into the sales amount. Frankly, I could not grasp the rationale behind this approach. Wouldn’t it be more sensible to pursue the recovery of those VAT refunds along with any applicable interest and fines, if we’re truly adhering to the principles of refund procedures?

Instead, what happened was these refund amounts were added back into the export sales figure, resulting predictably in the entire amount being subjected to interest, fines, and penalties under VATA, along with super penalties under the RLICA. There was no separate consideration or claim made for the VAT refunds that were deemed ineligible. Doesn’t it seem more natural to reevaluate VAT refunds that are later found to be ineligible, rather than inflating export sales figures? This approach would definitely have better served the purpose of boosting the claim amount, especially given the questionable charges, claims, and the lackluster investigation into value-added tax matters because it’s almost as if the DRI was fixated on maximizing the numbers without regard for fairness or accuracy in their assessment.

And lastly, here is the most important figure that I came across during this research. The total revenues of the Cotiviti Nepal Private Limited since its establishment (only export income) totals to Rs. 9,910,111,275. Reference. However, considering the total claim lodged against Cotiviti by DRI is Rs. 10,364,522,642 – so I guess, yes DRI pretty much emerged victorious in this Pole Vault Olympics for tax assessments. Even if one agrees with all the charges against Cotiviti, this definitely is not a pretty picture for the foreign investment optics in Nepal. 

How I wish this case panned out - from the lens of a tax practitioner

Yes, the IT industry is all important and all – that is a very important argument to be made. Here is the report from Institute for Integrated Development Studies (IIDS) that delves into the potential of the IT industry in Nepal. Reference: Unleashing IT: Advancing Nepal’s Digital Economy. The major findings from the report suggests that, as of 2023, the IT service export industry in Nepal is valued at around USD 515 million, supported by a network of 106 IT service export companies and 14,728 IT freelancers specializing in software development and technology. Additionally, there are 51,781 IT freelancers actively exporting IT services through various digital platforms – clearly indicating the importance of IT industries in Nepal. 

And there are people in the IT and consulting industries who want the case against Cotiviti withdrawn entirely. And there is news that the Prime Minister Pushpa Kamal Dahal is considering the withdrawal of the case following the brief he received from Finance Minister Barshaman Pun. Normally, once a case is filed by the DRI following a decision by the Public Prosecutor’s Office, it cannot be withdrawn by the DRI once it reaches court. However, the Attorney General’s Office has the authority to withdraw the case if approved by the Council of Ministers. Reference:  PM contemplating withdrawing case against Cotiviti Nepal

As a tax practitioner, I am eager to witness the Income Tax related charges unfolding in the court because DRI has some valid arguments pertaining to these specific income tax charges, which I know many tax practitioners, lawyers, accountants are keen to see addressed. However, when it comes to the claim under the Value Added Tax Act (VATA), like everyone, my belief is also that it lacks any substantial merit and it is better if this particular VAT related charge is withdrawn. If the government intends to raise indirect taxes on service export income, that’s fine, there is a way to do that, introduce amendments to the Finance Act, similar to what Kenya has implemented.

Wow, that was a marathon. I’ve been pounding my keyboards like a Beethoven for the past two days for this. Thanks a ton for reading !!