Bedbahadur vs. Rastriya Banijya Bank

Remember when discussion on SSF used to be a thing? Many people were frustrated and even officers of SSF also faced some ordeals, having to provide justifications to every text of the law, and the discussions were dull and boring most of the time. Well, now the SSF case has been sent for terminal diagnosis at the Supreme Court. If you want to revisit the SSF discussions, here are the links:

  1. Confusions surrounding Social Security Fund (SSF)
  2. Will I be taxed on my Social Security Benefits?
  3. Debunking the Social Security Fund of Nepal
  4. Yet another few FAQs on Social Security Fund
  5. Can I take loan from SSF now?
  6. Joe Generic is a participant of SSF in Nepal

And there are topics on retirement payments, contributory and non-contributory schemes, approved and unapproved retirement funds, the expenses and the provisions, and the provident funds and gratuities that also needs similar discussions. Here are some topics that points these issues but one of these topics (Belbahadur v/s RBB) has already turned out to be an ingenuous perplexity and leading to the frustrated starting of this post.

  1. Certain & Provision Liability as per Income Tax Act
  2. Contributory and Non Contributory Retirement Plan
  3. from Gratuity48 to Gratuity74: Ep01
  4. from Gratuity48 to Gratuity74: Ep02
  5. from Gratuity48 to Gratuity74: Ep03

Timeline showing the position of the tax law on Retirement Payments


Computation of Gains

Exempted Retirement Payments

Incomings and Outgoings

Withholding Taxes

Summary of the Decision

To put it honestly, the decision from the court is a bit shallow. It has failed to delve into and interpret the meaning of contributory and non contributory retirement plan.

Facts of the Case: Rastriya Banijya Bank operates a RBB Retirement Fund, an approved retirement fund. The retirement fund has various schemes of retirement plans. In my view, reading from the decision, the schemes are very much comparable to those operated by the Citizen Investment Trust. Para 2 of the Decision has identified the nature of the schemes operated by the Fund, viz: Employee Provident Fund, Medical Expenses, Welfare Provident Fund, Term Life Insurance, Gratuity Scheme, 7 Year Retirement Plan, Leave Payments and so on. Typically, these are also the normal retirement schemes operated by many entities or employers in Nepal.
Although the decision doesn’t delve into the plans, fall backs, entitlements and contributions regarding each scheme, it can be inferred from the discussion in Para 8 and Para 11 that the schemes operate separately, as they normally do. For example, the Provident Fund scheme is different from the Gratuity Scheme.

Para 11 of the Decision is of particular importance as the RBB Retirement Fund asserts its most important fact here. The RBB Retirement Fund argues that since the contribution for the Gratuity Scheme made by the employer into the Fund (i) doesn’t come from the income of the employee, and (ii) the employer’s contribution is not stubbed to the taxable income of the employee, the Gratuity plan is therefore non-contributory plan. Correct Indeed. But the Court’s Decision doesn’t return to this argument of the RBB Retirement Fund.
View more discussion on this topic here in my other blog: Contributory and Non Contributory Retirement Plan

Highlights of the Decision

Technically Incorrect at Para 30?

In para 30 of the decision, the court tries to establish that Section 65 provides for the method of computing the retirement payment gain from payments made by approved retirement funds. However, that cannot be further from the current position of the law. The position of the law is that, Section 65 only defines the method of computing the gain from contributory scheme’s retirement payment from Approved Retirement Fund.

दफा ६५(१): कुनै प्राकृतिक व्यक्तिको कुनै स्वीकृत अवकाश कोषमा रहेको योगदानमा आधारित हितबाट भएको वा नेपाल सरकारबाट भएको अवकाश भुक्तानी आय गणना गर्ने प्रयोजनको लागि देहाय बमोजिम हुनेछ: (क) सो कोषमा रहेको हित बापत सो कोषले गरेका अवकाश भुक्तानीहरूलाई आयमा समावेश गर्नु पर्नेछ, र (ख) खण्ड (क) मा जुनसुकै कुरा लेखिएको भए तापनि यदि त्यस्तो भुक्तानी एकमुष्ठ रूपमा गरिएको छ भने यसरी गरिएको भुक्तानी रकमबाट सो भुक्तानी रकमको पचास प्रतिशत वा पाँच लाख रूपैयामध्ये जुन बढी हुन्छ सो रकम घटाई हुने भुक्तानीलाई सो प्राकृतिक व्यक्तिको गैर व्यावसायिक करयोग्य सम्पत्तिको निःसर्गबाट प्राप्त लाभ मानिनेछ ।

Thus the court reaching to the conclusion that the same provision applies to the non-contributory retirement payment is not technically correct.

Technically Incorrect at Para 26?

Rolling back to our main topic here. The court again in Para 26 tries to establish that withholding under Proviso for Section 81(1) applies in the retirement payment of a non-contributory scheme, providing an explanation on the Latin Lexis: Generalia Specialibus non Derogant, totally uncalled for in the situation. The position of the law is that, the 5% withholding rate for retirement payment from Approved Retirement Fund only applies in case of payment from contributory retirement scheme.

दफा ८८(१): बासिन्दा व्यक्तिले नेपालमा स्रोत भएको ब्याज, प्राकृतिक स्रोत, भाडा, रोयल्टी, सेवा शुल्क, कमिशन, बिक्री बोनस, अवकाश भुक्तानी र अन्य कुनै प्रतिफल तथा अवकाश भुक्तानीको रकम भुक्तानी गर्दा कुल भुक्तानी रकमको पन्ध प्रतिशतका दरले कट्टी गर्नु पर्नेछ । तर देहायको भुक्तानीमा देहायका दरले कर कट्टी गर्नु पर्नेछ: (१) नेपाल सरकारबाट भएको अवकाश भुक्तानी वा स्वीकृत अवकाश कोषबाट भएको योगदानमा आधारित अवकाश भुक्तानीको हकमा दफा ६५ को उपदफा (१) को खण्ड (ख) बमोजिम गणना गरिएको लाभमा पाँच प्रतिशतका दरले, ….

Here again, in my opinion, the Court failed to correctly interpret the difference of the contributory retirement scheme and non-contributory retirement scheme but went into exasperating Generalia Specialibus non Derogant discussion.

So, what should have happened?

The RBB Retirement Fund’s taxation on the event was correct based on the position of the law. Unlike the payment from the Provident Fund Scheme, the payments under the Gratuity Scheme were (i) not stubbed as employment income for taxation at the hand of the employee, and (ii) the employee has not contributed to the Gratuity Scheme out of their income, so this Gratuity Scheme is certainly a non-contributory retirement payment and thus should have been subject to the taxation under Section 88(1) at the rate of 15%.

Readers may have a question in mind: How is the gain for non-contributory scheme calculated?: Well, it never is a trouble, because since the employee doesn’t have any contribution to the retirement scheme so the retirement payment is not eligible for any deduction. The entire amount derived by the employee is an income to the employee and will be subject to taxation as per the withholding rate of 15% under Section 88(1) which is also a final withholding payment under Section 92 of the Income Tax Act, 2058.

But why contributory and non-contributory?

Why is there a difference between the two

The retirement schemes are divided broadly into two categories of (i) Contributory Schemes and (ii) Non-contributory Schemes. There is a need to separate retirement schemes into these categories mainly because of the following reasons:

  1. Due to the fact that the contribution of the employer and employee may be different
    • Both of them may contribute equally, (e.g. Provident Fund)
    • Both of them may contribute but unequally, or (e.g. Social Security Fund)
    • Only one may contribute (e.g. Gratuity)
  2. Due to the fact that in most tax jurisdictions the employment income is taxed on cash/realization basis so the Non-contributory Schemes needs to be separated for the taxation purposes

Why is there a need for the two

In a contributory plan, the employee pays into the plan from their income. When the employee pays into the plan from their income to be later received after a certain time, it essentially is a form of investment. This contribution of the employee into the plan creates an interest of the employee in the plan.

Following this same principle, if the employer also contributes into the same plan for the employee, then it becomes an addition into the employee’s interest in the plan, so it is treated as realized income of the employee and becomes his taxable income. The employer’s contribution into this employee’s investment is basically the exact equivalent to cash contribution. This is a reason for why the employer’s contribution into a contributory plan is stubbed as a income head in the payslip of the employee, despite the fact that investment and employment income of employee is recognized in cash basis. This is the reason why employer’s contribution to Provident Fund is treated as income of the employee while at the time of contribution while at the same time Gratuity contribution of the employer is not. Although the interest of the beneficiary in contributory plan is an investment it has been specifically excluded from the definition of the non business chargeable assets in Nepal. This is because to ease the unnecessary tax administration and tax frictions to the individual, but not to depart from the principle we discussed above.

Similarly, in a non-contributory plan, only the employer contributes. When the employee doesn’t contribute to the plan, essentially, the employee has no investment interest in the plan. Here, “interest of employee” should not be confused with “entitlement of employee” as the employee’s entitlement to the amount may depend on the timing, employment contract, scheme plan and conduct of the employee under the labor regulation as well in some cases. . So the contributions made by the employer to a non-contributory scheme are not stubbed as an income head in the payslip of the employee unless they are actually paid to the employee at the point of retirement or death.

Why the different rates of taxes: 5% and 15%

The rate of different taxes has to do something with the taxation of investment income and employment income. The retirement payment received in the contributory plan is in the nature of investment of the employee, and as with other investment incomes, the rate of taxation is lower i.e. 5%. However, in the case of the retirement payment from a non-contributory scheme, this is a payment of the employment income, thus as with other employment income, the rate of taxation is higher. A trivia: Countries around the world tax employment income higher but investment income at comparatively lower rates, because investment is the utilization of savings into the productive sector, that allows the financial institutions to be the lender of the money and create value in the economy. However, in the case of the employment income, it could very well be consumption and the government doesn’t interfere with the rights of the consumers but incentivizes them to save and invest (e.g. through reduced tax rates).

However, the reasoning that the taxes on investment income is usually lower than the employment income may not always translate into picture. The retirement payments like provident fund, gratuity and many facets of the labor laws in welfare state like ours are strictly regulated by the government and the decision of the employee to actually invest or consume their earnings do not always depend on the employee, but more on the provisions of the labor regulations. It’s an intolerable adversity to people in social welfare state like our country who put some of their faith in the economy and capitalism.

Another reason for the taxation of retirement payment from non-contributory schemes is that, the employer’s contribution to such schemes are not stubbed as taxable income to the employee at the time of contribution unlike contributory schemes. In contributory schemes like Provident Fund, the employer’s contribution is already stubbed as employee’s taxable income at the time of contribution and hence the taxes at the time of actual distribution is applied at the reduced rate. 

Some important FAQs on Retirement Payments

Is SSF a Contributory Scheme?

This is an important and a burning topic. See the discussions in my other blogs: 

  1. Joe Generic is a participant of SSF in Nepal
  2. Yet another few FAQs on Social Security Fund

Retirement payment to person other than dependents

Section 2(nga) of the Act provides the meaning of the Retirement payment which is quite narrow in its scope, also as discussed above. The definition provides that Retirement payment means any payment made to the following person: (1) Payment made to an individual where such person has got retirement, or (2) Payment to the dependent of an individual where such person has died.

So the question is, what if the person who has died has successors but are not the person’s dependents. From the text of the law the tax rate applicable could be 15%, as it is not covered by the term “Retirement Payment” of the Act. This could also depend on the arrangement of the estate, personal trusts, or will of the person who has died, in which case this may not be taxed to the beneficiary but to the estate or trust of the deceased person. A topic for future discussions.

Thanks for reading !!