STUDY GUIDE: Safe Harbour Rules and Advance Pricing Agreements

Sections 33A and 33B of the Income Tax Act, 2058, as inserted by the Finance Act, 2083

A Technical Reference on Nepal's Transfer Pricing Certainty Framework

1. Introduction and Legislative Background

Nepal's transfer pricing regime governs the pricing of transactions between associated persons, primarily to prevent the erosion of the domestic tax base through the artificial shifting of profits across related entities. Section 33 of the Income Tax Act, 2058 (2002) has, since the Act's inception, empowered the Inland Revenue Department ("the Department") to adjust the price of a controlled transaction to its arm's length value where it considers that a transaction between associated persons has not been priced on that basis. For over two decades, however, this provision operated without a detailed statutory methodology, without a formal advance ruling mechanism, and without any simplified compliance route for routine or low risk transactions.

This position changed materially with the Finance Act, 2083 (2026), which inserted two new provisions into the Income Tax Act: Section 33A, establishing a Safe Harbour Rule ("SHR"), and Section 33B, establishing a statutory Advance Pricing Agreement ("APA") mechanism. Read together with the Income Tax Rules and the Inland Revenue Department's Transfer Pricing Directives, 2081, these provisions mark Nepal's transition from a purely audit driven, backward looking transfer pricing framework to one that also offers taxpayers forward looking certainty.

1.1 Why Safe Harbours and APAs Were Introduced

The policy rationale for introducing SHR and APA into the Nepalese framework rests on considerations that are well recognised internationally and that carry particular weight in Nepal's administrative and economic context:

• Compliance cost reduction: a full arm's length analysis, comprising functional, asset and risk analysis, benchmarking studies and contemporaneous documentation, is disproportionately burdensome for small and mid sized exporters, particularly in the information technology and IT enabled services sector, relative to the tax revenue at stake.

• Dispute reduction and administrable certainty: without a safe harbour or an advance agreement mechanism, every controlled transaction remains open to challenge on audit, often several years after the transaction has taken place, creating prolonged uncertainty for both the taxpayer and the revenue administration.

• Directing limited audit resources to higher risk cases: a safe harbour allows the Department to accept a prescribed outcome for standardised, lower risk transactions, freeing scarce audit capacity for complex or high value related party dealings.

• Investment climate and competitiveness: Nepal's principal trading and investment partners, including India, and the OECD member states more broadly, have operated safe harbour and APA regimes for over a decade. The absence of comparable certainty tools was viewed as a competitive disadvantage in attracting export oriented investment, particularly in IT and IT enabled services.

• Alignment with international practice: both instruments are recognised under the OECD Transfer Pricing Guidelines, and safe harbours were the specific subject of the revised guidance issued following the 2013 OECD review, which reversed the earlier scepticism toward safe harbours and endorsed their use where appropriately designed.

1.2 Structure of This Guide

This guide examines Section 33A and Section 33B in turn, situates each provision within Nepal's pre-existing transfer pricing framework under Section 33, draws comparisons with the Indian safe harbour and APA regimes given their structural similarity and Nepal's proximity to Indian practice, and considers practical implementation issues that arise in applying the new provisions. Illustrative computations are included to demonstrate how the statutory tests operate in practice.

2. Nepal's Transfer Pricing Framework: Position Before the Finance Act, 2083

Section 33 remains the principal charging and adjustment provision for transfer pricing in Nepal. It applies to transactions between associated persons and permits the Department to determine an arm's length amount where the actual pricing of a controlled transaction diverges from what independent parties would have agreed. Prior to the Finance Act, 2083, this determination could only be made on audit, that is, after the relevant income year had closed and the return had been filed. A taxpayer had no statutory route to fix, in advance, either the pricing methodology or the outcome for a given transaction, and no abbreviated compliance option for transactions that were inherently low risk.

2.1 Consequences of the Audit Only Model

Table 2.1: Limitations of the pre-2083 transfer pricing framework.

The Finance Act, 2083 did not repeal or replace Section 33. Instead, it layered two additional, opt in mechanisms onto the existing framework. Section 33A and Section 33B both begin with a non obstante clause ("Notwithstanding anything contained in Section 33"), signalling that where their respective conditions are satisfied, they override the general arm's length determination under Section 33 for the transactions and periods they cover, without displacing Section 33 as the default rule for all other transactions.

3. Safe Harbour Rules: Section 33A

Section 33A permits an eligible person to determine the transfer price of a controlled transaction at its arm's length value by reference to prescribed statutory parameters, rather than through an individualised benchmarking exercise. Where the conditions of the section are satisfied, the prescribed outcome is deemed, for the purposes of the Act, to represent the arm's length value, and the taxpayer accepts that value when filing the income tax return.

3.1 Eligibility: The Turnover Threshold

Subsection (1) restricts eligibility to a person whose annual turnover does not exceed NPR 100 crore, equivalent to NPR 1 billion. This ceiling performs two functions. First, it confines the safe harbour to small and mid sized taxpayers, consistent with the underlying policy rationale of reducing compliance costs where the revenue at stake is comparatively limited. Second, it distinguishes the safe harbour population from the larger multinational groups for which an individualised Advance Pricing Agreement under Section 33B, or continued audit under Section 33, remains the appropriate route, since larger transaction volumes justify a more tailored analysis.

3.2 Qualifying Conditions Under Subsection (3)

Subsection (3) is structured disjunctively: a taxpayer need only satisfy one of the three limbs to qualify. Each limb corresponds to a distinct category of controlled transaction.

Table 3.1: Safe harbour categories and parameters under Section 33A(3).

(a) IT service exports: a cost plus test

The 15% operating margin test in limb (a) is structured as an operating profit to operating cost ratio (a "cost plus" formulation), consistent with how comparable safe harbours are computed internationally, including in India. This is a floor, not a fixed rate: a taxpayer whose actual margin exceeds 15% may still elect the safe harbour and need not additionally justify the excess margin, provided the other conditions of the section, including the five year continuity requirement discussed below, are met.

(b) Intra group foreign currency loans: a spread over benchmark

Limb (b) addresses the pricing of related party financing, historically one of the more contentious categories in Nepalese transfer pricing practice given the absence of a deep domestic bond market against which to benchmark intra group interest rates. By fixing an acceptable spread of 200 to 400 basis points over a benchmark rate (with the precise spread within that range, and the identity of the benchmark itself, left to subordinate rules), the provision converts what would otherwise be a fact intensive comparability exercise, requiring analysis of currency, tenor, credit rating and security, into a mechanical test.

(c) Low value adding services: a 5% cost mark up ceiling

Limb (c) mirrors the treatment of low value adding intra group services found in the OECD Transfer Pricing Guidelines (Chapter VII) and in several national safe harbour regimes, which typically cap the mark up on cost for services of a supportive, non core nature, such as routine administrative, accounting, human resources or IT support services, at a modest level reflecting their limited value contribution. Unlike limbs (a) and (b), this limb operates as a ceiling rather than a floor: the taxpayer's mark up must not exceed 5% of total cost. The precise scope of "low value adding services" is left to the Department to prescribe, which will be determinative of how widely this limb can be relied upon in practice.

3.3 Continuity: The Five Year Lock In

Subsection (4) requires that, once elected, the safe harbour arrangement continue for five consecutive income years, unless there is a material change in the nature and circumstances of the transaction. This continuity requirement serves administrative efficiency, since it removes the need for annual re-election and re-verification, but it also has the practical effect of committing the taxpayer to the safe harbour parameters for a multi year period. A taxpayer electing the safe harbour in a year of unusually favourable margins should therefore consider whether those margins, or better, are likely to be sustainable over the following four years, since the Act does not appear to provide an unconditional right of exit before the five year term expires, short of a material change in the transaction's nature and circumstances.

3.4 Compliance Mechanics

• Election is made at the point of filing the income tax return, and subsection (2) requires the taxpayer to accept the safe harbour transfer price as the arm's length value in the manner prescribed by the Department.

• Subsection (5) delegates the implementation procedure to the Department, meaning the operative detail, including the precise form of election, the benchmark rate for limb (b), and the scope of "low value adding services" for limb (c), will depend on subordinate rules and directives rather than the Act itself.

• The safe harbour does not, on the face of the Act, relieve a taxpayer of ordinary record keeping obligations. Even where the statutory margin is met, contemporaneous evidence that the transaction genuinely falls within the relevant category, such as export invoices, loan agreements or cost allocation workings, remains prudent to substantiate eligibility if queried.

3.5 What Section 33A Does Not Do

It is important to be precise about the scope of the safe harbour. Section 33A does not exempt a transaction from the definition of a controlled transaction, does not remove the transaction from the associated person regime generally, and does not bind the Department in respect of transactions that fall outside the three prescribed categories, or that belong to a taxpayer exceeding the turnover threshold. Nor does electing the safe harbour under Section 33A prevent the Department from verifying, on audit, whether the taxpayer genuinely meets the eligibility conditions, such as the turnover threshold or the classification of a service as "low value adding"; what the safe harbour forecloses is a challenge to the pricing itself once eligibility is established.

4. Advance Pricing Agreements: Section 33B

Where Section 33A offers a standardised, self assessed outcome for defined categories of transaction, Section 33B offers a negotiated, individually agreed outcome for a taxpayer's specific international transactions with associated persons. An APA is, in substance, a contract between the Department and the taxpayer, fixing in advance the methodology (and, in consequence, the outcome) by which the arm's length value of covered transactions will be determined for a specified future period, and in defined circumstances, for past periods as well.

4.1 Scope: International Transactions Only

Subsection (1) confines the APA mechanism to an "international transaction between associated persons", in contrast to Section 33A, which is not expressly limited to cross border dealings (the three safe harbour categories are, in practice, predominantly cross border in character, but the section itself does not use the words "international transaction"). This distinction matters for a taxpayer with both domestic and cross border related party dealings: only the latter can be the subject of an APA, whereas domestic controlled transactions remain governed by Section 33 (or, where eligible, Section 33A) alone.

4.2 Unilateral, Bilateral and Multilateral Agreements

Subsection (2) extends the APA mechanism to bilateral or multilateral agreements where Nepal has a Double Taxation Avoidance Agreement ("DTAA") in force with the relevant treaty partner under Section 73, and that DTAA contains a Mutual Agreement Procedure ("MAP") article. In such cases, Nepal's competent authority may coordinate directly with the treaty partner's competent authority, so that the resulting agreement binds both revenue administrations to a common transfer pricing outcome. This is significant because a purely unilateral APA, agreed only with the Nepalese Department, does not itself bind a foreign tax administration; the counterparty jurisdiction could, in principle, still adjust the corresponding transaction on its own terms, creating a risk of double taxation that a bilateral or multilateral APA is specifically designed to avoid.

Table 4.1: Unilateral compared with bilateral or multilateral APAs under Section 33B.

4.3 Content of the Agreement

Subsection (3) specifies that an APA must fix the methodology for determining the arm's length price, together with three categories of supporting content:

• Comparable assumptions: the comparable companies, transactions or data on which the agreed methodology is based.

• Critical assumptions: the operating and economic conditions (for example, exchange rates, business model, or market conditions) that must continue to hold for the agreement to remain valid; a material departure from a critical assumption is what triggers the cessation of the agreement under subsection (6), discussed below.

• Other necessary conditions: any further terms the Department and the taxpayer consider necessary to give the agreement practical effect.

Once these elements are settled and the agreement is concluded, the value determined by applying the agreed methodology is treated, for all purposes of the Act, as the arm's length value of the covered transaction. This is the central legal effect of an APA: it replaces an open ended Section 33 enquiry into arm's length value with a fixed, pre-agreed formula.

4.4 Duration and Rollback

Subsection (4) caps the forward looking term of an APA at five consecutive income years. Subsection (5) separately permits the parties to agree a rollback, extending the agreed methodology to international transactions of up to four income years preceding the year in which the agreement takes effect. Combined, these provisions allow an APA to cover a span of up to nine income years, being four years of rollback plus five years of forward application, although the rollback is optional and depends on mutual agreement rather than being available as of right.

Table 4.2: Duration and rollback under Section 33B.

4.5 Binding Effect, Material Change, and Cancellation

Subsection (6) makes the agreement binding on both the taxpayer and the Department, subject to a proviso: the agreement ceases to bind if there is a material change in the conditions specified in the agreement (that is, a departure from the critical assumptions recorded under subsection (3)) or in the applicable legal provisions themselves, for instance a subsequent statutory amendment to Section 33B or related provisions.

This is distinct from cancellation for cause under subsection (7), which addresses taxpayer misconduct rather than a change in circumstances. Where the Department establishes that an agreement was obtained by fraud, misrepresentation of facts, or the submission of incorrect or false information, it may cancel the agreement with retrospective effect from its inception, restoring the ordinary Section 33 position for the entire period the agreement had purported to cover, subject to the Department providing notice of the cancellation to the taxpayer.

Table 4.3: Distinguishing a material change from cancellation for cause.

4.6 Fees and Procedure

Subsection (8) provides for a prescribed application fee, and subsection (9) delegates the application format, required documentation and renewal procedure to the Department. As with Section 33A, the operative detail of the APA process, including the stages of application, evaluation, negotiation and conclusion, will therefore depend on the applicable rules and directives rather than the Act alone.

That fee has now been prescribed. Rule 15 of the Income Tax Rules, 2059, as replaced by the Income Tax (Seventeenth Amendment) Rules, 2083 with effect from 1 Shrawan 2083, sets the application fee at NPR 500,000 for a person with annual turnover up to NPR 10 billion, and NPR 1,000,000 for a person with annual turnover exceeding NPR 10 billion. A person seeking to renew an existing agreement under Section 33B must pay 50 percent of the applicable fee at the time of applying for renewal.

5. Comparative Perspective: India and International Practice

Nepal's SHR and APA framework follows a structure that is broadly familiar from comparable regimes in the region and from OECD guidance, while reflecting choices suited to the scale of Nepal's economy and its taxpayer base. India provides the most instructive comparator, both because of the structural similarity of its safe harbour and APA rules and because of the close economic and administrative linkages between the two jurisdictions.

5.1 Safe Harbour Margins Compared

Table 5.1: Illustrative comparison of safe harbour design between Nepal and India. Indian margins are periodically revised by notification and should be verified against the rules in force for the relevant assessment year.

Two structural differences stand out. First, Nepal's safe harbour is gated by an overall taxpayer level turnover ceiling, whereas India's is gated at the level of the individual eligible transaction, with value based tiers that allow even larger groups to access the safe harbour for smaller categories of transaction. Second, Nepal's framework is deliberately narrower in scope, comprising three categories against India's broader schedule (which has, at various times, also covered contract research and development, manufacturing and distribution of core and non core auto components, corporate guarantees and receivables). This narrower initial scope is consistent with a phased approach to introducing safe harbours, allowing the framework to be extended to further categories, subject to policy assessment, once initial administrative experience has been gained.

5.2 APA Process Compared

India's APA scheme, in force since 2012, similarly provides for unilateral, bilateral and multilateral agreements, a maximum forward term of five years, and a rollback of up to four years, a structure that Nepal's Section 33B mirrors closely. India's experience over more than a decade demonstrates both the strength and the principal limitation of the APA route: agreements provide durable certainty once concluded and, in India's case, a high rate of resolution once an application is admitted, but the negotiation process, particularly for bilateral agreements requiring competent authority coordination, can extend over several years from application to conclusion. For Nepal, where the APA mechanism is newly established and institutional capacity for economic and comparability analysis is still developing, taxpayers should anticipate that early bilateral applications may take considerable time to conclude, and should factor this into their planning, particularly where rollback relief for open years is a significant consideration.

5.3 Alignment with OECD Guidance

Both instruments align with the OECD Transfer Pricing Guidelines. The OECD's 2013 revision of its safe harbour guidance (Chapter IV) reversed earlier reservations and endorsed safe harbours as a valid simplification measure provided they are properly designed and confined to appropriate categories of transaction, a principle reflected in Nepal's narrow, category specific approach rather than a blanket safe harbour. Similarly, the APA guidance in Chapter IV of the OECD Guidelines, and the emphasis on bilateral and multilateral agreements as a superior route to eliminating double taxation compared with unilateral arrangements, is mirrored in Section 33B's explicit preference for coordinating with treaty partners through MAP wherever a DTAA with a MAP article is in place.

6. Interaction Between Section 33, Section 33A and Section 33B

A taxpayer with cross border related party transactions in Nepal must now consider three overlapping, but distinct, routes to establishing the arm's length value of those transactions. The choice between them depends on the size of the taxpayer, the nature of the transaction, and the taxpayer's tolerance for administrative process against the value of forward certainty obtained.

Table 6.1: Comparative features of the three transfer pricing routes now available under the Income Tax Act.

In practice, a taxpayer's transactions may sit across all three routes simultaneously: routine, lower value IT service exports within the safe harbour may be self assessed under Section 33A, while a more complex or higher value related party arrangement, such as the licensing of intangibles or a significant management services arrangement, may be the subject of a separate APA under Section 33B, with any remaining, non qualifying transactions defaulting to Section 33 and remaining exposed to audit.

7. Practical Application and Worked Illustrations

The following illustrations are constructed for teaching purposes to demonstrate how the statutory tests in Section 33A operate; the figures are hypothetical and should not be relied upon as representative of any actual taxpayer.

7.1 Illustration: IT Service Export Margin Test (Section 33A(3)(a))

A Nepalese company provides software development services exclusively to its foreign parent, its sole associated person, and wishes to determine whether it may elect the safe harbour for the income year.

Table 7.1: Computation of the operating profit margin for the safe harbour test.

Since the computed margin of 17.5% exceeds the 15% floor prescribed in Section 33A(3)(a), the company may elect the safe harbour, provided its annual turnover across all segments does not exceed NPR 100 crore and provided the transaction is properly characterised as an export of IT services within the meaning to be prescribed by the Department. Having elected, the company should be prepared for that election, once made, to continue for five consecutive income years under subsection (4), and should therefore assess whether a margin at or above 15% is realistically sustainable over that horizon before electing.

7.2 Illustration: Intra Group Foreign Currency Loan (Section 33A(3)(b))

A Nepalese subsidiary receives a foreign currency loan from its overseas parent and wishes to determine an interest rate that qualifies for the safe harbour.

Table 7.2: Determining the acceptable interest rate band under the safe harbour.

Provided the loan agreement fixes an interest rate within the resulting band, and provided the subordinate rules confirm both the benchmark rate to be used and the applicable point within the 200 to 400 basis point range for the relevant currency or loan tenor, the taxpayer may treat the agreed rate as the arm's length value without a bespoke comparability study of third party lending rates.

7.3 Illustration: Low Value Adding Services (Section 33A(3)(c))

Table 7.3: Applying the 5% cost mark up ceiling for low value adding services.

Here the safe harbour operates as a ceiling rather than a floor: a charge of NPR 10,500,000 or less will satisfy the safe harbour, whereas a charge in excess of that amount would take the transaction outside the safe harbour for that category, requiring the excess to be justified, if at all, under the general Section 33 arm's length standard. As with the other limbs, the classification of the underlying service as "low value adding" is itself dependent on the categories the Department prescribes.

8. Implementation Issues and Open Questions

The Act establishes the framework for SHR and APA, but a significant amount of operative detail is left to subordinate rules and directives issued by the Department. Several questions will need to be resolved through that subordinate legislation and through early administrative practice.

8.1 Under Section 33A

• The precise benchmark rate and applicable spread within the 200 to 400 basis point range for foreign currency loans, and whether the spread varies by loan tenor, currency or borrower credit profile.

• The scope of "low value adding services" for the purposes of limb (c), including whether categories are defined by a positive list, a negative list, or a set of functional criteria.

• The form and timing of the election under subsection (2), and whether an election, once made, may be revisited within the five year continuity period other than on a material change in the nature and circumstances of the transaction.

• Whether the turnover threshold in subsection (1) is tested on a standalone entity basis or by reference to a wider group, and how turnover is computed where a taxpayer has both eligible and non eligible transactions or business segments.

• The interaction between an SHR election and the taxpayer's ordinary documentation obligations under Section 33 and the Transfer Pricing Directives, in particular whether reduced documentation is prescribed for safe harbour transactions.

8.2 Under Section 33B

• Rule 15, as replaced by the Income Tax (Seventeenth Amendment) Rules, 2083, now fixes the application fee at NPR 500,000 or NPR 1,000,000 depending on the applicant's annual turnover, with a 50 percent renewal fee. It remains unclear whether this flat, turnover based fee is intended to apply uniformly regardless of whether the application is unilateral, bilateral or multilateral, given the materially different resource commitment each requires from the Department.

• The procedural stages of the APA process, including pre-filing consultation, formal application, due diligence and negotiation, and the expected timeline for each stage, none of which is specified in the Act itself and will depend on the rules to be prescribed under subsection (9).

• The evidentiary standard and process the Department will apply in establishing fraud or misrepresentation for the purposes of retrospective cancellation under subsection (7), and the taxpayer's procedural rights to respond before cancellation takes effect, beyond the bare requirement of notice.

• How a change in "applicable legal provisions" under subsection (6) is intended to interact with an APA already in force. For example, whether a prospective amendment automatically terminates all existing agreements referencing the amended provision, or whether termination requires a further administrative step.

• The capacity of Nepal's competent authority function to process bilateral and multilateral applications in coordination with treaty partners, which will be a significant determinant of how quickly Section 33B(2) agreements can be concluded in practice.

8.3 Sequencing Considerations for Taxpayers

Given that both instruments are new and their subordinate rules are still developing, taxpayers assessing which route to pursue should weigh the following considerations: the relative certainty of qualifying for the Section 33A safe harbour against the value of individually tailored terms available only through a Section 33B agreement; the five year continuity commitment attached to a safe harbour election against the more flexible (but individually negotiated) term of an APA; and, for taxpayers with material cross border exposure to a treaty partner, the additional double taxation protection that only a bilateral or multilateral APA under Section 33B(2) can provide.

9. Summary of Key Provisions

Table 9.1: Consolidated comparison of Section 33A and Section 33B.

Key Takeaways

• The Finance Act, 2083 did not replace Section 33; it added two opt in certainty mechanisms that operate alongside the existing arm's length standard.

• Section 33A offers administrative simplicity for smaller taxpayers in three defined categories, at the cost of a five year continuity commitment once elected.

• Section 33B offers individually tailored, potentially cross border certainty for any international related party transaction, at the cost of a more demanding upfront application and negotiation process.

• A significant volume of operative detail under both provisions is delegated to subordinate rules and Departmental directives, which taxpayers should monitor closely as the framework matures.

• The two mechanisms are not mutually exclusive within a single taxpayer's affairs: routine transactions may be self assessed under the safe harbour while more complex or higher value arrangements are separately covered by an APA.