- MS billet the 2063 Department of Industry norm allowed for 100 kg of rod
- 106 kg
- Output the norm required in the Kamala Rolling Mills income tax case
- 94.34%
- Output the company showed
- 91%
- Supreme Court decisions read for this article
- 3
Every manufacturer loses something between raw material and finished goods. Oil is lost in refining, metal is lost as scale and offcuts, flour is lost as dust. The finance team records what came in, what went out, and calls the difference wastage.
The tax office sees the same numbers differently. If the Department of Industry has published a norm saying 100 kg of raw material should give, say, 94 kg of product, and your books show 91 kg, the officer asks where the other 3 kg went. One answer the officer can reach is that it was produced and sold without being recorded, and that VAT, excise or income tax is due on it.
Most owners we speak to believe one of two things. Either "the norm is only a guideline, my actual figures are what count", or "if the norm says so, I have no defence". Both are wrong as general rules. The Supreme Court decisions in the Institute of Chartered Accountants of Nepal's case-law collection show the Court going each way, and the reasons are specific enough to act on.
The three decisions in outline
Large Taxpayers Office v. Shivashakti Ghee Udyog Pvt Ltd, Simara, Bara. VAT, FY 2062/63. Case no. 101183, decided 2073 Kartik 23 by a joint bench of Justice Jagdish Sharma Paudel and Justice Deepak Kumar Karki. The Large Taxpayers Office relied on a Department of Industry letter (ch. no. 1357, dated 2064.7.16) saying that 100 kg of raw material gives 92.2 to 94.4 kg of vanaspati ghee, 3.5 to 5.5 kg of by-product, and 2.3 kg of wastage. The company's books showed 80,800.3 kg less than that. The office treated the shortfall as local sales at NPR 29.45 per kg and assessed tax of NPR 3,09,344 and a penalty of NPR 77,336, a total of NPR 3,86,680. The Revenue Tribunal, Kathmandu, reversed the assessment. The Supreme Court upheld the Tribunal. The taxpayer won.
Inland Revenue Office, Biratnagar v. Krishna Metal Crafts Pvt Ltd, Morang. VAT, FY 2061/62. Case no. 103347, decided 2074 Magh 22 by a joint bench of Justice Cholendra Shumsher JBR and Justice Prakash Man Singh Raut. The office assessed NPR 3,46,993 including penalty, on the basis that the company had shown low production. The Revenue Tribunal, Biratnagar, reversed. The Supreme Court reversed the Tribunal and restored the assessment. The tax office won.
Large Taxpayers Office v. Kamala Rolling Mills Pvt Ltd, Biratnagar. Excise, FY 2065/66. Case no. 150923, decided 2075 Asoj 22 by a joint bench of Chief Justice Om Prakash Mishra and Justice Purushottam Bhandari. The issue was the wastage in turning MS billet into MS rod. A Department of Industry norm of 2063 allowed 6 percent, that is 106 kg of billet for 100 kg of rod. The Revenue Tribunal, Kathmandu, reversed the excise assessment. The Supreme Court reversed the Tribunal and restored it. The tax office won.
All three are reported in ICAN's collection of Supreme Court decisions on the VAT, Income Tax, Customs and Excise Acts (2079/80), at printed pages 34 to 36, 37 to 39 and 171 to 174. We read each from the page images.
What the Court said in Shivashakti Ghee
The Court's reasoning in Shivashakti is short and practical. It said it is hard to assume that the same raw material will give the same quantity of output, because different industries have different production capacity. Raw material consumption, wastage and by-product output can differ. The Court listed what has to be considered: whether the physical infrastructure and facilities are evenly available, the quality of the raw material, the state of the power supply, the skill of the workers, and the long-term effect on the facilities the industry receives.
It then relied on an earlier Supreme Court decision, Inland Revenue Department v. Nandan Ghee and Oil Industries Pvt Ltd, Bara (Fau. Pu. No. 3126 of 2061, decided 2063.2.4), which it described as laying down that the actual expense shown by the accounts for raw material consumption must be recognised. On that basis it held that the office should have given recognition to the actual expense shown by the company's accounts. An assessment that rejected those accounts and found low production "on the basis of estimate" could not be called lawful.
The tax office had argued that the Tribunal should not have relied on Nandan Ghee, because the departmental circular issued after that decision had been repealed from 2063.4.1. The Court's judgment, as printed, does not deal with that argument directly. It applied the principle from Nandan Ghee in its own reasoning.
What the Court said in Krishna Metal Crafts
Krishna Metal Crafts went the other way, and the reasons are thinner. The Court set out the VAT Act, 2052, s.20 as it then stood. Sub-section (1) lists when an officer may assess, including where a return is incomplete or wrong and where the officer has reason to believe the tax shown is low. Sub-section (2) lists the bases on which the assessment may be made: evidence of the transaction, the tax audit report on the transaction, and the tax paid by other persons in a similar business.
The office had relied on the returns, the Department of Industry's published norms for metal products, the output ratios of other similar taxpayers in its own area, and a subject-wise tax audit report. The Court held that s.20 allows the officer to analyse the evidence received and make an assessment, that the assessment on those bases was lawful, and that the Tribunal had reversed it without proper grounds, reasons and evidence.
Two points stand out. First, the norm was not the only thing on the file. The office also had comparable taxpayers and an audit report, which lines up with the bases in s.20(2). Second, the judgment says nothing about what records the company produced to justify its own yield. It does not mention Shivashakti or Nandan Ghee.
What the Court said in Kamala Rolling Mills
Kamala Rolling Mills is the fullest of the three, and in our view the one a manufacturer should study.
The company made several arguments. It said the Excise Act, 2058, s.10(cha)(3) gives the power to fix a production yield to the Excise Department, not the Department of Industry. It said the Department of Industry's norms were made for customs and administrative purposes. It said the Excise Department only adopted them by circular in 2068, so applying them to FY 2065/66 was retrospective. It pointed to a One-Window Committee decision of 2053.1.6 that had set 3 percent visible and 6 percent invisible wastage, to a ministerial decision of 2062.06.20 to allow actual wastage, and to an Inland Revenue Department circular of 2062.08.26 carrying that decision out. It said the norms themselves recognise that technology, raw material and power conditions affect output.
The Court accepted part of the history. It said the One-Window Committee decision had become inactive once the ministerial decision of 2062.06.20 allowed actual wastage. But it then said that how much wastage occurs in making rod from billet is a purely technical question, that the Department of Industry, as a part of the Government with that expertise, issued the 2063 norms, and that they applied from that date.
The core of the decision is in paragraphs 5 and 6. The Court said that a norm applied by an authoritative state body through a set procedure cannot be presumed unreasonable unless it is proved otherwise. It saw nothing wrong in one state body (the Excise Department) adopting a technical standard set by another (the Department of Industry) to fix a yield for assessment. It noted that the company had not challenged the 2063 norms at the time. It noted that the abnormal loss was not shown in the company's financial statements or in its auditor's report. And it said this, which we think is the sentence that matters most: wastage can be higher, but a comprehensible basis for it must appear from the evidence on file. The company's oral statement, made now, was not enough to treat the norm as unrealistic or unjust.
The Court also referred to a companion income tax case between the same parties for the same year, decided the same day. There the norm required 94.34 percent output and the company showed 91 percent. The shortfall of 3.34 percent was treated as produced and sold and added to income, and the Court upheld that assessment. It applied the same reasoning to the excise assessment.
The Court also mentioned an earlier VAT decision, Buddhiram Dhital v. Saibaba Gas Udyog Pvt Ltd, as interpreting that wastage norms fixed by an authoritative regulator cannot be set aside without basis and reason. We have not read that decision and cite it only as the Court described it.
Reading the three together
On the surface the decisions conflict. Shivashakti says actual consumption in the accounts must be recognised. Kamala says the norm stands unless the taxpayer proves otherwise. We do not think the Court was simply changing its mind. The cases are reconcilable on the evidence.
In Shivashakti the office rejected the accounts and assessed on estimate. The Court treated the accounts as the starting point. In Kamala the company had books, but its higher wastage was not supported by anything independent: not its financial statements, not its auditor's report, not a technical study, not a challenge to the norm when it was issued. The Court treated an unsupported claim of high wastage as no answer to an expert norm. In Krishna Metal Crafts the office had more than a norm. It had comparable taxpayers and an audit report, which are statutory bases under s.20(2).
So the practical rule we draw is this. Your accounts are your first line of defence, and Shivashakti supports you if they are reliable records of what actually happened. But a ledger figure for wastage is not, on its own, proof that the wastage happened. If your yield is below the norm, the burden of making that believable sits with you, and you discharge it with evidence created at the time.
We should be clear about what this is. It is our reading of three decisions. The Court did not itself reconcile them, and Krishna Metal Crafts and Kamala do not refer to Shivashakti.
A worked illustration
The figures below are invented to show the arithmetic. They are not a client case.
A rolling mill in Biratnagar uses 10,00,000 kg of MS billet in a year. A norm of 106 kg of billet per 100 kg of rod means expected output of 100/106 of the input. Rounded to 94.34 percent, the figure used in the Kamala income tax case, that is 9,43,400 kg of rod.
The mill's books show output of 9,10,000 kg, which is 91 percent. The gap is 33,400 kg.
If the officer treats the gap as rod produced and sold, and the mill's average selling price is NPR 80 per kg, the unrecorded sales value is 33,400 x 80 = NPR 26,72,000. VAT, excise and income tax would each then be worked out on that figure at the rates and rules in force, plus any penalty and interest. One gap in yield can therefore produce three assessments.
Now the same mill with two different files.
File one. The mill keeps a daily production register signed by the shift supervisor. It weighs and records end cuts, scale and miss-rolls, and sells scrap on VAT invoices that match the register. It had a power-cut log for the year showing long outages, and a short report from an engineer explaining why restarts after outages increase miss-rolls. Its audited accounts disclose the abnormal loss, and the auditor's report refers to it. It wrote to the department when the norm was applied, setting out why its plant could not meet it.
File two. The mill has monthly totals of input and output and nothing else. Scrap sales are in cash. The first time anyone explains the low yield is in the reply to the preliminary assessment.
On file two, Kamala Rolling Mills applies almost word for word. On file one, the mill is close to the position the Court in Shivashakti protected, and it has the "comprehensible basis on file" that the Court in Kamala said was missing. We cannot promise the outcome, but the second file is not one we would want to defend.
What changes the answer
From the reasoning in these decisions, these are the things we would expect to move a case one way or the other.
Whether the norm is the only evidence. Krishna Metal Crafts had comparable taxpayers and an audit report as well. A bare comparison with a norm is weaker than a comparison backed by those statutory bases.
Whether the norm applied to the period. In Kamala the Court noted that the 2063 norm applied from that date. A norm issued after the year in question raises a different question, which these decisions do not answer.
Whether the accounts are reliable. Shivashakti protected the actual expense shown by the accounts. That protection is only as good as the records behind the ledger.
Whether the higher loss is disclosed. Kamala noted that abnormal loss was not in the financial statements or the auditor's report. Disclosure made at the time is evidence. A claim made in a reply is an argument.
Whether the taxpayer challenged the norm. The Court in Kamala counted it against the company that it had not challenged the norm when it was issued.
Whether scrap and by-products are accounted for. The Shivashakti norm itself split output into product, by-product and wastage. A business that sells scrap without invoices will find it hard to argue that its wastage was real.
The same logic runs through other assessments built on physical counts. In a surprise stock inspection case the Court treated missing stock as unbilled sales; see stock found short at a surprise inspection. Where the question is whether purchases were real, see bogus purchase bills and the burden of proof.
Documents to keep
A production register, daily or by shift, showing input weight, output weight, scrap and by-products, signed by the person responsible.
Scrap and by-product sales on VAT invoices, reconciled to the register.
Records of the events that cause loss: power outages, machine breakdowns, raw material quality test results, rejected batches.
A copy of the Department of Industry norm that applies to your product, and the date from which it applies.
Where your yield is consistently below the norm, a technical explanation from a qualified engineer, written before any dispute.
Disclosure of abnormal loss in the financial statements, and a discussion of it with the auditor so that the audit file supports it.
A copy of any letter you sent to the department about the norm.
Our view
In our view the commonest mistake is to treat wastage as a balancing figure. Finance teams often compute it as input minus output at year-end. That is arithmetic, not evidence. When the officer puts a norm on the table, the business that can only say "this is what the ledger shows" is in the position Kamala Rolling Mills was in.
We would also say that a norm is a challenge to be met, not a rule to be accepted. If your plant genuinely cannot achieve the norm, the time to say so is when you first know it, in writing, to the department, with a technical reason. The Court in Kamala treated silence at the time as significant.
Where the law is unsettled, we prefer the reading that both lines of authority can live with: the accounts count, as Shivashakti held, provided they are supported by contemporaneous records that make the reported yield believable, which is what Kamala found missing. We would not advise a client to rely on Shivashakti alone, because the later two decisions went for the revenue on weaker records.
What we would do first: take your last three years of input and output, compare them with the norm for your product, and find the years where you fall short. For each shortfall, ask whether the file today would support it. If not, fix the records going forward, and think carefully about the open years before an officer does.
If a yield-based assessment has reached you, or you want your production file reviewed before one does, our IRD assessment defence team can help you build the record and the reply.
Frequently asked
Can a tax officer assess me only because my yield is below a Department of Industry norm?
These decisions do not give a simple yes or no. In Shivashakti an assessment on estimate against the accounts was set aside. In Krishna Metal Crafts the office had the norm plus comparable taxpayers and an audit report, and the assessment stood. In Kamala the norm stood because the company had nothing on file to support its higher wastage.
Does the norm bind me?
The Court in Kamala said a norm set by an authoritative body cannot be presumed unreasonable unless proved otherwise. That is not the same as saying it can never be displaced. It means you need evidence to displace it.
Which department can set the norm?
In Kamala the company argued that only the Excise Department could fix a yield under the Excise Act. The Court held that the Excise Department could adopt the Department of Industry's technical norm. We have not reviewed the current Excise Act text.
What if the norm was issued after the year being assessed?
These decisions do not answer that. In Kamala the Court relied on the 2063 norm applying from that date, for FY 2065/66. Take advice on the dates in your case.
Is a power cut a valid reason for higher wastage?
The company in Kamala raised power and other factors, and the Court in Shivashakti listed power supply among the things that affect output. What mattered in Kamala was that there was no evidence on file. A logged outage with its production impact is evidence. A general statement is not.
Does the same gap lead to VAT, excise and income tax?
In Kamala, the Court decided an excise case and referred to an income tax case for the same year on the same shortfall, both upheld. Shivashakti and Krishna Metal Crafts were VAT cases. A yield gap can feed into more than one tax.
Is Shivashakti still good law?
It has not, in the material we hold, been overruled. But the later two decisions went for the revenue, and we would not rely on it without strong records.
Sources and limits
Large Taxpayers Office, Harihar Bhawan, Lalitpur v. Shivashakti Ghee Udyog Pvt Ltd, Simara, Bara, Supreme Court of Nepal, case no. 101183, decided 2073 Kartik 23, printed pp.34 to 36. Inland Revenue Office, Biratnagar v. Krishna Metal Crafts Pvt Ltd, Morang, case no. 103347, decided 2074 Magh 22, printed pp.37 to 39. Large Taxpayers Office v. Kamala Rolling Mills Pvt Ltd, Biratnagar, case no. 150923, decided 2075 Asoj 22, printed pp.171 to 174. All in the Institute of Chartered Accountants of Nepal's collection of Supreme Court decisions on the VAT, Income Tax, Customs and Excise Acts (2079/80). Every statement about the decisions was read from the published page images.
The Shivashakti judgment prints the penalty as NPR 77,336 in one paragraph and NPR 77,366 in another; NPR 77,336 is the figure that adds up to the total of NPR 3,86,680. The Krishna Metal Crafts judgment gives the date of the office's decision as 2065.11.2 in one paragraph and 2065.10.29 in another.
We did not review the VAT Act, 2052 or the Excise Act, 2058 themselves. Section 20 of the VAT Act is described as the judgment quoted it, and the Excise Act provisions as the parties argued them. We have not read the Nandan Ghee or Saibaba Gas decisions, or the Department of Industry norms. The decisions concern years from 2061/62 to 2065/66; check the current law before applying them.
General information only, not advice.
