Revenue shortfalls have once again forced the federal government to trim grants meant for provinces and local bodies. The Financial Comptroller General Office has directed Treasury and Auditor offices to cut the third instalment of fiscal equalisation grants. As a result, lower levels of government will receive only 20.43 percent of what had originally been planned for the third tranche. The decision follows the Finance Ministry’s 95-point guideline on federal budget execution, which ties grant releases to revenue performance. The fourth instalment will depend on the gap between targeted and actual revenue by mid-April. The strain becomes clearer when the revenue figures are examined. Between mid-July 2025 and mid-January 2026, the government collected Rs 581.41 billion. That is just 2.5 percent higher than in the same period last year and still Rs 129.80 billion short of the half-year target of Rs 711.21 billion. In effect, only 39 percent of the ambitious annual target of Rs 1.533 trillion for FY 2025–26 has been achieved in six months.
Diversifying Government Revenue
At the same time, the federal budget has set aside Rs 417 billion in grants for provinces and local governments, including Rs 97.56 billion for provinces and Rs 320.26 billion for local bodies. When revenue falters, these transfers are usually the first to be squeezed, leaving provinces and local bodies to manage the fallout. The deeper concern lies in Nepal’s fragile revenue base. Enforcement remains weak, as revenue leakages, under-invoicing and poor compliance continue to erode collections. Steady, system-driven surveillance, better data matching between Customs and Inland Revenue offices, tighter digital monitoring and firm action against habitual violators would make a significant difference. Without such discipline, revenue targets will remain unrealistic. The broader economic slowdown has also weighed on collections. Imports have slowed, consumer spending is uneven and private investment remains low. As Nepal is heavily dependent on import-based taxation, any slowdown in imports is reflected in government revenue. Business confidence is another area that demands attention. Investment and compliance are more likely when investors and firms trust the policy environment. Frequent changes in tax policies, delayed government payments and inconsistent administration of tax laws have made many firms wary. Meanwhile, faster VAT refunds, clear tax procedures and time-bound dispute resolution can help bring more firms into the formal system.
Nepal still depends on a relatively narrow group of taxpayers. Large parts of the service sector and segments of the digital economy must be brought into the tax net. Moreover, the tax base needs to be expanded while keeping rates reasonable. This would relieve the burden on compliant taxpayers. Greater efforts are also needed to curb tax diversion through improved digital payment systems and stronger audit mechanisms. In the long run, Nepal must move away from its heavy dependence on import duties and develop a stronger system of income and service taxation. In the short run, the government must ensure that grants to provincial and local governments are reliable. This could be achieved through a contingency equalisation fund built up during strong revenue years. The federal government must recognise financing lower levels of government as one of its core responsibilities. Without reliable fiscal support to provincial and local governments, federalism will remain an incomplete project.
