IMAGE VIA GLOBALGIVING
THE STREETS of Kathmandu and Pokhara are lined with small food stalls, tea shops, repair workshops and grocery stores. They are easy to miss yet they account for a big share of urban employment. According to new data from the World Bank, drawn from the Informal Sector Enterprise Survey and the Micro-Formal Enterprise Survey conducted in 2024 and 2025, Nepal is home to some 449,000 informal microenterprises, ie firms with fewer than five workers that are not registered with the Inland Revenue Department. That is 55% of all microenterprises in the country. Another 362,000 are registered.
The numbers suggest necessity rather than ambition. The average informal microenterprise in urban Nepal employs 1.5 workers including the owner. Only 8% had a paid employee in the month before the survey. Monthly net profits average Rs15,293, below the minimum wage of Rs19,550 and below the average urban wage. Most owners (72%) said they started their businesses because they could not find any other source of income. Half described the enterprise as a secondary source of income, a reflection of the poor quality of available wage work.
The owners of these firms have low human capital. Some 18% have no education; another 23% have not completed primary school. More than 60% have less than five years of experience in their sector. Three-quarters have never held a wage job with a contract. The businesses are young: 68% are five years old or younger. They are concentrated in food retail. A third operate from the owner’s home. These are not enterprises awaiting a catalyst for growth, meaning they are survival mechanisms.
The chasm between informal and formal microenterprises is vast. Formal microenterprises (those registered with the tax authority) are larger and better equipped. Their owners are more educated and more experienced. They are less likely to have started out of necessity and more likely to express a desire to expand. They use more technology, maintain written records, separate household and business finances, and operate under supplier or customer contracts. Their labour productivity is nearly six times that of informal firms. A formal microenterprise at the bottom 10% of the productivity distribution still produces three times more output per worker than an informal firm at the same percentile.
Yet formalisation is not a cure for low productivity. The relationship runs the other way. Firms that are already more productive and more growth-oriented tend to formalise early. In Nepal 68% of formal microenterprises and 85% of formal non-micro firms began operations formally. Those that start informally and later register accumulate fewer productive capabilities early on—less access to credit, technology and managerial routines—and remain on lower growth trajectories even after formalisation. Productivity precedes formality; formality does not reliably produce productivity.
The question then is which informal firms might benefit from formalisation. The World Bank analysis uses a linear discriminant method to identify informal firms that resemble formal ones in key characteristics: owner education, sectoral experience, employee skills and management practices. Some 20.5% of informal firms fall into this category. They are more capable than the rest. But they are substantially less productive than their formal counterparts. Formalisation, the authors argue, could help them access credit as well as broader markets.
A second group consists of informal firms that are highly productive already. Only 2.3% of informal businesses achieve productivity comparable to the top segment of formal microenterprises. Add the two groups together and some 22% of informal microenterprises have some productive potential. The remaining 78% do not. For them, formalisation would impose fixed and recurring costs without generating proportionate gains.
What keeps capable firms informal? Registration is not free. The process involves multiple agencies—the Office of the Company Registrar, the Department of Industry or its provincial equivalents, the Inland Revenue Department and local ward offices. The time and direct costs can amount to 5–10% of average annual sales.
Beyond registration, the costs of operating formally include tax compliance, regulatory reporting and, should the business fail, a complex and protracted closure process. Nepal scores poorly on the World Bank’s B-READY index for business insolvency, with a score of 24 out of 100.
Misperceptions also play a part. Informal firms are 18 percentage points less likely than formal firms to believe that registration improves access to finance. They are 20 points less likely to believe it reduces bribes. They are 18 points less likely to see better customer access as a benefit. Some capable firms may simply underestimate what they stand to gain.
The policy implications are bitter. A one-size-fits-all approach to informal microenterprises would be wasteful. The majority—roughly four in five—need livelihood support, and not formalisation. That means consumption smoothing, basic business training, childcare support for female owners, health coverage and job-search assistance. These firms are a safety net. Policy should treat them as such.
For the small subset with productive potential—the high-resemblance and high-productivity firms—the priorities are different. Simplify registration. Digitalise the process. Reduce the time and cost. Run information campaigns on the benefits of formalisation. Provide targeted productivity support: credit, technology, business coaching, market links. For female entrepreneurs, address childcare constraints and financial autonomy.
But none of this will matter much without wider reforms to the business environment. Formal micro-, small and medium enterprises in Nepal have grown sluggishly. Employment among formal non-micro firms grew at an average annual rate of just 0.9% in recent years. Small firms grew at 0.8%; medium firms contracted. Political instability is cited as a major obstacle by 59% of non-micro firm owners. Access to finance, land as well as infrastructure remain binding constraints. Without economy-wide reforms that reduce uncertainty and operating costs, policies targeted at informal firms alone will not deliver sustained reductions in informality. ■
