INTERNATIONAL TAX COMPLIANCE REGULATIONS IN (PART 8): Hong Kong
By Ricky W. P. Wong, Wong Brothers CPA Limited
Hong Kong adopts a territorial basis for taxing profits derived from a trade, profession, or business carried on in Hong Kong under Section 14(1) of the Inland Revenue Ordinance (“IRO”). Profits tax is only charged on profits which arise in or are derived from Hong Kong. No tax is levied on profits arising abroad, even if they are remitted to Hong Kong.
A person (corporation, individual, or partnership) who carries on a business in Hong Kong but derives profits from places outside Hong Kong is not required to pay tax in Hong Kong on those profits.
There is no distinction made between Hong Kong residents and nonresidents. A resident may derive profits from abroad without suffering tax in Hong Kong. Conversely, a nonresident may suffer tax on profits arising in or derived from Hong Kong.
Three kinds of income are taxable under the Hong Kong IRO:
- Profits from trade, profession, or business carried on in Hong Kong (profits tax);
- Income from offce or employment in Hong Kong (salaries tax); and
- Income from leasing lands and buildings in Hong Kong (property tax).
There is no distinction between residents and non-residents. A business is carried on in the location where the activities and/ or assets comprising the business take place or are situated.
Three conditions must be satisfied before a profits tax liability arises:
- The person must carry on a trade, profession, or business in Hong Kong;
- The profits to be charged must be from such trade, profession, or business carried on by the person in Hong Kong; and
- The profits must be profits arising in or derived from Hong Kong.
The question of whether a business is carried on in Hong Kong and whether profits are derived from Hong Kong is largely a question of fact. The broad guiding principle is to look at what the taxpayer has done to earn the profits in question and where he has done it.
Corporations having overseas assets and income would include those assets and income in its audited accounts. In filing the profits tax return, income earned outside Hong Kong would be adjusted and excluded from taxable profits. Individual taxpayers are not required to report their overseas assets and income in filing their individual tax returns.
Hong Kong and the US signed an Inter-Governmental Agreement on 13 November 2014 as a means of implementing the Foreign Account Tax Compliance Act (“FATCA”) in Hong Kong. Hong Kong has opted for model II under FATCA, which establishes a framework of enabling financial institutions in Hong Kong to seek consent for disclosure from specified US clients, and to report relevant tax information of those clients to the US IRS.
Under the Common Reporting Standard (“CRS”), a Hong Kong financial institution is required to carry out due diligence procedures to identify the jurisdiction of residence of an account holder and identify whether a financial account is a “Reportable Account”. In respect of a Reportable Account, the financial institution will need to report relevant information to the Hong Kong Inland Revenue Department (“IRD”) under section 50B of the IRO, which then exchanges the relevant information with the tax authorities of other reportable jurisdictions where account holders are tax residents when there is a double tax treaty or tax information exchange agreement in place. Financial institutions include banks, investment entities, insurance companies, and custodial institutions.
Foreign Tax and Financial Reporting Requirements for Hong Kong
1. Main types of business and taxes for each entity
a. Limited Company
The most common business form in Hong Kong is a limited company, which is a legal entity offering protection to shareholders from business risks and liabilities. A limited company must prepare annual audited accounts and file annual profits tax return to the IRD for tax assessment. Profits of nonassessable nature are excluded from the company’s net income. Examples are:
i. Profits not arising in or derived from Hong Kong;
ii. Capital gains on sales of capital or non-trading assets;
iii. Dividend income;
iv. Exempted interest income derived from deposits placed with Hong Kong financial institutions.
Hong Kong has adopted a two-tiered profits tax rates regime for the year of assessment commencing on or after 01 April 2018. The profits tax rate for the first HKD 2 million of profits is lowered to 8.25%. Profits above that amount continue to be subject to the tax rate of 16.5%. The two-tiered profits tax rates regime will benefit eligible taxpayers with assessable profits, irrespective of their size. The application of the two-tiered rates is restricted to only one entity nominated among connected entities.
b. Sole Proprietorship
A sole proprietorship is suitable for small-scale and low-risk businesses with a sole owner. The tax rate applicable to a sole-proprietorship business is 15%.
This business structure allows two or more people to share ownership of a single business. Partnership enables a sharing of responsibility. However, partners are jointly and individually liable for the actions of the other partners. The tax rate applicable to a partnership business is 15%.
d. Foreign Branch
Instead of setting up a limited company, a foreign company can register a branch in Hong Kong to carry on trade, profession, or business in Hong Kong. The branch is not a legal entity but part of the foreign company.
A charge to profits tax only arises when the branch has carried on a trade, business, or profession in Hong Kong and has accrued profits from that trade, business, or profession which are Hong Kong sourced. The current profits tax rate for a branch is 16.5%.
2. Types of trusts, foundations and tax rates for each structure
Normally, a trust is set up by transferring property or assets from one person (the “settlor”) to another person (the “trustee”) to manage the property for the benefit of a specified list or class of persons (the “beneficiaries”) based on a trust deed. The settlor would have reserved power in respect of investment or asset management functions of the trust.
There is no requirement to register a trust in Hong Kong. Assets and investment activities of a trust may be held and carried out by the trustee or through underlying vehicles such as limited companies specifically set up for the trust. The trustee and the underlying vehicles will be subject to profits tax on profits derived from activities carried out on behalf of the trust based on normal profits tax rules in Hong Kong. The current profits tax rates for a limited company is 16.5% and for an unincorporated business is 15%.
A trustee is taxable on its fees for acting as a trustee if such consideration is derived from the carrying on of the business or profession of a professional trustee in Hong Kong. Income derived from a trust’s assets outside Hong Kong is not taxable. In addition, Hong Kong does not have estate tax, value-added tax, or capital gains tax.
3. Tax compliance requirements for owners of foreign assets such as bank accounts, insurance policies, and shares
There is no tax compliance requirement for residents and non-residents in Hong Kong holding foreign assets, including foreign bank accounts, insurance policies, or overseas shares.
Interest income on foreign bank deposits and gains on disposal of overseas shares are offshore in nature and not subject to Hong Kong profits tax. Proceeds received from insurance policies are not taxable in Hong Kong.
4. Tax compliance requirements for estate and wealth planning matters
The Revenue (Abolition of Estate Duty) Ordinance 2005 came into effect in February 2006. No estate duty is triggered in Hong Kong for inheritance of legacy.
A transfer of immovable properties or shares under the estate of a deceased person to the beneficiaries of the estate, pursuant to a will or in accordance with the law of intestacy, is not chargeable with stamp duty.
However, if a person transfers properties or shares to others without consideration, or the consideration for the transfer is being considered by the IRD as inadequate, stamp duty will be charged based on the fair market value of the immovable properties and the shares.
5. Tax compliance requirements on sales of properties
There is no capital gains tax in Hong Kong. Gains on sales of Hong Kong properties held for long-term investment are not taxable. Gains on sales of overseas properties are offshore sourced and not taxable.
As Hong Kong is an international financial centre with the government’s aim in attracting foreign investors, it is unlikely that the territorial basis of taxation will discontinue. Therefore, using Hong Kong companies to hold foreign assets or to receive offshore income is a favourable tax strategy for many international investors.
Ricky W. P. WongGGI member firm
Wong Brothers CPA Limited
Advisory, Auditing and Accounting, Corporate Finance, Fiduciary and Estate Planning, Tax
T: +852 2520 2701
Wong Brothers CPA Limited is one of the most reputable CPA firms in Hong Kong. The firm has five directors and approximately 80 staff, including professionals and support staff. It has two offices, one in Hong Kong and the other in Shenzhen, China. Clients of the firm include many international and local companies engaged in different types of business.
Ricky W. P. Wong has been in public practice for more than 35 years and has extensive experience in tax consulting engagements in Hong Kong and China. He is a certified tax advisor in Hong Kong.
Published: Working Together to Optimise International Tax Compliance, No. 2, Spring 2020 l Photo: Andrea Izzotti - stock.adobe.com