Tax Guide in Hong Kong
Leave your request for tax services
administered by the Inland Revenue Department
Hong Kong tax system
Hong Kong has a territorial taxation principle, which means that only the profits of a company that are received from a source located in Hong Kong are taxed. Profits earned outside Hong Kong are exempt and not subject to tax.
Companies doing business in Hong Kong are required to pay tax on all profits (excluding sales of property, plant and equipment) arising from or derived from a Hong Kong source.
The tax rate on income earned in Hong Kong is:
- for legal entities with a profit threshold of up to 2 million Hong Kong dollars – 8.25%
- for legal entities with a profit threshold of over HK $ 2 million – 16.5%.
If there are related companies, the reduced rate can only be applied to one of the companies.
There is no distinction between residents and non-residents in Hong Kong tax law:
- a resident can receive profit from abroad and not pay taxes on it;
- a non-resident can make a profit in Hong Kong and it will be fully subject to income tax.
Preconditions for the occurrence of liabilities to pay income tax
According to the Internal Revenue Ordinance, an individual or legal entity is subject to income tax in the following cases:
- It carries out a trade, professional or other commercial activity in Hong Kong.
- This activity is profitable.
- Profit is generated in Hong Kong.
Basic principles of determining the source of profit
According to the court practice of Hong Kong, disputes regarding the determination of the source of profit are resolved according to the following algorithm:
- Actual circumstances
Whether or not a profit is considered to be actually made in Hong Kong depends on the nature of the profit itself and the transaction from which the profit was made.
- Operation test
The actions of the taxpayer related to making a profit are checked, as well as the place of their commission. It is necessary to correctly identify the transactions that led to the receipt of the corresponding profit, and establish where geographically these transactions were carried out.
- Gross profit
The difference between profits earned in Hong Kong and offshore profits is determined according to the gross profits earned from individual transactions. When determining the source of profit, only the processes of economic activity are taken into account, as a result of which gross profit is formed. General management activities are generally not considered.
- Place of decision
The place where investment or business decisions are made on a daily basis is just one of the factors that need to be considered when determining the source of profit. As a rule, this is not a decisive factor.
Business presence abroad
A business can have a representative office overseas and make a profit outside of Hong Kong. However, the absence of such representations does not mean that all profits from business in Hong Kong come only from Hong Kong.
In cases where the main business of a company is located in Hong Kong and the business is not established overseas, the profits generated from that business are likely to be taxed under Hong Kong law.
Consideration of the concept of determining the source of profit in Hong Kong in relation to sales contracts
The factor that determines the source of profit from trading in goods is the place of entry into force of the sales contract. It is important not only where the contract is legally formalized, but also where the negotiations took place, as well as where the obligations were fulfilled. The whole body of facts will be assessed, not just the place of purchase and sale of goods.
- How did you purchase and store the goods?
- How were the sales conducted?
- How were the requests processed?
- How were the products shipped?
- Which countries / ports did the shipment take place through?
- How was the payment made?
General practice for determining profit from sales contracts:
- If the sales contract is concluded in Hong Kong, then profits are taxed in Hong Kong.
- If the sales contract is made outside of Hong Kong, profits are not taxed in Hong Kong.
- If at least one of the sales contracts is concluded in Hong Kong, it is initially assumed that profits are taxed in Hong Kong. It is necessary to analyze all the facts to determine the source of the profit.
- If the purchase was made by a customer from Hong Kong, the contract is deemed to have been concluded in Hong Kong.
- If you do not need to travel outside Hong Kong to execute the sales contract, but it is made in Hong Kong using telephone or other electronic means, including the Internet, the contract is considered executed in Hong Kong.
- Profits from sales are either fully taxed or not taxed at all. Proportional distribution is not provided.
Consideration of the concept of determining the source of profit in Hong Kong in relation to a manufacturing enterprise
The source of profit for a manufacturing enterprise is the place where the product is produced. Profits from the sale of goods manufactured in Hong Kong are fully taxable. If the goods were partly manufactured in Hong Kong and partly outside of Hong Kong, then the part of the profits attributable to goods produced outside Hong Kong will not be considered received in Hong Kong. The place of sale of these products does not matter.
- Manufactured under an assembly or recycling agreement with a factory located in mainland China
A common feature of Hong Kong manufacturers is the conclusion of an assembly or recycling agreement with a factory operating in mainland China. Under this agreement, the Hong Kong manufacturer provides raw materials, technical development, management, manufacturing skills, design, skilled labor, training, supervision, etc. The plant provides production facilities, land and labor to process, manufacture or assemble goods. That is, the plant located in mainland China is a separate subcontractor, which should be distinguished from the Hong Kong manufacturer. Therefore, there should be no doubt about the proportional distribution of the latter’s profits.
- Manufactured by an independent subcontractor operating in mainland China
If the production is contracted to an independent subcontractor operating in mainland China, his activities are paid on an ongoing basis and carried out with minimal involvement of the Hong Kong company in the production process. Manufacturing on the mainland is not considered to be a Hong Kong business. That is, the profits of the manufacturing subcontractor are not taxed in Hong Kong. However, profits earned by a Hong Kong company from the sale of goods are fully taxed in Hong Kong.
Consideration of the concept of determining the source of profit in Hong Kong in relation to agency and commission transactions
The company can receive a commission for the provision of intermediary services, ensuring the safety of the transaction for the buyer or seller, as well as carry out activities aimed at receiving commissions for creating the necessary conditions for the transaction between the principals.
The source of income is where the commission agent provides services. If the business is carried out in Hong Kong, Hong Kong is considered the source of income. Factors such as the location of the principals, their identification by the commission agent, and the location where other events occur before or after the commission is received are irrelevant in determining the source of the commission. In the event that a commission is received by a person doing business in Hong Kong, but the activities leading to the receipt of the commission are carried out entirely outside the country, then the commission is not taxed in Hong Kong.
Proportional distribution of profits and losses
Upon receipt of profits from production activities and income from the provision of services, including activities both in Hong Kong and beyond, the profit is distributed proportionally on a 50/50 basis. Where pro-rata allocation is applicable, the question may arise how to split the indirect costs. If costs are related to both Hong Kong and offshore profits, they should be allocated in accordance with the principle used to determine the total profit.
Consideration of the concept of determining the source of profit in Hong Kong in relation to other transactions
Taxed if property is located in Hong Kong.
Property For Sale.
Taxed if property is located in Hong Kong.
Buying or selling shares.
Taxed if the stock exchange is in Hong Kong.
Profit earned by the company (except for financial institutions) from purchase and sale of shares of securities, issued outside Hong Kong and not listed on the exchange.
Taxed if the contract the purchase and sale is executed in Hong Kong.
Taxed if the services resulting in profit, provided in Hong Kong.
Royalties received as a result of business.
Taxed if related business transactions are carried out in Hong Kong.
Royalty for use of intellectual property obtained from Hong Kong by a non-resident.
Taxed if intellectual property used in Hong Kong.
Receiving interest (except financial institutions).
Taxed if the creditor provides funds to the borrower in Hong Kong.
Preliminary judgment by the Inland Revenue Department on tax matters in Hong Kong
In order to ensure clarity of the territorial principle of taxation, the Hong Kong Inland Revenue Department may make preliminary decisions regarding the source of income taxable with income tax. The service includes the payment of a fee. To obtain preliminary decisions, complete information must be provided.
Determining the fiscal year of a Hong Kong company
For Hong Kong companies, the end date of the fiscal year is important. Each Hong Kong company can choose a date of their choice. However, this decision must be carefully considered, as the date you choose will affect the activities of the company.
In accordance with Hong Kong company law, the first financial period from the date of incorporation of the company and the end of its financial year must not exceed 18 months. Determining the end of the fiscal year for a Hong Kong company comes down to two factors that need to be considered – accounting and taxation.
From an accounting point of view, it is more appropriate for a subsidiary to have the same year-end date as the holding company. The process of preparing individual and consolidated financial statements will become harmonious and, as a result, will facilitate the work of financial specialists involved in the preparation, verification and audit of financial statements, which will reduce your costs.
In Hong Kong, the standard fiscal year end dates are:
- December 31 or March 31;
- June 30 or September 30.
The choice of the date can affect taxation.
Tax Aspect of Fiscal Year End Date Selection
After registering a company in Hong Kong, you will receive your first tax return after 18 months. The Hong Kong Inland Revenue Department will send it to your company’s registered office. When submitting the declaration, you must indicate the date of the end of the financial year. The first tax return must be filed within 3 months of the date on the form. After that, the deadline for submitting your annual tax return will be determined by the end date of your company’s fiscal year. It is important to consider the standard operating process of the company: if you choose the period of peak activity of the company (peak of sales) as the end date of the financial year, then the load on it may be too high. Therefore, the end date of the fiscal year must be chosen with this aspect in mind.
The selected fiscal year end date also determines when your company will need to pay income tax. It is usually paid a few months after the filing of the tax return.
Accounting in Hong Kong
Expenses that cannot be deductible
- Personal expenses and any other amount, the purpose of which was not to make a profit.
- Any loss or withdrawal of capital, the cost of improvements and any capital expenditure.
- Any amount subject to reimbursement under insurance or indemnity contract.
- Rent or expenses associated with premises not occupied or used for profit.
- Taxes payable under the Hong Kong Tax Code, excluding payroll tax payable as employee benefits.
- Any remuneration in the form of interest on capital or loans payable under Section 16AA of the Hong Kong Tax Code, a contribution made to the mandatory staff fund system in relation to the owner or the owner’s spouse, and in the case of a partnership, his partners or their spouses.
- The transfer of eligible head office administrative expenses by remittance of a fee to a local branch or subsidiary in Hong Kong will be eligible for tax deduction in Hong Kong in the amount of funds as they were incurred during the base period of the appraisal year on receipt of taxable income.
What expenses may be deductible from revenue to determine the tax base of the company
Generally, all expenses, to the extent that they were incurred by the taxpayer in obtaining taxable profit, are allowed as deductions. Including:
- Interest on borrowed funds (subject to certain conditions).
- Payment for the lease of buildings or land occupied for profit.
- Bad and doubtful debts (any collection that should be considered as income when received).
- Repair of premises, installations, machinery or products, etc., used for profit.
- The cost of registering a trademark, design or patent used for profit.
- Expenses for the acquisition of intellectual property rights for use in the production of taxable profits. Full accounting of costs incurred in connection with patent rights or rights to any know-how will be permitted in the year of purchase. For 5 consecutive years, starting from the year of purchase, accounting for ⅕ part of the costs incurred for copyright, performer’s property rights, protected layout (topography) rights, protected plant varieties, registered designs or registered trademarks will be allowed. No deductions are allowed in respect of intellectual property rights acquired by a person in whole or in part from an associate or related person.
- Research and development costs, including market, management and business research, design-related costs, and technical education costs and payments in accordance with specific rules. Beginning in 2018/19 estimates, for the related costs incurred in internal R&D, the first US $ 2 million is eligible for a 300% tax deduction and over US $ 2 million is eligible for a 200% tax deduction.
- An employer’s annual contribution to a fund under a retirement plan, or an annual insurance premium under an insurance contract under such a program, or a regular contribution paid to a mandatory reserve fund, or a regular contribution paid under a mandatory insurance fund program, or any contribution for such goals. The limit for any employee is 15% of his total remuneration for the relevant period.
- Any mandatory contributions paid by an individual entrepreneur in a partnership in connection with his obligation to pay such contributions as a self-employed person in accordance with the Mandatory Staff Funds Ordinance (Cap 485) shall not exceed the maximum allowable deduction in the assessed year.
- Donations of at least US $ 100 to recognized charities. A limitation is imposed that donations must not exceed 35% of the adjusted estimated profit.
Tax incentives in Hong Kong
Tax breaks are available in some areas of Hong Kong’s business. They help to compete in the region on an equal footing. Tax incentives include:
- Immediate write-off for capital expenditure on property, plant and equipment directly related to production, as well as computer hardware and software.
- Capital expenditures for the renovation of commercial premises, eligible for write-off within five years after valuation.
- Tax breaks for income earned from qualified debt instruments. Certain debt instruments issued on or after April 1, 2018 are tax exempt.
- Preferential tax rate for offshore reinsurance companies and authorized insurance companies.
- Tax exemption on interest earned on any Hong Kong deposit with an authorized Hong Kong financial institution. Does not apply to interest received or accrued to a financial institution.
- Tax exemption for offshore funds (non-resident individuals, partnerships, trustees of trusts or companies) in relation to profits earned in Hong Kong from securities transactions, futures contracts, foreign exchange contracts, etc., if performed by corporations and authorized financial institutions licensed or registered under the Securities and Futures Ordinance (Cap 571). A non-resident business must not conduct other business in Hong Kong. Subject to certain conditions, offshore private equity funds are exempted from paying taxes for offshore funds in respect of profits derived from these operations.
- Subject to certain conditions, private onshore funds are exempt from income tax in respect of profits derived from qualifying transactions.
- Accelerated acceptance for write-off of capital expenditures for environmental protection facilities.
- Deduction of the full cost incurred for capital expenditure on green vehicles.
- Preferential tax rate on income from the lease of an aircraft or income of a leasing company from the lease of the relevant aircraft.