Profits Tax Of Hong Kong – Explained

Hong Kong emerged as a prominent business hub among Asian economies and other world business hubs. Apart from its infrastructure, growing economy, business-friendly environment, what distinguishes it from other countries is its Tax system.

The tax system appeals to and attracts investors and entrepreneurs to step up their companies and start doing business. Taxes are minimal with clear guidelines, no hidden implications, and complex systems. Any growth-oriented individual looking for an opportunity overseas other than their own country has considered Hong Kong their next business territory.

Hong Kong incentivizes its tax system to attract and create investment opportunities and make it a more business-friendly country. Hong Kong follows a flat rate territorial tax system where you pay tax if you generate income by doing business in Hong Kong.

The Hong kong corporate tax or profits tax rate is a fixed territorial tax rate where the taxpayer pays fixed percentages according to the nature and type of tax liability. But here in this article, we will discuss the corporate tax, commonly referred to as profits tax.

Hong Kong Corporate Territorial Tax System:

Hong Kong has its territorial tax system, which is levied on profits derived and arising by doing trade, business, or profession in Hong Kong. The hong kong profits tax is not imposed on profits sourced from income outside Hong Kong.

Therefore if you are doing business in Hong Kong but your profits are derived from sources outside Hong Kong, you are not liable to pay profits tax even though profits have been remitted to Hong Kong.

It doesn’t matter whether you are a resident of Hong Kong or a nonresident, but you have a tax liability if you derive profits in Hong Kong. The system doesn’t distinguish between residents and nonresidents; if your business is outside the Hong Kong territory, but you derive profits in Hong Kong, you are liable to pay profits tax.

The question of doing business in hong kong and deriving profits in hong kong are completely different things. Doing business carried without deriving profits is not taxable income, but irrespective of the business nature, deriving profits in hong kong is liable to pay profits tax.

Two Tiers Flat Corporate Profits Tax Rate Regime:

Hong Kong has introduced a two-tier profits tax rate regime effective from the year of assessment 2018/19, which has given the corporations two options for profit tax rate.

Single Tier Corporate Tax:

In the single-tier corporate tax system, corporations are taxed at 16.5% on the assessable profits in this category. On the other hand, incorporated businesses have a tax liability of a flat 15% on their assessable profits.

Two-Tier Profits Tax:

This tax regime is applicable for both corporated on incorporated businesses. However, it has introduced new tax rates for the first 2 Million HKD of assessable profits.

This relatively new profits tax rate is effective from 2018/19 to benefit and uplift the tax-paying small or medium-size enterprises by reducing their tax burden.

For Corporations:

The profits tax rate for the corporations for the first 2 million HKD profits will help behalf (8.25%) of the current tax rate, and the remaining profits will be taxed at the same 163.5% tax rate.

For Unincorporated Businesses:

For unincorporated businesses, the profits tax rate on the first 2 million HKD profit is half i:e 7.5% of the current tax rate. The tax rate on profits over the 2 million HKD threshold is 15%.

If several entities are doing business under one banner or different entities are connected with one, other than one entity is eligible for tier 2 profits tax rate. It’s up to the group to elect which entity they want to get tax benefits.

Enterprises not Eligible for Tier Two Profits Tax:

Some enterprises are excluded from the tier two profits tax regime to minimize and restrict them from getting double tax benefits.

Enterprises that avail preferential half-rate tax regimes include professional reinsurance companies, captive insurance companies, corporate treasury centers, and aircraft leasing companies.

The sums of assessable profits received by or accrued to holders of qualifying debt instruments as interest income, gains, or profits should already be taxed at half the rate (7.5% or 8.5%)

If there are many entities or groups of companies doing business under the same banner in hong kong, then out of them, one is eligible for the tier two hong Kong profits tax.

Trading profits and interest income received or derived from qualifying debt instruments issued in hong kong are eligible for a concessionary tax rate at 50% of the normal profits tax rate. Professional reinsurance companies with an offshore business can also avail of this concessionary tax rate.

Businesses with assessable profits derived from qualifying debt instruments can enjoy the concessionary tax rate. Also, their assessable profits, which are not derived from QDIs, can enjoy the 2 million HKD tier two profits tax relaxation taxed at 8.25% and 7.5%.

Tax Incentives in Hong Kong:

Any onshore and offshore funds operating in hong kong can qualify for the eligibility criteria and can avail of the profits tax exemption.

Suppose anyone opts for investment in high-value manufacturing businesses. In that case, a 100% waive-off will be given to new expenditures on plant and machinery specifically related to manufacturing and computer hardware and software owned by the end-users.

A five-year write-off period is available for capital expenditure on business premises renovation and refurbishment.

Mutual funds and trust funds are eligible for tax concessions in Hong Kong.

Interest income derived from any deposit after 22 June 1998 with an authorized institution in hong kong is eligible for tax exemption.

Any capital expenditure on environment protection machinery and environment-friendly vehicles is subject to 100% tax deductions. Similarly, 100% profits tax deductions are awarded for capital expenditure for environmental protection installations and 50% reduction of profits tax on offshore risk insurance business.

If you are a qualifying aircraft lessor or manager in hong kong, you are entitled to have qualifying profits taxed at half of the corporate profits tax rate. In addition, a qualifying lessor is also eligible for a tax exemption, in which only 20% of the net lease rentals are assessed to compensate for their non-entitlement to depreciation allowances on the aircraft.

Any funds operating in Hong Kong, regardless of their structure, management location, size, or purpose, can enjoy tax exemption on their transactions with certain conditions. A fund also can benefit from tax exemption by making any investments in local hong kong companies or overseas companies.

Any hong kong company or enterprise can get profits tax deductions on capital expenditure incurred for the purchase of intellectual property rights that includes patents, copyrights, registered designs, trademarks, and performance rights.

Income Tax Basis Period:

The corporate income tax in hong kong is assessed concerning the year of assessment. The year of assessment is ended on 31 March of every year. For example, 31 March 2022 is the year of assessment 2021-22.

Filing of Profits tax return/Corporate tax return:

The corporate profits tax return is usually issued on 1 April of every year by the inland revenue department. In normal practice, the company applies for the extension within one month after receiving the PTR (profit tax return). The deadline for filing a tax return can be extended.

Let’s understand this by taking an example. Let to assume hong kong’s fiscal year is from 1 April 2021 to 31 March 2022. As per normal practice, the profit tax return, PTR, will be issued on 1 April 2022.

Extension Criteria:

• If the company’s financial year ended between 1 April and 30 December 2021, no extension would be granted, and the company must file the PTR within one month of receiving it.
• If the company’s financial year ends on 31 December 2021, then the PTR deadline can be extended to 15 August 2022.
• Similarly, if the company’s financial year ends between 1 January and 31 March 2022, the PTR submission can be extended until 15 November 2022.

In case of new registration, the inland revenue department will issue the profits tax return after 18 months from the commencement of business.

Documents Needed for Filing Tax Return:

Following are the documents that a company needs to file its tax returns:

• Profit tax return form issued by Inland revenue department.
• Supplementary form as issued by the inland revenue department for tax and financial data.
• A certified copy of the balance sheet, audited accounts report, and auditor report.
• A tax computation shows the procedure of calculating assessable profits.
• Other documents as required by the IRD.

Small corporations whose total gross income does not exceed HKD 500,000 mark need to file only the profits tax return form and supplementary form.

It is not mandatory to submit all the supporting documents, but one must prepare them; you don’t know when IRD requests them.

Provisional Profits Tax:

The profits tax is calculated by assessing the profits for each year of assessment. The exact payable amount is determined after computing the profits from a whole year of assessment. However, provisional profits taxable income figures can be obtained from the previous year. The provisional profits tax can be paid in two installments. The first installment is 75%, and the remaining 25% is payable after three months. Once the final assessment is made for the respective assessment year, credit is given for the provisional tax paid.

If any excess payment is made, it will be added or subtracted from the next year of provisional profits tax installment. One important fact to know here is your application for holding over provisional tax should be lodged no later than:

• 28 days before the due date for payments of the provisional tax
• Fourteen days after the date of issue of the notice for the provisional tax payments.

In case of late filing or not filing, serious offense results in penalties and prosecution.

Exemption Requirements for Income Tax Audit:

Following are the exemption requirements for the companies who need to exempt their income tax audited accounts and their profits tax return.

Dormant Company:

Dormant companies who fulfill no relevant accounting transactions during a financial year requirement of companies ordinance. These companies are exempted from preparing income tax audits.

Company Jurisdiction Law:

Any company incorporated in a jurisdiction whose laws/rules do not need any audited accounts data.

Foreign Company:

Any foreign company’s hong kong branch requires to submit the following while filing their tax return.

• Foreign company place of incorporation.
• Whether or not the laws of that country require the details or statutory audit of company worldwide accounts.
• Whether the company has conducted the audit
• Summary of the accounts and financial details of the hong kong branch.
• A certified copy of accounting and financial records.

For small corporations whose gross profits don’t exceed 2 million HKD are not required to submit their audit details when filing the return.

Withholding Tax Rules:

Hong Kong withholding taxes are applicable on assessable profits on royalties and fees paid to nonresident entertainers or sportspeople for their performances in Hong Kong. There is a withholding tax exemption on dividends and interest.

Any sums received by nonresidents for performing in hong kong for entertainment or sports or in connection to a commercial occasion or event are chargeable to Hong Kong profits tax. It includes

• The appearance of an entertainer sportsman for promotions in events or occasions.
• Participation of an entertainer, sportsman in sound recording, films, videos, radio or television, or other similar transmissions.

Double Tax Relief:

Double taxation happens when the income or profit is taxable in two jurisdictions. 

• The country or jurisdiction where the income is derived and the country or 
• Jurisdiction of residence where the income is received.

Double tax agreements are made or exercised to eliminate double taxation and give tax relaxation. Since Hong Kong follows its territorial tax system, where the income derives or arising in hong kong is taxable income there. Therefore, companies in hong kong are not subject to double taxation or any income generated outside hong kong.

Moreover, if any foreign tax paid on an income is also subject to tax in Hong Kong, it is a tax-deductible expense and is adjustable in assessable profits tax.

Tax Treatment of Losses:

Losses made in an assessment year by a singular entity are to be carried forward against future profits. Still, a corporation with multiple entities with more than one trade may have losses in one trade-off set against the profits of the other trade or entity.

The group relief of losses is not allowed in hong kong, which is a transfer of losses between entities of the same corporate group. Capital loss expenses are not allowed as deductions.

There are special provisions and adjustments for gains and losses subject to a concessionary tax rate between concessionary trading and normal trading.

In the case of an individual who incurs a trading loss and who claims personal assessment is allowed to deduct the loss from his total income.

Net Income Vs. Taxable Income

According to Hong kong taxation laws and inland revenue ordinance, a company is taxed on its assessable profits. The taxable income of a hong kong company is obtained after making certain adjustments to the company’s adjusted assessable profits, the profit/loss data, deducting business expenses incurred in the production of profits, deducting capital allowances, or deducting unutilized allowances, etc.

Capital Gains Vs. Revenue Gains

It’s a general practice accepted in accounting that capital income should be considered or included in trading profits. Inland revenue ordinance omitted and exempted the profits arising from the sale of capital assets.

There are several court cases regarding the distinction and difference between income from fixed capital and income from circulating capital. We will refer the former to capital receipts and the latter to revenue receipts.

Fixed capital is the capital that an owner owns and turns in profits by keeping in its possession. It can be a building, farmland, machinery, or long-term lease. These are retained and used in the business and are part of the business structure. Any receipts from their sale or compensation for their loss or damage are capital receipts and non-taxable.

Circulation capital is what the owner makes a profit by parting with it. The circulation capital includes trading stocks and raw materials. As a result, any receipts related to such items are taxable revenue receipts.

Receipts and Profits Exemption from Assessable profits

Following are the details and list of receipts and profits that are exempted from the assessable profits:

• Dividends or premiums received from a corporation.
• Profits that are already assessed to profits tax in the name of another person, such as a partnership.

Interest on:

• Tax reserve certificates
• Government bonds
• Exchange fund debt instruments
• Hong kong dollar-denominated multilateral agency debt instruments
• A deposit with a bank

Deductible Allowance from Assessable Profits

Following are some deductible allowances from assessable profits:

A particular contribution by an employer is made under the recognized occupational retirement schemes.

A certain portion of contribution by an employer to a mandatory provident fund scheme

A charitable donation to approved charitable institutions in hong kong.

In case of property tax already paid.

Depreciation allowance for capital equipment is as follows:

• Manufacturing plant and machinery are eligible for a 100% first-year allowance.
• Computer manufacturing equipment is also subject to a 100% first-year allowance.
• In the case of other plant machinery, 60% of the cost can be written off in the first year with 10-30%.

The construction of an industrial building can be subjected to 20% written off in the first year.

The expenditure can be written off in 5 equal installments for refurbishing and renovation of business premises.

Conclusion:

Hong Kong has a territorial tax system, which means that profits arising from any business carried in hong kong are chargeable with profits tax irrespective of whether the taxpayer or corporation is a resident local or overseas nonresident.

Profits tax is applicable on all the assessable profits and is to be paid each year within the prescribed limits set by the inland revenue department. As per the nature of business and certain amenities, many allowances, deductions, and exemptions are offered. This article provides an overview of profits tax and traits related to it.