Are you looking for professional firms that can help claim exemption of Hong Kong profits tax for your offshore business? Or are you intending to register a Hong Kong company and want to read up on Hong Kong tax issues first?
What is profits tax? Who is required to pay it? I am doing offshore business—do I need to pay profits tax? I am doing business in Hong Kong but using offshore companies—do I need to pay tax? The questions below address these issues and more.
Hong Kong profits tax — core issues
Profits tax is governed by section 14 of the Hong Kong Inland Revenue Ordinance. In broad terms, it provides that individuals, corporations, partnerships and all unincorporated business ventures carrying on a trade, profession or business in Hong Kong are subject to profits tax on profits arising in or derived from a source in Hong Kong.
In practice, several points follow:
-
Tax is charged on profits, not losses. If the business makes a loss, there is no profits tax to pay; if tax was overpaid, a refund may arise.
-
The charge applies by reference to the carrying on of a trade, profession or business—the wording does not distinguish “local” versus “overseas” incorporating jurisdictions by itself; overseas companies can fall within the scope if they carry on a trade, profession or business in Hong Kong and the source rules are met.
-
Different taxes apply to different types of income. Income from property or employment is dealt with under other heads of charge (e.g. property tax or salaries tax), not as profits tax.
-
Territorial source matters. Profits with a source in Hong Kong may be chargeable; profits without a Hong Kong source are outside the scope of profits tax. Source is a factual question and is often where offshore claims arise.
Many overseas investors therefore ask whether offshore profits are subject to Hong Kong profits tax, how “offshore” is determined, and how an exemption or offshore claim is made.
Are offshore profits exempt from Hong Kong profits tax?
At least from broad principle, yes where there is no Hong Kong source of profits. Hong Kong uses a territorial approach: profits tax generally reaches profits with a Hong Kong source. Profits not arising in or derived from Hong Kong are not subject to Hong Kong profits tax.
Simple scenarios
First: You registered a Hong Kong company and you do business in Hong Kong. Are you required to pay Hong Kong tax? Yes—your profits are likely to have a Hong Kong source.
Second: You registered a Hong Kong company and you do business outside Hong Kong (for example you buy goods from China and sell to the USA). Are you required to pay Hong Kong profits tax? No, if all the profits are offshore sourced—typically because the profit-making operations occur outside Hong Kong (subject to detailed facts).
Third: You registered an overseas company and you do business in Hong Kong. Are you required to pay Hong Kong tax? Yes, if you carry on a trade, profession or business in Hong Kong and the profits have a Hong Kong source.
Fourth: You registered an overseas company and you do business outside Hong Kong. Are you required to pay Hong Kong profits tax? No, if your profits have no Hong Kong source.
Fifth: You have not registered a Hong Kong company nor an overseas company, but you do business in Hong Kong. Are you required to pay Hong Kong tax? Yes, if profits arise from a Hong Kong source—the absence of a registered company is a separate question from source.
From these scenarios you can see in principle whether your activity might fall inside or outside Hong Kong taxation—but every case depends on its facts.
When facts get complicated
Source disputes often arise where, for example:
- You registered a Hong Kong company and trade partly in Hong Kong, but support functions (shipping, accounting, administration) or settlements occur outside Hong Kong; or
- You registered a Hong Kong company and carry out overseas trading (e.g. buy from India, sell to the UK), but you use Hong Kong banks, invoice from Hong Kong, and keep records in Hong Kong.
Source questions are fact-specific; analysis usually involves case law and Inland Revenue Department guidance, not only a simple checklist.
Leading cases on the source of profits
The following are among the leading authorities on where profits arise (this is not an exhaustive list).
A) CIR v Hang Seng Bank Ltd (1990) 1 HKRC 90-044 (Privy Council)
The taxpayer traded investment products outside Hong Kong, but investment decisions were taken in Hong Kong. The Privy Council looked at what the taxpayer had done to earn the profit and where. As the buying and selling of the investments took place outside Hong Kong, the profits were treated as offshore and not subject to Hong Kong profits tax.
B) CIR v HK-TVB International Ltd (1992) 1 HKRC 90-064 (Privy Council)
The taxpayer sold copyrights of Chinese programmes outside Hong Kong; representatives went abroad to solicit business, negotiate and sign contracts. Contracts were managed from Hong Kong and payments settled in Hong Kong. The Privy Council repeated that one must identify the operations which produced the profits and where those operations occurred—not every incidental activity. As the provision of the intellectual property rights was rendered outside Hong Kong as the profit-making activity, the profits were offshore.
C) Wardley Investment Services (Hong Kong) Ltd v CIR (1993) 1 HKRC 90-068 (Court of Appeal)
The Court of Appeal stressed profit-producing activities rather than the whole business generally, following Hang Seng Bank and HK-TVB. The taxpayer was a Hong Kong investment adviser managing portfolios under management contracts (including use of overseas brokers). Disputed commission income was analysed by reference to what generated the relevant profits.
D) CIR v Euro Tech (Far East) Limited (1995) 1 HKRC 90-074 (High Court)
The taxpayer processed orders and collected and made payments; Hong Kong activities were relatively minimal. The Court held the profits to be Hong Kong sourced on the facts.
E) CIR v Magna Industrial Co Ltd (1997) HKRC 90-082 (Court of Appeal)
The Court of Appeal overruled Euro Tech. Where the network of buying and selling was outside Hong Kong, activities in Hong Kong such as invoicing, shipping, collecting payment could be ancillary and not the true source of the profits.
There are many further cases; source disputes between taxpayers and the IRD are common.
IRD guidance: DIPN 21 — locality of profits
The IRD has issued Departmental Interpretation and Practice Note No. 21 (Locality of Profits), which sets out six guiding principles. The following are the first three as commonly summarised:
a) The question of locality of profits is a hard, practical matter of fact. No single rule covers every case. Whether profits arise in or are derived from Hong Kong depends on the nature of the profits and the transactions that give rise to them.
b) The broad guiding principle is to look at what the taxpayer did to earn the profits and where they did it—in other words, identify the operations that produced the relevant profits and where those operations took place.
c) The distinction between Hong Kong and offshore profits is often approached by reference to gross profits from individual transactions—i.e. by reference to individual buying and selling (or other profit-making) activities.
(DIPN 21 also sets out further principles—read the full note and seek professional advice for your circumstances.)
This article is for general information only and does not constitute tax or legal advice. Hong Kong tax law and IRD practice change; always obtain advice tailored to your facts.