Hong Kong Profits Tax Exemption Explained

At Orbis Hong Kong, we regularly receive questions about offshore companies and tax exemption. Many people appear to be misinformed or better said, some people (including some “professionals”) entertain the idea that Hong Kong is a straightforward and easy tax-free environment to operate a company, which is not entirely accurate. Through this article, we aim to give you a clearer understanding of how the Hong Kong tax system actually works.

Firstly, it is important to clarify that a company with offshore activities is very different from an offshore company. Whereas an offshore company can simply be a company that has been incorporated in another country often in a tax paradise such as BVI, a company that has offshore activities may be incorporated in a country such as Hong Kong for example, but its business activities are carried out overseas.

With that understanding, only a Hong Kong incorporated company with offshore activities can qualify for tax exemption. Meanwhile, offshore status must be applied for in Hong Kong; it is NOT automatic. So, if your company has no physical office, purchases, customers, investment or bank facilities in Hong Kong, you can consider applying for tax exemption. Note, however, that virtual office for receiving mail is allowed.

Think you are eligible and you want to apply? The application for profits tax exemption must be made when filing the company’s profits tax return. 18 months from the date of incorporation, newly incorporated companies will receive their first profits tax return and are given an extended filing time of 3 months to do the filing.

When filing the profits tax return, you must present with it an audit report. You must notify your auditor in advance that you would like to apply for profits tax exemption, so they will prepare your accounts, tax computation, and profits tax return in a manner that indicates your profits are not taxable in Hong Kong.

Once your profits tax return and audit report have been submitted to the IRD, they will see that you have reported your company as “offshore.” Accordingly, they will treat this as your application for tax exemption and begin to investigate your claim for offshore status. From a few months to in some cases a year later, you will receive from the IRD their first set of questions. You will need to answer them providing documentary evidence to support your claim, for example, copies of email correspondence and contracts with customers and suppliers, travel records of the company directors and more. While if a company is a trading company, shipments must not go through Hong Kong and shipping documents will need to be provided. That is why it is always important to keep your email correspondence and documents well organized.

While you can deal with the questions directly, it is advisable to request the assistance of an advisor to help you draft your replies as the IRD can be quite particular as to the response they require. Plus, the whole process can take years to finalize as the IRD will send you more questions and request further clarification until they are satisfied with your claim. Even if you do have your application approved the IRD may revert to you a few years later with questions about new transactions.

As you can see, the requirements to be eligible for offshore status are quite specific, making the process of applying for tax exemption very tricky. But while it is not easy to apply for tax exemption, at the end of the day, it is an investment. Having said that it does take time and requires expertise to get it right, making it a costly process. As such, it may only be worth applying for tax exemption if you are dealing with a significant amount of money.

All things considered, it is up to you to assess the pros and cons: either you pay income tax as usual, or you spend time and money trying not to do so.

Vincent de Saint-Exupery

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