If you are considering setting up a company in Hong Kong and are interested in knowing more about the taxation system, this article will help you understand it better and will explain how profits tax exemption is possible.
How are Profits Taxed in Hong Kong?
Hong Kong is world renowned for its simple and low tax regime, making it one of the most business-friendly jurisdictions in the world. Hong Kong adopts a territorial basis for taxing profits derived from a trade, profession, or business carried on locally, and the profits tax rate is 8.25 % on the first $2 million of profits and 16.5% on any profits above that amount. In other words, profits derived from an offshore source are not taxable. More simply put, this means that a person who carries on business in Hong Kong but derives profits from another place is not required to pay tax in Hong Kong on those profits.
Eligibility for Profits Tax Exemption in Hong Kong
To be eligible for full offshore status, a company should have its place of business and place where day-to-day investment/business decisions located overseas. That is to say, they will have no operations taking place in Hong Kong (which means no physical office in Hong Kong, no stocks stored in Hong Kong and no sale or purchase made to/from a Hong Kong customer/supplier, etc.). Although being offshore, a company shall have no presence in Hong Kong; virtual office for receiving mail does not count.
How to Apply For Profits Tax Exemption?
Application for profits tax exemption should be done when filing the profits tax return. Newly incorporated companies will receive its first profits tax return after 18 months from the date of incorporation, and upon receipt of the profits tax return, you will be given 3 months for filing the tax return together with its audit report. If you are interested in applying for profits tax exemption, you should inform your auditor in advance so that your auditor will present your accounts, tax computation, and profits tax return in a way that your profits are not subject to Hong Kong profits tax.
The Inland Revenue Department will start investigating your application when they receive your profits tax return, and they will send you their first batch of questions several months later (or sometimes almost a year later). You will be requested to provide answers with supporting documents (such as copies of contracts, email correspondences with customers/suppliers and director’s travel record, etc.) and therefore, please always be reminded to keep all your documents and emails properly and well-organized.
There will be some back and forth communication between you and the Inland Revenue Department until your application is approved; note that the whole process may take years. In addition to time costs, it may also cost you money if you need a tax advisor to draft the replies to the Inland Revenue Department to avoid answering the questions in a wrong way or creating complications. It is up to the company to decide whether the application is worth it or not.
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