The Hong Kong Tax system

1. Introduction

Hong Kong is one of the world’s most influential economic and financial centres, rivalling global cities such as New York, London, and Singapore.

After the Covid-19 pandemic, the city is now more open for business than ever, and all major indices point to a great recovery. Simply put, there is a lot of capital looking for new businesses to invest in.

In today’s article we will address the city’s taxation system, but first let’s look at some of the unique features that make Hong Kong still the most attractive capital market and trade hub in Asia.

First of all, Hong Kong is a Special Administrative Region (SAR) of the People’s Republic of China governed by the policy of One Country Two Systems. Under this principle Hong Kong has safeguarded its unique legal system governed by the English Common Law, a trait that has allowed the city to emerge as an ideal place to do business, thanks to a reliable, simple and easy-to-understand legal system. In addition, the judicial system is lean, independent, and consolidated by more than a century of resolving trade disputes and litigations, making Hong Kong the ideal place for Western companies looking to expand into China and East Asia.

Indeed, Hong Kong’s location – and the aforementioned One Country Two Systems policy – make the hub the preferred gateway to the Chinese market. Although in recent years China has undergone an ever-increasing process of opening up, very often its legal system still appears to be unintelligible and unpredictable to those with only a cursory knowledge of it, despite the huge strides that have been made in this regard as well. This is where Hong Kong’s legal system makes its valuable contribution by securing the foreign businesses with a familiar legal system.

2. Hong Kong’s Taxation Principles

That said let’s talk about the tax system.

Businesses and individuals in Hong Kong enjoy one of the simplest tax systems in the world, having only three direct taxes, with large deductions that reduce the tax base.

Hong Kong adopts a territoriality basis of taxation, meaning that profits tax is payable by every person (defined to include corporation, partnership, trustees and sole proprietorship) carrying on a trade, profession, or business in Hong Kong on profits arising in or derived from Hong Kong from that trade, profession, or business. In general, the tax residence of a person is irrelevant, and there is no distinction between residents and non-residents when it comes to liability to profits tax, except in a tax treaty context. Non-residents carrying on a trade, profession, or business in Hong Kong are chargeable to tax on profits arising in or derived from Hong Kong unless they are from jurisdictions with which Hong Kong has a tax treaty and therefore protected by such treaty. To simplify, it doesn’t matter whether the taxpayer resides in Hong Kong or not, only the income – or profit – generated in Hong Kong is taxable and that generated outside is in most cases not taxed.

This first principle goes along with a schedular income tax system that only levies taxes on business profits under profits tax, property rental income under property tax and employment income under salaries tax. Therefore, any income that is not within one of these schedules or categories is not subject to tax.

Central to Hong Kong’s tax law is the principle of transparency: the Inland Revenue Department (IRD) regularly issues Departmental Interpretation and Practice Notes for the information of tax practitioners and the public. The full text of tax laws administered by IRD, decisions of the Board of Review and related judgments of the Courts are also published.

Hong Kong has been very active in promoting the transparency and predictability in tax administration at an international level, by conducting negotiations with its trading and investment partners on Comprehensive Avoidance of Double Taxation Agreements (CDTAs), in order to reduce tax burdens on individuals and enterprises, clearing tax uncertainties.

On the IRD website the list of concluded and under negotiation CDTAs is published. Along with the UK, many EU countries has concluded such an agreement, including prominent economies such as France, Italy, Spain, and the Netherlands, while Germany is still absent, being in the under-negotiation list.

Another element of the Hong Kong’s tax system is the flat rate tax principle for corporations, meaning that the tax rate applied does not increase in relation to the profit amount.

3. Profit Tax

Under the law in force at the time this article has been written, there is a two-tiered rate regime at the corporate level that is different depending on whether it concerns corporations or unincorporated businesses. The former are taxed at a rate of 8.25% on the first HK$2 millions of profits and the excess is subject to the rate of 16.5%; while for the latter the rates are lowered to 7,5% and 15%, respectively. Capital gains, shareholder dividends and foreign-sourced income are all tax free.

As the profits tax is based on the assessable profits of each fiscal period, which usually consists of 12 months, there are sometimes estimated assessments on taxes based on the last year’s profits.

The provisional profits tax can be paid in two separate instalments. The first instalment is approximate and covers 75%, while the remaining 25% should be paid after three months.

After the assessable profits of the year have been determined, the company can receive a tax credit for the amount paid. Any excess amount paid can be credited to the company for the next fiscal period.

For any clarification with the authorities, companies that qualify for the provisional profits tax can apply for such clarification during a valid period. Typically, this period is one month before the due date or two weeks after the payment notice.

We should also consider if the company is onshore or offshore (for the purposes of this article offshore refers to an entity that runs its main business activities outside the jurisdiction where it was incorporated, in our case Hong Kong). The key difference between the two is that an offshore company can apply for special status to be exempt from paying taxes, while onshore companies shall pay taxes accordingly to its taxable income. “Offshore company” is a status that can be obtained from the mentioned IRD, provided that it is demonstrated a major source of profits from outside the Hong Kong tax jurisdiction and that no business activities were performed in Hong Kong to generate that income.

In addition to the already favourable system described, the government has provided several incentives to make Hong Kong even more attractive for business.

4. Salaries tax

Salary tax refers to the taxation a natural person can be charged based on incomes derived from work, employment and pension in Hong Kong. To give just a glimpse of the topic, individuals are taxed at progressive rates on their net chargeable income (i.e. assessable income after deductions and allowances) starting at 2% and ending at 17%; or at a standard rate of 15% (2013/14 onwards, until superseded) on net income (i.e. income after deductions), whichever is lower. There is no capital gains tax, no dividend tax and no inheritance tax in Hong Kong.

As mentioned, following a territorial principle of taxation, Hong Kong taxes individuals only on income that has been earned in Hong Kong.

Hong Kong resident individual taxpayers can potentially reduce their tax burden by electing for personal assessment. Under personal assessment, tax is calculated at progressive tax rates on the aggregated income from all sources. A year of assessment runs from April 1st to March 31st of the following year.

As provided for corporations, Hong Kong’s taxation system provides a large number of deductions and allowances for residents and non-residents, that can greatly reduce the net chargeable income.

All the provisions are available on the IRD website, as mentioned before.

5. Property tax

Property Tax is chargeable to owners of land and/or properties in Hong Kong. The tax is computed at the standard rate on the net assessable value of the property. The net assessable value of the property is the amount of actual income less allowances.

The chargeable tax rate is a flat rate of 15%. Also in regard to property tax, there are many deductions available to the owner.

6. EU view of HK tax system

To conclude, let’s have a look at the EU attitude towards Hong Kong’s tax system.

In February 2024, the EU has amended its list of non-cooperative jurisdiction for tax purposes, removing Hong Kong SAR from the Annex II (commonly referred to as the “grey list”).

Being in the “grey list” means that Member states can use the EU list in the application of at least one of four specific legislative measures, such as:

• non-deductibility of costs incurred in a listed jurisdiction;
• controlled foreign company (CFC) rules, to limit artificial deferral of tax to offshore, low-taxed entities;
• withholding tax (WHT) measures, to tackle improper exemptions or refunds;
• limitation of the participation exemption on shareholder dividends;

Before the 2024 amendment, the EU considered that the scope of Hong Kong SAR’s foreign-source income exemption (FSIE) regime, which only covered disposal gains on equity interests, was not sufficiently wide. Therefore – in order to comply with the EU requirements – in January 2024, Hong Kong implemented the necessary further amendments to its FSIE regime, expanding the scope of assets pertaining to foreign-sourced disposal gains beyond shares or equity interests, now covering foreign-sourced gains from the disposal of all types of assets (i.e. movable property and immovable property), regardless of whether they are capital or revenue in nature and whether the assets are financial or non-financial in nature.