This article was first published in the January 2012 China edition of Accounting and Business magazine.
In the past, Hong Kong did not have an extensive treaty network and there were only a few tax treaties concluded with its trading partners. However, upon enactment of the amended tax legislation in March 2010, which allowed Hong Kong to adopt the latest international standard on exchange of information with treaty parties, Hong Kong has rapidly developed and expanded its tax treaty network. At the time of going to press, Hong Kong had concluded 22 tax treaties and 14 of them have already come into effect.
Under these treaties, Hong Kong resident companies are protected from having income taxed twice and are eligible for various tax benefits (for example, reduced withholding tax rates on dividends and interest), when they invest or conduct business in corresponding treaty countries or jurisdictions.
To enjoy treaty benefits, a company must be a resident of a contracting party, among other conditions stipulated in a tax treaty.
Therefore, it is essential for a Hong Kong resident company to prove its residency status in Hong Kong before it can enjoy the benefits under the tax treaties concluded between Hong Kong and its treaty partners. In practice, a Hong Kong resident company shall submit an application to the Inland Revenue Department (IRD) of Hong Kong and apply for a certificate of resident status. The IRD will issue the certificate to an applicant if the Commissioner of Inland Revenue is satisfied that it is a Hong Kong resident based on the information supplied.
Definition of a Hong Kong resident company
The term ‘resident company’ of Hong Kong is defined under article 4 of the treaties. However, the exact definition of the term varies between treaties. For example, in the tax treaty between:
- Hong Kong and Japan – a company is a Hong Kong resident if it has ‘a primary place of management and control in Hong Kong’.
- Hong Kong and the UK – a Hong Kong resident company is a company incorporated in Hong Kong or, if it is incorporated outside Hong Kong, is ‘centrally managed and controlled’ in Hong Kong.
- Hong Kong and China – a Hong Kong resident company is defined in almost the same way as that between Hong Kong and the UK.
In most cases, a company will be regarded as a Hong Kong resident if it is incorporated in Hong Kong or has its central management and/or control there if it is incorporated outside Hong Kong.
Tax benefits under Hong Kong tax treaties
Under the treaties, a Hong Kong resident company is protected from being taxed by the partner countries or jurisdictions. In general, the business profits of a Hong Kong resident company shall be taxable in Hong Kong only, unless the enterprise carries on business in those treaty countries or jurisdictions through a permanent establishment.
Subject to the provisions of the tax treaty and relevant tax law in Hong Kong, if a Hong Kong tax resident company has paid tax on the relevant income in the treaty countries or jurisdictions, the tax paid to them shall be credited against the tax payable in Hong Hong. Therefore, there should not be any double taxation on income.
Furthermore, a Hong Kong resident company can usually enjoy reduced withholding tax rates on various investment incomes (including dividend income, interest income and capital gain) and royalties. For instance, under the tax treaty between Hong Kong and China, subject to certain criteria, a Hong Kong resident company is subject to 7% withholding tax rate on gross royalty income derived from China – a 3% reduction on the normal 10% withholding tax rate imposed on non-resident companies.
Application procedure for the tax certificate
As mentioned above, in most cases, either Hong Kong incorporated companies or non-Hong Kong incorporated companies with central management and/or control exercised in Hong Kong can be regarded as Hong Kong resident companies.
For a Hong Kong incorporated company, the provision of a certified copy of the certificate of incorporation of the company or a certified extract of information on the Business Register should be sufficient for proving its Hong Kong residency status. However, in practice, the incorporation or business registration documents are not usually regarded by the government of foreign countries as sufficient evidence to prove Hong Kong residency status.
It is therefore not uncommon for foreign countries to ask for the certificate issued by the IRD, in particular for non-Hong Kong incorporated companies. As a result, there is a practical need for obtaining the certificate when one wishes to claim treaty benefits under the treaties.
The procedure for applying for the certificate includes the completion and submission of specified application form(s) and if required, submission of additional information/documents to the IRD on request. Both Hong Kong incorporated and non-Hong Kong incorporated companies can apply for the certificate. There are standard forms to apply for the certificate and the applicant should ensure that the right form is used.
On the form, the IRD requests various information about the business operation of the applicant during the calendar year of the claim. This includes the nature of the business, location of headquarters, location of main branches, business activity in Hong Kong, number of management and staff in Hong Kong, confirmation of whether directors’ meetings are normally held in Hong Kong, and confirmation of whether management and staff in Hong Kong are involved in daily business operations (for example, formulation of strategic policies, determining business directions, setting work plans, implementing management decisions, choosing business finance and evaluating business performance).
Also, an applicant company is normally required to declare whether it is centrally managed and controlled in Hong Kong and provide reasons supporting this declaration.
For application of the certificate related to the tax treaty between Hong Kong and China, a referral letter issued by the mainland tax authorities is required. It is mentioned in the notes of the application form that without the referral letter from the mainland tax authorities, the application for a certificate of resident status will not be processed by the IRD.
On receipt of an application, the IRD will normally take 21 working days to process it. If the IRD considers the information supplied unclear or insufficient, it will request the applicant to clarify and/or submit further information/documents and the processing time in these cases will be longer.
As there is a genuine need to further promote international trade and business, it is anticipated that the tax treaty network of Hong Kong will continue to expand. Since proving company residency status is a practical prerequisite of utilising the relevant provisions contained in the treaties, we suggest that companies with overseas investments and/or business operations should look into their need to obtain the certificate and submit the application where applicable.
Yvonne Law is national chief knowledge officer and partner at Deloitte Touche Tohmatsu. Silent Li is senior tax manager at Deloitte Touche Tohmatsu