Hong Kong Profits Tax is territorial in nature and only profits which have, or which are deemed to have, a Hong Kong source subjects to Profits Tax. If a Hong Kong company is established in such a manner that it does not carry on business in Hong Kong or if it generates profits which have a non-Hong Kong source, then the company may book its income without incurring profits tax liability in Hong Kong.

Three Conditions

As set out in the Hang Seng Bank Case, the following three conditions must be satisfied before a profits tax liability arises:

(1)	The person must carry on a trade, profession or business in Hong Kong;
(2)	The profits to be charged must be from such trade, profession or business carried on by the person in Hong Kong; and
(3)	The profits must be profits arising in or derived from Hong Kong

IRD Guidelines

Departmental Interpretation and Practice Notes No. 21 (“DIPN 21”) is particularly useful in respect of condition (3), i.e. whether a company’s profits have a Hong Kong or a non-Hong Kong source. The guidelines set out in DIPN 21 facilitate the tax efficient use of Hong Kong companies for transactions which take place outside Hong Kong. Where a Hong Kong company follows the guidelines and practice in DIPN 21 in structuring its activities and documentation, the company may book its income without incurring profits tax liability in Hong Kong.

Planning and Documentation

A Hong Kong company that intends to lodge an offshore claim in respect of its profits must demonstrate to the satisfaction of the IRD that its profits have a non-Hong Kong source. Accordingly, planning should be undertaken at the start of an operation, or before undertaking a particular transaction, to ensure that the company:

•	has properly reviewed and structured the way in which it intends to undertake its operations;
•	will generate the necessary documentation to identify and support the offshore claim; and
•	will produce clear documentation and transaction trail.

Profits tax exemption is not an automatic process and subsequently would require to pass the tax surveillance as could be raised by the IRD. Sufficient information and documents have to be provided to the IRD to show that the whole operation and all the business activities of the company have been carried out by the directors/employees outside Hong Kong. In order to prepare for the offshore profits tax exemption claim, all available accounting books, invoices of sales and purchases, orders, emails, bank statements, payment and receipt vouchers, bank outward and inward remittance documents, copy of contracts with any business parties, etc. should be kept by the Company and provide them to IRD as evidence of the offshore business operation model.

Once an offshore profits claim exemption has been granted, such exemption provide to the relevant year under tax surveillance as well as future tax years, unless and until the company subsequently changes the business operation model in any subsequent tax year to the onshore operation basis. Then IRD would proceed to raise another tax surveillance in the relevant subsequent tax year, only if in doubt that the company has changed such existing offshore business model to the onshore business model.

Summary

DIPN 21 offers a degree of certainty regarding the source of profits based on various Court decisions and provides an opportunity for effective tax planning regarding offshore profits claims.

Hong Kong is an ideal jurisdiction to incorporate a company which will generate profits outside Hong Kong. Hong Kong is not considered to be a tax haven by the OECD and does not appear on the lists of tax havens published by the OECD. Hong Kong is officially a low tax jurisdiction which provides simple, certain and straightforward legislation. With proper planning, non-Hong Kong-sourced income can be booked into a Hong Kong company without incurring liability to Hong Kong Profits Tax.

Source：Hong Kong Inland Revenue Department’s website

- https://www.ird.gov.hk/eng/tax/bus_pft.htm
- https://www.ird.gov.hk/eng/paf/bus_pft_tsp.htm
- https://www.ird.gov.hk/eng/pdf/dipn21.pdf