Zhang Mengying, journalist

Over the past year, Hong Kong has updated its tax regime in response to industry trends, such as the growing interest in family offices. International developments, including base erosion and profit shifting (BEPS) 2.0, have also had a significant impact, leading to changes in tax legislation and administration.

During ACCA Hong Kong’s annual tax conference, held online on 26 March, Wilson Cheng FCCA, partner and Greater China tax controversy co-leader and Hong Kong Tax controversy leader at EY, shared recent developments and the options for companies to adapt to BEPS 2.0 as the Special Administrative Region’s tax regime evolves.

Recent developments

Cheng noted that a key trend in 2021 was incentivisation. For example, the Inland Revenue (Amendment) (Tax Concessions for Carried Interest) Ordinance 2021 aims to enhance Hong Kong’s attractiveness in the asset management and funds industry.

This regime provides profits tax and salaries tax concessions for some types of carried interest, and expands the eligible classes of assets that may be held and administered by a fund through a special-purpose entity for profits tax exemption, said Cheng.

‘Usually, the asset of the investment manager links to the investment itself and carried interest is the reward,’ explained Cheng, adding that there used to be a lot of ambiguity around whether carried interest is investment return, service income or employment income, which would affect whether tax has to be paid on it.

An amendment offers an additional sweetener, allowing the carried interest that comes from a fund to be tax exempt under the Hong Kong Unified Fund Exemption Regime.

Family offices have generated a lot of attention in Hong Kong in recent years and there has been progress in producing legislation

To enjoy the exemption, there are certain reporting and compliance requirements, such as certification by the Hong Kong Monetary Authority, verification by external auditors and providing information to the Inland Revenue Department. The regime also adds anti-avoidance provisions to prevent abuses.

Another new rule, the Inland Revenue (Amendment) (Miscellaneous Provisions) Ordinance 2021, specifies the tax treatments regarding qualifying amalgamation of companies and the transfer or succession of specified assets under certain situations. It also introduces a legal framework to enable more businesses to file tax returns electronically and specifies the types of foreign taxes that are deductible.

Family offices

Cheng also looked ahead to some of the proposed tax concessions, including a regime for family offices. These are effectively private wealth management companies that serve ultra-high-net-worth individuals, said Cheng. Family offices have generated a lot of attention in Hong Kong in recent years and there has been progress in producing legislation, most recently in March, with the launch of a consultation on the introduction of a dedicated tax concession regime for family-owned investment holding vehicles managed by single-family offices.

Single-family offices get certain exemptions for returns on investments and need to meet a number of requirements, including having substantial activities in Hong Kong and serving one family exclusively.

Cheng thinks this regime will help local funds get exemptions, particularly given that the unified fund exemption regime, launched several years ago, is mainly targeting bona fide widely held funds.

‘This incentive will bring benefits to wealthy families in Hong Kong, as well as families abroad, who will consider Hong Kong as a destination to set up family offices,’ said Cheng.

BEPS 2.0 focus

BEPS 2.0 is likely to remain the main area of focus and the one most likely to impact businesses in Hong Kong. This is especially true for Pillar Two, which imposes a minimum tax rate of 15% and is expected to be brought into law in 2022.

With multiple jurisdictions negotiating ways to delay implementation, Hong Kong could also buy more time to design the most appropriate regime and give impacted companies longer to prepare and deal with the changes.

For those involved in crossborder transactions, it will become increasingly important to enhance tax controversy management

There are some practical measures that impacted companies could take to adapt to Pillar Two, Chen suggested. ‘The first thing is to examine carefully the existing arrangements. Companies need to be familiar with the complex regulations, such as how to calculate the effective tax rate as requested,’ he said.

A second suggestion for impacted companies is to check the validity of incentives and see whether the tax rate from one incentive on a particular line of business could be a balancing measure to achieve the jurisdictional effective tax rate of 15%, being the minimum set by Pillar Two.

Cheng warned that Pillar Two might bring higher tax costs for impacted companies. Therefore, companies may need to consider their tax structures and arrange their businesses with the bigger picture in mind.

For those involved in crossborder transactions, it will become increasingly important to enhance tax controversy management, said Cheng. One approach is for impacted companies to consider possible challenges from different tax authorities, review their existing defence documentation, and consider if they are enough or more analysis should be carried out.

‘There would be new tax reporting obligations, requiring companies to have higher capability of data extraction and submit detailed reports to tax authorities,’ Cheng concluded.

More information

Read our article on the recent ACCA Hong Kong tax conference, Cooperating on international tax.