Refinement to Hong Kong’s overseas supply revenue exemption regime for passive revenue

In October 2021, the European Union (“EU”) positioned Hong Kong (“HK”) on its “watchlist” of non-cooperative jurisdictions for tax functions (“EU Listing”) over potential dangerous tax practices arising from the standard exemption from tax granted to offshore passive revenue, notably the place cost or recipient corporations usually are not required to display a considerable financial presence in HK. The EU expressed its issues over the doable exploitation of such preparations by HK shell corporations, which regularly resulted in an erosion to the tax base of its constituent member states.

In response to the issues raised by the EU, the HKSAR authorities moved shortly to gazette the Inland Income (Modification) (Taxation on Specified International-sourced Earnings) Invoice 2022 (the “Invoice” or “FSIE Regime”) on 28 October 2022. [1] After the gazette of the Invoice and subsequent dialogue with the EU, the HKSAR authorities has proposed two amendments [2] in November 2022 to the Invoice within the Committee Stage Amendments (“CSAs”), particularly: (1) eradicating the exclusion of sure entities from the FSIE Regime; and (2) exempting the required overseas sourced revenue (see definition beneath) derived from or incidental to the revenue producing actions as required beneath the preferential tax regimes. The Invoice targets Multinational Enterprises (“MNE”) with the intention of stopping tax constructions that enable for the double non-taxation of offshore passive revenue, and introduces substance-based circumstances that must be glad for sure overseas sourced revenue to proceed having fun with tax exemption in HK.

Following the passage of the Invoice by the Legislative Council on 14 December 2022, the brand new FSIE regime for passive revenue will likely be efficient from 1 January 2023. Each proposed amendments within the CSAs have been taken into consideration within the Invoice handed by the Legislative Council.

How does the refined FSIE Regime affect your organization/ funding portfolios?

Underneath the FSIE Regime, entities inside an MNE group that carries on a commerce or enterprise in HK can be coated as an in-scope entity. An MNE group refers to a bunch with a minimum of one of many entities or everlasting institution inside the group that isn’t positioned inside the similar jurisdiction of the last word father or mother firm (“UPE”) of the group, the place UPE means an entity who owns a controlling curiosity in one other entity. On this regard, pure home teams (i.e., all entities inside the group are HK tax residents) or an HK firm holding a minor non-controlling curiosity in overseas entities usually are not in-scope entities.

What’s “in-scope revenue” beneath the refined FSIE Regime?

The FSIE Regime targets “specified foreign-sourced revenue” (i.e., passive revenue together with curiosity, dividend, disposal beneficial properties and revenue from mental property), which beneath the brand new guidelines will now be deemed HK sourced revenue and topic to HK Income Tax at 16.5% whether it is acquired in HK. “Obtained in HK” is outlined as follows:

i. remitted to/ transmitted/ introduced into HK;

ii. used to fulfill any debt incurred in respect of a commerce, occupation or enterprise carried on in HK; or

iii. used to purchase movable property and the property is introduced into HK.

For personal fairness funds and their SPVs who’re deriving assessable income which can be exempt from tax beneath the prevailing exemption regimes, the required foreign-sourced revenue could also be excluded from the FSIE Regime to the extent the revenue is derived from or incidental to the manufacturing of such assessable income.

Is any aid/ exemption accessible beneath the FSIE Regime if the revenue is deemed as sourced in HK?

To ensure that an in-scope firm to proceed adopting the offshore non-taxable therapy on specified foreign-sourced revenue, it might must fulfill the newly launched circumstances related to the characterisation of that revenue:-

What if the circumstances of the above aid/ exemption requirement can’t be met?

Double taxation aid must be accessible for in-scope entities who’ve paid tax on the required foreign-sourced revenue the place the tax paid is substantial of the identical nature as income tax in a overseas jurisdiction outdoors of HK, no matter whether or not that overseas jurisdiction has entered right into a complete double taxation association (“CDTA”) with HK or not. A tax credit score might be granted both as a bilateral tax credit score beneath a CDTA or as a unilateral tax credit score for HK tax residents who obtain revenue from a non-CDTA jurisdiction.

Abstract of FSIE regime

Comparability of FSIE regimes in Hong Kong, Singapore and Malaysia

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Though tax exemption wouldn’t be accessible beneath the FSIE regime if the related circumstances usually are not glad, there should be avenues to pursue a non-taxable declare and/or obtain tax neutrality on sure kinds of revenue in sure circumstances.

As an illustration, even within the absence of the FSIE regime, we’d anticipate beneficial properties arising from the disposal of investments which have been held for long-term funding functions to be non-taxablein HK, Singapore and Malaysia on the idea that these jurisdictions don’t impose tax on capital beneficial properties. In Singapore, a protected harbour rule can be accessible whereby disposal beneficial properties (no matter whether or not income or capital in nature) are exempted if sure circumstances are met.

For foreign-sourced curiosity revenue and IP revenue, though not particularly coated beneath the respective FSIE regimes in Singapore or Malaysia, it could be doable to maintain such revenue offshore such that they’d not be topic to tax in Singapore and Malaysia. In Singapore, a decreased tax price for qualifying IP revenue could also be accessible beneath the IP Improvement Incentive for IP revenue that’s acquired in Singapore.

For HK, to the extent that the MNE entities foresee the related exemption circumstances usually are not glad, it could even be doable to deal with the foreign-sourced passive revenue as offshore sourced and never topic to tax in HK by (1) retaining the revenue outdoors of HK; (2) not utilizing the revenue to fulfill any debt in relation to their profit-generating actions; and never utilizing the revenue to purchase any movable property in HK.

How can we assist?

When you have any questions on the refined FSIE Regime; and/or want any help in ascertaining your place within the refined FSIE Regime; please be happy to contact us and we’d be completely satisfied to debate and supply additional help.

[1] The FSIE invoice might be accessed by way of this hyperlink: https://www.gld.gov.hk/egazette/pdf/20222643/es32022264319.pdf

[2] The proposed amendments might be accessed by way of this hyperlink: https://www.legco.gov.hk/yr2022/english/bc/bc06/papers/bc0620221111cb1-760-1-e.pdf

[3] On 30 December 2022, the Malaysia Inland Income Board introduced financial substance necessities with respect to tax exemption on overseas sourced dividend revenue. Underneath the brand new financial substance necessities, resident corporations, resident LLPs and resident people in relation to a partnership enterprise in Malaysia might want to make use of a enough variety of certified employees and incur enough working bills for the needs of finishing up sure financial actions in Malaysia. The dedication of the minimal threshold values (e.g., what constitutes “enough”) will likely be primarily based on the particular info of every case given the extent of operations required differ from trade to trade.