Implementation of Two-tiered Profits Tax Rate Regime in Hong Kong

16.05.2018

The Inland Revenue (Amendment) (No. 3) Ordinance 2018 (the Ordinance) was gazetted on 29 March 2018 to implement the two-tiered profits tax rates regime announced in the 2017 Policy Address. (Click here) It targets to help foster a favourable business environment, drive economic growth and enhance Hong Kong’s competitiveness by reducing the tax burden on enterprises, especially small and medium enterprises (“SMEs”) and start-up enterprises.

Overview
The two-tiered profits tax rates regime will be effective for fiscal years ending on or after 1 April 2018 as follows:

Tax Rate
Assessable profits Corporation* Unincorporated Business
First HK$2 million 8.25% 7.5%
Over HK$2 million 16.5% 15%

* When a corporation is a partner of a partnership, the concessionary tax rate of 8.25% will only apply to the first HK$2 million pro-rated by its share in the partnership.

For corporations, the first HK$2 million of profits earned by a company will be taxed at half the current tax rate (i.e., 8.25%) whilst the remaining profits will continue to be taxed at the existing 16.5% tax rate.

For unincorporated business, the profits tax rate for the first HK$2 million of profits earned will be lowered to 7.5% (i.e. half of the current profits tax rate for unincorporated business). Profits above HK$2 million earned by a company will continue to be subject to the standard profits tax rate of 15%.

Only one entity in each group is eligible
To ensure that the proposed tax measure will benefit targeted small and medium enterprises (SMEs) and to prevent the splitting of business activities/profits between related entities, restrictions are introduced which limit the application of the two-tiered tax rates to only one entity nominated by a group of “connected” entities. The “connected” relationship is determined by their status at the end of the basis period.

Generally speaking, an entity is a “connected” entity of another entity if:
  1. one of them has “control” over the other; or
  2. both of them are under the “control” of the same entity.

“Control”, in simple terms, generally refers to holding directly or indirectly more than 50% of issued share capital, voting rights, capital or profits in another entity.

For sole proprietorship business, one is “connected” to another if it is carried on by the same natural person.

No Doubt Benefits
In order to avoid double benefits, it has been proposed that the following enterprises will be excluded from the two-tiered profits tax rates regime:-

  • enterprises electing the preferential half-rate tax regimes (e.g. professional reinsurance companies, captive insurance companies, corporate treasury centres and aircraft leasing companies); and
  • the assessable profits for sums received by or accrued to holders of qualifying debt instruments as interest, gains or profits should already be taxed at half the rate (i.e. 7.5% or 8.25%, as the case may be)

Implications to the Hong Kong Economy and Businesses

The two-tiered profits tax system should be a welcomed measure as it will lower the tax burden of most taxpaying SMEs and the tax savings by enterprises can be reinvested in upgrading their existing equipment, which would increase efficiency and stimulate innovation. Social enterprises will have more freedom to pursue their social objectives with the extra tax savings. On the whole, this can gain international publicity mileage in promoting Hong Kong as a preferred investment destination which in turn could bring in additional tax revenue in the future.

For more information and assistance, please contact our professional tax advisors: