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October 7, 2021
2021-1818

Hong Kong may implement substance requirements related to offshore claims

Background

Recently, the European Union (EU) completed its review of the foreign-source income exemption (FSIE) regime in Hong Kong. Though the EU acknowledges that FSIE regimes are not in themselves problematic, it is concerned that corporates with no substantial economic activity in Hong Kong are not subject to tax in respect of certain offshore passive income (such as interest and royalties),1 thereby leading to circumstances of double non-taxation.

On 5 October 2021, Hong Kong was placed on Annex II of the EU list of non-cooperative jurisdictions for tax purposes (the so-called “gray list”).2

Hong Kong’s response to the EU’s assessment

In response to the EU’s assessment of Hong Kong, the Hong Kong Government stresses that Hong Kong will continue to adopt the territorial source principle of taxation in respect of both passive and active income.

That being said, Hong Kong has committed to amend or impose additional conditions in relation to offshore claims on passive income by the end of 2022, but effective in 2023.

The Hong Kong Government has indicated that the proposed legislative amendments will merely target corporations with no substantial economic activity in Hong Kong that make use of passive income to evade tax across a border. The Hong Kong Government further states that it will consult the stakeholders on the specific contents of the legislative amendments and strive to minimize the compliance burden of corporates.

It appears that Hong Kong may implement adequate substance requirements for offshore claims in the future, and if so, they should be evaluated along with other changes in legislation. Taxpayers should closely monitor these developments and assess how the changes would impact their current operations or tax policies.

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For additional information with respect to this Alert, please contact the following:

Ernst & Young Tax Services Limited, Hong Kong

Ernst & Young LLP (United States), Hong Kong Tax Desk, New York

Ernst & Young LLP (United States), Asia Pacific Business Group, New York

Ernst & Young LLP (United States), Asia Pacific Business Group, Chicago

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ENDNOTES

  1. As Hong Kong has already adopted in its domestic tax legislation the definitions of Permanent Establishment contained in the latest 2017 OECD Model Tax Convention, its territorial source regime in respect of active income (e.g., trading and service income) passed the EU’s assessment.
  2. See EY Global Tax Alert, EU Member States adopt revised list of non-cooperative jurisdictions for tax purposes, dated 6 October 2021.
 

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