Asia & Tax Alert
September 2009
Authors:
Clifford Ng
clifford.ng@klgates.com
852.2230.3558
Elsa Mak
elsa.mak@klgates.com
852.2230.3587
K&L Gates is a global law firm with
lawyers in 33 offices located in North
America, Europe, Asia and the Middle
East, and represents numerous GLOBAL
500, FORTUNE 100, and FTSE 100
corporations, in addition to growth and
middle market companies,
entrepreneurs, capital market
participants and public sector entities.
For more information, visit
www.klgates.com.
An Overview of the Double Tax Agreements
of Hong Kong
Hong Kong prides itself as a global financial centre. However, compared with many
major developed markets, Hong Kong lags in the number of double tax agreements
(“DTAs”) to which it is a party. Under the spotlight as a result of the recent
initiatives on tax and financial reporting, Hong Kong has made a push to enter into a
broader network of DTAs. This is an opportune time to review the DTAs Hong
Kong has entered into. This client alert highlights some of the legal and practical
issues which may be relevant to clients planning to use Hong Kong as a place of
business to take advantage of the DTAs.
Hong Kong’s Tax System
Hong Kong has a simple territorial based tax system with relatively low tax rates
compared to many developed economies. It operates on the “territorial principle”
meaning only Hong Kong sourced income is subject to tax. Gains on the dispositions
of capital assets (as opposed to assets of a revenue or trading nature) are exempt
from profits tax. Furthermore, there is no tax imposed on dividends. In view of the
foregoing, double taxation of income does not usually arise out of operations in
Hong Kong obviating the need for DTAs.
Recently, Hong Kong has increased the pace with which it enters into DTAs. As of
today, Hong Kong has entered into five comprehensive DTAs with Belgium,
Mainland China, Luxembourg, Thailand and Vietnam. All DTAs are now in force
except for the one with Vietnam which is subject to ratification by both Hong Kong
and Vietnam governments.
Benefits under the DTAs
Dividends, Interest and Royalties
One benefit of the DTAs is to reduce the rate of withholding tax levied by the treaty
jurisdiction on dividend, interest and royalty income received by a Hong Kong
resident from a tax treaty resident. Since Hong Kong does not impose any
withholding tax on dividend or interest income, the DTAs will have no implication
on a tax treaty resident receiving dividends or interest from a Hong Kong resident.
Royalty income from Hong Kong received by a tax treaty resident is subject to
withholding tax in Hong Kong. The withholding tax rate is the lower of the tax rate
provided in the DTAs and the effective tax rate of 4.95% (for a non-associated
corporation in the year of assessment of 2009/10) as stipulated in Hong Kong’s
domestic tax law.
The tables below summarize the withholding tax rates applicable to dividends,
interest and royalties:
Asia & Tax Alert
Income Received by a Hong Kong Resident from a Treaty Resident:
Jurisdiction
Type of Income
Dividend
Belgium
(Note 1)
Mainland
China
5% / 10%
0% / 5% / 15%
Luxembourg
(Note 2)
0% / 10%
Interest
10%
7%
0%
Royalty
5%
7%
(Note 3)
0%
(Note 6)
Income Received by a Treaty Resident from a Hong Kong Resident:
Jurisdiction
Belgium
Mainland
Luxembourg
Type of Income
China
0%
0%
0%
Dividend
Thailand
10%
Vietnam
0%
(Note 4)
10% / 15%
10%
5% / 10% / 15%
7% / 10%
(Note 5)
(Note 7)
Thailand
(Note 8)
Vietnam
0%
0%
Interest
0%
0%
0%
0%
0%
Royalty
4.95%
4.95%
3%
4.95%
4.95%
(Note 9)
(Note 9)
(Note 9)
(Note 9)
Capital Gains
The DTAs with Belgium, Luxembourg and Thailand provide that capital gains derived by a Hong Kong
resident from the disposal of shares in a company resident in the treaty jurisdiction are exempt from tax in
that jurisdiction.
Under the China DTA, no capital gains tax will be imposed on a Hong Kong resident unless the Hong Kong
resident has either a direct or indirect participation of 25% or more of the capital of the Chinese company at
any time within 12 months before the disposition. The Vietnam DTA provides that no capital gains tax will
be payable by the Hong Kong resident unless the disposition of shares is 15% or more of the entire
shareholding of the Vietnamese company prior to the disposition.
No exemption on capital gains tax will be granted under any of the DTAs if the shares being disposed of by
a Hong Kong resident represent the capital of a “real property holding company,” This is defined to mean a
company which derives more than 50% of its asset value directly or indirectly from immovable property
situated in the treaty jurisdiction. No exemption is allowed on capital gains tax on the disposition of real
estate located in the treaty jurisdiction.
Business Profits
If a Hong Kong resident derives active business profits through a permanent establishment (“PE”) in a treaty
jurisdiction, the Hong Kong resident may be subject to double taxation in Hong Kong and the treaty
jurisdiction as the treaty jurisdiction may tax the income attributable to the PE in that location. This
possibility of double taxation may be rare since Hong Kong imposes tax on a territorial basis and income
attributable to the foreign PE should normally be treated as being sourced outside Hong Kong.
Nevertheless, if income attributable to the PE is subject to both tax in Hong Kong and the treaty jurisdiction,
the DTAs provide that the tax paid in the treaty jurisdiction in respect of the same income can be credited
against the tax payable in Hong Kong. The amount of credit allowed shall not exceed the amount of Hong
Kong tax in respect of that income as if it is computed in accordance with the Hong Kong tax laws.
September 2009
2
Asia & Tax Alert
Where a treaty resident is taxed in Hong Kong by reason of carrying on a business and deriving profit
through a PE in Hong Kong, the DTAs provide different mechanisms to mitigate any double taxation. The
DTAs with China, Thailand and Vietnam provide for a tax credit relief for the amount of taxes paid in Hong
Kong. The Belgium DTA and the Luxembourg DTA exempt the income attributable to the PE in Hong
Kong from their domestic tax instead of granting a tax credit as the other jurisdictions do.
Deductions are generally allowed for expenses attributable to the PE under all the DTAs. However, no
deduction will be granted for royalties, management services fees or interest paid by the PE to its head office
under the DTAs with Belgium, China and Vietnam.
Permanent Establishment
All the DTAs adopt the same basic definition of a PE as “a fixed place of business through which the
business of an enterprise is wholly or partly carried on,” There are minor differences as to the duration of
time over which services are rendered or furnished as well as geographical location such as a building site or
similar project constituting a PE under the DTAs. For instance, under the China DTA the furnishing of
services by a Hong Kong enterprise through employees or other personnel in Mainland China for a period or
periods aggregating more than 183 days within any 12-month period will be regarded as having a PE.
However, pursuant to the Thailand DTA and the Vietnam DTA, a PE will be deemed to exist if the same
mode of services is provided for a period or periods aggregating more than 180 days within any 12-month
period.
Under all DTAs entered into by Hong Kong, an enterprise will not be deemed as having a PE if it carries on
business in a treaty jurisdiction through a broker, general commission agent or any other agent of
independent status if such persons are acting in the ordinary course of their business. In relation to the
definition of “agent of independent status,” the DTAs with China, Thailand and Vietnam provide that if a
person’s activities are wholly or almost wholly performed on behalf of an enterprise, it will not be regarded
as an agent of independent status and will be deemed a PE of that enterprise. The Belgium DTA and the
Luxembourg DTA do not have such provisions.
It should also be noted that all DTAs provide that where a person has habitually exercised an authority to
conclude contracts in the name of the enterprise, it will be deemed a PE of that enterprise unless its activities
are limited to those of a preparatory or auxiliary nature. The DTAs with Belgium, Luxembourg, Vietnam
and Thailand further extend the scope to deem a person as a PE if it habitually maintains a stock of goods or
merchandise, either for the purposes of filling orders on behalf of the enterprise, or for regular delivery in the
treaty jurisdiction on behalf of the enterprise. No such deeming provision exists in the China DTA.
Qualifications for Claiming Benefits
Residence
One of the requirements to claim benefits under a DTA is that the claimant shall be a “resident” of Hong
Kong or the relevant treaty jurisdiction determined pursuant to the provisions under the DTA.
The Belgium DTA follows the OECD model to define a person as a Hong Kong resident if such person is
subject to tax in Hong Kong by reason of its domicile, residence, place of management or incorporation or
any other criterion of a similar nature. However, since Hong Kong tax is levied on a territorial concept such
that no one is subject to Hong Kong tax merely because of residence in Hong Kong, the other DTAs define a
Hong Kong resident for the purposes of the DTAs based on different criteria.
Under the China, Luxembourg, Thailand and Vietnam DTAs, an entity other than an individual will be
regarded as a Hong Kong resident if it is:
September 2009
3
Asia & Tax Alert
a.
a company incorporated in Hong Kong;
b. a company incorporated outside Hong Kong but being normally managed or controlled in Hong
Kong; or
c.
a person constituted under the laws of Hong Kong, or if constituted outside Hong Kong but being
normally managed or controlled in Hong Kong.
The concept of “normally managed or controlled in Hong Kong” is not defined in detail in the DTAs.
However, the Hong Kong Inland Revenue Department (the “HKIRD”) provided some guidance in this
regard. In Departmental Interpretation and Practice Notes No. 44 (Revised), the HKIRD takes the view that
a non-Hong Kong incorporated company can be regarded as a Hong Kong resident under the China DTA if
either its management or control is exercised in Hong Kong. The same analogy can be applicable to the
Luxembourg, Thailand and Vietnam DTAs.
“Management” refers to management of daily business operations or implementation of decisions made by
top management, whereas “control” refers to control of the whole business at the top level such as
formulating central policy or strategic planning for the company as a whole. As such, provided that there is
evidence to prove that the business of a company is normally managed or controlled in Hong Kong, a
company will be considered as a resident of Hong Kong under the China, Luxembourg, Thailand and
Vietnam DTAs.
Notwithstanding the above, a treaty jurisdiction may consider “substance over form” or some form of a
commercial purpose test and impose its own domestic requirements to ensure that the DTAs are not abused.
Notably, China has issued a circular recently taking a more restrictive approach in determining tax residence
in applying its Enterprise Income Tax. It is unclear whether this will be extended to the DTA with Hong
Kong.
Dual Residence
If an entity is considered a resident of both Hong Kong and a treaty jurisdiction, the Belgium, China and
Luxembourg DTAs will take the place of effective management as the conclusive factor in determining the
residence of that entity. The Thailand DTA and the Vietnam DTA refer any dual residence conflict to the
tax authorities to resolve by mutual agreement.
Practical Consideration
In practice, it is common for tax authorities of the treaty jurisdiction to request a person claiming to be a
Hong Kong resident to produce documentation certifying its resident status. To date, the HKIRD has issued
formal guidelines on how to apply for certification of resident status only with respect to the China DTA.
The HKIRD is handling all other matters on a case-by-case basis. In most instances the HKIRD will require
the applicant to obtain some form of referral letter from the tax authority of the treaty jurisdiction before
issuing any certification on the Hong Kong resident status of the applicant. We can expect more
standardized procedures as the DTAs are relied on more in the future.
Going Forward
In its 2009/10 budget, the Hong Kong government states that “agreements for the avoidance of double
taxation with major economies will help improve the business environment and facilitate flows of trade,
investment and talent between Hong Kong and the rest of the world.” The government recognized the need
to extend Hong Kong’s DTA network to enhance its position as an international financial hub. Hong Kong
will enter into more comprehensive DTAs with countries around the world and its procedure for their
administration will be clarified. We will keep you updated.
September 2009
4
Asia & Tax Alert
End Notes:
1. According to the wording of the Belgium DTA, 0% if the beneficial owner, at time of the payment of
dividends, holds at least 25% shareholding of the company paying the dividends for an uninterrupted
period of at least 12 months. 5% if beneficial owner holds at least 10% shareholding of the company
paying dividends. 15% in any other cases.
2. 5% if the beneficial owner holds at least 25% shareholding of the company paying the dividends. 10%
in any other cases.
3. 0% applies to dividends paid to a company (other than a partnership) that holds directly at least 10%
shareholding of the company paying the dividends or a participation with an acquisition cost of at least
EUR1.2 million. 10% in any other cases.
4. Dividends paid to a non-resident are currently not subject to withholding tax in Vietnam. If Vietnam
imposes withholding tax on dividends in the future, the withholding tax rate will be limited to 10%
under the DTA.
5. 10% if interest is beneficially owned by any financial institution or insurance company of a resident of
the other party or is paid with respect to indebtedness arising as a consequence of a sale on credit by a
resident of that other party of any equipment, merchandise or services, except where the sale is between
persons not dealing with each other at arm’s length. 15% in any other cases.
6. Royalties paid to a non-resident are currently not subject to withholding tax in Luxembourg. If
Luxembourg imposes withholding tax on royalties in the future, the withholding tax rate will be limited
to 3% under the DTA.
7. 5% if royalty is paid for literary, artistic and scientific works. 10% if paid for patents, trademarks,
designs or models, plans, secret formulas or processes. 15% in any other cases.
8. 7% if royalty is paid for patent, design or model, plan, secret formula or process. 10% in any other
cases.
9. Effective tax rate applicable to non-associated corporation in the year of assessment of 2009/10 under
the Hong Kong domestic law.
Anchorage Austin Beijing Berlin Boston Charlotte Chicago Dallas Dubai Fort Worth Frankfurt Harrisburg Hong Kong London
Los Angeles Miami Newark New York Orange County Palo Alto Paris Pittsburgh Portland Raleigh Research Triangle Park
San Diego San Francisco Seattle Shanghai Singapore Spokane/Coeur d’Alene Taipei Washington, D.C.
K&L Gates is a global law firm with lawyers in 33 offices located in North America, Europe, Asia and the Middle East, and represents numerous
GLOBAL 500, FORTUNE 100, and FTSE 100 corporations, in addition to growth and middle market companies, entrepreneurs, capital market
participants and public sector entities. For more information, visit www.klgates.com.
K&L Gates comprises multiple affiliated partnerships: a limited liability partnership with the full name K&L Gates LLP qualified in Delaware and
maintaining offices throughout the United States, in Berlin and Frankfurt, Germany, in Beijing (K&L Gates LLP Beijing Representative Office), in
Dubai, U.A.E., in Shanghai (K&L Gates LLP Shanghai Representative Office), and in Singapore; a limited liability partnership (also named K&L
Gates LLP) incorporated in England and maintaining offices in London and Paris; a Taiwan general partnership (K&L Gates) maintaining an office in
Taipei; and a Hong Kong general partnership (K&L Gates, Solicitors) maintaining an office in Hong Kong. K&L Gates maintains appropriate
registrations in the jurisdictions in which its offices are located. A list of the partners in each entity is available for inspection at any K&L Gates office.
This publication is for informational purposes and does not contain or convey legal advice. The information herein should not be used or relied upon
in regard to any particular facts or circumstances without first consulting a lawyer.
©2009 K&L Gates LLP. All Rights Reserved.
September 2009
5