Inland Revenue Department
Hong Kong
DEPARTMENTAL INTERPRETATION AND PRACTICE NOTES NO. 35 (REVISED) CONCESSIONARY DEDUCTIONS: SECTIONS 26E AND 26F HOME LOAN INTEREST These notes are issued for the information of taxpayers and their tax representatives. They contain the Department’s interpretation and practices in relation to the law as it stood at the date of publication. Taxpayers are reminded that their right of objection against the assessment and their right of appeal to the Commissioner, the Board of Review or the Court are not affected by the application of these notes. These notes replace those issued in October 1999. LAU MAK Yee­ming, Alice Commissioner of Inland Revenue May 2007 Our web site : www.ird.gov.hk DEPARTMENTAL INTERPRETATION AND PRACTICE NOTES
No. 35(REVISED) CONTENT Introduction Paragraph 1
Part A – Home loan interest (section 26E) Basic principles 3
Interest must be paid in the year of assessment 4
Deduction restricted to amount of interest paid in the year 5
Maximum interest deduction 6
Sole or part­ownership 7
Apportionment of maximum interest deduction 12
Dwelling must be used as a residence 13
Qualifying dwellings 17
Marriage and separation/divorce 23
Home loan 26
Deduction allowable in ten years of assessment 31
Car parking spaces 32
Revocation of claims 33
Specified bodies and recognised organisations and 35
associations Property transfers intended to obtain a tax benefit Part B – Nomination of spouse to claim deduction (section 26F) Part C – Practical application of the deduction 38
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INTRODUCTION The granting of a concessionary deduction to individuals for interest paid on mortgages obtained to finance the acquisition of their homes was announced in the 1998­99 Budget. Unlike personal allowances, which do not apply to standard rate taxpayers, concessionary deductions are granted to all taxpayers subject to salaries tax or electing personal assessment. The implementing legislation is contained in the Inland Revenue (Amendment) Ordinance 1998. 2. The concession, which applies to the 1998/99 year of assessment and all subsequent years, is contained in sections 26E and 26F of the Inland Revenue Ordinance (IRO). The maximum home loan interest deduction allowable in each year, except for the years of assessment 2001/02 and 2002/03 which is capped at $150,000, is $100,000. Individuals may be granted a deduction for home loan interest for any ten (not necessarily consecutive) years of assessment. No distinction is drawn between residential properties acquired prior to the commencement of the concession on 1 April 1998 and those purchased subsequently. All properties rank equally in terms of the interest paid qualifying for the deduction. PART A ­ HOME LOAN INTEREST (SECTION 26E) Basic principles 3. A home loan interest deduction is granted to any person who has paid interest on a mortgage loan obtained to purchase a residential property if the dwelling was used by the person as a residence at any time during the year of assessment (section 26E(1)). The basic principles governing the granting of the deduction are ­ • the interest is paid in the year of assessment • the deduction allowed cannot exceed the interest paid in the year • the maximum deduction is: Year of Assessment Amount ($) 1998/99 to 2000/01 100,000 2001/02 and 2002/03 150,000 2003/04 and after 100,000 • • • • • • • • the person claiming the deduction must be the owner or a part­owner of the dwelling the maximum deduction is apportioned for co­owned properties the dwelling is used by the person as his or her place of residence the dwelling must be a qualifying dwelling situated in Hong Kong the loan was granted to finance the acquisition of the dwelling the loan is secured by a mortgage or charge over a Hong Kong property the lender is an approved body the person has not been granted a deduction in ten or more previous years of assessment. Interest must be paid in the year of assessment 4. A deduction is only allowed for home loan interest actually paid in the year of assessment. For the purposes of the deduction, whether the liability (or any part of it) arose prior to, or within, the year of assessment is not a relevant consideration. So long as the payment is made within the year of assessment, subject to the other qualifying conditions being satisfied, the interest is deductible. Interest incurred in one year of assessment but not paid until the next year is only deductible in the year of payment. Example 1 Mr A purchased a dwelling, with finance provided by a bank mortgage, on 1 December 2005. Each of his monthly loan repayments, made on 2 January 2006, 1 February 2006, 1 March 2006 and 1 April 2006 respectively, included an interest component of $10,000. The interest is deductible in the following years of assessment ­ Date Interest Paid Year of Assessment Deductible 2 January 2006, 1 February 2006 and 2005/06 1 March 2006 1 April 2006 2006/07 Even though the interest payment made on 1 April 2006 relates to interest incurred in the period from 1 March 2006 to 31 March 2006, it is only deductible in the tax year when payment was made. 2 Deduction restricted to amount of interest paid in the year 5. Personal allowances are prescribed as fixed monetary amounts which may be claimed by taxpayers satisfying the relevant qualifying conditions for entitlement. Concessionary deductions, including home loan interest, differ from personal allowances because irrespective of the maximum permitted deduction (which may be capped at a prescribed monetary amount or percentage of income) taxpayers are only entitled to deduct the amount actually paid. Taxpayers claiming amounts in excess of the expenditure paid in the year of assessment are subject to the penalty provisions of the IRO on the same basis as any other taxpayers making false or inflated claims. Example 2 Miss B is the sole owner of a flat purchased in 1998 for $1,000,000. During the year ended 31 March 2006, she paid $20,000 in mortgage interest on the bank loan granted to finance the purchase. Miss B’s entitlement to the deduction for the year of assessment 2005/06 is limited to $20,000, being the amount of the interest she paid in the year. Maximum interest deduction 6. The maximum home loan interest deduction cannot exceed the amount specified for the year of assessment in Schedule 3D (section 26E(2)(a)(ii)). The maximum deduction of $100,000 (for years of assessment 1998/99 to 2000/01 and 2003/04 onwards) or $150,000 (for years of assessment 2001/02 and 2002/03) is allowable to any sole owner who has paid interest of not less than that amount during a year. Home loan interest expenses in excess of the statutory maximum deduction for any year will lapse. The excess interest paid cannot be carried forward and claimed as a deduction in any subsequent year of assessment. Example 3 Mr C is single and paid home loan interest of $120,000 on his home mortgage during the year ended 31 March 2006. He was allowed a deduction of $100,000 in his 2005/06 salaries tax assessment. During the year ended 31 March 2007, Mr C paid only $80,000 in home loan interest. In his 2006/07 salaries tax assessment, he is only entitled to a deduction of $80,000. The excess of $20,000 interest that was paid but not deductible in the 2005/06 assessment cannot be carried forward and allowed as a deduction in his 2006/07 assessment. 3 Sole or part­ownership 7. Interest is only deductible under section 26E when it is paid on a home loan. A “home loan” is defined in section 26E(9) as being a loan of money which has been applied wholly or partly to the acquisition of a dwelling which is held at any time during the year of assessment by the person as a sole owner, joint tenant or tenant in common. To be eligible to claim a deduction for home loan interest, the claimant must have a proprietary interest in the ownership of the dwelling. Sole ownership 8. A person who owns a dwelling as a sole proprietor is, subject to the maximum deduction prescribed in Schedule 3D not being exceeded, entitled to claim the whole of the interest paid during the year of assessment (section 26E(2)(a)). Joint tenants 9. Where the property is jointly owned, the interest deduction follows the ownership ratio and not the actual amounts contributed by each of the joint owners. If the dwelling is owned by a person otherwise than as a sole owner, the amount of the home loan interest paid in respect of the dwelling is deemed to have been paid, in the case of a joint tenancy, by each of the joint tenants equally (section 26E(2)(b)(i)). It is not necessary to establish whether the joint owners have contributed equally to the interest payments because, in terms of entitlement to the deduction, this is not a relevant consideration. Provided the interest has been paid, that is sufficient for all of the joint owners to claim their respective portions. Example 4 Mr and Mrs D are joint owners of the dwelling that was used exclusively as their place of residence throughout the 2005/06 year of assessment. During the year, the total interest paid on their mortgage amounted to $120,000. As joint owners, Mr and Mrs D are each entitled to claim a deduction for home loan interest. Since they are joint tenants, section 26E(2)(b)(i) deems them to have paid the interest in equal proportions and their respective shares of the total interest paid is $60,000. [Because the property is owned jointly, the $100,000 maximum home loan interest deduction applies on a “per property” basis and not a “per person” basis. The deduction allowed to each of them is restricted to $50,000 – refer to paragraph 12]. 4 Tenants in common 10. For a dwelling owned by two or more persons as tenants in common, the interest is deemed to have been paid by each tenant in common in proportion to his or her respective share in the ownership of the dwelling (section 26E(2)(b)(ii)). Example 5 Mr E and Mr F are tenants in common in a dwelling used exclusively as their place of residence. Their respective ownership shares are 1/4 and 3/4. The acquisition of the dwelling was financed by bank mortgage and the total interest paid during the 2005/06 year of assessment was $120,000. Since they are tenants in common, section 26E(2)(b)(ii) deems 1/4 of the interest ($30,000) to have been paid by Mr E and 3/4 ($90,000) by Mr F. [Refer to paragraph 12 for the basis of apportioning the maximum interest deduction specified in Schedule 3D between the tenants in common]. 11. The following points on ownership of properties should be noted as regards the application of section 26E ­ • Residential property owned by a limited company in which the taxpayer, who lives therein, is a shareholder does not qualify for the concession to the taxpayer because the taxpayer is only a tenant in a property owned by a third party. The dwelling must be owned or partly­owned by the taxpayer using it as a place of his or her residence. • Where sole ownership, or part ownership as a tenant in common, of a dwelling passes (whether by operation of a will or under the Intestates’ Estates Ordinance) to a third party because of the death of the owner or part owner, the beneficiary cannot claim a deduction for any home loan interest paid by either the estate or himself or herself. The beneficiary only becomes entitled to claim a deduction for the home loan interest paid subsequent to the formal transfer of the title at the Land Registry. 5 • Under the rules of survivorship, the ownership of a jointly owned property passes to the other joint owners at the point of death of the deceased. The interest paid by the surviving joint owners from that point onwards is deductible to them. • If a dwelling is owned and wholly used by the parents as a residence but the monthly loan instalments are paid by their children, no deduction for home loan interest can be granted to the children. Section 26E(2)(b)(i) deems the interest to have been paid jointly by the parents and they are entitled to claim the deduction. Apportionment of maximum interest deduction 12. The maximum deduction applies to the property as a whole and not to each of the individual owners. When a property has more than one owner, the maximum deduction otherwise allowable (as specified in Schedule 3D) is apportioned between each of the owners on the basis of their respective ownership ratios. The maximum deduction for home loan interest is applied to the respective owners on the following basis ­ Reference in IRO Basis of Ownership Basis of Apportionment Sole owner 100% deduction to owner Section 26E(2) Joint tenants Equally between the joint tenants Maximum deduction apportioned vide section 26E(2)(c)(i) Maximum deduction apportioned vide section 26E(2)(c)(ii) Tenants in common Between the tenants in common on the basis of their individual shares of ownership in the dwelling 6 Example 6 Interest Paid/ Maximum Deduction Ownership Basis Share of Interest Paid Allowable to Taxpayer Sole owner (Example 3) Mr C $120,000 $100,000 Joint tenants (Example 4) 60,000 50,000 Mr D 60,000 50,000 Mrs D $120,000 $100,000 Tenants in common (Example 5) Mr E Mr F 30,000 90,000 $120,000 25,000 75,000 $100,000 Dwelling must be used as a residence 13. The dwelling in respect of which the interest is paid must have been used by the taxpayer as a residence during the period in which the payment was made. Properties still under construction are not issued with an occupation permit and cannot be used as a place of residence. The earliest date on which a property can become a person’s place of residence is the date on which the occupation permit is issued. The date on which a dwelling becomes a person’s place of residence is, however, a matter of fact and will principally be determined by the date on which the person begins to reside in the premises. Interest paid subsequent to the issue of the occupation permit but prior to the individual taking up actual residence cannot be claimed as home loan interest because the property has not yet become the person’s place of residence. Example 7 On 1 December 2005, Mr G was granted a mortgage to finance the cost of a flat under construction. He paid $80,000 in interest between 1 December 2005 and 31 March 2006. The property’s occupation permit was issued on 31 March 2006 and Mr G took up residence on 1 April 2006. No home loan interest deduction is allowable for the interest paid up to 31 March 2006 because at no time during the 2005/06 year of assessment was the property used by Mr G as his place of residence. Interest paid from 1 April 2006 qualifies for the deduction. 7 Dwelling partly used as a residence for full year 14. The full amount of the interest paid by an individual on a home loan is, subject to the statutory limit, only deductible when the dwelling is used exclusively by the person as a residence for the whole year. In any other situation, a deduction is only allowed for an amount that is reasonable in the circumstances (section 26E(2)(a)(i)(B)). If a taxpayer let, say 1/2, of his dwelling for the whole year of assessment, only one half of the interest expense would be allowable as a deduction under section 26E. [As the rental income received is assessable to property tax, the interest attributable to the rental income is deductible under personal assessment]. Example 8 Miss H is the sole owner of her home. She let half of it during the whole of the 2005/06 year of assessment. In the same period, she paid $120,000 in mortgage interest. It is considered reasonable to allow a deduction for half of the interest paid as home loan interest. In this case, $60,000 is allowed to Miss H under section 26E and the other $60,000 of the interest paid (which is attributable to the derivation of the rental income) is deductible under personal assessment, if applicable. Dwelling wholly used as a residence for part of year 15. As a general rule, the ceiling for the home loan interest deduction is not applied on a time apportionment basis. A person need not own a place of residence for the full year to be entitled to the maximum deduction. If the person only owned and used the dwelling as a residence for part of the year but, nevertheless, paid interest in excess of the amount prescribed in Schedule 3D, a deduction may be granted for the full amount paid, but not in excess of the maximum deduction allowable. Example 9 In the 2005/06 year of assessment, Mrs J paid home loan interest of $80,000 between 1 April 2005 and 31 December 2005. She sold her flat on 31 December 2005. The full $80,000 paid in interest is an allowable deduction for that year. 8 Example 10 Mr K resided in employer­provided accommodation until 30 June 2005. On 1 July 2005, he purchased a flat and immediately occupied it as his place of residence. From 1 July 2005 to 31 March 2006, he paid home loan interest of $150,000. Mr K may claim a $100,000 home loan interest deduction for 2005/06. Example 11 Between 1 April 2005 and 30 June 2005, Ms L lived in a dwelling acquired some years previously. She paid $30,000 in interest on her home loan. On 1 July 2005 she sold the dwelling and lived in rented accommodation until 30 September 2005. On 1 October 2005 she commenced to reside in a newly completed flat and paid $60,000 in home loan interest between 1 October 2005 and 31 March 2006. The total home loan interest of $90,000 paid during the 2005/06 year is an allowable deduction. Change of place of residence during year 16. The term “place of residence” is defined in section 26E(9). In relation to a person who has more than one residence, it means the person’s principal place of residence. It is not unusual for taxpayers to change homes in the course of a year of assessment by selling one home and purchasing another. Therefore, at different times within the same year of assessment, a person may have different principal places of residence. The interest paid on each during the respective periods that each home was the taxpayer’s principal place of residence is deductible under section 26E. It is not possible for any one individual to, contemporaneously, have more than one principal place of residence. Where a period of ownership of two properties overlaps, such that the person is paying interest on two properties at the same time, the interest paid on the respective properties is only deductible for the period that each was the principal place of residence. The facts of individual cases will determine the date on which the first property ceased to be the principal place of residence and the second property became the principal place of residence. 9 Example 12 Between 1 April 2005 and 30 June 2005, Mr M lived in a flat that he acquired some years previously. On 1 July 2005 he moved into a newly completed flat but was unable to sell his former residence until 30 September 2005. He paid $7,000 per month in interest on his former residence during the period from 1 April 2005 to 30 September 2005 and a further $72,000 in interest on the loan for his new residence from 1 July 2005 to 31 March 2006. His new dwelling became his principal place of residence on 1 July 2005. Mr M is only entitled to claim the interest paid on his former residence up to 30 June 2005. His home loan interest deduction for 2005/06 is $93,000 ($7,000 per month for April, May & June plus the $72,000 interest in respect of his new residence). Qualifying dwellings 17. A home loan interest deduction is only allowable in respect of interest paid on a person’s principal place of residence. Other than the situation of a person moving residences, a person may own more than one property used as a residence during the year e.g. a flat located in the urban area and a house on an outlying island. At different, mutually exclusive, periods within the year the person could use both dwellings as the principal place of residence. The home loan interest deduction would be allowed for each dwelling for the respective periods of use as the principal residence. It is not accepted that a person could, at frequent and regular intervals, alternate two properties as a principal place of residence i.e. by claiming an urban property to be a principal place of residence on weekdays and the house on the outlying island as a principal place of residence on weekends. 18. In cases of ownership of more than one place of residence, the home in which a taxpayer and his or her family spend the majority of their time will invariably be taken as their principal place of residence. Any dwelling used as a residence predominantly at weekends and for holidays would, in all but the most exceptional circumstances, be regarded as a holiday home. Holiday homes and the like, notwithstanding that they may be used as a place of residence, are unlikely the principal place of residence. As a consequence, a taxpayer who may have fully repaid a loan obtained to finance the acquisition of the principal place of residence but still had an outstanding mortgage on another (secondary) home, cannot be allowed a deduction for home loan interest because the secondary property does not satisfy the “principal place of residence” requirement. 10 19. An employee may be required to occupy a particular quarter at a prescribed location in an outlying part of Hong Kong for operational reasons related to employment e.g. staff of some Government departments. At the same time, the person’s spouse and family continue to reside in the family home, to which the individual returns when not required to reside in the employer­provided quarters for operational reasons. In this and similar circumstances, the individual’s family home, and not the employer­provided quarters, is the person’s principal place of residence. 20. A married couple who are a husband and wife not living apart from each other will always have the same principal place of residence. They cannot claim that two different homes concurrently owned by them individually are both principal places of residence such that they are both entitled to home loan interest deductions in respect of different properties that they each solely own. The facts of individual cases will determine which of the dwellings is the principal place of residence and the interest paid on that dwelling will be deductible to its owner. His or her spouse will not be entitled to any deduction for home loan interest for the relevant period. 21. Under salaries tax, there is no requirement for a person to be resident in Hong Kong to be entitled to claim concessionary deductions and personal allowances. Nevertheless, the home loan interest deduction would not be allowable to persons who had left Hong Kong on a permanent basis e.g. emigration, to establish a home elsewhere. Subsequent to emigration, the dwelling located in Hong Kong would no longer be the person’s principal place of residence. Situations will arise where individuals leave Hong Kong for extended periods. These include employment­related overseas postings where the intention is that the individual will return to Hong Kong at the end of the posting, even if the overseas posting was for an extended period. If the dwelling in Hong Kong was retained as a residence with the intention that it would continue to be used as a residence upon return to Hong Kong, it would be regarded as the person’s principal place of residence. 22. To qualify for the deduction, the dwelling must be subject to the Rating Ordinance. The Rating Ordinance only applies to buildings located in Hong Kong and the deduction is therefore only available in respect of dwellings situated in Hong Kong. In addition to defining a “dwelling” as being a building or part of a building designed and constructed for use exclusively or partly for 11 residential purpose (thus excluding industrial and commercial buildings), the dwelling must have its rateable value separately estimated under the Rating Ordinance. Areas within dwellings that are not rated on a stand­alone basis (such as rooms located within it) cannot, in their own right, satisfy the definition of dwelling. Marriage and separation/divorce 23. A husband and wife may be separated in circumstances such that divorce proceedings are either in progress or likely to be instituted within a reasonable time. In this type of situation the husband and wife are likely to be living apart from each other and will have different principal places of residence. Each may be allowed a deduction for home loan interest in respect of the interest attributable to their respective principal residences subsequent to the date of their separation or divorce. 24. In a year of marriage, separation or divorce, the husband or the wife, or both, may claim a deduction in respect of different principal places of residence used at different times in the same year of assessment. The respective periods within that year when the persons concerned were single, married or married and living apart from the spouse are treated separately in determining the entitlement to the deduction. A taxpayer living in his or her own home prior to marriage and moving to the spouse’s residence upon marriage is entitled to a deduction for home loan interest up to the date when he or she moved to the spouse’s residence. The maximum deduction available to each of them will be determined by reference to the date of marriage or separation, as the case may be. Example 13 Mr N married Ms P on 1 July 2005. Prior to their marriage, Mr N resided in a flat owned as a tenant in common with two other persons. His share of the ownership was 1/3. Ms P lived in rented accommodation. After their marriage, both Mr N and Ms P resided in Ms P’s flat until 31 December 2005. On 1 January 2006, Mr N and Ms P commenced to live in a dwelling that they had recently acquired as joint tenants. Mr N’s share of the interest paid on his former residence between 1 April 2005 and 30 June 2005 was $30,000. The interest paid by Mr N & Ms P between 1 January 2006 and 31 March 2006 was $90,000 ($45,000 each). Mr N may claim a deduction of $75,000 ($30,000 + $45,000) in 2005/06 and Ms P a deduction of $45,000. 12 Example 14 Mr Q married Ms R on 1 July 2005. Prior to their marriage, Mr Q and Ms R were each the sole owners of their respective residences. Upon marriage, Ms R moved into Mr Q’s residence. The flat, however, remained registered in the name of Mr Q as sole owner. Between 1 April 2005 and 30 June 2005, Mr Q paid $60,000 in home loan interest and Ms R paid $90,000. Between 1 July 2005 and 31 March 2006, Mr Q paid a further $180,000. For the 2005/06 year of assessment, Mr Q is entitled to a home loan interest deduction of $100,000 and Ms R a deduction of $90,000. 25. The principles illustrated above in relation to marriages occurring within the year apply equally to a year when a married couple separate from each other or obtain a divorce. Whilst the dates of marriage and divorce are a matter of record, the date of separation (which is the more relevant date for determining the date when a married couple began living apart from each other) will need to be determined from the facts on a case by case basis. Of necessity, the onus must rest with the taxpayers concerned to provide adequate evidence of the date of separation. Example 15 Mr & Mrs S lived together in their jointly owned residence until 30 September 2005. On 1 October 2005 they separated and Mr S moved to rented accommodation. Under the Deed of Separation, legal ownership of the home was vested in Mrs S on 1 October 2005. The mortgage was also assigned to Mrs S on the same day. The interest paid on the mortgage up to 30 September 2005 was $80,000. Mrs S paid a further $80,000 in interest between 1 October 2005 and 31 March 2006. Mr S is entitled to a deduction for the full $40,000 paid by him for the 2005/06 year of assessment. Mrs S has paid $120,000 but her deduction is limited to $100,000. Home loan 26. A home loan is a loan of money that is applied wholly or partly for the purchase of a dwelling used at any time in the year of assessment as the person’s place of residence ((section 26E(9)). If the home loan was applied wholly and exclusively to financing the purchase of the residence, then all of the interest paid qualifies as home loan interest. Where the loan is not applied solely to the 13 financing of the place of residence, only so much of the interest as is reasonable in the circumstances will be allowed as a home loan interest deduction (section 26E(3)(a)). As a general rule, when a loan has not been wholly applied to financing the acquisition of the residence, the deductible portion of the interest paid will be calculated by apportioning the total interest paid in the same ratio as that in which the funds were applied to qualifying and non­qualifying purposes. If, however, a taxpayer is able to satisfy the Commissioner that this apportionment basis is not equitable in his or her particular circumstances, the Commissioner may be prepared to consider an alternative basis proposed by the taxpayer. The onus of establishing that the alternative basis proposed is more equitable remains with the taxpayer. Example 16 Mr T purchased a dwelling exclusively used as his place of residence on 1 April 2005. A mortgage loan of $1,000,000 was obtained and $500,000 put towards the purchase of the dwelling. The remaining $500,000 was on­lent to another person. The total interest paid in the year to 31 March 2006 was $100,000. As only one half of the loan was applied to financing the purchase of the dwelling, the home loan interest deduction for the 2005/06 year of assessment is similarly restricted to 1/2 of the total interest paid, or $50,000. In future years of assessment, if the funds on­lent remain outstanding, the interest deduction will also need to be apportioned. 27. Notwithstanding that a loan may originally have been obtained for the purchase of a dwelling, any subsequent re­grant of it or increase in the principal amount that is not applied to a qualifying purpose cannot be said to have been similarly obtained. The application of the additional funds obtained to a qualifying purpose will be the sole determinant of deductibility of the additional interest paid. Where a home loan is re­drawn subsequent to repayment of (all or part of) the capital component, or an extension of the original loan amount obtained, and the funds applied to non­qualifying purposes, then no deduction is allowable for the interest paid on that part of the outstanding loan balance. 14 Example 17 Mrs U wholly owns a dwelling which was exclusively used as her place of residence throughout the 2005/06 year of assessment. The dwelling was acquired some years previously by a mortgage loan which was fully repaid in 2004/05. On 1 April 2005, Mrs U mortgaged the dwelling again to obtain a loan and applied the proceeds to purchase quoted shares. In the year ended 31 March 2006, the interest paid on the loan was $100,000. The funds obtained on 1 April 2005 were not applied for the acquisition of the taxpayer’s dwelling. The interest paid is not deductible as home loan interest. 28. Any home loan must be secured by a mortgage or a legal charge over the property. If the lender does not have a mortgage or a legal charge over the property, then the borrower is not entitled to a deduction for the interest. If a mortgage or legal charge is only registered at some time after the granting of the loan, then only interest paid from the date of registration of the mortgage or charge is deductible. 29. The home loan interest deduction is not confined to interest attributable to one home loan only. When an individual obtains a down­payment loan from one source, say his or her employer or from Government housing programmes such as the “Sandwich Class Housing Loan Scheme” or the “Home Starter Loan Scheme” in addition to a loan from a bank, then provided that these loans are also secured by a charge or mortgage over the property, the interest on them is also deductible. 30. Banks and financial institutions may levy charges for late payment of an interest instalment or early repayment of the loan. These charges are not interest and cannot be deducted under section 26E. Deduction Allowable in Ten Years of Assessment 31. A person can be allowed a deduction for home loan interest in any ten years of assessment. The years of assessment in which the deduction is granted need not be consecutive years (section 26E(4)(c)). Subject to the provisions for revocation of a claim for the deduction, once a deduction for any amount of home loan interest has been taken into account in determining a person’s net chargeable income or income chargeable to tax under personal assessment, the year in which the deduction is allowed counts as one of that person’s ten years of entitlement (section 26E(5)). 15 Car parking spaces 32. The home loan interest deduction also applies in relation to interest incurred on the acquisition of car parking spaces. Provided that the home loan obtained in respect of a dwelling was applied also for the acquisition of the car parking spaces, these car parking spaces are deemed to be part and parcel of the dwelling and used in the same manner and to the same extent by a person as the residence itself is used as the person’s dwelling (section 26E(8)). Revocation of claims 33. The Commissioner will notify each claimant that the deduction for home loan interest has been allowed. For taxpayers with taxable assessments, the issue date of the notice of assessment will be the date on which notification of allowance of the deduction is given. For taxpayers whose income is not subject to tax, a written notice of allowance of the deduction will be given. A person may withdraw his claim for home loan interest (section 26E(6)). Written notice of revocation of the deduction must be given by the person within 6 months after the date on which the deduction was allowed (section 26E(6)(a)). The six­month period for revocation begins to run from the date of the notification that the deduction has been allowed. 34. When a claim is revoked, the taxpayer will be deemed not to have made it in the first instance (section 26E(6)(b)). The year of assessment to which the revocation relates will not count as one of the 10 years of assessment in which the taxpayer is entitled to claim the deduction for home loan interest. Specified bodies and recognised organisations and associations 35. Only interest that has been paid to specified bodies and recognised organisations and associations may be allowed as a deduction for home loan interest purposes. Specified bodies are the government, financial institutions (defined as an authorised institutions under section 2 of the Banking Ordinance or associates of authorized institutions), registered credit unions, licensed money lenders, the Hong Kong Housing Society and a person’s employer. Recognised organisations and associations are organisations or associations recognised by the Commissioner of Inland Revenue. 16 36. An organisation or association recognised by the Commissioner is any organisation or association that the Commissioner has approved for the purposes of the home loan interest deduction (section 26E(7)). The basic criteria for approval of an organisation and association that do not fall within the six prescribed categories of bodies is that it must stand at arm’s length in relation to the recipients of the loans. Any organisation or association in which the taxpayer or his or her family or relatives (or those of his or her spouse) hold any direct or indirect financial interest are unlikely to be approved unless in the most exceptional of circumstances. Applications for approval as a recognised organisation or association should be directed to ­ Assistant Commissioner, Unit 2 Inland Revenue Department G.P.O. Box 132
Hong Kong
37. Any taxpayer wishing to know whether a specific organisation or association has been approved as a lender for the purposes of section 26E(9) may make enquiries directly with his or her assessor. In the enquiry, the full name and address of the lender must be provided. Property transfers intended to obtain a tax benefit 38. The anti­avoidance provisions of section 61A allow the Commissioner to disregard transactions that are otherwise legally enforceable when, having regard to the seven matters specified in section 61A(1), it could be concluded that the persons who entered into the transactions did so for the sole or dominant purpose of obtaining a tax benefit. Transactions involving the transfer of ownership (or the partial ownership) of property between spouses for a consideration financed by borrowed funds will be subject to detailed examination. Where it can be concluded that the sole or predominant reason for the transfer of the property is to obtain a tax benefit, the deduction for home loan interest will be denied to the borrower of the funds. 17 PART B ­ NOMINATION OF SPOUSE TO CLAIM DEDUCTION (SECTION 26F) 39. A person may be entitled to a deduction for home loan interest under section 26E but have no income chargeable to tax against which to claim the deduction. Persons falling within this category include spouses wholly engaged in caring for the children of the family. To cater for such situations, persons falling within this category may nominate their respective spouses to claim the deduction to which they are entitled (section 26F(1)). When a spouse is nominated to claim the deduction for a particular year of assessment, the person making the nomination forgoes his or her entitlement to the deduction (section 26F(2)(a)(i)) in favour of the nominated spouse who may claim it (section 26F(2)(a)(ii)). Nominations for a spouse to claim a person’s entitlement to home loan interest must be made on a year by year basis. A year in respect of which a nomination in favour of a spouse is made and allowed reduces the number of years to which the person making the nomination is entitled to the home loan interest deduction by one year (section 26F(2)(b)). 40. Upon allowance of the deduction to the nominated spouse, the Commissioner will give written notification to the person making the nomination that the deduction has been allowed (section 26F(3)). A nomination for a spouse to claim a deduction may be revoked by the person who made it within the six months after the date of the notification by the Commissioner that the deduction has been allowed (section 26F(4)(a)). Once a nomination has been revoked, it is deemed not to have been made and the number of years of remaining entitlement to the home loan interest deduction for the person revoking the deduction is restored to its position prior to the nomination being made for that year (section 26F(4)(b)). PART C ­ PRACTICAL APPLICATION OF THE DEDUCTION Salaries tax 41. Examples of the manner in which the home loan interest deduction provisions will be applied in various situations commonly encountered in salaries tax and personal assessment are set out below ­ 18 • Income from employment exceeds the aggregate of personal allowances and home loan interest deduction Example 18 Mr V’s income from employment in 2005/06 was $300,000. He is single and has claimed a basic allowance of $100,000 and home loan interest deduction of $100,000. $ $ Income from employment 300,000 Less: Home loan interest deduction 100,000 (200,000) Basic allowance 100,000 Net chargeable income $100,000 A notice of salaries tax assessment will be issued to Mr V showing his net chargeable income. He will also be advised that the home loan interest deduction has been allowed for the year. • Income from employment less than the aggregate of basic allowance and home loan interest deduction Example 19 Mr W’s income from employment in 2005/06 was $140,000. He is single and has claimed a basic allowance of $100,000 and home loan interest deduction of $50,000. $ $ Income from employment 140,000 Less: Home loan interest deduction 50,000 Basic allowance 100,000 (150,000) Net chargeable income $0 No notice of assessment is issued to Mr W but the deduction for home loan interest is deemed to have been allowed to Mr W. The ‘unallowed’ portion of the excess of Mr W’s deductions and allowances are not carried forward to future years of assessment. Mr W will also be advised that the home loan interest deduction has been taken into account in determining his net chargeable income. 19 • Taxpayer is single and his or her income from employment is less than personal allowances Example 20 Miss X’s income from employment in 2005/06 was $90,000. She is single and has claimed a basic allowance of $100,000 and home loan interest deduction of $20,000. $ $ Income from employment 90,000 Less: Home loan interest deduction 20,000 Basic allowance 100,000 (120,000) $0 Net chargeable income Miss X’s income is less than her personal allowance and she is not chargeable to tax even without taking into account her deduction of home loan interest. Miss X will not be treated as having been allowed a home loan interest deduction for the year. • Husband and wife jointly own their dwelling. Both have employment income which is in excess of the aggregate of their respective personal allowances and home loan interest deductions Example 21 In 2005/06, Mr and Mrs Y received income from employment of $300,000 and $200,000 respectively. Each of them is entitled to a basic allowance of $100,000 and a deduction for home loan interest paid of $50,000. (The total home loan interest paid by them on their jointly owned dwelling was $160,000). Mr Y Mrs Y $ $ Income from employment 300,000 200,000 Less: Home loan interest 50,000* 50,000* Basic allowance 100,000 150,000 100,000 150,000 $150,000 $50,000 Net chargeable income * Deduction restricted to half share of the maximum of $100,000 A deduction of $50,000 for home loan interest is allowed to Mr Y and Mrs Y respectively. As they have both been allowed a deduction for a year of assessment they will be individually notified of their home loan interest deduction status. 20 • Husband and wife jointly own their dwelling. Both have employment income but one spouse’s income from employment is less than the total of home loan interest and personal allowances. Joint assessment is elected Example 22 Mr and Mrs Z received income from employment of $500,000 and $120,000 respectively during the year ended 31 March 2006. Mr Z claimed only a basic allowance of $100,000 whilst Mrs Z claimed a basic allowance of $100,000 and a deduction of $70,000 for home loan interest in respect of a dwelling solely owned by her. Because Mrs Z’s income is less than the aggregate of her basic allowance and home loan interest deduction, Mr and Mrs Z have elected under section 10(2) to be jointly assessed for 2005/06. $ $ Income of Mr Z 500,000 Income of Mrs Z 120,000 Aggregated assessable income 620,000 Less: Home loan interest deduction 70,000 Married person’s allowance 200,000 270,000 Aggregated net chargeable income $350,000 Mrs Z’s home loan interest deduction was taken into account in determining her net chargeable income under salaries tax. She will be notified that her deduction has been allowed. Mr Z did not claim and was not allowed any deduction for home loan interest in 2005/06 year of assessment. 21 Personal Assessment • Home loan interest is deducted from a single person’s total income under personal assessment (section 42A(1)(a)) Example 23 In 2005/06, Mr A carried on business as a sole proprietor and his assessable profits were $300,000. He is the sole owner of the dwelling used exclusively as his place of residence throughout the year. He paid home loan interest of $180,000 in the year ended 31 March 2006 and has elected to be personally assessed. $ $ Business income 300,000 Less: Home loan interest 100,000* Personal allowance 100,000 200,000 Net chargeable income $100,000 * Deduction restricted to the maximum of $100,000 Notification of allowance of the home loan interest deduction will be given to Mr A. • Home loan interest is deducted from a married person’s total income under personal assessment (section 42A(1)(b)) Example 24 During 2005/06 Mr B derived assessable income of $300,000 from employment. He is married and Mrs B has assessable profits of $100,000 from her business and rental income of $50,000. Mrs B also wholly owns the dwelling in which she and Mr B reside. She paid home loan interest of $90,000 in the year. $ $ Total income of Mr B 300,000 Total income of Mrs B 150,000 Less: Home loan interest 90,000 60,000 Joint total income 360,000 Less: Married person’s allowance 200,000 Net chargeable income $160,000 Notification of allowance of the home loan interest deduction will be given to Mrs B. 22 • Total income of one spouse is less than the aggregate of his or her home loan interest and business loss (section 42(5)(a)(ii)) Example 25 During 2005/06 Mr C derived assessable income of $300,000 from employment. He is married and Mrs C had an assessed loss of $30,000 from her business and rental income of $50,000. Mrs C also wholly owns the dwelling in which she and Mr C reside. She paid home loan interest of $90,000 in the year. $ $ $ $ Total income of Mr C 300,000 Less: Excess of Mrs C’s interest and loss 70,000* 230,000 Total income of Mrs C 50,000 Less: Home loan interest 90,000 Business loss 30,000 120,000 (70,000)* 0 Joint total income 230,000 Less: Married person’s allowance 200,000 Net chargeable income $30,000 * The excess of Mrs C’s loan interest and business loss is set off against the income of Mr C. Notification of the allowance of the home loan interest deduction will be given to Mrs C. 23 •
Total income of both spouses is less than the than the aggregate of the
home loan interest and business loss of one of them (section
42(5)(a)(ii))
Example 26
During 2005/06 Mr D derived a net chargeable income from employment of
$300,000. He is married and Mrs D had an assessed loss of $500,000 from her
business and rental income of $50,000. Mrs D also wholly owns the dwelling in
which she and Mr D reside. She paid home loan interest of $90,000 in the year.
$
$
Total income of Mr D
Less: Set off of part of the excess of
Mrs D’s interest and loss(a)
$
$
300,000
300,000
Total income of Mrs D
Less: Home loan interest(b)
90,000
(c)
Business loss
500,000
[Any unrelieved deduction and loss to be set off against
Mr D’s income, see note(a) ]
0
50,000
590,000
0
Joint total income
Less: Married person’s allowance
Net chargeable income
0
200,000
$0
Statement of Loss for Mrs D
Loss for year
Less: Amount set off against Mrs D
Amount set off against Mr D ($300,000-$40,000)
Mrs D’s loss carried forward(c)
500,000
0
260,000
260,000
240,000
Notes
(a) Set off of interest not yet relieved of $40,000 (i.e. $90,000 against income $50,000) and loss of
$500,000, but restricted to a total set off of $300,000.
(b) Mrs D’s home loan interest is set off in the following orders:
- against Mrs D’s total income
$50,000
- against Mr D’s total income [section 42(5)(a)(ii)]
$40,000
$90,000
Notification of allowance of home loan interest deduction in total of $90,000 will be given to Mrs
D.
(c) The balance of the loss not set off against Mr D’s income is carried forward for set off against Mrs
D’s income in subsequent years of assessment.
24