In July 2018, transfer pricing (TP) legislation – Inland Revenue (Amendment) (No 6) Bill 2017 (BEPS Bill) – was passed in Hong Kong. This represents one of the biggest changes to Hong Kong tax in recent years. Many of the provisions within the BEPS Bill will have retrospective effect from the year of assessment 2018/19. The notable amendments to the initial proposal are:
- Domestic transactions are excluded from the TP scope provided that certain conditions are fulfilled; and
- Documentation thresholds have been relaxed to alleviate the burden on smaller Hong Kong businesses of proving their compliance with the arm's-length principle.
The BEPS Bill codifies the arm's-length principle as the fundamental TP rule in Hong Kong. The Inland Revenue Department (IRD) is empowered to adjust profits/losses where a transaction between two related parties is not carried out under normal commercial terms that would have been undertaken between independent persons.
The BEPS Bill has introduced various provisions covering deeming provisions on intangibles, valuation of trading stock, penalties and non-compliance, dispute resolution mechanisms, advance pricing arrangements (APAs), and specific provisions relating to permanent establishments (PEs).
In the case of a PE, TP rules will apply to any non-resident who has a PE that carries on a trade, profession or business in Hong Kong. The BEPS Bill provides guidance on how profits should be attributable to a PE. The income/loss attributable to a PE will be determined by treating the PE as a separate and distinct entity and by adopting the so-called 'authorised OECD approach'. Further guidance by the IRD will be issued.
Taxpayers will be required to provide tax authorities with additional information, so it is expected that the IRD will also be asking challenging questions that may lead to substantial tax adjustments and potential double taxation. It is important that Hong Kong corporate taxpayers revisit their TP policies, and their positions with respect to their value chains and related-party transactions to ensure that these remain appropriate.
Hong Kong proposes a vacancy tax on empty new flats
In June 2018, the Hong Kong government proposed a new vacancy tax on vacant properties. The aim of the vacancy tax is to encourage property developers to release more flats and prevent them from hoarding newly built flats in Hong Kong.
Hong Kong has continued to be one the world's least affordable housing markets, as property prices continue to soar despite cooling measures introduced by the Hong Kong government. High housing prices have long been a sore point with the public, but strong demand means the property market continues to rise.
The vacancy tax is targeted at newly built flats and will apply where properties remain unoccupied for six months in any year. A grace period will apply for the first 12 months after obtaining an occupation permit. It is proposed that the tax will be levied at the rate of 200% of the property's annual rental value, calculated by reference to market rates as determined by government assessors.
Developers will be required to submit a report on the status of their properties annually. The new tax will not apply to vacant properties held by persons other than developers. The new measures will need to be approved by the Legislative Council before they become law. Unlike most taxes, the new tax does not aim to produce revenue. It is intended to encourage developers to release residential units more quickly into the market and address concerns about the spiraling cost of real estate in Hong Kong.
The degree of impact the measures will have will depend on the detailed arrangements, which have not yet been released. There are certain issues that would need to be addressed that include how the term 'developers' is defined, the treatment of intra-group transactions, and how occupation is to be measured and policed. Draft legislation is expected to be introduced that hopefully will address these matters.
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