The impact of the Hong Kong Inland Revenue Department's adjustment of Hong Kong resident identification standards on cross-border investment and financing.
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2023.07.06
Recently, the Inland Revenue Department of the Hong Kong Special Administrative Region (hereinafter referred to as "Hong Kong Inland Revenue Department") announced on June 8, 2023 after issuing the identification criteria and handling methods of Hong Kong resident status certificates: starting from June 12, 2023, the Hong Kong Inland Revenue Department will be based on the literal standard definition of "Hong Kong Special Administrative Region residents" (hereinafter referred to as "Hong Kong residents") in the relevant tax avoidance agreement/arrangement (hereinafter referred to as "tax agreement" tax agreement "tax agreement"), to determine the Hong Kong resident status of a company/trust/partnership/other body and to decide whether to issue a Hong Kong resident status certificate to the applicant concerned.
A company/trust/partnership/other body established/formed in Hong Kong in accordance with the definition of a company/trust/partnership/other body in the Arrangement between the Mainland and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income (hereinafter referred to as the "Mainland and Hong Kong Tax Arrangement"), or a company/trust/partnership/other body incorporated/formed outside Hong Kong which is normally managed or controlled in Hong Kong and is a Hong Kong tax resident. The criteria for the recognition of Hong Kong residents in the relevant tax treaties between Hong Kong and other countries/regions (except Japan) are basically the same as those set out in the tax arrangements between the Mainland and Hong Kong. According to this standard, any company/trust/partnership/other body registered/registered in Hong Kong should be recognized as a Hong Kong tax resident without any dispute.
However, the Hong Kong Inland Revenue Department's previous recognition of the Hong Kong resident status of companies/trusts/partnerships/other organizations (hereinafter referred to as "institutions") did not strictly implement the resident standards in the mainland and Hong Kong tax arrangements or relevant tax treaties, but referred to the implementation of the Hong Kong region and Japan The recognition standards of the tax treaty (hereinafter referred to as the "Hong Kong-Japan Agreement"). Under the Hong Kong-Japan Agreement, a Hong Kong institutional resident is defined as an entity incorporated in Hong Kong and having a principal place of management and control, in which case the applicant for an institution established or formed in Hong Kong is required to provide details of its economic substance within and outside the territory of Hong Kong tax.
Therefore, in order to safeguard the provisions and purposes of the relevant tax treaties in Hong Kong, when an institution applies for recognition as a Hong Kong tax resident in order to enjoy preferential tax treatment, the Hong Kong Inland Revenue Department still evaluates the economic substance that is not specified in the definition of "resident", such as whether the applicant is a beneficial owner in the case of passive income tax treatment; evaluate whether the applicant's application for Hong Kong tax resident status has the purpose of abusing the provisions of the tax treaty and its loopholes; review the economic substance of the applicant within and outside the territory of Hong Kong tax (e. g. where the board of directors is held, where important strategies/strategies/decisions are made, etc.). Based on the aforementioned practical criteria, the Hong Kong Inland Revenue Department has a record of refusing to issue a Hong Kong resident status certificate to an applicant who meets the definition of a Hong Kong resident in the relevant tax treaty, which has also caused controversy.
2. the Significance of Hong Kong Tax Resident Status
"Resident" is an important concept in inter-country (regional) tax legal relations and related tax treaties, and the definition of resident status is related to the distribution and coordination of tax rights between countries (regions), and more related to the tax treatment of the relevant taxpayers and the enjoyment of related preferences. Specifically in the field of cross-border taxation between the Mainland and Hong Kong, this article temporarily lists the following two major aspects.
In the case of Hong Kong, it involves the issue of tax-free treatment of Hong Kong tax on overseas income. Under Hong Kong's exemption mechanism for specified foreign income, the Hong Kong Inland Revenue Department provides tax exemptions for eligible overseas income for institutional residents, and meeting the Hong Kong institutional resident status criteria is clearly a prerequisite for such tax benefits.
In the case of the Mainland, the application of the treatment of agreed preferential tax rates relating to dividends/interest/royalties. Under the Mainland-Hong Kong tax arrangement, Hong Kong companies' dividends from the Mainland are subject to a preferential withholding income tax rate of 5%, interest and royalties are subject to a preferential withholding income tax rate of 7%, and eligible property income such as dividends (if the shareholding ratio is less than 25%) is subject to tax exemption. Under China's tax treaties with other countries, the general tax rate for the above four items is 10%. In accordance with the provisions of the Announcement of the State Administration of Taxation on Issuing the Administrative Measures for the Enjoyment of Agreed Treatment for Non-resident Taxpayers (State Administration of Taxation Announcement No. 35 of 2019), the provision of a Hong Kong tax resident status certificate is a necessary condition for applying to the mainland tax authorities for preferential treatment of tax arrangements.
3.Impact of policy adjustment
In the context of the slowdown in global economic growth and the transformation of national and regional economic development, the Hong Kong Inland Revenue Department adjusted the Hong Kong tax resident status identification standards this time, relaxed the difficulty of applying the relevant tax treaty treatment, and attracted foreign capital to Hong Kong for investment, entrepreneurship and wealth management. Has a positive role in promoting. This policy adjustment is also the return of the rule of law to the definition and implementation of "Hong Kong residents" in the relevant tax treaties. At the same time, it is also under the tax arrangement between the mainland and Hong Kong, the notice of the State Administration of Taxation on issues related to "beneficial owners" in tax agreements (notice of the State Administration of Taxation No. 9 of 2018, hereinafter referred to as "notice No. 9") and the notice of the State Administration of Taxation on issues related to the use of Hong Kong tax resident identity certificates in the mainland (notice of the State Administration of Taxation No. 35 of Taxation of 2016, hereinafter referred to as "Announcement No. 35") related to the Hong Kong side's improvement measures for tax administrative facilitation measures. According to Proclamation No. 9 and Proclamation No. 35, Hong Kong companies are required to show their resident status and relevant documents of beneficial owners to the Mainland tax authorities in order to apply for agreed preferential treatment of property income such as dividends/interest/royalties.
According to Article 8 of Announcement No. 9, the "Administrative Measures for Non-resident Taxpayers to Enjoy Tax Treaty Treatment" (State Administration of Taxation Announcement No. 60 of 2015, hereinafter referred to as "Announcement No. 60") and the relevant provisions of Announcement No. 35, institutional applicants You can provide relevant tax resident status certificates and relevant tax-related transaction information to prove that you meet the "beneficial owner" standard to apply for preferential treatment in relevant tax treaties. Before this policy adjustment, the Hong Kong Inland Revenue Department fully considered the economic substance and the "beneficial owner" standard when verifying and determining the status of Hong Kong residents and issuing Hong Kong resident status certificates. The mainland tax authorities have a high degree of trust in the economic substance of the relevant applicants and the "beneficial owner" standard. After this policy adjustment, the administrative convenience for relevant applicants to obtain Hong Kong resident identity certificates should be significantly improved, but the mainland tax authorities' trust in the economic essence of Hong Kong resident identity certificates and the probative power of the "beneficial owner" standard is very likely to be reduced. Under such circumstances, the mainland tax authorities may more strictly implement the identification standards and procedural requirements of the "beneficial owner" in the second and fourth 3. of the announcement No. 9. To some extent, the focus of Hong Kong institutional residents in obtaining preferential tax treatment for property income derived from Mainland dividends/interest/royalties under the Mainland-Hong Kong tax arrangement has shifted from the Hong Kong Inland Revenue Department to the Mainland tax authorities.
Changes in details of the tax exemption mechanism for foreign income of Hong Kong institutions. Under the tax exemption regime for specified foreign income adjusted with effect from 1 January 2023, if a taxpayer under the tax exemption regime for specified foreign income receives in Hong Kong the proceeds from the disposal of its foreign equity investment and such proceeds are exempt from tax treatment in a foreign tax jurisdiction under the relevant tax treaty, such proceeds will not be subject to tax exemption declaration in Hong Kong, because it cannot meet the foreign "taxable conditions" required under the above-mentioned exemption mechanism for foreign income, that is, under the principle that the source tax right for property income takes precedence over the resident tax right, if it does not meet the source tax requirement and is exempt from tax, it shall be taxed in the resident. The goal of the international tax treaty is not only to avoid double taxation, but also to avoid two-way tax evasion.
Hong Kong resident status is not equivalent to the "beneficial owner" of Hong Kong ". In the relevant tax policy documents such as Announcement No. 9, the mainland tax authorities retain the final right to determine the "beneficial owner" standard. Based on the provisions of Articles 3 and 4 of Proclamation No. 9 and their implications, the Mainland tax authorities may use relevant resident status certificates and other information as the basis for the identification of "beneficial owners" in order to improve the administrative convenience for the identification of "beneficial owners" under tax treaties/arrangements. However, Article 2 of Proclamation No. 9 still reserves the right to judge and determine the "beneficial owner" criterion at the outset. Of course, this clause is a negative or exclusive clause, that is, if it meets the provisions of Articles 3 and 4 of Announcement No. 9 and does not touch the provisions of Article 2, the relevant applicant can be identified as the "beneficial owner". Nevertheless, the relationship between Hong Kong resident status and the "beneficial owner" of Hong Kong is still not identical or reciprocal.
The mainland tax authorities will further strengthen the implementation of the "adverse factor test" and the "safe harbor rule. The content mentioned in Article 2 of Proclamation No. 9 actually lists the unfavorable factors that are unfavorable or inappropriate to identify the "beneficial owner". The Mainland tax authorities initiate and apply this clause, which is the "unfavorable factor test" of the "beneficial owner" standard ". Article 4 of Proclamation 9, on the other hand, provides for an exemption from the adverse factor test, which is often referred to in tax theory as the "safe harbor rule". Article 4, (I) (II), (III), respectively, of Proclamation No. 9 exempts the government, listed companies and individual residents from the "adverse factor test", while Article (IV) stipulates that institutional residents who are directly or indirectly controlled by 100 per cent of the government, listed companies and individual residents may also be exempted from the "adverse factor test". After this policy adjustment by the Hong Kong Inland Revenue Department, based on the above-mentioned analyzed reasons, the mainland tax authorities will likely strengthen the economic substance review of the holding companies and platforms stipulated in Article 4 (IV) of Proclamation No. 9, increasing the possibility that such companies will be included in the "adverse factor test. At the same time, it is also possible to strengthen the implementation standards of the "adverse factor test" under Article 2 of Announcement No. 9, and the risk of the relevant institutions being denied the status of the "beneficial owner" due to the "adverse factors" is increased.
The team of tax lawyers will continue to monitor the latest developments in the application of Hong Kong resident status certificates and the preferential treatment of applicable tax arrangements, and will provide professional advice and assistance to clients on the application of Hong Kong resident status certificates, the judgment of beneficial owners, the application of preferential treatment in tax treaties and the implementation of related issues.
(This article only represents the author's own views)
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