Hong Kong Legislative Proposal: Profits Tax Exemption for Offshore Funds 

   
After conducting the second round of consultation with the industry and practitioners in early 2005 whereby a total of 22 submissions were received, the Hong Kong Financial Services and Treasury Bureau's ("FSTB") has issued in March 2005, a legislative proposal ("Legislative Proposal") for implementing the profits tax exemption for offshore funds.  The Legislative Proposal is scheduled for discussion by the Legislative Council Panel on Financial Affairs on 4 April 2005 and the relevant Bill to be submitted in the current legislative year.  
 
Key Issues Discussed in the Legislative Proposal

In the Legislative Proposal, the FSTB proposed to amend the Inland Revenue Ordinance ("IRO") to implement the Exemption Provisions and the Deeming Provisions, as previously set forth in the 2nd Consultation Paper on the proposed tax exemption of offshore funds, with the following major clarifications and modifications that reflect the requests from the submissions.
    
Major issues addressed in respect of the Exemption Provisions are:

1. Tests of "associate" and "independent capacity" to qualify as Section 20AA broker and advisor are to be dispensed with;
2. Scope of exempt "securities trading profits" is clarified to cover Types 1, 2, 3, 7 and 9 of Schedule 5 of the Securities and Futures Ordinance;
3. Income derived by the offshore funds, which is incidental to the exempted business will not taint the tax exemption of the offshore funds, provided that such incidental income does not exceed 5% of the total income of the offshore funds; and
4. The Exemption Provisions are to be retroactively applied to the year of assessment commencing on 1 April 1996.

Major issues addressed in respect of the Deeming Provisions are:

1. Deeming Provisions will only apply to funds which are not bona fide widely held;
2. The exemption threshold for the Deeming Provisions is to be 30%.  However, Panel comments are invited to determine whether 30% or 50% are more appropriate; and
3. The Deeming Provisions will take effect upon enactment of the Bill.

PricewaterhouseCoopers' Reaction to the Legislative Proposal
  
PricewaterhouseCoopers welcomes the modifications as outlined in the Legislative Proposal, but noted that the FSTB did not clarify or comment on certain issues which may make it difficult for the Exemption and Deeming Provisions to work.  These crucial issues include:

1. The definition of the terms "resident" and "non-resident";
2. It appears that only "securities trading profits" rather than all profits generated from the exempt businesses are to be exempt;
3. No "start-up" relief is mentioned; and
4. Practical problems in applying the Deeming Provisions such as the calculation basis of the beneficial ownership threshold.

PricewaterhouseCoopers will continue to communicate with the FSTB, whenever possible, in order that relevant industry concerns will be recognized and addressed by the FSTB.
  
Further Information
 
Download the comparison between the suggestions proposed by PricewaterhouseCoopers in our 31 January 2005 Response Paper and those set out in the Legislative Proposal (pdf file, 41KB) for your reference.
 
To read more, please download the Legislative Proposal from the Legislative Council website.