The Inland Revenue (Amendment) (No. 3) Ordinance 2018 was enacted on the 29 March 2018. The amendment introduces a two-tiered profits tax rates system for corporations and other unincorporated businesses by reducing the tax rate for the first HK$2 million of assessable profits. The change will come into effect from the year of assessment 2018/19. For two or more connected entities, only one entity may use the two-tiered profits tax rates.
#1 What are the Two-Tiered Profits Tax Rates?
The profits tax rate for the first HK$2 million of assessable profits, under the two-tiered profits tax rates system, would be lowered to 8.25% (half of the rate in Schedule 8 to the Inland Revenue Ordinance (IRO)) for corporations and 7.5% (half of the current standard rate) for unincorporated businesses such as sole proprietorships and partnerships. Assessable profits over HK$2 million are still subject to the typical 16.5% for corporations and 15% for unincorporated businesses.
#2 Which Taxpaying Entities Qualify for the Two-Tiered Profits Tax Rates?
Any entity with profits chargeable to Profits Tax in Hong Kong can qualify for the two-tiered profits tax rates, except for companies that have a connected entity that has been nominated to use the two-tiered tax rates.
If the entity has one or more connected entities at the end of the basis period of the entity for the relevant year of assessment, then the two-tiered profits tax rates only apply to the entity that has been nominated to receive the two-tiered rates. Other entities do not qualify for the two-tiered rates and must pay the standard tax amount.
#3 What is a Connected Entity?
An entity is considered to be connected to another if;
- One entity has control over the other;
- They are both controlled by the same entity; or
- In the case of the first entity being a natural person with a sole proprietorship business, the other entity is the same person with a different sole proprietorship business
#4 Can More than one Connected Entity Use the Two-Tiered Profits Tax Rates?
This is not possible under the current rules. An entity can only use the two-tiered profits tax rates if no other connected entity has been elected to use them for that year of assessment. However, what is possible is for a different connected entity to use the two-tiered rates for a different year of assessment provided they meet all other conditions. So Entity A could claim them one year, and Entity B could claim them the next year – with Entity A using the standard tax rates that year.
#5 What Happens when a Taxpaying Entity Incorrectly Declares in Their Tax Return that They Have No other Connected Entity, or that No Connected Entity Has Elected to Use the Two-Tiered Profits Tax Rates?
There are heavy penalties attached to making incorrect returns without having a proper and reasonable excuse for doing so. Companies will be subject to additional assessments in accordance with the provisions of the IRO.