Declining crude oil prices, diverging growth rates, an appreciating US dollar and depreciating euro and yen, as well as widening interest rate and risk spreads continue to affect the global economy. Despite Hong Kong’s 2014 economic growth falling below the average of 4.5 percent spanning over the past 10 years, investors remain cautiously confident in the economic outlook of the city in the year ahead. Amid a large budget surplus, Financial Secretary John Tsang announces a series of one-off tax relief measures in the form of tax incentives
By Charles Kinsley and Wade Wagatsuma Partners, KPMG China
The Financial Secretary, John Tsang Chun-wah, forecast a revised surplus of HKD63.8 billion for 2014-15 and fiscal reserves of HKD819.5 billion ending March 31st, 2015. With substantial reserves on hand, the government has the means to enhance Hong Kong’s competitiveness in order to maintain investor confidence and generate sustainable economic growth for the long term.
This year’s Budget contains many commendable proposals, which are rightfully targeted to address many key social and economic issues in the city. However, while the general public mostly welcomes many of the proposed initiatives, a number of them continue to be one-off items or on a short-term basis, hence lacking in firepower to provide a long-term strategic framework in the long run. For those initiatives proposed which are more far-reaching or longer term-focused, there are little in the way of specific details.
For Individuals and Businesses
This year’s “sweeteners” for individuals include a Salaries Tax rebate of up to HK$20,000 and an increase in child allowances by 43 percent to HK$100,000, as well as a rates waiver for two quarters up to HK$2,500 per quarter. These are substantially consistent with measures deployed in the past few years, albeit more generous. These one-off tax reliefs are expected to benefit more the middle- and high-income households in Hong Kong.
The Budget also includes a number of initiatives for the business community in Hong Kong, with interesting proposals such as an expansion of tax deductions for IP-related purchases, tax incentive for companies looking to set up treasury centers in Hong Kong, an extension of the offshore funds exemption to private equity (PE) funds and measures to promote aerospace financing in the city.
For businesses generally, there is also a one-off Profits Tax reduction of up to 75 percent, capped at HK$20,000.
In delivering his address, Tsang expressed confidence in Hong Kong becoming a premier intellectual property (IP) trading hub and providing high value-added IP services in the region. Apart from setting aside funding of some HK$23 million for IP consultation, manpower training and other services to SMEs, he proposed to extend the available tax deductions to cover more types of IP rights purchases. Given an increasing variety of IPs as a result of fast-evolving technological discoveries, it provides a much-needed boost to encourage high-tech industries to consider setting up a base in Hong Kong.
To further enhance the financial services industry and in line with previously highlighted proposals, Tsang announced that he would amend the interest deduction requirements for corporate treasury centers. He also proposed to reduce the Profits Tax rate for specified treasury center activities by 50 percent to a rate of 8.25 percent.
This will put Hong Kong in direct competition with Singapore where qualifying treasury centers enjoy a 10 percent concessionary tax rate. There has been a keen interest in attracting more treasury centers to set up within the city, as their business is complementary to that of the broader financial services sector, leading to an increase in demand for financial products and services from banks in Hong Kong. A relevant bill will be introduced in the 2015-16 legislative session.
Regarding private equity (PE) funds, the Financial Secretary proposed to exempt offshore PE funds from tax in Hong Kong with respect to underlying investments made outside of Hong Kong. The changes are also expected to promote the use of Hong Kong companies as a platform of investment holding. Special purpose vehicles
(SPVs) established in Hong Kong to hold offshore investments should be exempt from tax in Hong Kong on the investment returns made by a PE fund – a change which the industry has been seeking for some time.
The proposed changes are likely to be wider reaching than an equivalent exemption (which applies in Singapore). The key benefit of the expected change is that it will provide investment professionals based in Hong Kong with greater flexibility as to how they undertake their daily tasks without the concern that they may create a tax exposure in Hong Kong for the represented PE fund. This is something that will no doubt be welcomed by many professionals engaged in deal making across town.
When Tsang talked about the development of aerospace financing, he proposed largely to “ride on the experience of other jurisdictions and explore possible measures that can promote aerospace financing in Hong Kong.” With an increasing amount of aircraft order by Chinese airlines, if the initiative is competitive, Hong Kong’s proximity to China could lead to Hong Kong becoming a significant player in this area.
Interestingly enough, the Singapore government seems to be doing the opposite when it was announced that the 10 percent concessionary tax rate on income derived by leasing companies in respect of offshore leasing of plant and machinery will be withdrawn from January 1st, 2016.
Other developments directly related to the financial services industry are also highlighted in the budget. These include the recent Shanghai- Hong Kong Stock Connect, Hong Kong’s role as the world’s largest offshore RMB banking center and a number of developments in the bond market, in addition to a change in legislation to implement the waiver of Stamp Duty on the transfer of Exchange Traded Funds (ETFs).
Stressing the importance of maintaining the integrity of the city as an international financial center, Tsang has also noted that Hong Kong will step up its efforts in combating cross border tax evasion. This will include facilitating the automatic exchange of information with other jurisdictions by the end of 2018.
A Broader Scope of Focus
Besides the focus on financial services, there is continued support for the development of small and medium enterprises (SMEs), once again described as the mainstay of Hong Kong’s economy, as well as initiatives designated to develop what are referred as the cultural and creative industries, namely in the sectors of fashion, film, art and culture.
Measures have also been announced to deal with “manpower” and “land supply” – two key issues having a direct impact on the cost of doing business in Hong Kong. It ultimately comes down as an issue of competitiveness in a region where significant cities are fiercely compared. The Singapore Budget for the year, delivered within the same week, has been widely viewed a “Robin Hood-style” election budget – but also a budget that is considered more forward-looking, with a larger emphasis on investing for the future instead of a “refund” of tax revenue.
Despite a large surplus, Financial Secretary Tsang remains cautious about Hong Kong’s relatively narrow tax base, emphasizing the need to stabilize and broaden such a narrow stream of tax revenue. In his delivery of the budget this year, he specifically highlighted some intriguing statistics: among the working population, only 40 percent pay taxes on their income earnings, and 60 percent of revenue from Salaries Tax comes from the top five percent of taxpayers in this particular category.
Furthermore, only 10 percent of registered corporations in Hong Kong pay Profits Tax, with more than 80 percent of the revenue coming from the top five percent of corporations. As a result, Tsang has indicated that Hong Kong may need to explore again the feasibility of widening the current tax base in due course, with the aim of stabilizing the stream of government revenue and creating room for direct tax concessions in the future.
Charles is a financial services tax principal in the KPMG tax practice in Hong Kong. He has over 20 years experience, providing taxation services to multinationals operating in Hong Kong and the region. His advisory assignments include domestic and cross-border engagements, operational and investment structures and multidisciplinary engagements including M&A transactions. Charles also advised a number of financial institutions with regard to the impact of FATCA on their operations in Asia.