Hong Kong is known for its simple and low tax regime.Offshore profits exemption policyIt is one of its core tax advantages, eligible enterprises can be exempted from the profits tax of 16.5%, but the application involves a number of links and strict audit, you need to accurately grasp the conditions, processes and key points in order to enhance the success rate. This article is full of dry goods, from the application conditions, process to the preparation of materials, to avoid the pit points, to bring you a clear understanding of the core issues of Hong Kong offshore profits tax exemption!

What is the offshore profits exemption?

Hong Kong Offshore Profits Exemption (OPE) refers to the policy of Hong Kong Inland Revenue Department (IRD) to recognize the profits of an enterprise derived from sources outside Hong Kong and thus exempted from profits tax, the core basis of which is the principle of Hong Kong territoriality, whereby only profits derived from operations within the territory are subject to tax. Successful application can significantly reduce the operating costs of enterprises and help expand the international market, but need to meet the strict qualification requirements and pass the tax audit.

What requirements do I need to fulfill to apply?

To apply for offshore profits exemption, you need to fulfill the three core conditions of income source, business activity and application subject, and you can't do without any of them. This is the key basis for the preliminary examination by the tax office, and enterprises need to self-assess whether they meet the requirements first.

• Source of income requirements: Profits must be sourced outside Hong Kong and not generated through business activities within Hong Kong, and the Inland Revenue Department (IRD) will rigorously check the source of profits;
• Operational requirements: All core business activities (sales, purchases, services, etc.) are not carried out in Hong Kong and there are no physical offices and local staff in Hong Kong;
• Requirements for the main body of the application: The enterprise must be a Hong Kong registered company and complete accounting and auditing in accordance with Hong Kong tax laws.

How does the IRS determine eligibility?

The Tax Bureau will comprehensively determine whether the enterprise meets the exemption conditions from six dimensions, such as contract, operation and service, which are interrelated and need to be formed into a complete chain of offshore evidence.

• Place of contract: Contracts entered into in Hong Kong may be recognized as in-country income and need to be judged in conjunction with other factors such as the place of execution;
• place of business activity: The main business activities such as production and sales must be outside Hong Kong, which is the core basis for the determination;
• service provider: Services provided in Hong Kong may still be taxable even if the client is outside Hong Kong;
• Place of delivery of goods: Delivery of goods in Hong Kong has a direct impact on the determination of the source of income;
• Pathways of financial flows: Payment receipts are made through Hong Kong accounts that may imply a domestic operation;
• Differences in the nature of business: Manufacturing is judged by the place of production and services by the place of service provision.

What documents do I need to submit for the application?

The application needs to prepare the three core documents of registration, business and tax to ensure that they are complete and can prove the offshore properties, the trading enterprises need to supplement additional special documents, and all the materials need to be submitted with the audit report.

1. Basic documents for registration include Certificate of Incorporation, Incorporation Form, Latest Annual Return, Business Registration Certificate, Articles of Association, Change Information (if any) and Audit Report of the previous year (if any), which proves that the business is legally qualified for registration.
2. The core evidence of business covers records of contracts and place of signing, proof of place of business activities, records of delivery of goods, etc.; trading companies are required to additionally provide transaction contracts signed outside Hong Kong, cross-border payment vouchers, non-Hong Kong customs bills of lading, transportation documents and offshore proof of the supplier's customers.
3. Tax-related records including the company's general ledger ledger, annual financial statements, profits tax returns and audit reports of previous years, which must be issued by an independent third-party auditor to confirm that there are no substantial business activities in Hong Kong.

How does the application process work?

The offshore profits waiver application process cycle is8-24 monthsIn addition, it is necessary to strictly follow the steps of business sorting, material preparation, declaration approval, etc., and cooperating with the Inland Revenue Department throughout the whole process of inquiry is the key to success.

1. Business substance combing: Analyze the entire chain of purchasing, selling, and contracting to locate where profits are generated and all types of supporting documents;
2. Offshore evidence collection: Collate core evidence such as proof of place of contracting, records of negotiation and non-Hong Kong logistics documents;
3. Audit of financial accounts: Audited by a certified public accountant in Hong Kong, with the percentage of offshore profits clearly identified and labeled;
4. Completion of Profits Tax Return: Check the "Offshore Income" box on Form BIR60 to declare the separation of offshore and onshore profits;
5. Submission of supporting documentation: Submit an offshore business questionnaire and evidence package with your tax return, focusing on the absence of Hong Kong business substance.
6. Response to Inland Revenue Department's Enquiries:: Questions may be received within 2-4 months, requiring timely and targeted additional materials;
7. Getting Approval Results: Approval will be granted with a Confirmation of Offshore Profit Tax Exemption, partial or complete rejection will be subject to back taxes as required.

The pros and cons should be separated and these potholes should not be stepped on!

Comparison of core strengths and weaknesses

Advantages include significant reduction in tax burden, attraction of foreign investment, increased flexibility in capital utilization, and the possibility of stacking other tax incentives;
The disadvantages are a complex application process, ongoing compliance costs, and the tax risk of disapproval.

Three key considerations

• Annual audit is indispensable: regardless of whether the exemption is approved, Hong Kong registered companies are required to audit and issue a report every year, which is the core basis for tax audits;
• Exemption needs to be applied annually: Exemption is not a one-time approval, you need to provide the offshore supporting documents at the same time when submitting the profits tax form every year, and the Inland Revenue Department will re-assess the situation according to the year;
• Directors should be careful when staying in Hong Kong for more than 60 days in a year may be subject to salaries tax, and if they are engaged in business activities such as negotiating and signing contracts, their exemption status will be jeopardized. It is recommended that they stay in Hong Kong for a total of no more than 60 days and keep evidence of non-business activities.

Hong Kong offshore profits exemption is an important way for enterprises to reduce their burden legally, but the application involves professional links such as interpretation of tax laws and combing of evidence, and the Inland Revenue Department (IRD) has a 7-year retrospective period. It is recommended that after self-assessment and meeting the requirements, enterprises should hire professional tax consultants to ensure that the materials are complete and the process is compliant, so as to enhance the success rate of application and avoid tax risks. If you have any questions or need customized solutions, please feel free to contact us for full professional support!