The impact of BEPS on tax incentives in Hong Kong SAR

As of November 4, 2021, 137 of the 141 member jurisdictions of the G20 / OECD Inclusive Framework on BEPS (FI) have accepted the statement issued by the FI on October 8, 2021, which defines the constituent elements and policy rates of the first pillar. and the second pillar of the BEPS 2.0 reform.

Many jurisdictions in the ASPAC region, including Hong Kong SAR, offer a range of tax incentives to attract business and investment. However, the introduction of an overall minimum tax of 15% in the second pillar raises questions about the attractiveness and future of such tax incentives.

The global minimum tax can reduce the effectiveness of tax incentives and deter jurisdictions from introducing tax breaks if another jurisdiction can reclaim this benefit.

Key considerations

Although the overall corporate tax rate in the Hong Kong SAR is 16.5%, the Hong Kong SAR offers a wide range of income exclusions / exemptions, tax incentives and improved deductions that could reduce a group’s overall effective tax rate in Hong Kong SAR below the agreed 15%. global minimum tax rate under the second pillar.

These include in particular: (i) the non-taxation of foreign source income within the framework of the territorial tax system; (ii) the non-taxation of capital gains; (iii) tax exemption for bank interest and profits from eligible debt securities; (iv) a preferential tax rate of 8.25% on qualifying profits made by taxpayers in specific sectors (eg insurance, aircraft leasing and corporate treasury centers); (v) a preferential tax rate of 0% for certain vessel leasing and deferred interest activities and (vi) enhanced tax deductions for eligible research and development expenses.

For large multinational enterprise groups (MNEs) headquartered abroad and present in Hong Kong SAR, the tax benefits enjoyed by their Hong Kong entities may be offset by: (i) the adoption of the income inclusion rule (RII) by the parent jurisdiction; or (ii) a possible introduction of a national minimum regime (DMT) in the Hong Kong SAR.

For large multinational enterprise groups headquartered in Hong Kong SAR and whose group entities benefit from a tax incentive in Hong Kong SAR or in a foreign jurisdiction, the benefits of these tax incentives can be counteracted by the eventual introduction of DMT and adoption of IIR. in Hong Kong SAR respectively. That said, out-of-scope multinational enterprise groups can continue to reap the benefits of the tax incentives offered by the Hong Kong SAR.

Both Hong Kong SAR groups and multinational groups headquartered abroad that make cross-border payments between parties related to Hong Kong SAR entities will also need to consider the possible impact of the transaction. ‘subject to the tax rule if the gross amounts of these payments are taxed at a rate lower than the agreed nominal rate of 9%.

In addition to the significant changes expected to be made to the Hong Kong SAR tax system in response to the BEPS 2.0 reform, the inclusion of the Hong Kong SAR in the EU tax “gray list” as a result of its reform. A review of the HKSAR territorial source regime also means that changes will need to be made to the regime with respect to passive income.

Affected companies will need to begin to assess and model the impact of all of these upcoming changes and determine whether a corporate restructuring will be desirable.

Opportunities may arise to relocate operations from other foreign jurisdictions with heavily taxed profits to Hong Kong SAR to merge with pre-existing low taxed Hong Kong SAR profits. This can result in streamlined group structures or transaction flows while preserving the pre-existing tax advantages of the Hong Kong SAR.

Lewis Lu

Partner, KPMG China

Jean Timpany

Partner, KPMG China

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