International Aspect of Salaries Tax and Profits Tax
Answer 1
(a)
Based on the facts given, Philip’s employment with HK Co should remain a Hong Kong employment. Moreover,Philip does not appear to be a visitor to Hong Kong but is a resident in Hong Kong. In the circumstances, all of hisemployment income would be liable to Hong Kong salaries tax unless s.8(1A)(c) applies. [2]
Under s.8(1A)(c), a portion of Philip’s remuneration would be exempt from Hong Kong salaries tax if (i) it wasderived by Philip from services rendered in Thailand; (ii) it is chargeable to Thailand personal income tax which issubstantially of the same nature as Hong Kong salaries tax; and (iii) the Commissioner is satisfied that Philip has,by deduction or otherwise, paid the tax in Thailand. Therefore, if all three conditions are satisfied, Philip may relyon this section to exclude the three-month period’s remuneration from the total assessable income for Hong Kongsalaries tax purposes. It is worth noting that for s.8(1A)(c) to apply, Thailand personal income tax must be paid inThailand. If, however, no Thailand tax is paid, there would be no exemption, and Philip’s Hong Kong salaries taxposition would remain unchanged.
[4]
In respect of the travelling and hotel accommodation costs paid by HK Co, the issue of whether they constitutetaxable income to Philip depends on various factors. In general, if an employer makes payments to a third partywhich discharges the liability of the employee, the payments would be taxable income to the employee. However,if the payments only discharge the employer’s own liability, it would not be taxable on the employee, unless it isrelated to a holiday journey or to the employee’s child education; or it is convertible into cash. In Philip’s case, ifthe travelling and hotel accommodation are for the account of HK Co, the payments by the company to settle theseaccounts would not be taxable income to Philip. [3]
(b)
Pursuant to Article 14 of the double tax agreement (DTA) between Hong Kong and Thailand, Philip’s remunerationrelating to his services rendered in Thailand would be exempt from Thailand personal income tax if all of the fourconditions are fulfilled.
[1]
The first condition is that the aggregate number of days that Philip stays in Thailand in a taxable year does notexceed 183 days. It is not clear from the DTA how a day is counted, but in the case of Philip where his intention isto stay in Thailand for only three months, it is unlikely that this threshold would be exceeded. [1]
The second condition is that the payment of Philip’s remuneration is made by an employer who is not a resident ofThailand. As it is intended that Philip’s remuneration would continue to be paid by HK Co in Hong Kong, and it isassumed that HK Co is not a resident in Thailand, this condition is also fulfilled. [1]
The third condition is that the payment of Philip’s remuneration is not to be borne by any permanent establishmentin Thailand. This condition would be fulfilled only if HK Co does not recharge any of Philip’s remuneration to theThailand subsidiary. If there is a recharge, that portion of Philip’s remuneration recharged would be considered asborne by the Thailand subsidiary and thus this condition would not be fulfilled. As a result, Philip’s remunerationwould not be eligible for the treaty exemption. [2]
The last condition is that Philip’s remuneration must be taxable in Hong Kong according to Hong Kong tax law.This would mean that if Philip wishes to obtain a treaty exemption from Thailand income tax, he cannot rely ons.8(1)(A)(c) to exempt part of his remuneration from Hong Kong tax. [2]
Based on the above, it appears that the issue of recharge or not is critical to ascertaining Philip’s personal incometax liability in both Hong Kong and Thailand. Obviously, exemption can only be available in either country but notboth. [1]
Answer 2
(a)
Under the Hong Kong Inland Revenue Ordinance (IRO), the Hong Kong salaries tax position of Li Ping in respect of theservices he rendered in Hong Kong depends on various factors including, fundamentally, the location of Ling Ping’semployment. Based on the facts given, Li Ping is and will continue to be employed by ChinaNet Ltd, which is a companyincorporated in the PRC. Since Li Ping himself is also a PRC citizen, it is reasonable to assume that the employment contracthas been concluded in the PRC. Li Ping is also receiving his remuneration in the PRC. As a result, based on DIPN No.10and Goepfert’s principle, Li Ping’s employment is obviously a non-Hong Kong employment. [2]
Based on s.8(1A)(a) of the IRO, in the case of a non-Hong Kong employment, only remuneration for services rendered inHong Kong, including leave pay attributable to such services, is taxable in Hong Kong. [0.5]
However, based on s.8(1A)(b) ands.8(1B), exemption is available if Li Ping qualifies as a ‘visitor’ in Hong Kong and stays in Hong Kong for not more than60 days.To qualify as a ‘visitor’, the most common criteria is that he must not have any form of permanent base or normalplace of residence in Hong Kong. As Li Ping was only on short-term assignment during each trip to Hong Kong and he onlystayed in a hotel, the facts seem to support that Li Ping was a ‘visitor’ during his stay in Hong Kong. In calculating the numberof days of ‘visits’ in Hong Kong, the Board of Review case D29/89 held that both the day of arrival and the day of departureare included. [1.5]
In Li Ping’s case, for the year of assessment 2007/08, he was present in Hong Kong for 60 days:
10 May 2007 to 31 May 2007 / 221 September 2007 to 20 September 2007 / 20
1 December 2007 to 18 December 2007 / 18
60 / days
As Li Ping’s visits in Hong Kong for the year of assessment 2007/08 are for not more than 60 days, he is not subject to HongKong salaries tax for that year under s.8(1A)(b) and s.8(1B) of the IRO. [1]
For the year of assessment 2008/09, he was present in Hong Kong for 172 days:
1 April 2008 to 21 April 2008 / 211 May 2008 to 30 July 2008 / 91
8 August 2008 to 31 August 2008 / 24
15 January 2009 to 19 February 2009 / 36
172 / days
As Li Ping’s total number of days of visits in Hong Kong for the year of assessment 2008/09 is more than 60 days, he wouldnot be eligible for the exemption under the IRO. [1]
Taxable income would be based on simple time apportionment makingreference to the number of days he spent in Hong Kong as a ratio to the total number of days in the year of assessment. IfLi Ping has taken any leave days during the year, a portion of the leave days should also be calculated and added to the timeapportionment formula. For time apportionment purposes, only one of the day of arrival and day of departure is counted.Therefore, in the year of assessment 2008/09, Li Ping may be subject to Hong Kong salaries tax based on the ratio of168/365. [2]
(b)
Pursuant to Article 14 of the double tax agreement (DTA) between Hong Kong and PRC, Li Ping’s remuneration relating tohis services rendered in Hong Kong would be exempt from Hong Kong salaries tax if ALL of the three specified conditions arefulfilled. For the purposes of the DTA application in the case of Li Ping, the term ‘One Side’ refers to the PRC, and the term‘the Other Side’ refers to Hong Kong. [1]
The first condition is that the aggregate number of days that Li Ping stayed in Hong Kong in any 12-month period did notexceed 183 days. In counting the days, the rule of ‘days of presence minus one’ applies, i.e. only one of the day of arrival ordeparture is counted. According to the schedule, Li Ping did not stay in Hong Kong for 183 days or more during any12-month period. He should, therefore, be considered as having fulfilled this condition.
[2]
It should be noted that the 12-month period under the DTA does not refer to any specific period starting on 1 January or1 April. The condition applies to any period of 12 months either starting or ending in any year of assessment. Therefore, thecounting of days should be done for each 12-month period, e.g. 10 May 2007 to 9 May 2008 (90 days) or 1 September2007 to 31 August 2008 (174 days). (See DIPN No. 10, paragraphs.110–2.) [2]
The second condition is that Li Ping’s remuneration is paid by an employer who is not a resident of Hong Kong. As it is giventhat Li Ping’s remuneration would continue to be paid by ChinaNet Ltd in the PRC, assuming that ChinaNet Ltd is not a taxresident in Hong Kong, this condition is also fulfilled. The fact that the hotel bill was settled by the Hong Kong company isnot relevant in this context. [1.5]
The third condition is that the payment of Li Ping’s remuneration is not to be borne by any permanent establishment whichthe employer, ChinaNet Ltd, has in Hong Kong. This condition is considered fulfilled as ChinaNet Ltd did not have theintention to recharge Li Ping’s salary to the Hong Kong company. [1.5]
Based on the above arguments, it is likely that Li Ping is eligible for exemption under the DTA, although he stayed inHong Kong for more than 60 days. In the event that the DTA offers a tax treatment which is more beneficial than that underthe domestic IRO, the DTA would prevail. [1]
ACCA Marking Scheme:
Answer 3
By s.14(1) of the IRO, there is no doubt that the first two conditions are satisfied: the Firm carrieson business in Hong Kong and derives profits from that business. It follows that the key issue fordetermination is whether the Firm's profits arise in, or are derived from, a source in Hong Kong.
To determine the source of profits for the Firm the broad guiding principles set out in Hang SengBank and HK-TVB should be applied. These principles are: what activities take place to derive theprofits in dispute? And where did these activities take place?
As this is a case involving payment for services, the relevant activities are the actual services theFirm provides for the payment it receives. The Firm's profits from carrying out services arise wherethose services are performed: see Hang Seng Bank (see further DIPN 21). Prima facie, this tookplace both in Hong Kong and in the Mainland.
Using the broad guiding principles it is clear only the activity of the taxpayer and, where relevant, itsauthorised agents should be examined: Wardley. Was the local law firm an agent of the Firm?Does this matter? The Board of Review decision in D71/97 seems to indicate, because source ofprofits is a hard, practical matter of fact, that such fine distinctions in cases such as this may not bedecisive in determining the source of profits. If this conclusion is correct, it seems that the activitiesof the Shanghai law firm should be taken into account as part of the matrix of activities necessaryfor the Firm to derive its profits.
If, as appears very likely, there are significant Hong Kong as well as Mainland activities giving riseto the Firm's profits, is there any possibility of apportionment between Hong Kong and Mainlandsourcedprofits? The answer is yes, because under DIPN 21 service income is one category whereapportionment is allowed (Hang Seng Bank). Typically this is allowed on a 50/50 basis. Moreinformation is required before finalising any advice as to source of profits and the method ofapportionment appropriate in this case. This information includes:
(a)full documentation relating to the service contract,
(b)a complete list of all activities carried on in/outside Hong Kong to derive the profits, as wellas the related costs, and
(c)the Firm's tax position in the Mainland.
Point (c) above relates to the potential application of the Mainland-HK Arrangement for the
Avoidance of Double Taxation (see further DIPN 44). Although the concept of a traditionalrepresentative office is excluded from the definition of permanent establishment, it appears that theoperations of the Firm in Shanghai go well beyond the permitted exempted categories of collectinginformation or carrying out other activities of a preliminary or auxiliary character for the Firm. Thiscrucial definition determines the jurisdiction to tax a HK resident by the Mainland SAT, and viceversa.
If the representative office exemption does not apply, and the Firm does have a permanentestablishment in the Mainland, the profits attributable to that permanent establishment would not betaxable in Hong Kong. The most likely basis for this conclusion would be that those profits aresimply not derived in Hong Kong (see analysis above). But, in any event, those profits would attracta tax credit in Hong Kong if, in the less likely case, they arose from a source in Hong Kong butwere nonetheless subject to income tax in the Mainland (Article 21 of CDTA – DIPN 44).
Answer 4
(a)
According to the Mainland-Hong Kong CDTA, The term 'permanent establishment' is defined
to include:
(i)a place of management;
(ii)a branch;
(iii)an office;
(iv)a factory;
(v)a workshop;
(vi)a mine, an oil or gas well, a quarry or any other place of extraction of naturalresources; and
(vii)an agency with general authority to conclude contract.
For consultancy services, if the services have been furnished in one side for the sameproject or a connected project for a period or periods exceeding in the aggregate 183 days in any 12-month period commencing or ending in a taxable year, the provision of serviceswill be treated as a 'permanent establishment' in that side.
Based on the above rule, for BHC, the aggregate service-rendering period in the Mainland isseven months (i.e. 212 days), BHC should be treated as having a permanent establishment in the Mainlandin this regard. It will be subject to income tax in Mainland.
Individual Income Tax position of BHC's employees
In order to be exempted from the Individual Income Tax in the Mainland, the followingcondition must be satisfied:
(i)the taxpayer stays in the Mainland for a period or periods not exceeding in theaggregate 183 days in any 12-month period commencing or ending in the taxableperiod concerned;
(ii)the remuneration is paid by or on behalf of an employer who is not a resident of theMainland; and
(iii)the remuneration is not borne by a permanent establishment which the employer hasin the Mainland.
As to the Individual Income Tax position of the employees working for the project, they willnot be exempt from Individual Income Tax as the first condition cannot be fulfilled.
(b)
BHC's Income Tax position
If the service-rendering period is from 1 September 2008 to 1 March 2009, the 2nd Protocol is
applicable (which takes effect from 11 June 2008). Thus, instead of considering the sixmonth out of a 12 month period, 183-day rule applies. In aggregate, BHC has rendered 182days of services in the Mainland (30 days (September 2011) + 31 days (October 2011) + 30days (November 2011) + 31 days (December 2011) + 31 days (January 2012) + 28 days(February 2012) + 1 day (March 2012)). Therefore BHC will not be regarded as maintaininga permanent establishment in providing the services. Thus, it will not be subject to income tax in thisregard.
Individual Income Tax position of BHC's employees
As to the Individual Income Tax position of the staff working for the project, theirremuneration will not be borne by a permanent establishment of BHC in the Mainland. Also,they will not stay in the Mainland for more than 183 days. It seems that their salary is notpaid or borne by a resident in the Mainland. Accordingly, they would be exempted fromIndividual Income Tax in the Mainland.
(c)
BHC can claim tax credits for the Income Tax paid against its Hong Kong Profits Taxpaid/payable according to the CDTA. The amount of Income Tax that can be creditedagainst Hong Kong Profits Tax is limited to the amount of Profits Tax that would be chargedunder the Hong Kong Inland Revenue Ordinance for the relevant income.
BHC can claim Profits Tax deduction in respect of the Business Tax paid under s.16(1) ofthe Inland Revenue Ordinance as the tax was charged on the gross receipt and hence wasincurred in the production of the services fee, which is assessable in Hong Kong.
Note: Arguably, the service income derived from services rendered in China may not betaxable in Hong Kong as it should be regarded as sourced outside Hong Kong. If the incomeis not taxable in Hong Kong then there should not be any issue of double taxation.
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