Hong Kong Taxation: Law and Practice 2012–13 Edition

4. Profits Tax

Chapter 4 ■ 3URÀWV7D[ 4.1 Legislation 196 4.2 Scope of the Tax 196 4.3 Liability to Profits Tax 198 4.3.1 Persons chargeable 199 4.3.2 Carrying on a trade, profession or business 202 4.3.3 What constitutes trading 207 4.3.4 Meaning of business 216 4.3.5 Commencement of business 218 4.3.6 Cessation of business 220 4.4 Source of Profits 220 4.4.1 Statutory provisions 221 4.4.2 Case law — general principles 222 4.4.3 Case law — other issues 255 4.4.4 Source of interest income 261 4.4.5 IRD’s practice 267 4.5 Ascertainment of Assessable Profits 276 4.5.1 When income and profit arises 281 4.5.2 Treatment of capital profits 288 4.5.3 Other excluded profits 292 4.5.4 Amounts deemed taxable 308 4.5.5 Expenditure — general deductibility rules 326 4.5.6 When expenditure is incurred 334 4.5.7 Expenditure — capital v revenue 338 4.5.8 Expenditure deemed deductible 347 4.5.9 Deductibility of interest and related expenses 375 194 Hong Kong Taxation 4.5.9.1 Interpretation of Sec. 16(1)(a) 377 4.5.9.2 Provisions of Sec. 16(2) — Prior to 25 June 2004 381 4.5.9.3 Provisions of Sec. 16(2) — From 25 June 2004 386 4.5.10 Expenditure deemed non-deductible 393 4.5.11 Payments to “service companies” 398 4.5.12 Trading stock and work-in-progress 404 4.5.13 Pre-commencement expenditure 409 4.5.14 Post-cessation receipts and payments 410 4.5.15 Apportionment of expenses 411 4.5.16 Losses 416 4.5.16.1 Losses involving taxpayers deriving concessionary trading receipts 417 4.5.16.2 Individuals 420 4.5.16.3 Corporations and other persons 422 4.5.16.4 Partnerships — general 422 4.5.16.5 Limited Partnerships — loss limitation 423 4.5.16.6 Trustees 425 4.6 Basis of Assessment 427 4.6.1 Normal basis 428 4.6.2 Commencement 428 4.6.3 Cessation 430 4.6.4 Change of accounting date 435 4.6.5 Apportionment 440 4.7 Special Classes of Business 440 4.7.1 Life insurance corporations 440 4.7.2 Non-life insurance corporations 446 4.7.3 Shipping and aircraft businesses — general 449 4.7.4 Shipowning businesses 450 4.7.5 Resident aircraft-owning businesses 458 Chapter 4 Profits Tax 195 4.7.6 Non-resident aircraft-owning businesses 465 4.7.7 Financial institutions 467 4.7.8 Clubs and trade associations 473 4.7.9 Partnerships 475 4.8 Non-residents 480 4.8.1 Non-residents carrying on business in Hong Kong 481 4.8.2 Goods on consignment 485 4.8.3 Hong Kong agents 486 4.8.4 Payers other than agents 490 4.8.5 Arm’s length pricing 494 4.9 Assessment and Payment of Tax 496 196 Hong Kong Taxation 4.1 Legislation Profits Tax has the greatest amount of legislation of the three income taxes, the main provisions being in Secs. 14 to 26A under Part IV of the IRO. Also directly relevant are Rules 2A to 2D of the IRR governing apportionment of allowable deductions, Rules 3 and 5 of the IRR governing the ascertainment of branch assessable profits and Part XB governing Provisional Profits Tax. The provisions governing depreciation allowances in Part VI are also primarily concerned with Profits Tax and are dealt with separately in Chapter 5. The general provisions governing returns in Part IX, assessments in Part X, objections and appeals in Part XI, payment and recovery of tax in Part XII, double tax relief in Part VIII and penalties in Part XIV are also applicable to Profits Tax. 4.2 Scope of the Tax Profits Tax is, in general, levied on the Hong Kong sourced profits derived by a person (as defined) from the carrying on of a trade, profession or business in Hong Kong. The source of profits is largely ascertained in accordance with case law principles. Additionally, however, the IRO contains a series of provisions which deem certain profits to have a Hong Kong source and, in some cases, as arising from a business carried on in Hong Kong, thereby rendering the amounts taxable where they would not otherwise be taxable...