Corporate tax (also called profits tax in Hong Kong) is based on the assessment of companies’ profits. The assessable profit is a result of income and deduction adjustments to the net profit and loss account of the taxable period. This article will cover several aspects that need to be considered for the determination of the taxable income of Hong Kong companies and profit tax computation.
Content Outline
Under Hong Kong’s law, a company’s income includes:
- Earnings generated from conducting business activities within Hong Kong
- Payments received for the use of intellectual property rights
- Income generated from leasing movable property
- Interest earnings
- Financial support in the form of grants, subsidies, or other assistance
- Profits gained from bills of exchange or certificates of deposit
- Reimbursements of contributions made to retirement schemes
- Revenue from the exhibition or utilization of films, tapes, or recordings
The next step is to apply the following modifications to the net income of the company to reach the taxable income.
Step 1: Deduct Non-assessable Profits for Profit Tax Computation
As for the profits of inconvertible character, they are deducted from the company’s net income. Profit tax computation for non-assessable profits include:
- Earnings not originating from or generated in Hong Kong
- Proceeds from the sale of capital assets
- Dividends or profits already subjected to profits tax assessment
- Interest earnings from deposits made in Hong Kong, excluding those received by financial institutions
- Other exempt receipts as stipulated in the Hong Kong Inland Revenue Ordinance
Step 2: Deduct Qualified Business Expenses for Profit Tax Computation
The amount of money spent to make business income from production can be offset against the revenue. Examples of profit tax computation for deductible income include:
- Costs associated with obtaining loans
- Rental payments for the use of buildings or land for profit-making activities
- Foreign taxes paid on income subject to foreign tax
- Debts deemed uncollectible and written off
- Expenditure on repairing, refurbishing, or replacing machinery, equipment, premises, or items utilized for profit generation
- Costs related to trademark and patent registration
- Contributions to retirement schemes (within specified boundaries)
- Research and development expenses covering feasibility studies, market research, innovation in product design, business or management research, etc.
- Fees for technical education
- Approved charitable donations
- Acquisition expenses for patents, know-how, registered trademarks, copyrights, and registered designs
- Capital outlay on designated fixed assets (subject to limitations)
- Investment in environmental protection machinery
Non-deductible expenses include:
- Personal or household expenditures
- Costs not related to profit generation
- Expenditure on property or asset enhancements
- Amounts reclaimable under insurance policies
- Taxes paid other than employees’ salary tax
- Specified capital expenses or losses categorized as “non-deductible” under Section 17 of the Hong Kong Inland Revenue Ordinance
- Payments made to or for the benefit of spouses or partners
- Expenses associated with premises not utilized for profit-generating activities
Step 3: Deduct Unutilized Losses for Profit Tax Computation
A loss can either be deducted from the income in that same assessment year or carried over to subsequent assessment years and deducted from income in those years. For losses to be deductible, they have to originate from Hong Kong where the business is carried out.
However, a correction factor is applied for profit tax computation when the unabsorbed losses incurred from concessionary trading receipts (trading receipts subjected a concessionary rate of tax) are set off against normal trading receipts (trading receipts subjected a normal rate of tax) and vice versa.
Step 4: Add Balancing Charges for Profit Tax Computation
For profit tax computation, a balancing charge occurs when the sale proceeds of a capital asset (like building, structure, plant and machinery) is more than the Written Down Value (cost of the asset deducted from the capital allowances that have previously been claimed).
Step 5: Deduct Capital Allowances for Profit Tax Computation
Under the Hong Kong tax regulations, the profit tax computation for capital depreciation and spending on fixed assets purchased are deemed as non-deductible expenses as per tax purposes. On the other side, reliefs through capital allowance are available which covers the initial capital expenditure and the annual depreciation for wear and tear. The tax deductions are available for the business premises and for the plant and machinery used in the generation of profits. The various types of capital allowances are as follows:The various types of capital allowances are as follows:
- A 20% initial allowance is provided for capital expenses related to constructing industrial buildings or structures.
- An annual allowance of 4% of the initial capital expenditure is granted for the construction of industrial or commercial buildings.
- For renovation or refurbishment costs of business premises, 20% of the capital expenditure is deductible in equal portions over 5 years, starting from the year of expenditure.
- There’s a 60% initial allowance for capital expenses on plant and machinery incurred in the relevant year.
- Annual depreciation allowance is applicable to plant and machinery based on reducing value, with depreciation rates ranging from 10% to 30%, depending on the type of equipment.
- For environmental protection installations in commercial or industrial buildings, 20% of the capital expenditure is deductible in equal portions over 5 years, starting from the year of expenditure.
- Special provisions are in place for plant and machinery under sale and leaseback arrangements.
Following on from the above mentioned deductions and additions, the company’s taxable income can be calculated. Tax rate, which is applied to this income, determines the profits tax. The standard profits tax rate for corporations is 16.5% on assessable profits and 15% on assessable profits for unincorporated businesses.
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