LAW & COMPLIANCE
NEW PACTS WITH AMSTERDAM AND TOKYO BOOST TRANSFER PRICING IN HONG KONG
When combined with aggressive tax planning, Hong Kong’s onshore-offshore tax regime often results in a reduced tax burden for taxpayers that operate through Hong Kong companies by pricing intra-group transactions.
The Advance Pricing Arrangement agreement with the Netherlands was concluded within nine months, faster than the anticipated 18–24 months
This has led to heightened transfer pricing scrutiny from the Hong Kong Inland Revenue Department in recent years.
Transfer Pricing: Hong Kong Issues Final Regulations
In a seminar held by the Hong Kong Inland Revenue Department (hereinafter referred to as “IRD”) at the beginning of 2012, the Commissioner of Inland Revenue (hereinafter referred to as “the…
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In order to provide clarity to taxpayers operating in Hong Kong on the appropriate manner in which intragroup transactions should be priced, the Inland Revenue Department released its transfer pricing guidelines in 2009. This was followed by the introduction of the Advance Pricing Arrangement (APA) program in 2012.
The introduction of the APA program is a welcome development for multinational companies, as it lays out the procedures for enterprises to ascertain the acceptability of their transfer prices with the Hong Kong and foreign tax authorities.
Negotiating a Hong Kong APA
An APA is an agreement that determines an appropriate set of criteria (e.g. transfer pricing method, external data, appropriate adjustments, critical assumptions as to future events) to determine the pricing of related party transactions over a fixed period of time. This is either three or five years.
The APA is concluded under the Commissioner’s power of general administration under the Inland Revenue Ordinance, including Double Taxation Agreements (DTAs), which form a part of Hong Kong’s tax legislation.
Due to resource constraints, the Hong Kong Inland Revenue Department only accepts bilateral and multilateral APAs, not a unilateral APA. A unilateral APA is an agreement that is negotiated solely between the Hong Kong taxpayer and the Hong Kong Commissioner.
The bilateral or multilateral APA, on the other hand, is an arrangement that not only involves the Commissioner in Hong Kong, but also the relevant tax authorities in foreign jurisdictions that have signed a DTA with Hong Kong.
Hong Kong can only start an APA program with another country after having signed a DTA with that country. This is because the APA program is considered a process to resolve issues in applying the DTA.
Threshold transactions
Thresholds have been provided by the Inland Revenue Department on the materiality for an APA application. In other words, if the Hong Kong taxpayer does not meet these thresholds, the Inland Revenue Department will consider that the transfer pricing risk is not significant enough to be mitigated through an APA.
The APA process is most suitable for complex controlled transactions with high transfer pricing risk. Examples of this include cases where there are few comparable transactions, a significant amount of tax is involved, or a significant amount of profit is moved out of Hong Kong. To this end, the following thresholds have been provided under the APA regime:
Sale or purchase of goods: HK$80 million for each year covered by the APA
Provision or receipt of services: HK$40 million per year
Transactions involving intangible property: HK$20 million per year
The Inland Revenue Department’s APA process is broadly consistent with the processes adopted by other jurisdictions. They generally consist of the following five steps:
Pre-filing
Formal application
Analysis and evaluation
Negotiation and agreement
Execution and monitoring
Recent APAs Concluded
Although the APA regime was introduced in 2012, it reached a milestone when Hong Kong concluded its first bilateral APA with the Netherlands in September 2014. This bilateral APA application was formally lodged with both the Hong Kong and Dutch tax authorities in September 2013 and was accepted into the APA program by the respective tax authorities in October 2013.
The agreement was actually concluded within nine months, as compared to the 18–24 months that the Hong Kong tax authorities had estimated for concluding bilateral APAs.
