Hong Kong expands tax treaty network

The Hong Kong Special Administrative Region of the People's Republic of China (Hong Kong) continues to expand its tax treaty network, concluding comprehensive double taxation agreements with Brunei (Hong Kong - Brunei double taxation agreement) on 20 March 2010, the Netherlands (Hong Kong - Netherlands double taxation agreement) on 22 March 2010 and Indonesia (Hong Kong - Indonesia double taxation agreement) on 23 March 2010. Through these agreements, the governments will increase economic cooperation and trade between their countries with Hong Kong, with the benefit of a reduction in the income tax burden and limited withholding tax rates for companies from each jurisdiction. To date, Hong Kong has signed a total of eight double taxation agreements (the other DTAs are with Belgium, Thailand, Luxembourg and Vietnam, and a double taxation arrangement with Mainland China).

The double taxation agreements will come into force once the ratification procedures are completed by each jurisdiction. On the Hong Kong side, the Chief Executive in Council is required to make an order under the Inland Revenue Ordinance, which is subject to negative vetting by the Legislative Council.

The double taxation agreements will bring about tax savings and certainty in tax liabilities arising from cross-border economic activities and will encourage closer economic and trade links between Hong Kong and the three countries. Moreover, given that the Netherlands has an extensive tax treaty network and is an EU member state, Hong Kong investors may be able to use the Hong Kong - Netherlands double taxation agreement as a platform for their European investments.

Below are some of the main features of the new double taxation agreements.


Hong Kong - Brunei double taxation agreement
- The withholding tax rate for interest derived from Brunei will be reduced from 15% (non-DTA rate) to 10%. This rate will be further reduced to 5% if the recipient is a bank or financial institution.
- The withholding tax rate for royalties received by Hong Kong residents from Brunei will be reduced from 10% to 5%.


Hong Kong - Netherlands double taxation agreement
- The withholding tax rate for dividends derived from the Netherlands will be reduced from 15%
- (non-DTA rate) to 0% where the recipient holds at least 10% of the company paying the dividends, as well as for dividends received by banks and insurance companies, pension funds, headquarters companies and other qualifying entities. For other dividends, a withholding tax rate of 10% will apply.
- No source taxation will apply to interest payments, since neither jurisdiction levies withholding tax on interest.
- For royalties, Hong Kong has agreed to limit its withholding tax to 3%. This is the same as the reduced rate under the Hong Kong-Luxembourg double taxation agreement.


Hong Kong - Indonesia double taxation agreement
- Hong Kong residents receiving dividends from Indonesia not attributable to a permanent establishment there are subject to an Indonesian withholding tax, which will be reduced from 20% (non-DTA rate) to 10%. If the recipient is a company holding at least 25% of the share capital of the payer company, the rate will be further reduced to 5%.
- The Indonesian interest withholding tax on Hong Kong residents will be reduced from 20% (non-DTA rate) to 10%.
- The withholding tax rate for royalties received by Hong Kong residents from Indonesia will be reduced from 20% (non-DTA rate) to 5%.



Comparison of tax treatment of dividends, interest and royalties in Hong Kong's double taxation agreements

                                                      Withholding tax (%)
                                            Dividends  /  Interest  /  Royalties
Hong Kong non-DTA rate              Nil             Nil             4.95
Thailand non-DTA rate                 10             15               15
HK-Thai DTA Rate                        10          10/151      5/10/152
Vietnam non-DTA rate                Nil/53          10               10
HK-Vietnam DTA rate                   10             10                7
Brunei non-DTA rate                    Nil             15               10
HK-Brunei DTA rate                      Nil           5/104             5
Indonesia non-DTA rate               20             20               20
HK-Indonesia DTA rate              5/105           10                 5
Belgium non-DTA rate              15/256          15               15
HK-Belgium DTA rate              Nil/5/157         10                5
Luxembourg non-DTA rate          158              0                 0
HK-Luxembourg DTA rate         Nil/109           Nil                3
Netherlands non-DTA rate            15             Nil                Nil
HK-Netherlands DTA rate         Nil/1010         Nil                 3

(1) Certain interest is subject to a reduced withholding tax of 10%, including interest paid to financial institutions, insurance companies and interest related to certain sales on credit related to equipment, merchandise or services. Interest paid directly to a government or certain of its subdivisions is exempt. (2) The 5% rate applies to payments for the use of, or the right to use, copyrights of literary, artistic or scientific works, and the 10% rate applies to payments related to patents, trademarks, designs, models, plans, secret formulas or processes. Otherwise, the rate is 15%. (3) No tax is imposed on dividends remitted overseas except where the dividends are paid to individuals, in which case a 5% withholding tax is imposed. (4) If the recipient is a bank or financial institution, the rate will be 5%. The rate will be 10% in all other cases. (5) The 5% rate will apply where the recipient is a company that holds at least 25% of the share capital of the payer company; otherwise, the rate will be 10%. (6) Under Belgian domestic law, dividends distributed by Belgian resident companies are, in principle, subject to a 25% withholding tax. A reduced rate of 15% applies to "VV/PR shares" if certain conditions are satisfied. (7) No withholding tax is levied if the beneficial owner of the dividends is a company that is resident in Hong Kong and at the time the dividends are paid holds, for an uninterrupted period of at least 12 months, shares representing directly at least 25% of the capital of the payer company. If the recipient holds 10% of the payer, the rate is 5%. In all other cases, the upper limit of source tax will be 15% of the gross dividend. Note, however, that Belgian domestic law provides for a withholding tax exemption for dividends distributed by a Belgian resident company to a parent company residing in a treaty country, provided the recipient holds (at the time the dividends are paid) for an uninterrupted period of at least 12 months, at least 10% of the capital of the Belgian subsidiary (15% for dividends attributed before 1 January 2009). Since Belgian domestic law provides a lower holding requirement for a withholding tax exemption than under the DTA, it is possible for taxpayers to rely on Belgian domestic law rather than the DTA. (8) Dividends paid to a nonresident company are subject to a 15% withholding tax unless the rate is reduced under a tax treaty or if the dividends qualify for an exemption under the EC Parent-Subsidiary Directive. (9) No withholding tax is levied if the beneficial owner of the dividends is a company that holds directly at least 10% of the capital of the company paying the dividends or a participation with an acquisition cost of at least EUR 1.2 million. (10) A 0% rate will apply to dividends received by a company that holds at least 10% of the share capital of the payer company provided the recipient is listed on a recognized stock exchange or is a subsidiary of a company that is listed on a recognized exchange and the listed parent company is a resident of Hong Kong or the Netherlands or an EU Member State; the 0% rate also applies to dividends received by banks and insurance companies, pension funds, headquarter companies and other qualifying entities. The rate in all other cases will be 10%.

The signing of these three DTAs also marks a new page for Hong Kong in supporting the international effort in enhancing tax transparency. All three agreements adopt the updated (July 2005) version of the OECD's standard on exchange of information which makes it clear that a state cannot refuse a request for information solely because it has no domestic tax interest in the information or solely because the information is held by a bank or other financial institution.

Where information is exchanged, it is subject to strict confidentiality rules. The DTAs specifically provide that information communicated will be treated as secret and that it can be used only for the purposes provided for in the agreements.

Hong Kong has now passed legislation to adopt the more liberal version of the exchange of information article and these changes should facilitate Hong Kong in negotiating more DTAs and eliminate any claims that Hong Kong is a noncooperative jurisdiction.


Conclusion

The new double taxation agreements will provide Brunei, Indonesia and Netherlands investors with greater certainty as to their tax liabilities in connection with cross-border investments with Hong Kong and vice versa. The new agreements mark another step forward in the Hong Kong government's aim to establish a broader double taxation agreement network. At the time of this article, negotiations have been completed with other jurisdictions, including Austria, France, Hungary, Ireland and Liechtenstein and are now waiting signing by the relevant governments.