Hong Kong Tax Alert 4 April 2018 2018 Issue No. 9 Hong Kong signs comprehensive double tax agreement with India On 19 March 2018, Hong Kong signed a comprehensive avoidance of double taxation agreement (CDTA) with India. This brings the number of CDTAs Hong Kong has concluded with other jurisdictions to 39. The CDTA with India contains several favorable provisions which are expected to facilitate closer economic and trade ties between Hong Kong and India. This alert summarizes the salient points of the provisions of the CDTA as applicable to Hong Kong residents. Appendix I to this alert summarizes the status of Hong Kong s current CDTA network and CDTAs currently under negotiation or pending ratification. Who is covered by the CDTA law The CDTA only applies to persons who are residents of either Hong Kong or India. In this regard, a company (including a non-corporate one) that is incorporated or constituted under the laws of Hong Kong automatically qualifies as a Hong Kong resident. A company (including a non-corporate one) which is not so incorporated or constituted, would only be regarded as a Hong Kong resident if it is normally managed or controlled in Hong Kong, this being a resident test that is frequently applied in CDTAs concluded by Hong Kong.
The understanding of the two parties as regards the conditions under which a non-hong Kong incorporated or constituted company will be regarded as being normally managed or controlled in Hong Kong is detailed in the Protocol to the CDTA. Said understanding is that executive officers and senior management employees [of such a company] make dayto-day key decisions in the Hong Kong Special Administrative Region for the strategic, financial and operational policies for the company or the person, and the staff of the company or the person conduct in the Hong Kong Special Administrative Region, the day-to-day activities necessary for making those decisions. The understanding recited in the Protocol in fact adopts the exact wording as used in the Hong Kong-Japan CDTA to describe the term primary place of management and control as a resident test. Tax benefits available to Hong Kong residents under the CDTA Business profits Active business profits of a Hong Kong resident enterprise will not be liable to tax in India unless they are attributable to a permanent establishment (PE) maintained by the Hong Kong enterprise in India. Where a Hong Kong enterprise has maintained a PE in India, only profits attributable to the PE will be liable to tax in India. Dependent agency PE under the CDTA In addition to the normal fixed places of business, a PE generally also includes a dependent agency. Under the CDTA, a person in India would generally be regarded as a dependent agent of a Hong Kong enterprise where the person in India, other than an agent of an independent status, has and habitually exercises in India an authority to conclude contracts in the name of the Hong Kong enterprise. In such a case, the Hong Kong enterprise would be regarded as having maintained a PE in India. The above is in fact a conventional dependent agency PE definition which has, generally speaking, long been adopted in CDTAs prior to the Organization for Economic Co-operation and Development (OECD) commencing its Base Erosion and Profit Shifting (BEPS) initiative. In other words, the CDTA has not adopted the recommendation made by the OECD in its BEPS package to lower the threshold for a PE, including that relating to dependent agency, anti-fragmentation and commissionaire arrangements. Hong Kong s nonadoption of the OECD s recommendation in this regard in the CDTA is in line with its positon taken under the Multilateral Instrument (MLI), namely not to change or lower the threshold for PE for its existing CDTAs by way of the MLI 1. Under the BEPS package, as regards dependency agency PE, even if the person of one Contracting Party has no authority and/or does not habitually exercise the authority to conclude contracts in the name of the enterprise of the Other Contracting Party, the enterprise of the Other Contracting Party would nonetheless be regarded as having maintained a PE in the first-mentioned Contracting Party in certain situations. Hong Kong Tax Alert Such situations include where the person in the firstmentioned Contracting Party habitually plays a principal role on behalf of the enterprise of the Other Contracting Party leading to the conclusion of contracts, and those contracts are routinely concluded by the enterprise of the Other Contracting Party outside the first-mentioned Contracting Party without material modifications. While not adopting the recommendation of the OECD in its BEPS package to lower the threshold for PE, the CDTA nonetheless extends the conventional dependent agency PE definition in two aspects. Namely, an enterprise of one Contracting Party may have a PE in the Other Contracting Party where a person who is not an independent agent, albeit having no contractual authority referred to above: (i) habitually maintains in the Other Contracting Party a stock of goods or merchandise from which the person regularly delivers goods or merchandise on behalf of the enterprise of the first-mentioned Contracting Party; and (ii) habitually secures orders in the Other Contracting Party, wholly or almost wholly for the enterprise of the first-mentioned Contracting Party or its associated enterprise. Other specified types of PEs under the CDTA A building site or construction, assembly or installation project or supervisory activities in connection therewith, of a Hong Kong resident enterprise in India will only constitute a PE in India if such site, project or activities last more than six months (this is shorter than the twelve months period provided under the OECD Model Treaty). The furnishing of services, including consultancy services, by a Hong Kong resident enterprise through employees or other personnel engaged for such purpose in India will only constitute a PE in India if the services continue (for the same or a connected project) for a period or periods exceeding in the aggregate 183 days within any twelve month period. A Hong Kong resident enterprise will not be liable to tax in India if it simply maintains a buying office in India which only makes purchases for the Hong Kong resident enterprise. Hong Kong resident airliners will not be subject to tax in India in respect of profits derived from international traffic. However, income of a Hong Kong resident airliner so exempt from taxation in India under the CDTA will be charged to tax in Hong Kong under the relevant provisions of the Hong Kong tax code. Profits from the operation of ships in international traffic earned by Hong Kong resident ship owners arising in India, will be subject to tax in India. However, such profits will enjoy a 50% reduction in tax in India. All the above treatments will apply in a reciprocal manner to Indian residents deriving active business profits in Hong Kong. 1. The MLI seeks to ensure swift, coordinated and consistent implementation of treaty-related BEPS measures in a multilateral context for all existing CDTAs. In June 2017, China became a signatory to the MLI and Hong Kong was covered by way of territorial extension. Hong Kong adopted a minimalist approach by implementing the minimum standards of the MLI only, and opting out of the remaining articles so as to minimize the unintended impact on taxpayers. 2
Exemption or reduction of tax on dividends, interest, royalties and capital gains on disposal of shares The below table summarizes the applicable withholding rates for the captioned income flows received from India by a Hong Kong resident as beneficial owner. Passive income Dividends Interest Royalties Technical Capital gains on Tax rate services disposal of shares Normal withholding rate 0% 1 5/20% 3 10% 10% 5 10-40% 6 Reduced rate under the CDTA 0% 2 0/5/10% 4 10% 10% 5 10-40% 6 Notes 1. Under the domestic tax law of India, most dividend income from Indian companies that is subject to dividend distribution tax is exempt from income tax in the hands of the recipient. 2. If India levies a withholding tax on dividends in future, the tax so charged shall not exceed 5%. 3. India levies withholding rate of 5% on certain specified borrowings/bonds/securities under its domestic tax law. 4. A 0% rate applies if the beneficial owner of the interest is the Hong Kong government, a political subdivision or a local authority of Hong Kong, the Hong Kong Monetary Authority and the Exchange Fund, or any institution as may be agreed from time to time between the competent authorities of the contracting parties. Except for those specified borrowings which India s domestic tax law only levies a 5% withholding tax as explained in note 3 above, for all other cases, a 10% rate applies. 5. The term fees for technical services means payments of any kind as consideration for managerial, technical or consultancy services, including the provision of such services by technical or other personnel, but does not include payments (i) for professional or independent services performed through a PE or fixed base in India; or (ii) in respect of employment income exercised in India. 6. Depending on the types of assets disposed, short term gains are subject to a withholding tax rate of 15% - 40%, whereas long term gains are subject to a withholding tax rate of 10% - 20%. There are however specific anti-avoidance provisions contained in each of the Articles governing the taxation of the above types of income. These provisions specify that if the main or one of the main purposes of the relevant arrangement is to take advantage of the tax benefits of the relevant Articles, then such tax benefits otherwise available will be denied. One point of note is that the CDTA does not offer Hong Kong resident investors any tax exemption in India in respect of capital gains derived from the sale of shares in an Indian company. This would be the case even though a Hong Kong investor may only hold shares in an Indian company as a portfolio investment (e.g., a shareholding of less than 25% of the investee company). In contrast, capital gains exemptions in the source jurisdiction for the disposal of such portfolio investments are generally granted under the terms of many CDTAs. That said, recently India has apparently taken a view that it should reserve a wider scope of taxing rights under CDTAs in order to tax capital gains derived in India by non-resident investors from share investments in India. Such a change in approach by India is in line with India s recent efforts to amend the terms of its CDTAs with Singapore, Mauritius and Cyprus. Under the amended terms of the India-Singapore CDTA, India-Mauritius CDTA and India-Cyprus CDTA, the previous exemption for capital gains derived from the disposal of share investments in India has, subject to certain grandfathering and transitional rules, been withdrawn. Avoidance of double taxation Where the income of a Hong Kong resident is subject to tax in both Hong Kong and India, the Hong Kong resident can credit the tax paid in India on the relevant income against the Hong Kong tax liability arising on the same income. The available tax credit is, however, limited to the Hong Kong tax charged on the same income. Prevention of treaty abuse The CDTA prescribes that the terms of the CDTA shall not override the anti-avoidance provisions contained in the domestic tax legislation of the two Contracting Parties. In addition, the granting of the tax benefits under the CDTA would be denied if the main purpose, or one of the main purposes, of any persons concerned is to achieve non-taxation or reduced taxation through tax evasion or avoidance. This preclusion of benefits extends to situations involving treaty-shopping arrangements aimed at obtaining reliefs provided in the CDTA for the indirect benefit of residents of a third jurisdiction. The latter provision is in line with Hong Kong opting for only the Principal Purpose Test in the MLI, under the BEPS package for the purposes of addressing treaty abuse. Exchange of Information (EoI) In addition to the direct taxes covered by the CDTA, Article 5(d) of the Protocol to the CDTA provides that the EoI provisions shall also apply to the following taxes administered and enforced in India: i. the wealth tax ii. iii. iv. the excise and customs duties the goods and services tax; and the sales and value added taxes. Hong Kong Tax Alert 3
Effective date of the CDTA The CDTA will only come into force in the tax year following the calendar year in which the relevant ratification procedures are completed. Assuming that the ratification procedures can be completed in 2018, the CDTA shall then have effect as follows: a) in Hong Kong: for any year of assessment beginning on or after 1 April 2019; b) in India: for any fiscal year beginning on or after 1 April 2019. Commentary India was Hong Kong's seventh largest trading partner in 2017 with a total value of bilateral trade of HK$266 billion. The conclusion of the CDTA with India is expected to further bolster trade and investment between Hong Kong and India. The CDTA offers many benefits that are not available under other CDTAs of India. For example, the 10% withholding tax on interest under the CDTA is amongst the lowest rates offered by India to its CDTA partners (by comparison, the withholding offered under India- Singapore CDTA is generally of a higher rate at 15%). Clients who wish to explore how they can benefit from this CDTA, or Hong Kong s ever expanding CDTA network as shown in Appendix I, can contact their tax executives. Hong Kong Tax Alert 4
Appendix I Latest status of the Hong Kong s CDTA network 37 CDTAs signed and ratified Country / jurisdiction Effective in Hong Kong from the year of assessment Effective in the other contracting party from the year of assessment 1. Austria 2012/13 1 January 2012 2. Belarus 2018/19 1 January 2018 3. Belgium 2004/05 1 January 2004 4. Brunei 2011/12 1 January 2011 5. Canada 2014/15 1 January 2014 6. Czech Republic 2013/14 1 January 2013 7. France 2012/13 1 January 2012 8. Guernsey 2014/15 1 January 2014 9. Hungary 2012/13 1 January 2012 10. Indonesia 2013/14 1 January 2013 11. Ireland 2012/13 1 January 2012 12. Italy 2016/17 1 January 2016 13. Japan 2012/13 1 January 2012 14. Jersey 2014/15 1 January 2014 15. Korea 2017/18 1 January 2017 16. Kuwait 2014/15 1 January 2014 17. Latvia 2018/19 1 January 2018 18. Liechtenstein 2012/13 1 January 2012 19. Luxembourg 2008/09 1 January 2008 20. Mainland China 2007/08 1 January 2007 21. Malaysia 2013/14 1 January 2013 22. Malta 2013/14 1 January 2013 23. Mexico 2014/15 1 January 2014 24. Netherlands 2012/13 1 January 2012 25. New Zealand 2012/13 1 April 2012 26. Pakistan 2018/19 1 July 2018 27. Portugal 2013/14 1 January 2013 28. Qatar 2014/15 1 January 2014 29. Romania 2017/18 1 January 2017 30. Russian Federation 2017/18 1 January 2017 31. South Africa 2016/17 1 January 2016 32. Spain 2013/14 1 April 2013 33. Switzerland 2013/14 1 January 2013 34. Thailand 2006/07 1 January 2006 35. United Kingdom 2011/12 1 or 6 April 2011 36. United Arab Emirates 2016/17 1 January 2016 37. Vietnam 2010/11 1 January 2010 2 CDTAs signed but pending ratification India and Saudi Arabia 12 CDTAs under negotiation Bahrain, Bangladesh, Cambodia, Cyprus, Finland, Germany, Israel, Macau SAR, Macedonia, Mauritius, Nigeria and Turkey
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