Topic 6 Depreciation Allowance

1. Distinction between “Plant and Machinery” and “Building and Structure”

Initial allowance Annual allowance
Plant and machinery (movable) 60% on the cost of capital expenditure 10%, 20% or 30% on reducing balance
Building and structure Industrial Building Allowance IBA 20% on cost of construction 4% on cost of construction (same for all the year)
(not movable) Commercial Building Allowance CBA No initial allowance 4% on cost of construction (same for all the year)
DIPN 7 provides some guidance on the distinction between plant and building as follows:
Items which qualify as plant and machinery include: Items which do not qualify as plant and machinery include:
design and process plans / display platforms / first registration tax on new motor acoustic tile ceilings as part of building / ceiling lighting points / cocklofts / fish
vehicles / independent iron gates / movable office partitioning / poster-boards for pounds / formica wall panelling / telephone cable and wiring / wiring and electrical
advertisement / sign-boards / computer software fixtures and fittings
2. Replacement basic for implement, utensil or article – If it is the replacement of the whole fixed asset or machine, the cost of
replacement is not deductible under profits tax. But, depreciation allowance is granted on the cost of the replaced asset.
Section 16(1)(f) provides that implement, utensil or article are deductible from the assessable profits on replacement basis.
Under replacement basic: Details of those items under replacement basis are of IRR2:
the cost of the initial purchase of such assets is not deductible nor granted with any Belting / Crockery and cutlery / Kitchen utensils / Linen / Loose tools / Soft
depreciation allowance furnishings (including curtains and carpets) / Surgical and dental instruments /
Tubes for X-rays and infra-red machines
the cost of the subsequent purchase which are intended to replace the old items is
fully deductible from the assessable profits of the business
3. Qualifying Expenditure on Plant and Machinery
Section 40(1) the “cost of the asset” includes: but excludes expenditure: not granted with depreciation allowance but the
cost of the asset is directly deductible:
the net cost of acquisition of asset being the price for the item, plus which is reimbursed by way of or is assets acquired for the purpose of research and
any charges, relating to freight, insurance, deliver, import duties, etc., attributable to any grant, subsidy or similar development under section 16B
and less any discount rebates subsidies, etc financial assistance
interest paid and commitment fees incurred in respect of a loan made any allowed expenditure under profits tax prescribed fixed assets acquired under section 16G
for the sole purpose of financing the provision of plant and machinery
capital expenditure on alterations to an existing building incidental to environmental protection under sections 16H to
the installation of that plant or machinery 16K
4. Pooling System and Depreciation Allowance Schedule
Pooling system Initial allowance – 60% Annual allowance
Assets are divided into three - Initial allowance is granted whenever - Annual allowance is granted to a person who has an interest in plant and machinery (usually in
categories of different rates a person capital expenditure on plant the form of ownership in the capital expenditure)
of annual allowances, and machinery. - No annual allowance is granted if the machine has not yet been in use after acquisition.
namely 10%, 20% and 30%. - It does not matter whether the plant - Once the machine is in use, annual allowance is granted.
For ease of calculation, and machinery is in use or not in use - Annual allowance is granted even though the plant and machinery has been sold by that
assets of the same rate of during the basic period of the year of person.
annual allowance are assessment concerned. - Annual allowance is granted at 10%, 20% or 30% on the reduce balance of the pool or that
grouped together into a pool - Initial allowance is granted at the rate particular asset concerned in the case of non-pool items. There are 35 categories of plant and
for the ease of computation. of 60% on the cost of capital machinery contained in the IRR2 which states the annual allowance rate applicable to each
expenditure category,
The rates of annual allowance applicable to different types of plant and machinery are provided in the IRR2 as follows:
10% 1. Air-conditioning plant excluding room air-conditioning units / 2. Bank safe deposit boxes, doors and grills / 3. Broadcasting transmitters / 4. Cables (electric) /
5. Kano standards (street)-gas or electric / 6. Lifts and escalators (electric) / 7.Mains (gas or water) / 8.Oil tanks / 9. Shipping – Ships junks and sampans /
Lighters / Tugs / 10. Sprinklers
20% 11. Domestic appliances / 12. Furniture (excluding oft furnishings) / 13. Room air-conditioning units / 14. Shipping – Launches and ferry vessels / Hydrofoils /
15. Taxi meters / 16. Type and blocks (if not dealt with an renewals basic)
30% 17. Aircraft (including engines) / 18. Bar syphon apparatus / 19. Bicycles / 20. Bleaching and finishing machinery and plant / 21. Concrete pipe moulds / 22.
Electric cookers and kettles / 23. Electronic data processing equipment / 24. Electronics manufacturing machinery and plant / 25. Motor vehicles / 26. Plastic
manufacturing machinery and plant including moulds / 27. Shipping – Outboard motors / 28. Silk manufacturing machinery and plant / 29. Sulphuric and nitric
acid plant / 30. Tank lorries / 31. Textile and clothing manufacturing machinery and plant / 32. Tractors-bull dozers and graders / 33. Weaving, spinning, knitting
and sewing machinery
10% 34. Machinery or plant, not specified in items 1 to 33, and used for the purpose of a transport, tunnel, dock, water, gas or electricity undertaking r a public
telephone or public telegraphic service
20% Any other machine or plant, not specified in items 1 to 34
5. Format of depreciation allowance schedule
10% 20% 30% Allowance
Written down value b/f X X X
Addition X X X
Less: Initial allowance X X X X X X IA
X X X
Less: Disposal X X X
X X X
Less: Annual allowance X X X AA
Written down value c/f X X X
 Total depreciation allowance DA

Cash purchase Initial allowance is granted to the consideration paid for the acquisition of the machinery or plant.
Hire purchase Initial allowance is granted to the down payment and installments paid during the basic period of the year of assessment. Therefore initial
allowance may be granted in more than one year until the price of the plant or machinery has been fully paid.
Transfer from private - Sometimes a sole proprietor or a partner transfers his private asset for the firm's business use without receiving any sale proceeds back. As
use without the business does no incur any cost for the acquisition of the machine, no initial allowance is granted. Instead annual notional allowance is
consideration deducted from the cost of the plant or machinery for each year of assessment in which the plan and machinery was in private use before
transferring to the enterprise for business use.
- The rate of notional allowance is same as the rate of annual allowance applicable that machine.
- The notional allowance is also calculated on a reduce balance.
6. Disposal of plant and machinery
Type of disposal A company may disposal its plant and machinery in the following ways:
- sale (proceeds below / above cost)
- scrap (without any receipt of consideration)
- transfer out (no proceeds received)
- succession by another (no sale proceeds)
Balancing adjustment Balancing adjustment may arise where there is a disposal of plant and machinery. It is either a balancing charge or a balancing allowance.
Balancing charge Balancing charge arises when the amount deducted from the pool is higher than the written down value of the pool of assets involved. It may
occur during the course of the business or at the cessation of business.
Balancing allowance Balancing allowance arise only at the cessation of business when:
- the assets proceeds is less than the written down value of the pool of assets involved, or
- when the assets are scrapped without any consideration at the cessation of business.
Note: The deduction from the pool is restricted to the lower of cost or sales proceeds.
7. Ascertainment of the Sales Proceeds
Assets sold together When all the assets are sold together without a breakdown of each asset, the CIR may allocate a purchase price to each individual asset under
section 38A.
Controlled Sales Where an asset is sold to / by persons under common control or between a husband and a wife, and the CIR is of the opinion that the sale price
of such asset does not represent the true market value at the time of such sale. The CIR may determine such true market value for of such asset
for the purpose of calculating depreciation allowance, balancing allowance or balancing charge under section 38B.
8. Distinction between and Industrial Building and a Commercial Building under IRO
Definition of an Section 40(1) defines “industrial building and structure” to mean any building or structure or part of any building or structure used for the
industrial building following purposes:
- for the purposes of a trade carried on in mill, factory or other similar premises; or
- for the purposes of a transport, tunnel, dock, water, gas or electricity undertaking or a public telephonic or public telegraphic services; or
- for the purposes of a trade which consists of the manufacture of goods or materials or the subjection of goods or materials to any process; or
- for the purposes of a trade which consists in the storage (i) of goods or materials which are to be used in the manufacture of other goods or
materials; or (ii) of goods or materials which are to be subjected in the course of a trade to any process; or (iii) of goods or materials on their
arrival into HK; or
- for the purposes of the business of farming;
- for the purposes of research and development related to any trade, professional or business
Building or structure not qualified a an industrial building or structure
An industrial building or structure does not include any building or structure or part of any building or structure used as:
- a dwelling house (other than a a dwelling house for the housing of manual workers / retail shop / show room / hotel / office
10% rule
(i) If not more than 10% of the whole of an industrial building or structure is not used as an industrial building or structure, the person who
incurred capital expenditure on that industrial building or structure is entitled to industrial building allowance for the whole industrial building
or structure.
(ii) If more than 10% of the industrial or structure is used for non-industrial purpose, the part not qualifying for industrial building allowance
will be granted with commercial building allowance while the remainder is still granted with industrial building allowance.
Definition of a Section 40(1) defines “commercial building or structure” to mean any building or structure or part of any building or structure used by the
commercial building person entitled to the relevant interest for the purpose of his trade, profession or business other than an industrial building or structure. In
other words, building not qualified for industrial building allowance is a commercial building or structure.
9. Qualifying Capital Expenditure for Industrial Building Allowance
Qualifying capital - cost of construction
expenditure for - foundation fee
industrial building - interest paid and commitment fees incurred in respect of a loan made for the sole purpose of financing the provision of an industrial building
allowance includes: or structure
Qualifying capital - cost of land
expenditure for - cost of levelling the ground
industrial building - cost of demolishing the old building erected at the site
allowance does not - expenditure which is reimbursed by the way of or attributable to any grant, subsidy or similar financial assistance
include the following:
Property purchased Only the actual cost of construction as defined in the above definition. Profits made by the seller is not included as part of the cost of
not from a developer construction.
Special situation when (i) If the building or structure is purchased from a developer, the profit of the developer contributing to the cost of construction is treated as
purchase from a part of capital expenditure incurred by the purchaser in the calculation of industrial building allowance.
developer (ii) If the building or structure is not purchased from a developer, the purchaser is not entitled to the profit made by the developer in the
calculation of industrial building allowance, but only the cost of construction incurred by the seller.
10. Persons Qualified for Industrial Building Allowance
Owner or landlord If an owner (also a landlord) leases an industrial building to a tenant, the landlord is entitled to industrial building allowance on the cost of
construction of the structure of the building.
Tenant The tenant is entitled to industrial building allowance on the cost of decoration of the building itself.
11. Industrial Building Allowance for the First Hand User of the Building
Initial allowance - Initial allowance is 20% on the cost of construction
- It is granted no matter whether the building is in use or not in use.
Annual allowance - Annual allowance of 4% on the cost of construction is granted to the one who has an interest in an industrial building at the end of the
basic period of a year of assessment (i.e. the building is still owned by the claimant at the end of the basic period).
- The 4% annual allowance is computed on a straight line basis, not on a reduced balance basic.
Building or structure - no industrial building allowance is granted
not sued for industrial - commercial building allowance is granted
purpose
12. Disposal of an Industrial Building or Structure
Balancing adjustment Balancing adjustment may arise where there is a disposal of an industrial building or structure. It is either a balancing charge or a balancing
allowance.
Balancing charge Sale proceeds – residual of expenditure (Written down value) = balance charge
Balancing allowance Residual of expenditure – sales proceeds = balance allowance
13. Industrial building allowance for second hand user
Annual allowance only - no initial allowance
- annual allowance only
Residue of expenditure Residue of expenditure after sale = Written down value (residue of expenditure before sale) + Balancing charge or – Balancing allowance
AA = Residue of expenditure after sale x 1 / Number of years from the first year that the purchaser is entitled to IBA to the 25 th year after the
year of the first use of the building
14. General Principles for Commercial Building Allowance
Definition of a Section 40(1) defines “commercial building or structure” to mean any building or structure or part of any building used by the person entitled
commercial building to the relevant interest for the purpose of his trade, profession or business other than an industrial building or structure.
or structure
No initial allowance There is no initial allowance for commercial building allowance, and the only allowance available is annual allowance.
15. Qualifying Capital Expenditure for Commercial Building Allowance
Qualifying capital - cost of construction
expenditure for - foundation fee
commercial building - interest paid and and commitment fees incurred in respect of a loan made for the sole purpose of financing the provision of a commercial
allowance includes: building or structure
Qualifying capital - cost of land
expenditure for - cost of levelling the ground
commercial building - cost of demolishing the old building erected at the site
does not includes: - expenditure which is reimbursed by way of or attributed to any grant, subsidy or similar financial assistance
Unlike industrial building allowance, there is no preferential treatment of including the developer's profit as part of the cost of
construction as that for industrial building allowance. Only the actual cost of construction is used for the computation of commercial
building allowance.
16. Persons Qualified for Commercial Building Allowance
Owner or landlord If an owner (also a landlord) leases an commercial building to a tenant, the landlord is entitled to commercial building allowance on the cost
of construction of the structure of the building.
Tenant The tenant is entitled to commercial building allowance on the cost of decoration of the building itself.
17. Commercial Building Allowance for the First Hand User of the Building
Annual allowance - Annual allowance of 4% on the cost of construction is granted for the first hand user. The annual allowance for a second hand purchase is
different from that of the first hand purchaser.
18. Disposal of an Commercial Building or Structure
Balancing adjustment Balancing adjustment may arise where there is a disposal of an commercial building or structure. It is either a balancing charge or a balancing
allowance.
Balancing charge Sale proceeds – residual of expenditure (Written down value) = balance charge
Balancing allowance Residual of expenditure – sales proceeds = balance allowance
19. Commercial building allowance for second hand user
Annual allowance only - no initial allowance
- annual allowance only
Residue of expenditure Residue of expenditure after sale = Written down value (residue of expenditure before sale) + Balancing charge or – Balancing allowance
AA = Residue of expenditure after sale x 1 / Number of years from the first year that the purchaser is entitled to IBA to the 25 th year after the
year of the first use of the building
Topic 7 Personal Assessment
1. Purpose and advantages of personal assessment
Purpose - to provide tax relief to those who are chargeable with property tax and profits tax
Advantages - Deduction of interest expenses for acquiring property which produces income chargeable with property tax
- Deduction of business loss against other income of individual
- Deduction of charitable donation which cannot be relieved under salaries tax or profits tax
- Deduction of elderly residential care expenses
- Deduction of interest expenses for home loan
- Deduction from the total assessable income by personal allowances that are not available under property tax and profits tax
- Availability of lower progressive tax rate which are not available under property tax and profits tax
2. People Eligible for election for personal assessment
General principle Any individual may elect for personal assessment if he or she is:
- Age: (i) of age 18 or above or (ii) under that age if both his or her parents are dead; and
- Resident status: (i) a permanent or (ii) a temporary resident in HK; or (iii) if he or she is married, whose spouse is either a permanent or
temporary resident.
Permanent and (i) Permanent resident means: an individual who ordinarily resides in HK
temporary resident (ii) Temporary resident means: an individual who stays in HK for more than 180 days during the year of assessment in respect of which the
election is made; or more than 300 days in 2 consecutive year of assessment, one of which is the year of assessment in respect of which he
elects of personal assessment.
3. Procedure for election for personal assessment
Time limit A person must apply for election for personal assessment in writing and the application must be received by the IRDL
- within 2 years after the end of the year of assessment in which the election is made; or
- within 1 month after any assessment on income forming part of the total income has become final and conclusive, whichever is later.
Joint election of (i) Both spouses having income in HK
husband and wife - If both spouses having income chargeable with HK salaries tax, property tax or profit tax, both spouses have to: elect for personal
assessment and sign the tax return jointly.
- Their income will be aggregated together to arrive at the joint personal assessment tax payable.
- Each spouse will receive a demand note of his or her share of personal assessment tax, and is liable to pay his or her own share of personal
assessment tax only.
(ii) One spouse living outside HK
- If one spouse lives outside HK, the spouse living outside HK may relay on the resident status the other spouse to elect for personal
assessment.
- If the spouse living in HK is either a permanent resident or a temporary resident in HK, the spouse living outside HK is treated as having the
same resident status as that of the spouse living in HK.
4. Computation of chargeable income
All types of his or her i) Property – the net assessable value of each property owned;
income are aggregated ii) Employment – the “net assessable income” as ascertained in section 12, i.e. assessable income less deduction for expenses, depreciation
together allowances, self education expenses and losses but not donations; and
iii) Business profits – the assessable profit of each business operated.
The following items i) Interest paid or payable by the taxpayer on money borrowed for producing chargeable property income; but the deduction is limited to the
are deducted: net assessable value of that property, and any excess of interest paid or payable by one spouse cannot be used to set off the property income of
the other spouse nor carried forward to next year;
ii) Charitable deductions – the amount allowable is restricted to 25% of the sum of the total income, and the donation already allowed in the
profits tax is not deductible again in personal assessment. In addition, the aggregate of donations must be not less than $100. Any unallowed
donations of one spouse may be utilized by the other spouse;
iii) the loss for current year – the loss sustained in the taxpayer's business including sole-proprietorship or partnership can be used to reduce
the income after deducting interest expenses and incurred for rental income properties; and
(iv) Loss – if an individual gets a loss under personal assessment (after deducting the current year's business loss against the other income
under personal assessment), that loss will be set-off against the spouse's total income for that year, and only the excess remaining would be
carried forward to set-off against his or her own total income in future years.
(v) Concessionary deductions – Charitable donations / Elderly residential care expenses / Home loan interest / Recognized provident fund
contribution
5. Computation and payment of personal assessment tax
Steps in the (i) Calculation of income – The total income of the taxpayer (after deduction) is aggregated with that of the spouse (also after deduction) to
computation of form a joint total income.
personal assessment (ii) Calculation of personal assessment tax – Tax is charged on the joint total income less personal allowances at progressive rates. However,
tax the tax charged must not exceed the amount of tax charged at the standard rate on the joint total income.
Payment of the share (i) Tax payable – The amount of the tax payable by each spouse is in the proportion of his or her total income less deduction over the joint
of tax belonging to total income less deduction.
each spouse (ii) Tax refundable – The tax already paid by each spouse under salaries tax, property tax or profits tax is set off against the tax payable by that
spouse only; any excess is refunded to the spouse who has paid the tax.
6. Format of personal assessment tax computation
Net assessable value (NAV) A
Net assessable income before concessionary deductions) B
Net assessable profit C
D
Less: Interest expenses (not exceeding to the NAV of A above) E
F
Less: Business loss G
H
Less: Charitable donation # J
Home loan interest K
Elderly residential care expenses L
Contribution to approved retirement scheme M N
Net Personal Assessment Income P
Less: Personal assessment loss brought forward from previous year Q
R
Less: Personal allowance S
Net chargeable Income Personal Assessment T
# Maximum amount of charitable donations deductible under personal assessment is calculated as follows:
J = or < [25% (F + Donation already allowed under profits tax + self-education expenses allowed under salaries tax)] –
Donation already allowed under profits tax
8. When election of personal assessment becomes not advantageous
When personal Personal assessment a kind of relief from payment of tax provided for HK residents for allowing them to get personal allowance. However, in
assessment leading to a some situations, personal assessment may not be beneficial to high-income earners. This situation usually appears in high-income earners.
larger amount of tax
payable
Withdrawal of The tax payer may withdraw the election for personal assessment in writing if he finds that his personal assessment tax payable is more than
personal assessment the aggregate of taxes payable under profits tax, salaries tax and property tax.
9. Objection to personal assessment tax demand note
No objection to the - Personal assessment is not a type of income tax chargeable in HK.
chargeable income - It is a kind of relief from payment of tax for HK residents by including all the income of a taxpayer under one assessment and deducting
already final and from the aggregate income personal allowance, business loss and concessionary deductions.
conclusive - The issue of a personal assessment does not reopen an assessment on property tax, salaries tax or profits tax which has been final and
conclusive under section 70.
- A taxpayer generally cannot object against the net assessable value, the net assessable income or the assessable profits in a personal
assessment tax demand note.
Grounds of objection - interest expense incurred for the purchase of a property chargeable to property tax
under personal - the taxpayer's proper share of income derived from a partnership
assessment - business loss
- concessionary deduction
- personal allowances
Objection procedure - made in writing
for personal - addressed to the CIR
assessment - received by the CIR within 1 month after the date of the personal assessment demand note
- with specific grounds of objection stated in the notice of objection
Topic 8 Back Duty, Investigation, Penalty and Business Ethics
1. Back duty Tax planning, tax avoidance and tax evasion
Back duty Back duty usually refers to the tax that is undercharged as a result of understatement or omission of income in a tax return.
The understatement or omission may be intentional or unintentional.
Back duty is a general term which means the tax which the tax department is able to trace and obtain back from a person who
has understated taxable income in a tax return, This may involve an understatement of chargeable income without reasonable
excuse or wilful intent to evade tax.
Tax evasion Tax evasion is an illegal way to reduce the taxable profits of a person. This usually involves false records or concealment or
misrepresentation of a person's tax affairs.
2. IRD's powers to get information for investigating a person's tax affairs
s.51(3) asking the taxpayer personally to provide information to support the information reported in his or her tax return
s.51(4)(a) asking a person to provide information in respect of another person
s.51(4)(b) requiring a person to attend an interview conducted by an assistant commissioner to answer questions
s.51A demanding a person to provide a statement of assets and liabilities under the consent of the Board of Review
s.51B applying to a magistrate for the issue of a search warrant
3. Wilful intent to evade tax
The elements of an - A taxpayer intentionally provides the IRD with false details of income and expenses resulting an under-assessment of chargeable income.
offence under section - It usually involves an omission or understatement of a specific source of income which can be proved by direct evidence.
82 include: - The amount of income understated can be quantified with accuracy, e.g. omission of sales invoices, false claims of purchases or expenses,
understatement of closing stock, etc.
- This is a criminal offence with imprisonment penalty.
Common tax-evading - complete omission of chargeable income in accounts and tax returns submitted to the IRD
techniques include: - understatement of chargeable income such as sale and trading receipts
- false claim of cost of purchase or expenses which were not incurred
- false claim of personal allowance
- preparation of false accounting records
4. Understatement of assessable income without reasonable excuse under sections 80(2) ad 82A
The elements of such - The CIR is not able to quantify the amount of income omitted or understated with direct evidence.
offence include: - A common feature is that a taxpayer's income reported in tax returns is much less than the increase in the value of the assets which he
accumulates over a period.
- This is not a criminal offence with imprisonment penalty.

Common methods used to quantify understatement of chargeable income include:

a. Asset betterment (i) Operations of asset betterment statement
statement - An asset betterment statement is a statement which discloses the increase of person's net personal and business asset (i.e. after deducting the
liabilities from the assets) over a period.
- The increase of the net assets in that period is compared with the total amount of income reported by that person in the tax returns for the
same period.
- If there is a large discrepancy between those 2 figures, the IRD will investigate into the taxpayer's personal affairs to see whether the
discrepancy represents taxable income not reported in the relevant years of assessment.
- If the taxpayer cannot explain the discrepancy, the discrepancy will be deemed the amount of income understated in the taxpayer's tax return.
(ii) Application of asset betterment statement – Asset betterment statement is used by IRD to carry out an in-depth investigate into the tax
affairs of a taxpayer:
- when no records or inadequate records are kept or
- when records are lost or withheld by a taxpayer.
(iii) Steps for the preparation of an asset betterment statement
- find out the net assets of the taxpayer at the beginning of the investigation period
- find out the net assets of the taxpayer both at the close of the investigation period
- find out the increase in the net assets during the investigation period by deducting the amount of the net assets at the beginning of the
investigation from the amount of the net assets at the close of the investigation period
- add to the increase in the net assets with: outward remittances / unidentified withdrawals / tax disallowable expenses such as private or
domestic expenses, and expenses not deductible under sections 16 and 17 of IRO
- deduct from the increase in net assets with: gain on sale of private assets / income which are exempt form tax such as dividend and interest
- calculate the betterment income or profits
- compare the betterment income of profits with the income or profits already reported to IRD and find out whether there is any discrepancy
between these 2 figures
- ask the taxpayer for any items included not due to a taxable income
- allocate the unexplained discrepancy to the various year of assessment in the investigation period
(iv) Format of asset betterment statement
b. Bank deposit (i) General principles
method - This is a method used to verify the gross receipts and under-reported turnover or profits of a business.
- Deposits put in a person's bank accounts are assumed to be surplus funds received from cash sales and customers.
- The total business receipts equal to the aggregate of deposits and money withdrawn from cash business receipts for the person's private uses.
(ii) Format adopting the bank deposit method
c. Percentage - This method is used when there are no other records but only the gross receipts may be ascertained.
computation method - It is employed to determined the gross profit or the net profit.
- The % used for the determination of the profits may be derived from:
(i) the ratio or % available from the taxpayer's records in other periods
(ii) the type of industry / trade involved.
d. Projection method - The sale or income figure of a certain short period may be used to project the profits of the whole accounting period earned by the business.
- For example, the number of patients visited a doctor in 1 week is used as a base for projection of his income in a year (by multiplying the
daily number of patients with 52) to arrive at the estimated gross receipts or fees received by the doctor.
5. Meaning of “without reasonable excuse”
Definition - D13/85 “Reasonable excuse is what one would expect a reasonable person to do in all of the circumstances. A reasonable person is not a perfect
person, but an average person using the reasonable skill and care in handling this tax affairs which one would expect to see from such an
average person
Example Examples of reasonable excuse accepted by BOR and court include:
- reliance on professional advice
- genuine mistake
- slip of mind
Example not accepted as reasonable excuse by BOR and court include:
- incompetent staff
- ignorance of law
6. Offence and penalty
Failure of compliance (i) There are 3 categories of offences as follows:
(without reasonable - failure to comply with the requirements of a notice given to him or her under sections 51(3), 51(A), 52(1), 52(2) or 64(2);
excuse) under section - failure to attend or fails to answer question questions under sections 64(2) or 68(6); and
80(1) - failure to comply with the requirements of section 5(2)(c), 51(6), 51(7), 51(8), 51D(1), 52(4), 52(5), 52(6), 52(7) or 76(3)
(ii) Penalty for the failure to comply with those offences is a fine at level 3 ($10,000)
Offences committed (i) There are 5 offences as follows:
(without reasonable - making an incorrect return by omitting or understating anything
excuse) under section - making an incorrect statement in claiming deduction or allowance
80(2) - giving any incorrect information affecting the tax liability of oneself or another person
- failure to comply with the requirement under section 51(1) or 51(2A)
- failure to comply with section 51(2)
(ii) Penalty for offences committed under section 80(2)
- a fine at level 3; and
- a further fine of treble the tax so undercharged as a result of the offence.
Offences committed (i) There are 5 offences and they are same as those offices under section 80(2) as follows:
(without reasonable - making an incorrect return by omitting or understating anything
excuse) under section - making an incorrect statement in claiming deduction or allowance
82A - giving any incorrect information affecting the tax liability of oneself or another person
- failure to comply with the requirement under sections 51(1) or 51(2A)
- failure to comply with section 51(2)
(ii) Penalty for offences committed under section 82A
- Penalty is not in the form of a level of fine, but in the form of additional tax which is an internal administrative penalty.
- Unlike the other penalty sections, the penalty is not imposed by the court, but by the CIR or a Deputy Commissioner of Inland Revenue
(DCIR).
(iii) Procedures for the issues of an additional tax assessment – Before an assessment of additional tax is issued, CIR or DCIR must
personally send a notice to the taxpayer informing the taxpayer involved about the issue of the additional assessment, The notice is issued
under section 82A(4), and it is often referred as section 82A(4) notice. The notice must:
- specify the offence in respect of which the additional tax is to be assessed;
- inform the person of his right to submit written representations or mitigation factors; and
- specify a date (at least 21 days) by which the representations must be received.
(iv) Appeal procedures for additional tax assessment under section 82B – If a person feels aggrieved by an additional tax assessment, he
may lodge an appeal to the Clerk of BOR in the following manner:
- give notice of appeal to the BOR in writing within 1 month after the date of the issue of the additional tax assessment;
- submit the following documents for the purpose of appeal: a copy of the notice of additional tax assessment / a statement of the grounds of
appeal against the additional tax assessment / a copy of the notice of intention to assess additional tax issued under section 82A(4) / a copy of
any written representation to the aforesaid section 82A(4) notice
Comparison between (i) Additional assessment
additional assessment - Additional assessment is an assessment on income or understated income under section 60(1)
under section 60(1) - The IRD raises additional assessment to get back the tax that has not been collected
and additional tax - The authority of issue of an additional assessment is delegated to the assessor
assessment under - Objection to an additional assessment is addressed to the CIR
section 82A - Objection to an additional assessment is governed by section 64
(ii) Additional tax assessment
- Additional tax assessment is an assessment on penalty for understatement of income in a tax return under section 82A
- The IRD raise additional tax assessment to impose penalty for understatement of income in a tax return
- The authority of issue of an additional tax assessment is handled personally by CIR or DCIR
- Appeal to an additional tax assessment is addressed to the Clerk of BOR
- Appeal to additional tax assessment is governed by section 82B
Offences committed (i) There are 7 offences falling under section 82:
(with wilful intent to - omitting income from a tax return
evade tax) under - making a false statement or entry in a tax return
section 82 - making a false claim of deduction or allowance
- signing a statement or tax return without reasonable grounds for believing that it is true
- giving a false answer to IRD officers
- preparing or maintaing the preparation of false books, accounts or records; or
- making use of fraud, art or contrivances.
(ii) Penalty for offences committed under section 82 – There are 2 types of penalty:
- on summary conviction: a fine at level 3 / a further fine of treble of tax so undercharged / an imprisonment of 6 months
-indictment: a fine at level 5 / a further fine of treble of tax so undercharged / an imprisonment of 3 years
Offences committed - If a person fails to comply with section 51C for keeping proper business records for 7 years, he may commit an offence, and be punishable
(without reasonable with a penalty of a fine of level 6.
excuse) under section - Business records and documentary evidence in English or Chinese language with which the profits or loss of a business may be ascertained.
80(1A)
Level of Fine The different levels of fine as stipulated in Schedule 8 to Criminal Procedure Ordinance are as follows:
1 - $2,000 / 2 - $5,000 / 3 - $10,000 / 4 - $25,000 / 5 - $50,000 / 6 - $100,000
7. Business ethics
General Principle Professionals such as accountant and auditor often come across some tax evasion activities that may e carried out by their client. Accountants
and auditors should not involve in any process or activities of evasion of tax such as giving advice or assisting clients to cover up those
activities
Discovering tax (i) When an accountant or auditor discovers that the client carries out some tax evasion activities, he has the obligation and duty:
evasion in clients' - to advise the client where the tax evasion appears
work - to advise the client of the consequences of tax evasion
- to advise the client for a voluntary disclosure to IRD
- to stop representing the client if the client refuses to stop the tax evasion activities or continues those activities
- to put down as a written record for the conversation with the client on above matters
(ii) As the accountant or auditor both owes the client a duty of trust and confidentiality, he hasno obligationto inform the client's tax
evasion activities to IRD.
Topic 9 Tax Planning and Anit-Avoidance
1. Tax planning and tax evasion
Tax planning Tax planning is a legal way of reducing a person's tax liability. It is sometimes expressly allowed by the IRO and the common tax planning
include:
- refund of rent under salaries tax
- performing all services outside HK
- diverting income sourced outside HK
- making the income a capital gain
Tax evasion Tax evasion is an illegal way to reduce the taxable profits of a person. This usually involves:
- false records
- concealment
- misrepresentation of a person's tax affair
This is a criminal offence with heavy punishment.
2. Techniques for profits tax planning
General principle The directions are:
- avoiding the income being chargeable with tax
- increasing the amount of deductible expenses
The commonly profits tax planning techniques include:
- to illustrate that the profit is a capital gain
- to arrange the operations of the business in such a way that the profits may be sourced outside HK
- to increase deductible fore the year end
Capital gain (i) Badges of trade
(ii) Presentation in the balance sheet
Directing profit having (i) Trading profit
a source outside HK - Contracted effected test
- If a company is able to arrange to the contract of purchase and the contract for sale both effected outside HK, the trading profit will not
sourced in HK, and the profit will be exempt from profits tax.
(ii) Manufacturing profit
- Operation test
- If a HK company is able to arrange with an entity in the Mainland of China to form a co-operative joint venture to carryout manufacturing
process for production of goods in the Mainland, only half of the profits of the sales of such manufactured goods is subject to HK profits tax.
- The essence of this arrangement is that the HK company provides raw materials, plant and machinery and supervisory staff to the Mainland
manufacturing facilities while the Mainland entity provide Land, factory and labour for the manufacturing process.
(iii) Service income
- Operation test
- Place of effecting or signing the contract is generally not important,
- This is easy to achieve if the client situates outside HK, and the HK company provides services to the client in the client's home country.
- IRD may look for an apportionment of taxable profit if some services are required to carry out in HK in order to complete the job.
(iv) Interest income
- Provision of credit tax
- The source of interest income is generally determined by the “provision of credit” test, i.e. where the money is first made available to the
borrower. There are 3 different types of interest income:
(1) Interest received on deposit placed with an overseas bank – exempt form profits tax
(2) Interest received on deposit placed with a bank in HK, but the deposit is not used to pledge for a loan – exempt from payment of
profits tax under the Exemption From Profits Tax (Interest Income) Order 1998
(3) Interest received on a loan with the fund made available to the borrower outside HK – exempt form profits tax
Increasing deductible - Review of the provision for doubtful debts
expenses before the - Review of the provision of obsolete inventory
year end - Purchase of plant and machinery before the year end
3. Elements of international tax planning
General principle International tax planning is only available for multinational companies. This usually involves cross-border transactions. The general
principles involved are as follows:
- diverting income form a high-tax jurisdiction t a low tax jurisdiction
- deriving income from a low-jurisdiction or a tax haven
- making use of tax treaty to reduce the tax payable in an overseas jurisdiction
Overseas taxation (i) not having a permanent establishment in foreign countries – Many countries adopt the principle of the existence of a permanent
establishment in charging tax on a foreign entity. In order not to fall into the tax net of a foreign jurisdiction, a company must be careful
whether its activities in a foreign country would amount to the existence of a permanent establishment in that country.
(ii) treaty shopping – A company may make use of the advantage of a tax treaty to get exemption from tax or get a reduced rate of tax in a
foreign country.
(iii) transfer pricing – A company may adopt the technique of transfer pricing by transferring income from a high tax rate country to a low
tax rate country by making use of payment of management fee, interest or royalty.
Infringement A multinational corporation may implement the payment of infringement commission to a HK subsidiary to reduce the income tax liability of
commission other group companies located outside HK so as to arrive to an overall worldwide reduction in tax liability
License of intellectual - A multi-national company may licence the use of certain intellectual property such as trademark or patent to its HK subsidiary company.
property used in HK - In this way, the overseas recipient company may be taxed at the tax rate of 4.95 (i.e. 30% x 16.5%) on the royalty so received while the HK
payer company may get the reduction of the whole payment of royalty. The group gets a tax saving of 70% x 16.5% (i.e. 11.25%) on the
payment of royalty.
- If the HK company pays a royalty of $1,000,000, the group gets a tax saving of $112,500.
4. Anti-avoidance provisions
General principles There are 2 types of tax anti-avoidance rules provided in the IRO:
- specific anti-avoidance rules: Specific provisions aim at tackling certain transactions which involves a tax avoidance to reduce tax liability
- general anti-avoidance rules: General anti-avoidance provision aims those situations not covered by the specific rules
General anti-avoidance overriding specific anti-avoidance – It was ruled in Yick Fung Estates Limited v CIR (1999) that general anti-
avoidance provision takes precedent over the specific anti-avoidance rules.
Payment of royalty to - Generally, 30% of the royalty is treated as assessable profits for the royalty received by a non-resident from a HK company.
a non-resident - Section 21A provides that the royalty income will be assessed at 100% as its assessable when:
 associate by a HK (i) the royalty is paid to an associate, and
company – section 21A (ii) the intellectual property was once owned by a HK business
Assignment of right to - When a company sells or assigns a right to receive a lump sum income to another company which incurs a tax loss, the income so received
receive income – from is exempt from profits tax under the general tax law as the receipt is of capital nature.
section 15A - However, section 15(1)(m) and 15A overrides the general tax law and makes the consideration received chargeable to profits tax although it
is of a capital nature.
Deduction of interest - Interest paid to non-financial institution – section 16(2)(c)
- Interest paid to financial institution – section 16(2)(d)
- Interest paid to a non-associated person or company for the purchase of machinery or trading stock – section 16(2)(e)
- Interest paid to listed debentures or marketable instruments – section 16(2)(f)
- Interest paid on a loan which is not secured by a deposit in the name of an individual or an overseas company or an overseas financial
institution – section 16(2A)
- Interest paid on a loan which does not involve any interest flowing back to the borrower or an associate of the borrower – section 16(2B)
- Interest paid on listed debentures or marketable instruments which do not involve any interest flowing back to the borrower or an associate
of the borrower – section 16(2C)
Change of accounting Section 18E permits the CIR to adjust the assessable profit in the year of assessment preceding the year of assessment in which there is
date – section 18E a change of accounting date to avoid a large drop-out profit.
Transfer pricing Section 20 enables the CIR to attack arrangements made between a resident person and a closely connected non-resident person who
transaction involving carries on business in such a way that it results in either:
non-resident – section - no profits which arise in or derive from HK; or
20 - less than the ordinary profits which might be expected to arise in or derive from HK.
If section 20 apples,
- the non-resident is treated as carrying on business in HK although the resident company as its agent; and
- the CIR may collect profits tax of the non-resident from the HK resident.
Use of the loss of a - The loss of a corporation may be carried forward. When a loss company is sold to an new shareholder, the shareholder may make use of the
corporation – section loss to set off against its future profit.
61B - In order to stop such practice, section 61B provides that if the sole or dominant purpose to acquire the shares of a corporation is to make use
of the loss of the corporation for set-off against its future profit, the loss of the corporation may not be able to carry forward to set-off against
its future profit.
5. Fiscal nullity
General principle There are 2 general anti-avoidance provisions in the IRO:
- section 61
- section 61A
Artificial or fictitious (i) Section 61 provides as follows: “Where an assessor is of opinion that any transaction which reduces or would reduce the amount of tax
transactions – section payable by any person is artificial or fictitious or that any disposition is not in fact given effect to, he may disregard any such transaction or
61 disposition and the person concerned shall be assessable accordingly.”
(ii) Although the meaning of “artificial or fictitious” is not defined in the IRO,
- “artificial” may mean something which is not natural, nor normal or not ordinary; and
- “fictitious transaction” many mean the parties to such a transaction never intending to carry it out.
Transactions designed The difference between sections 61 and 61A is that section 61 applies to artificial or fictitious transactions while section 61A applies to
to obtain a tax benefit transactions which are carried out but the sole or dominant purpose of such transactions are to obtain a tax benefit.
– section 61A Section 61A provides 7 criteria which are applicable to that section as follows:
i. the manner in which the transaction was entered into or carried out;
ii. the form and substance of the transaction;
iii. the result that would have been achieved by the transaction;
iv. any change in the financial position of the relevant person that has resulted from the transaction;
v. any change in the financial position of any person who has any connection with the relevant person that has resulted from the transaction;
vi. whether the transaction has created rights or obligations which would not normally be created between persons dealing with each other at
arm’s length under at transaction of the kind in question; and
vii. the participation in the transaction of a corporation resident or carrying on business outside HK.
Generally, section 61A applies to the following situations:
- the sole or dominant purpose of some transactions is to confer at tax benefit to a person, and
- there is no commercial justification or reason to carry out such transactions.
Topic 10 Stamp Duty
1. Scope of charge
The Stamp Duty - Stamp duty is a tax levied on documents, not on transactions. If a transaction can be effected orally or by conduct only, no stamp duty is
Ordinance and its payable.
Scope of Charge - Stamp duty is chargeable on a territorial basis, i.e. only documents relating to designated assets located in HK are subject to HK stamp
duty.
- There are 2 types of stamp duty, namely fixed duty and ad valorem duty. (i.e. the amount of the latter depending on the amount of
considerations stated in the instrument or the value of the property being transferred).
- There are 4 broad heads under which Stamp Duty is chargeable:
Head 1 Immovable property in HK Head 3 HK bearer instruments
Head 2 HK stocks Head 4 Duplicates and counterparts
2. Purchase, sale and transfer of a HK immovable property
Documents (or - temporary (provisional) sale and purchase agreement,
Instruments) Involved - formal sales and purchase agreement,
in the Purchase of - conveyance on sale (usually referred as assignment or deed of assignment or simply conveyance)
Immovable Property
Stamping of Non- - The document to be stamped is the conveyance on sale (and no stamp duty is payable if a non-residential property is sub-sold to another
Residential Property person by the preparation of a sale and purchase agreement).
- The time for stamping is within 30 days after the date of execution of the conveyance. [“Execution” is defined in section 2 of the Stamp
Duty Ordinance (“SDO”) as signing.]
- The value to be stamped is the higher of the consideration or the value of the property on the date of the conveyance.
- As there is usually a period of time lapsed between the signing of the sale and purchase agreement and the signing of the conveyance, and it
is likely that the value of the property will rise during this period, stamp duty is charged on the value of the property at the date of the
signing of the sale and purchase agreement for the purpose of computation of stamp duty if the market value at the date of conveyance is
higher than the market value of the property at the date of sale and purchase agreement.
Stamping of (i) Agreement for sales - The document to be stamped with ad valorem stamp duty is the sale and purchase agreement (i.e. “agreement for
Residential Property sale” referred in the SDO) (not the conveyance as in the case of sale and purchase of non-residential property).
(ii) Second agreement for sale within first agreement for sale – If the sale and purchase agreement (i.e. the temporary or provisional sale
and purchase agreement) is superseded by another sale and purchase agreement signed by the same parties with the same terms within 14
days after the execution of the first sale and purchase agreement, no stamp duty is payable on the first sale and purchase agreement. Ad
valorem stamp duty is payable on the second sale and purchase agreement within 30 days after the execution of the second sale and purchase
agreement.
(iii) Deferral of payment of stamp duty – The time for stamping can be deferred, upon application by the dutypayer to the Collector, to
- 30 days after the date of execution of the conveyance; or
- 3 years after the date of execution of the sale and purchase agreement; whichever is the earlier.
(iv) Stamping value – The value to be stamped is the higher of the consideration or the value of the property on the date of the sale and
purchase agreement.
(v) Sub-sale – If the resident property is sub-sold before the execution of a conveyance, the seller of the property (i.e. the confirmor) is
required to pay stamp duty on the sale of the property within 7 days from the signing of the sub-sale and purchase agreement, and the
purchaser is required to pay stamp duty within 30 days from the signing of the sub-sale and purchase agreement unless he applies for deferral
of payment of stamp duty. In order words, stamp duty may be paid more than once if there is a confirmor transaction involved in the sale and
purchase of property. The stamp duty payable on the sub-sale and purchase is proportional to the share of ownership changed.
(vi) Sub-sale to spouse, parents or children – If the name of the person added is the parent, spouse or children of the original owner, no ad
valorem stamp duty (but a fixed stamp duty of $100) is payable on the sub-sale and purchase agreement.
(vii) Conveyance (assignment) – When the conveyance is signed, a fixed stamp duty is charged on the conveyance if the sale and purchase
agreement has been paid with stamp duty.
Rates of Stamp Duty Rates of Stamp Duty on Purchase of Immovable before 11:00am 28.2.2007
on Purchase of Value of consideration Rate of stamp duty
Immovable Not more than $1,000,000 $100
$1,000,001 - $1,080,000 $100 + 10% x (consideration - $1,000,000)
$1,080,001 - $2,000,000 0.75%
$2,000,001 - $2,176,470 $15,000 + 10% x (consideration - $2,000,000)
$2,176,471 - $3,000,000 1.5%
$3,000,001 - $3,290,320 $45,000 + 10% x (consideration - $3,000,000)
$3,290,321 - $4,000,000 2.25%
$4,000,001 - $4,428,570 $90,000 + 10% x (consideration - $4,000,000)
$4,428,571 - $6,000,000 3%
$6,000,001 - $6,720,000 $180,000 + 10% x (consideration - $6,000,000)
More than $6,720,000 3.75%
Rates of Stamp Duty on Purchase of Immovable w.e.f 11:00am 28.2.2007
Value of consideration Rate of stamp duty
Not more than $2,000,000 $100
$2,000,001 - $2,351,760 $100 + 10% x (consideration - $2,000,000)
$2,351,761 - $3,000,000 1.5%
$3,000,001 - $3,290,320 $45,000 + 10% x (consideration - $3,000,000)
$3,290,321 - $4,000,000 2.25%
$4,000,001 - $4,428,570 $90,000 + 10% x (consideration - $4,000,000)
$4,428,571 - $6,000,000 3%
$6,000,001 - $6,720,000 $180,000 + 10% x (consideration - $6,000,000)
More than $6,720,001 and above 3.75%

Voluntary Disposition - Voluntary disposition inter vivos means gift made during life-time.
Inter Vivos of Property - The only instrument effecting the transfer of the property is the deed of gift (sometimes referred as assignment or conveyance), which is
chargeable with stamp duty.
- The stamping value is the property at the date of the deed of gift.
- It is to be stamped within 30 days after the execution of the deed of gift.
3. Collection of stamp duty and issue of stamp duty assessment
Sale and purchase of a - In the case of a sale of property, stamp duty is paid at the time of presenting the chargeable instrument at the Stamp Office for stamping. No
property stamp duty assessment is issued for the demand of stamp duty in such circumstances.
- If the stated consideration in the sale and purchase agreement or conveyance is below the value of the property being transferred or assigned,
 further stamp duty is payable. In such circumstances, a stamp duty assessment is issued to demand the further stamp duty payable when the
value of the property is ascertained. The stamp duty is payable within 1 month after the date of the issue of the stamp duty assessment
demanding the payment of further stamp duty.
Gift of a property - In the case of a gift of property, the value of the immovable property is unknown at the time of stamping, thus no stamp duty is payable
when the deed of gift is presented to the Stamp Office for stamping.
- However, for the purpose of registration of the gifted property in the Land Registry, adjudication is required.
- An adjudication fee of $50 is payable at the time of presentation of the deed of gift to the Stamp Office. The Stamp Office will endorse a
chop of “Pending Adjudication” on the face of the document which can now be registered with the Land Registry.
- When the value of the property is ascertained by the Rating and Valuation Department at a later date, the Collector will issue a stamp
duty assessment demanding for the stamp duty.
- The stamp duty is payable within 1 month form the date of the issue of the stamp duty assessment demanding the payment of stamp duty.
Appeal A dutypayer can lodge an appeal to the District Court against the value of the property as stated in the stamp duty assessment within 1 month
from the date of the issue of the stamp duty assessment.
4. Lease of a HK immovable property
Lease - A lease for immovable property situated in HK is chargeable with stamp duty. If the lease is made orally, no stamp duty is chargeable as
stamp duty is charged on written instruments only.
- An agreement of lease is chargeable with ad valorem stamp duty as if it is a lease, but a lease executed in pursuance with a property stamped
agreement for lease is stamped with a fixed stamp duty of $3 only.
- The time for stamping is within 30 days after the execution of the lease.
- Lease with premium only is chargeable with stamp duty at the conveyance scale.
- Lease with both premium and monthly rent is charged in the following manner:
(i) the part on premium is chargeable with stamp duty at 3.75% , and
(ii) the part of monthly rent is chargeable according to the lease period.
- Rates of Stamp Duty on Lease of Immovable Property:
Term of lease Duty payable
Uncertain 0.25% x average yearly rent
1 year or less 0.25% x total rent payable for the lease
More than 1 year but up to 3 years 0.5% x average yearly rent
More than 3 years 1% x average yearly rent
5. Purchase, sale and transfer of HK stock
Definition of HK stock - “Hong Kong stock” is defined in section 2 of SDO as stock, the transfer of which is required to be registered in HK.
Documents (or
Instruments) Involved
in the Purchase of HK
Stock
Documents (or
Instruments) Involved
in the Gifting of HK
Stock
6. HK bearer installment

7. Duplicate and counterpart

8. Determination of the value of consideration

What constitutes
consideration
Operation of Section
24(1), (2) and (3)
Contingency Principle
9. Administration of Stamp Duty Ordinance
Non-Admissibility of
Not Duty Stamped
Instruments
Penalty for Late
Stamping
10. Adjudication

11. Relief and exemption

Marriage
Consideration under
Section 27(4)
Lease Exempted for
Half Stamp Duty
Gift Made to
Charitable Institution
under Section 44
Group Stamp Duty
Relief for Transfer of
HK Property or Stock
No change of
Beneficial Interest
under Section 27(5)