Hong Kong Profits Tax: An Overview for Businesses and Investors

Hong Kong's profits tax regime is one of the simplest and most competitive in Asia. A territorial basis of taxation, low headline rates, and an absence of capital gains tax, VAT, withholding tax on dividends, and (in most cases) withholding tax on interest make Hong Kong an attractive base for regional operations and investment holding. This guide provides a comprehensive overview of how profits tax works for businesses and investors in Hong Kong.

The Territorial Basis of Taxation

Hong Kong taxes profits on a source basis, not a worldwide basis. Only profits arising in or derived from a trade, profession, or business carried on in Hong Kong are subject to profits tax. Profits sourced outside Hong Kong are not taxable, even if the company is incorporated in Hong Kong or the profits are remitted to Hong Kong.

This territorial approach is a fundamental advantage for Hong Kong-based holding companies and regional operations. However, applying the source rules to complex fact patterns (e.g., international trading, financial services, intellectual property royalties) requires careful analysis and often specialist tax advice.

Who is Subject to Profits Tax?

Profits tax applies to:

• Any person (individual, company, partnership, trust) carrying on a trade, profession, or business in Hong Kong
• In respect of assessable profits arising in or derived from Hong Kong from that trade, profession, or business

There is no concept of "tax residency" for profits tax purposes in the same way as in other jurisdictions. A non-Hong Kong company can be subject to profits tax if it carries on business in Hong Kong and derives profits from that business.

Tax Rates

Standard Rates

The standard profits tax rates are:

• Corporations: 16.5%
• Unincorporated businesses (sole proprietors, partnerships): 15%

Two-Tier Profits Tax System

Since 2018/19, the two-tier profits tax system provides a reduced rate on the first HK$2 million of assessable profits for qualifying entities:

• Corporations: 8.25% on the first HK$2 million; 16.5% on the remainder
• Unincorporated businesses: 7.5% on the first HK$2 million; 15% on the remainder

Only one entity within a "related entity" group can benefit from the two-tier system (nominated by election). This prevents artificial fragmentation of businesses to multiply the benefit.

What are "Assessable Profits"?

Assessable profits are the adjusted profits of the business for the year of assessment (which follows the business's accounting year). The calculation starts with accounting profits and then applies specific tax adjustments:

• Add back: non-deductible expenses (e.g., capital expenditure, non-business expenses, provisions not yet crystallised)
• Deduct: tax allowances (depreciation allowances, commercial building allowances) that differ from accounting depreciation
• Carry forward: tax losses from prior years (losses can be carried forward indefinitely but cannot be carried back)

The Offshore Profits Exemption

The offshore profits exemption is one of the most important and most frequently misapplied aspects of Hong Kong profits tax. Under the territorial basis, profits from offshore transactions — where both the contract negotiation and execution occur outside Hong Kong, and the goods never touch Hong Kong soil — may be treated as offshore and therefore not subject to profits tax.

The IRD assesses offshore claims carefully and has issued guidance and Departmental Interpretation and Practice Notes (DIPNs). Key principles:

• The source of trading profits is determined by the operations test: where were the profit-generating operations that produced the profit?
• For service income, the source is where the services are performed
• For interest income, the source is (broadly) where the credit is extended
• For royalty income, the source depends on where the right is exercised / where the intellectual property was developed

A company that is incorporated and managed in Hong Kong but claims all its profits are offshore must be prepared to substantiate this with evidence of offshore operations. Purely holding structures or thin Hong Kong presences are increasingly scrutinised.

Foreign-Sourced Income Exemption (FSIE) Regime

From 1 January 2023, Hong Kong introduced a Foreign-Sourced Income Exemption (FSIE) regime for passive income received by multinational enterprise (MNE) groups in Hong Kong. Under the regime, the following types of passive income received from foreign sources by a constituent entity of an MNE group that has a nexus to Hong Kong will be deemed taxable unless specific exemption conditions are met:

• Interest income
• Dividends
• Disposal gains on equity interests
• IP income (royalties)

Exemptions are available where the recipient meets the economic substance requirement (for non-IP income) or the nexus approach under the modified nexus approach (for IP income). The FSIE regime represents a significant departure from Hong Kong's traditionally pure territorial system and requires careful analysis for MNE groups operating through Hong Kong.

Deductible Expenses

Business expenses are deductible if they are incurred wholly and exclusively in the production of assessable profits. Key deductible items include:

• Salaries and wages (including employer MPF contributions)
• Rent and rates on business premises
• Interest expenses on money borrowed for the production of chargeable profits (subject to specific rules)
• Irrecoverable debts written off (subject to conditions)
• Research and development expenditure (with enhanced deductions for qualifying R&D)
• Charitable donations to approved charities (up to 35% of assessable profits)

Non-deductible items include capital expenditure, expenditure not related to the production of assessable profits, private or personal expenses, and domestic expenditure.

Tax Depreciation Allowances

Since accounting depreciation is not deductible for tax purposes, the IRD allows capital allowances (depreciation allowances) on qualifying fixed assets:

• Initial allowance: 60% of the cost of machinery and plant in the year of acquisition
• Annual allowance: 10%, 20%, or 30% (depending on the asset class) of the reducing value on the diminishing value basis in subsequent years
• Industrial building allowance: 4% of construction cost per year for qualifying industrial buildings
• Commercial building allowance: 4% per year for qualifying commercial buildings purchased from 2023 onwards (following a long-awaited reform)

Special Regimes and Concessions

Corporate Treasury Centre

Interest income and profits from intra-group financing activities of a qualifying corporate treasury centre are taxed at a concessionary rate of 8.25% (half of the standard corporate rate).

Aircraft Leasing

Qualifying aircraft lessors and managers benefit from a concessionary profits tax rate of 8.25%.

Ship Leasing

Qualifying ship lessors benefit from a profits tax exemption; ship leasing managers pay tax at 0% (50% concession from the standard rate).

Funds Tax Exemption

Qualifying investment funds (including certain unit trusts, OFCs, and LPFs) and their special purpose vehicles are exempt from profits tax on specified transactions under the unified funds exemption regime.

Family-Owned Investment Holding Vehicles (FIHVs)

From 2023/24, qualifying family-owned investment holding vehicles (FIHVs) can benefit from profits tax exemption on gains from qualifying transactions, subject to meeting substance and other requirements. This was introduced to attract family offices to Hong Kong.

Carried Interest

From 2021/22, qualifying carried interest distributions from qualifying funds are subject to a 0% effective profits tax rate under the carried interest concession, making Hong Kong an attractive location for fund managers.

Loss Relief

Assessed losses can be carried forward indefinitely for offset against future profits from the same trade or business. Losses cannot be carried back to prior years. Group relief (transfer of losses between group companies) is not available in Hong Kong, unlike in some other jurisdictions.

Double Tax Agreements (DTAs)

Hong Kong has comprehensive double tax agreements with over 45 jurisdictions (as of 2025), including Mainland China, the United Kingdom, France, Germany, Japan, and many Southeast Asian countries. DTAs can reduce withholding taxes on cross-border payments and provide treaty protection against double taxation. The application of a DTA requires the recipient to be a "resident" of Hong Kong within the meaning of the treaty, which for Hong Kong purposes means a person who is subject to Hong Kong tax by reason of domicile, residence, place of management, place of incorporation, or other similar criterion.

Transfer Pricing

Hong Kong introduced comprehensive transfer pricing rules under the Inland Revenue (Amendment) (No. 6) Ordinance 2018 (in force from 2018/19). The arm's length principle now applies to cross-border and domestic related party transactions. Taxpayers with related party transactions above specified thresholds must maintain contemporaneous transfer pricing documentation. Master file and local file requirements apply to large MNE groups.

Practical Tax Planning Considerations

• Maximise deductible expenses: Ensure all genuinely deductible business expenses are claimed, including R&D expenditures qualifying for enhanced deductions
• Capital allowance planning: Manage the timing of capital expenditure to maximise allowances, particularly for tech-intensive businesses
• Loss utilisation: Review the use of carried-forward losses and consider whether group restructuring can improve loss utilisation
• Offshore claims: Where legitimate offshore profits exist, ensure robust documentation of offshore operations to support offshore exemption claims on IRD field audits
• Structuring holding arrangements: Review holding structures in light of the FSIE regime to ensure passive income streams are appropriately structured
• Treaty access: Consider whether Hong Kong's DTA network can be leveraged to reduce withholding taxes on cross-border income streams

Conclusion

Hong Kong's profits tax regime remains one of the most competitive in Asia, combining a low rate, territorial basis, and a growing network of tax incentives and treaties. However, the introduction of the FSIE regime and evolving transfer pricing rules mean that even straightforward structures require periodic review to ensure ongoing tax efficiency and compliance.

Alan Wong LLP works with clients on a range of corporate and tax law matters. For tax-specific advice, we recommend engaging a specialist tax adviser in conjunction with our corporate legal services. Contact us to discuss your requirements.