Insights from Global Mobility Services Hong Kong: The Inland Revenue Department shares its views on certain salaries tax issues 6 November 2020 In brief At the 2020 annual meeting between the Hong Kong Inland Revenue Department (IRD) and the Hong Kong Institute of Certified Public Accountant (HKICPA), the IRD shared its views on the below Hong Kong salaries tax issues: – Taxation of discretionary bonus and related employer’s reporting obligations; – Demand of provisional salaries tax with tax credit claim in the previous year of assessment (YOA); and – Hong Kong Certificate of Resident Status (HK CoR) for individuals. The meeting minutes, although not legally binding, are a reference of the IRD’s positions on taxation of discretionary bonus for mobile employees, the impact on the provisional salaries tax after the claim of tax credit in the previous YOA as well as the mechanism of issuing HK CoR. These discussions should be considered when dealing with the relevant salaries tax issues. In detail The annual IRD and HKICPA meeting was held in May 2020 and the meeting minutes were released in October 2020. This publication summarises the main topics on salaries tax discussed and PwC’s observations. A copy of the minutes is available on the IRD and HKICPA’s websites. www.pwc.com Insights Taxation of discretionary bonus Example An employee was holding a non-Hong Kong employment and was seconded to work in Hong Kong from 1 January 2019 to 31 October 2019. The employee was subject to Hong Kong salaries tax on time apportionment basis during the Hong Kong secondment period. He was relocated outside Hong Kong to another group company on 1 November 2019 and he visited Hong Kong for less than 60 days during the YOA 2020/21. The employee’s employment contract specified that entitlement to a discretionary bonus is dependent on the following factors: 1. the individual performance in the relevant financial year; 2. the financial result of the group for the relevant financial year; and 3. the general economic environment at the time of the award. On 1 May 2020, the employee received a discretionary bonus in respect of the financial year of the group ended 31 December 2019. The IRD took the view that, if the bonus was derived from services rendered in the YOA 2020/21 and only accrued to the employee in May 2020 (i.e. he would be entitled to claim the payment in May 2020), no salaries tax liability arose since the employee spent not more than 60 days in Hong Kong during visits in the YOA 2020/21. Thus, the bonus would be exempted under sections 8(1A)(b)(ii) and 8(1B) of the Inland Revenue Ordinance (IRO). If the bonus was derived from services rendered in the YOA 2019/20 and only accrued to the employee in May 2020 (i.e. he only became entitled to claim the payment in May 2020), the bonus would still be reportable and taxed in the YOA 2020/21 since the bonus accrued to the employee in the YOA 2020/21. However, it would be taxed based on the number of days the employee spent in Hong Kong in the YOA 2019/20. PwC observations: The use of the ‘Hong Kong days’ in one YOA (i.e. 2019/20) for time apportionment claim purpose for an income item to be reported and taxed in another YOA (i.e. 2020/21) is unusual. Further clarification should be sought if there is a real-life case. From the above fact pattern, we would expect that the bonus was derived partly from services rendered in YOA 2018/19 (i.e. from 1 January to 31 March 2019) and partly from services rendered in YOA 2019/20 (i.e. from 1 April to 31 December 2019). The IRD further stated if the employee became entitled to claim the payment of the bonus after 31 December 2019, but before 1 April 2020, the bonus would be considered as accrued to the employee during the YOA 2019/20 and salaries tax liability arose in the YOA 2019/20 although payment was only made in May 2020 according to section 11D(b) of the IRO. Under all of the above circumstances, the IRD commented that the group company in Hong Kong should report the bonus in either the 2019/20 or 2020/21 employer’s return and might add a note (i.e. in the ‘Remarks’ of the employer’s return) on the number of days the employee stayed in Hong Kong during the year in which the employee rendered services to earn the bonus. The IRD added that depending on the facts and merits of each case, the anti-avoidance provisions of the IRO might be invoked to tax bonus derived from services rendered in Hong Kong. PwC observations: There was a similar discussion in the 2019 annual meeting between the IRD and HKICPA on share award income vested (i.e. accrued) to an employee under a non-Hong Kong employment and after the employee completed the Hong Kong secondment (i.e. Item (A2)(b)(Case 2) of the 2019 meeting minutes). In last year’s discussion, the IRD expressed their views that no part of the vested share awards would be subject to salaries tax in the year of vesting provided that the employee spent not more than 60 days in Hong Kong during the year of vesting (i.e. the year in which the share award income was accrued) and there was no change in the employee’s non-Hong Kong employment upon the shares are vested. The examples discussed in the 2019 and 2020 meetings shared similar context except the type of income referred was share awards in last year vs. discretionary bonus in this year. Comparing the IRD’s responses, it 2 PwC Insights looked at the YOA of which the share award income was accrued to determine the tax treatment in 2019’s response whereas it looked at the YOA of which services were rendered in 2020’s response to determine the tax treatment of the discretionary bonus. If the employers or employees have any questions in reporting the income in such situation, professional advice should be sought. Demand of provisional salaries tax with tax credit claim Effective from the YOA 2018/19, taxpayers who render services and pay taxes in a territory with which Hong Kong has a Double Tax Agreement (DTA) can only claim a tax credit in respect of the foreign tax paid under section 50 of the IRO instead of the income exemption claims under section 8(1A)(c) of the IRO. However, in computing the amount of provisional salaries tax for current YOA in accordance with section 63C(1) of the IRO, the tax credit claim in previous YOA is not considered. The IRD explained that, strictly following the provision of section 50(1) of the IRO, tax credit granted for one YOA cannot be allowed as a credit against the provisional salaries tax for the following YOA. Since tax credit of foreign tax paid is not a ground for holding over of payment of provisional tax as specified in section 63E of the IRO, the IRD was not empowered to entertain any holdover claim in this respect. PwC Observations: Taxpayers who lodge a tax credit claim should be aware of the impact of the above provisional tax exposure on their cashflow. Hong Kong Certificate of Resident (HK CoR) for individuals Under the Mainland-Hong Kong DTA, an individual could be considered as a Hong Kong ‘temporary resident’ if one of the following two conditions is met: 1. Stays in Hong Kong for more than 180 days during a YOA (180-day test); or 2. Stays in Hong Kong for more than 300 days in two consecutive YOAs where one of which is the relevant YOA (300-day test). As it is the IRD’s practice to issue a HK CoR for a given calendar year rather than a YOA, in order to obtain a HK CoR for the calendar year 2019, the IRD clarifies that the individual needed to stay in Hong Kong for 180 days during the YOA 2019/20; or for more than 300 days in the YOAs 2018/19 and 2019/20 or YOAs 2019/20 and 2020/21. In addition to the calendar 2019, the individual would be able to obtain a HK CoR for the calendar year 2018 if he/she met the 300-day test for the YOAs 2018/19 and 2019/20. PwC Observations: Following the same logic, the individual should be able to obtain a HK CoR for the calendar year 2020 as well if he/she meets the 300-day test for the YOAs 2019/20 and 2020/21. However, the IRD does not address this in the example. Individuals who require to obtain a HK CoR as a documentary proof of ‘temporary resident’ for a particular calendar year should be mindful of the IRD’s practice and timeline due to the difference between a the YOA basis adopted in Hong Kong and the calendar tax year basis adopted by other jurisdictions and the relevant years of assessment to be considered when applying the 180-day test or 300-day test. 3 PwC Insights The takeaway Although the meeting minutes are not law and are not legally binding, they serve as guidance for the IRD on various tax matters. Employers should review their international assignment policies and tax equalisation/protection arrangements in light of the meeting minutes. For inbound secondments, with planning, it is possible to achieve greater tax efficiency for trailing liabilities relating to discretionary bonus.