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Hong Kong welcomes its removal from the EU's watchlist of non-cooperative jurisdictions for tax purposes
On 5 October 2021, Hong Kong was added to the European Union (the “EU”)’s grey list of non-cooperative jurisdictions for tax purposes (the “Watchlist”) and was granted until 31 December 2022 to amend the Inland Revenue Ordinance (Cap. 112) to make its foreign-source income exemption (the “FSIE”) regime compliant with the requirements of the EU. Hong Kong underwent two rounds of amendment of its FSIE regime, the first one of which took effect on 1 January 2023 and a second round which came into force on 1 January 2024, following the issue of further guidelines by the EU in December 2022. Upon its review of the amended FSIE regime which came into force on 1 January 2024, the EU removed Hong Kong from the Watchlist on 20 February 2024.
The 2023 and 2024 amendments to Hong Kong’s FISE regime
Following the inclusion of Hong Kong in the Watchlist, the Hong Kong government introduced an amended FSIE regime in January 2023 (the “2023 FSIE Regime”) through the enactment of the “Inland Revenue (Amendment) (Taxation on Specified Foreign-sourced Income) Ordinance 2022”. Under the 2023 FSIE Regime, multinational enterprise entities carrying on business in Hong Kong and receiving foreign-sourced (a) dividend; (b) interest; (c) income derived from the use of intellectual properties and (d) disposal gain derived from the sale of equity interests (other than partnership interests) can only enjoy tax exemption if they satisfy the following requirements, as applicable: (i) the economic substance requirement, for dividends, interests and disposal gains in relation to equity interests or, alternatively, (ii) the participation requirement for dividends and disposal gains in relation to equity interests, or (iii) the nexus requirement for IP income.
In December 2022, the EU issued new guidelines (the “EU 2022 Guidelines”) stating that all disposal gains shall be treated as income under the FSIE regime, and therefore shall be subject to the economic substance requirement for all kind of disposal gains (except gains arising from the sale of IP assets which shall be subject to the nexus requirement). As a result, Hong Kong had to update its 2023 FSIE Regime in order to comply with the EU 2022 Guidelines. Consequently, Hong Kong remained on the EU Watchlist in 2023 while it worked on further amendments of the Inland Revenue Ordinance (Cap. 112).
The further amended FSIE regime (the “2024 FSIE Regime”) came into effect on 1 January 2024, upon the enactment of the “Inland Revenue (Amendment) (Taxation on Foreign-sourced Disposal Gains) Ordinance 2023”. Following its review of the 2024 FSIE Regime, the EU determined that Hong Kong’s 2024 FSIE Regime now aligns with international tax standards and removed Hong Kong from the Watchlist on 20 February 2024.
The purpose of the 2024 FSIE Regime is in fact to align Hong Kong’s FSIE regime with international tax standards by imposing stricter conditions on the availability of tax exemptions to multinational enterprises, in order to prevent tax evasion.
The 2024 FSIE Regime is a testament to the Hong Kong government’s commitment to counter cross-border tax avoidance through international cooperation and alignment with international tax standards. The Hong Kong government is confident that the introduction of the 2024 FSIE Regime will allow Hong Kong to strengthen its status of international business and trade centre while, at the same time, maintaining the strong pro-business environment and competitive edge that Hong Kong has respectively fostered and held until now thanks to, among other factors, its territorial source principle of taxation, its adherence to double taxation agreements and its simplified reporting procedures.
Nicolas Vanderchmitt | Marie-Gabrielle du Bourblanc | Camilla Venanzi
