Maximising Savings: A Guide to Hong Kong's Two-Tier Profits Tax System 🇭🇰

Maximising Savings: A Guide to Hong Kong's Two-Tier Profits Tax System 🇭🇰 | Bestar

Hong Kong's Two-Tier Profits Tax

Maximising Savings: A Guide to Hong Kong's Two-Tier Profits Tax System 🇭🇰

Hong Kong has long been celebrated for its simple and low-tax regime, a key attraction for global entrepreneurs and businesses. Enhancing this competitive edge, the government introduced the Two-Tier Profits Tax System in 2018. This system significantly reduces the tax burden, especially for small and medium-sized enterprises (SMEs) and start-ups, by offering a concessionary rate on the first portion of their profits.

Understanding how to qualify for and apply this system is crucial for maximising your business's tax efficiency in Hong Kong.

How the Two-Tier System Works

The two-tier profits tax regime introduces two different tax rates based on the amount of assessable profits earned in a year. The core principle is simple: the first HK$2 million of assessable profits is taxed at half the standard rate, while profits exceeding this amount are taxed at the full, standard rate.

Applicable Tax Rates

The rates differ for corporations (limited companies) and unincorporated businesses (sole proprietorships and partnerships):

Business Type	Assessable Profits	Two-Tier Rate	Standard Rate (on remainder)
Corporation	First HK$2 million	8.25%	16.5%
Unincorporated Business	First HK$2 million	7.5%	15%

Example of Tax Savings (Corporation): A corporation earns HK$3,000,000 in assessable profits.

• Calculation without Two-Tier System (Standard 16.5%):

  
  

  • HK$3,000,000 × 16.5% = HK$495,000

    
    

• Calculation with Two-Tier System:

  
  

  • First HK$2,000,000 × 8.25% = HK$165,000

  • Remaining HK$1,000,000 × 16.5% = HK$165,000

  • Total Tax Payable = HK$165,000 + HK$165,000 = HK$330,000

This results in a potential tax saving of HK$165,000 (HK$495,000 - HK$330,000).

Eligibility and Anti-Avoidance Rules

The two-tier system is generally available to all entities chargeable to Profits Tax in Hong Kong. However, a crucial anti-avoidance measure is in place:

The Connected Entity Rule

To prevent businesses from splitting their profits across multiple shell companies to fully benefit from the reduced rate multiple times, a restriction applies to groups of connected entities:

• Only ONE entity within a group of connected entities is eligible to elect for the two-tier tax rates for a given year of assessment.

  
  

A company is generally considered a connected entity of another if:

1. One entity has control (e.g., owns or controls more than 50% of the issued share capital or voting rights) over the other.

   
   

2. Both entities are under the control of the same entity (or persons).

   
   

3. In the case of a sole proprietorship, if the natural person operating it also carries on another sole proprietorship business.

   
   

Action Required: If your business has connected entities, the group must nominate which single entity will be charged at the two-tiered rates for that year of assessment by making an election in its Profits Tax Return.

Other Key Eligibility Factors

• Territorial Principle: Only profits that arise in or are derived from carrying on a trade, profession, or business in Hong Kong are subject to Profits Tax, and therefore eligible for the two-tier system.

  
  

• Exclusions: Entities that have already elected to be subject to specific concessionary tax regimes (e.g., for certain profits from corporate treasury centres or aircraft leasing) are generally not eligible for the two-tier system.

  
  

Benefits for Hong Kong Businesses

The two-tier profits tax regime bolsters Hong Kong's standing as a premier business hub by offering significant financial benefits:

• Support for SMEs and Start-ups: The primary aim is to reduce the tax burden on smaller businesses. The savings can be reinvested into operations, hiring, technology, and market expansion, thereby fostering entrepreneurship and innovation in the city.

  
  

• Reduced Overall Tax Burden: Even larger companies benefit, as the first HK$2 million of their assessable profits is taxed at the lower rate, leading to a permanent reduction in their effective tax rate.

  
  

• Enhanced Competitiveness: By lowering the initial tax threshold, Hong Kong reinforces its position with one of the most competitive tax systems globally, making it a more attractive location for both local and foreign direct investment.

In summary, the two-tier profits tax system is a valuable concession that, when correctly applied, can deliver substantial annual tax savings and provide a financial boost for business growth and development in Hong Kong.

Strategic Tax Advantage: How Bestar Hong Kong Maximises Your Savings with the Two-Tier Profits Tax System

Maximising Savings: A Guide to Hong Kong's Two-Tier Profits Tax System 🇭🇰

The Hong Kong government’s Two-Tier Profits Tax System is a powerful incentive, particularly for SMEs and start-ups, offering a reduced tax rate of 8.25% (for corporations) or 7.5% (for unincorporated businesses) on the first HK$2 million of assessable profits.

While the tax advantage is clear, navigating the eligibility rules—especially the strict "connected entity" provisions—requires expert knowledge. This is where professional tax services from a firm like Bestar Hong Kong become essential.

Here is how Bestar Hong Kong can provide the strategic support necessary to ensure you fully benefit from this low-tax regime and maximise your savings.

The Bestar Advantage in Two-Tier Tax Planning

Bestar Hong Kong offers comprehensive accounting, tax, and corporate secretarial services, positioning them perfectly to handle the intricacies of the two-tier system. Their expertise ensures both compliance and optimal tax outcomes.

1. Expert Application of the Connected Entity Rule

The most common pitfall in claiming the two-tier rate is non-compliance with the connected entity rule, which restricts the concession to only one nominated entity within a group.

• Group Structure Analysis: Bestar’s tax professionals meticulously analyse your entire business structure (including subsidiaries, partnerships, and common control by individuals) to accurately identify all connected entities.

  
  

• Optimal Nomination Strategy: They don't just identify a candidate; they determine the single entity that will yield the maximum tax saving for the entire group. This strategic nomination ensures the greatest possible benefit from the reduced 8.25%/7.5% rate.

  
  

• Documentation and Election: Bestar handles the formal declaration and election process within the Profits Tax Return, ensuring the claim is correctly made and fully compliant with the Inland Revenue Department (IRD) requirements.

2. Precise Calculation of Assessable Profits

The two-tier rates are applied to assessable profits, not gross revenue. Maximising this tax benefit depends on having impeccable financial records and correctly applying all allowable deductions.

• Accurate Bookkeeping and Accounting: Bestar’s core Bookkeeping and Accounting services ensure your financial statements are prepared in accordance with Hong Kong Financial Reporting Standards (HKFRS), providing a clean, auditable base for tax computation.

  
  

• Maximising Deductions: The team ensures that all eligible business expenses, capital allowances (e.g., for plant and machinery), and other statutory deductions are fully claimed, thereby reducing your assessable profits and potentially keeping more of your income within the lower 8.25%/7.5% tier.

  
  

• Handling Territorial Source: As Hong Kong operates a territorial tax system, Bestar helps you correctly distinguish between Hong Kong-sourced profits (taxable and eligible for the two-tier rate) and offshore-sourced profits (generally tax-exempt), preventing potential IRD queries and ensuring compliance.

3. Comprehensive Tax Compliance and Filing

Navigating the annual tax return (BIR) process while correctly applying the two-tier rates can be complex, especially under tight deadlines.

• Profits Tax Return Filing: Bestar’s Tax Services include the accurate and timely preparation and submission of your annual Profits Tax Return, ensuring all two-tier calculations are correctly inserted.

  
  

• Provisional Profits Tax: They provide guidance on applying for the reduction or holding over of Provisional Profits Tax, which can be beneficial in the company’s initial years or during periods of declining profits, helping manage cash flow.

  
  

• IRD Query Handling: Should the IRD raise any questions regarding your eligibility or calculation, Bestar acts as your professional representative, providing expert clarification and necessary supporting documentation to swiftly resolve all tax-related inquiries.

Unlock the Full HK$165,000 Annual Saving

The potential maximum annual saving for a corporation under the two-tier system is HK$165,000. By partnering with Bestar Hong Kong, you gain a dedicated team of certified public accountants and tax professionals who:

1. Guarantee Compliance: Ensure your business structure and tax filing are fully compliant with the connected entity rules.

   
   

2. Optimise Profit Calculation: Strategically manage your accounting to maximise deductions and ensure the lowest possible assessable profit.

   
   

3. Provide Peace of Mind: Take the burden of complex tax legislation off your shoulders, allowing you to focus on your core business growth.

Don't leave potential tax savings on the table. Contact Bestar Hong Kong today for a consultation to strategically implement and benefit from the Two-Tier Profits Tax System.