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On 1 April 2015, Hong Kong (HK) and Mainland China (PRC) signed a new protocol (the 4th protocol) to amend their double tax arrangement (HK-PRC DTA), with the 1st, 2nd and 3rd protocols signed in 2006, 2008 and 2010 respectively. The new protocol will come into force after the completion of ratification procedures and notification by both sides.
Included in the new protocol are the following provisions:
(1) providing exemption to HK investors from PRC tax for capital gains from selling shares listed in the PRC, provided certain conditions are met;
(2) reducing the PRC withholding tax rate for rentals from aircraft leasing and ship chartering to the treaty cap of 5%;
(3) introducing the main purpose test to the Dividends, Interest, Royalties and Capital Gains articles as an additional anti-treaty abuse measure; and
(4) expanding the scope of information exchange under the HK-PRC DTA to cover information related to taxes other than income taxes in China.
Capital gains on listed shares
The new protocol provides certainty to HK investors by clearly provides exemption from PRC tax for capital gains from selling shares listed the PRC, so long as the shares were purchased and sold on the same stock exchange. HK tax residents and qualifying HK investment funds (meeting the following conditions) are entitled to enjoy the capital gain exemption:
• The investment fund is established under the laws of HK, and is recognized and regulated by the Securities and Futures Commission of Hong Kong (SFC);
• The fund is managed by SFC licensed managers according to regulations stipulated by SFC;
• More than 85% of the capital of the fund is raised through the market in HK (e.g. the fund is listed and traded on the HK stock exchange, the fund is sold or placed through HK financial institutions with operational substance, the fund is directly sold or placed to investors in HK, etc.)
The capital gain exemption treatment under the new protocol is consistent with that already provided for the gains derived by a Hong Kong resident from the sale and purchase, under the Shanghai-Hong Kong Stock Connect pilot programme (Stock Connect). For details of Stock Connect, please refer to our previous newsletter 1st Quarter Issue, 2015 by visiting: http://www.reanda-international.com/regional/en/ publication.php
Aircraft leasing and ship chartering
The new protocol reduces the PRC withholding tax rate for rentals from aircraft leasing and ship chartering from the current treaty cap of 7% to 5%. The reduced withholding tax rate of 5% is the most beneficial one amongst all the tax treaties signed by the PRC. This provision will certainly help promotes HK’s aircraft leasing and ship chartering businesses with the PRC and reinforces the positioning of HK as the international transport services hub.
Anti-avoidance
Including in the existing HK-PRC DTA are the following anti-treaty abuse provisions:
• confirming that both HK and PRC can apply their domestic laws and measures concerning tax avoidance (under the Miscellaneous Provisions treaty article).
• requiring that the recipient of dividends, interest and royalties has to be the beneficial owner of the income for purpose of claiming treaty benefits (under the Dividends, Interest and Royalties treaty articles).
The new protocol introduces another anti-treaty abuse provision (i.e. the main purpose test) under which the treaty benefits for dividends, interest, royalties and capital gains would not apply if the main purpose for entering into an arrangement is to take advantage of these treaty benefits.
The anti-treaty abuse provision under the new protocol echoes the increasing focus on preventing treaty abuse in the international tax arena. In a report published by the Organisation for Economic Cooperation and Development in September 2014, among other things, it is recommended to include a similar test (i.e. the principal purpose test) in tax treaties for preventing treaty abuse.
Exchange of information
The new protocol extends the scope of information exchange between treaty parties to other PRC taxes (including value-added tax, consumption tax, business tax, land appreciation tax and real estate tax) in addition to the types of PRC taxes covered in Article 2 of the HK-PRC DTA (i.e. individual income tax and corporate income tax).
