This article is suitable for worldwide business managers who are planning to begin or expand their trading business with connection to the People’s Republic of China (China), to consider the Pros-and-Cons and points-to-note of setup limited company in China or Hong Kong – an offshore financial centre under China’s sovereignty but independent legal and administrative system. The aspect of taxation, legislation, and ease of doing business are covered here. Finally, you will realize Hong Kong plays a significant role as intermediate in trading businesses: Hong Kong companies receive products produced in China and sell them oversea.
Hong Kong as a gateway to China for trading business and a highway of international trading
In other words, “why should you do business with Hong Kong?”. Here are the reasons:
- Hong Kong is a level playing field for every business, there is no foreign ownership restrictions.
- In the low, simple, and predictable tax regime, there is no tax on offshore income, capital gains, dividends, estate or sales.
- Rule of law and an independent, experienced judiciary based on British common law
- Free movement of capital, talent, and goods
In fact, 58% of all China’s outward Foreign Direct Investments (FDI), amounted to US$123b, had desalinated to Hong Kong in the year 2014, according to China’s the Ministry of Commerce. In addition, Hong Kong is the biggest trade partner of China after the US, contributing to 8.7% of its year 2015 total trade figure.
The comparison I: Company Formation and Compliance
The setup of a business presence in Hong Kong is straightforward and efficient, thus it is always a low-cost formation.
Regardless of your residency, you can incorporate a private company limited by shares within 3 working days. You only have to deal with the Companies Registry (CR), it offers complete public information (e.g. sample forms) in both English and Chinese to assist. After submission, CR will issue a Certificate of Incorporation (CI) and Business Registration Certificate (BR) to your newly incorporated Hong Kong company. If you are in hurry, you can seek help from us, we are qualified to submit the incorporation document electronically to CR, and it is shortened to 1 day.
By either way, to comply with the Hong Kong company’s locality, you must assign a company secretary who is either a Hong Kong resident or a Hong Kong limited company, and maintain a Hong Kong postal address. Furthermore, there is no regulation of capital injection regarding limited companies.
All changes of the company’s structure such as appointment/dismissal of directors, alteration of articles of association can be done after firstly shareholders’ written consent are made, secondly submission of respective notices to CR.
These are complicated procedures as both of the state authorities’ laws and regulations together with that of the destination city authorities must be considered. Therefore, hiring China lawyers are important in completing the procedure.
Foreigners generally select WFOE which is a type of limited liability company in China for foreigners to maintain full control and 100% ownership of the company. The setup usually takes 4 to 6 months in a simple case.
Furthermore, there is strict regulatory of injection of registered capital to WFOE, its level varies across the stated industries of the company and cities of registration.
For the management, there are certain major corporate management which require the unanimous consent of all shareholders. Therefore, one shareholder who holds a minority stake can post a risk of deadlock.
Comparison II: Tax System
Only the income which has a source in Hong Kong are subject to tax here, a territorial source principle of taxation creates benefits for using Hong Kong company as a vehicle for operating offshore business. Furthermore, it adopts one type of direct income tax on incorporated body namely Profits Tax, it is highly similar to the corporate income tax in other offshore jurisdictions. Currently (upto March 2017), the annual tax rate is 16.5% on taxable income. It has no tax on dividends income and dividends paid abroad, and no tax on receiving and redistributing capital gain.
Tax assessment period is one year. Since post-transactions accounting principle and withholding tax on direct income are adopted, to avoid tax surprise when your company is profiting, ongoing accounting management is necessary to monitor your profit, you can devote your effort to make profit unit you receive annual tax return from Inland Revenue Department (IRD), the tax authority in Hong Kong.
Apart from Profits Tax, an individual who received employment income sourced in Hong Kong are subject to Salaries Tax (a type of direct income tax on employment income for personal tax payer).
If you are a director of a Hong Kong company and received remuneration from your company in a tax assessment year, you will receive personal tax return later because you are an employee of this Hong Kong company, you must declare this income to IRD regardless your residency. Tax rate of Salaries Tax is progressive, capped at 15%, and generous tax allowance is given. For example: the first HK$132,000 income is tax free. However, withholding tax on Salaries Tax is in place, IRD collects Salaries Tax from your estimated income of next tax year, the collected withholding tax is called tax credit, you are able to subtract from taxes owed to the IRD in next tax year.
China’s Enterprise Income Tax (a type of direct corporate income tax in China) is rated at 25%. Capital gain and dividends are taxable income.
Generally, China taxes 20% on passive income, including dividends, royalty, and interest.
In addition, withholding are applied on these incomes. China charges withholding tax on dividends, royalty and interest at a rate at 20%, 10% and 10% respectively.
For a WFOE deriving income in China, the above domestic withholding tax rate applies.
Fortunately, various tax treaties are signed between China and other jurisdictions as a relief for WFOEs on withholding tax of dividends. For example, a 100% Hong Kong company owned WFOE may benefit from the 5% withholding tax rate provided that this Hong Kong company is the beneficial owners of this dividends. Furthermore, a full tax exemption in the PRC is available on capital gains derived by a Hong Kong investor from the disposal of shares in a PRC-based company, provided that the shares sold are less than a 25% shareholding of the PRC company and the assets of the PRC company are not mainly composed, directly or indirectly, of immovable property (such as real estate) situated in the PRC.
VAT is applied in China. China levies VAT on sale of goods, but exports of goods generally obtain zero rate of VAT for manufacturing industries. It can obtain zero output VAT in exporting, along with a refund of input VAT ranging from 0% to 17% in which are incurred on materials purchased domestically for the export of goods.
Comparision III: Freedom of capital flow
Hong Kong Dollar, HKD, has been pegged to USD at a rate of around USD7.8 to HKD1 for 20 years. Hong Kong Dollar is a stable and universal currency. You and your company are able to receive payments in other currencies besides Chinese yuan (“RMB”, abbreviation of Renminbi is often used). Hong Kong banks provide a wider range of currency selections, including USD, EUR, GBP, CHF, CAD, AUD, NZD, CNY, HKD, JPY, and SGD.
There is no restriction to the movement of capital. Paying abroad and receive payment from abroad are not questioned by the banks nor authorities.
Furthermore, financial institutions offer wider range of financial products. For example, rate of lending money is usually cheaper than that in China.
It does not matter if a Hong Kong company’s source of fund is done through an injection of share capital or a loan. Both procedures are straightforward, Hong Kong banks are efficient, any remittances does not require approval from banks nor authorities. allowing Hong Kong companies to operate timely.
China is a stated-controlled economy, with restricted currency controls and regulated by the State Administration of Foreign Exchange (SAFE). Chinese companies are required to obtain various approvals from the SAFE for capital accounts’ overseas inbound and outbound transactions.
China maintains strict exchange controls. There are limitations on the amount of foreign exchange can be held in Chinese companies’ and personal accounts. Chinese companies are required to obtain approval to complete the business transactions in Chinese banks.
Specific rules in China governing the ratio of foreign source of fund in WFOEs. Determined by state and local authorities, the invested share capital of a WFOE shall be appropriate and adequate to render the Chinese company able to engage all the activities listed in its business scope. The actual amount of share capital to be contributed can be defined only after the draft of the business scope has been submitted to the authorities. Furthermore, the amount of invested share capital raised from loan by its foreign parent company is restricted, it will be a ceiling to the amount of loan, it will be rejected by SAFT otherwise.
Conclusion: Hong Kong is China-backed and facing the world.
Instability of RMB is increasing, companies in Hong Kong companies and individuals are not only benefited from the freedom of making and receiving payments in their needed currencies, but also the advantages to control their risk exposures in foreign exchange.
In trading business’s point of view, Hong Kong is the solid jurisdiction to grant a Hong Kong company and its foreign parent company a substance in international tax planning, and therefore reducing the risk of possible future tax audits.
Hong Kong has a efficient legal system and transparent authorities which enable flexibility to you, while Chinese laws are restrictive.