Answer ... Stamp duty
In the case of a share acquisition of a Hong Kong company, each of the buyer and the seller must execute a contract note. Each contract note is liable to stamp duty at the rate of 0.1% of the higher of the consideration for the shares or the pro-rated equity value of the shares transferred (the total stamp duty exposure is 0.2%).
An exemption applies for shares transferred between companies with a common shareholding of 90% or more (among other conditions). An application must be made to the Collector of Stamp Revenue to take advantage of this exemption.
Stamp duty must be paid before the transfer of shares can be registered in the books of the target and within the timeframes specified in the Stamp Duty Ordinance.
Deductibility of interest and financing costs: The availability of tax deductions for interest expenses must be considered. Interest is deductible in Hong Kong only if:
- it is incurred to derive assessable income; and
- it is paid to either a bank or a lender liable to tax on the interest income.
If a Hong Kong holding company is used to acquire a Hong Kong target and debt (whether shareholder or third party) is injected at the holding company level to finance the buyout, to the extent that the investment in the target generates no assessable profits for the Hong Kong holding company, the interest expense will be non-deductible (see question 3.2). Therefore, since dividends from the Hong Kong target are exempt from tax, the deductibility of the financing costs will be an issue in this case.
There are no thin capitalisation rules for Hong Kong companies.
Accumulated losses: Generally, companies can carry forward losses for set-off in subsequent tax years. However, anti-avoidance provisions in the Inland Revenue Ordinance allow the Commissioner of Inland Revenue to refuse to offset losses brought forward if he or she is satisfied that the sole or dominant purpose of a change in shareholding is the utilisation of those losses to obtain a tax benefit. Further due diligence is required if a target has accumulated losses and a premium is sought for the benefit of the tax losses.
The fund may also seek an advance ruling from the Inland Revenue Department to confirm that the losses will remain available for set-off by the target after the buyout.
Withholding tax: Payments of interest or dividends by a Hong Kong target to non-residents is not subject to withholding tax, as Hong Kong does not impose withholding tax on interest and dividends.
However, if the Hong Kong portfolio company makes royalty payments to a non-resident fund for the use of intellectual property in Hong Kong (or for use outside Hong Kong if the payment is deductible against profits assessable in Hong Kong), the Hong Kong portfolio company will be required to withhold tax. The amount of the withholding tax is calculated as either 30% or 100% of the amount of profits tax payable on the payment (effectively 4.95% or 16.5% of the payment, based on the current profits tax rate of 16.5%). The higher rate applies if the intellectual property was previously owned in Hong Kong.
Exit considerations: A key issue is whether the investment in the target is regarded for tax purposes as being held as a trading asset or for long-term investment. As Hong Kong does not tax capital gains, this issue is particularly important.
If the investment in the target is regarded for tax purposes as being held for long-term investment, the profits from the sale of the investment will not be subject to Hong Kong tax.
On the other hand, if the investment in the target is regarded for tax purposes as being held as a revenue asset, the profits from the sale of the investment will be assessable profits. The issue of whether a profit is capital or revenue in nature is essentially a question of fact and depends on many factors, including the intention of the taxpayer at the time of acquisition; and good documentation for the purpose of the buyout is essential to protect the tax position.