As an international business hub, Hong Kong boasts an attractive tax system. However, tax audit, also known as field audit, can create concerns for taxpayers. In this article, we will delve into the intricacies of tax field audit on companies in Hong Kong and provide valuable insights on how to navigate through them.

It’s important to note that not only companies but also their individual shareholders may be subject to tax audit. If you’re worried about tax audit or investigation, we encourage you to seek expert advice to ensure compliance with tax laws and regulations.

What is a tax field audit?

A tax field audit is a process conducted by the Field Audit and Investigation Unit of the Inland Revenue Department (IRD) of Hong Kong to ascertain the correctness of tax returns filed by taxpayers. Field auditors examine the books of accounts and records of the taxpayer’s business and visit the taxpayer’s business premises to gain a thorough understanding of the taxpayer’s business operations and personal affairs.

The purpose of field audit is to detect cases where tax evasion or avoidance is involved and to encourage the lodgement of correct returns.

During a field audit, the field auditors may ask the taxpayer or their representatives to provide information or documents related to the taxpayer’s business or personal affairs. The field auditors may also interview the taxpayer or their representatives to clarify any issues or discrepancies found during the audit. If the field auditors detect any irregularities or indications of non-compliance during the audit, they may expand the scope of the audit to cover other years of assessment or other areas of the taxpayer’s affairs. The purpose of field audit is to ensure that taxpayers comply with the requirements of the Inland Revenue Ordinance and file accurate returns to the Department.

Difference between a field audit and a desk audit

A Desk audit is the examination of an automated assessment case, while a field audit involves visiting taxpayers’ business premises to examine books of account and records, gaining an understanding of the accounting system used by the taxpayer, and assessing the adequacy of the accounting system as a basis for the preparation of financial statements. In other words, a desk audit is conducted remotely, while a field audit is conducted on-site.

During a desk audit, the assessing officer examines all aspects of the case to see whether the reported profits or income are correct, while during a field audit, the field auditor ascertains the correctness of returns not only by examining books of account and records but also by gaining a more thorough understanding of business operations.

Reasons being selected for field audit

The Inland Revenue Department (IRD) of Hong Kong selects taxpayers for field audit based on risk assessment and other factors such as the size and nature of the taxpayer’s business, the mode of operation of the business, the accounting policy and book-keeping procedures used within the business, the personal financial status of the taxpayer and associated persons, and the taxpayer’s personal and family living expenses. 

On the other hand, some acts of taxpayers would trigger the  selection for a field audit or investigation.

These acts include:[1] 

1. deliberate non-lodgement of a return;
2. deliberate understatement of income or over-claiming of deductions;
3. understatement of income or over-claiming of deductions owing to ignorance of taxation obligations (even if without any conscious intention to undermine compliance or to understate assessable income); and
4. overly aggressive tax planning.

The following businesses are more likely to be selected for fireld audit:-

1. insufficient business record; 2. cash transactions / commission business; 3. owner of sole-proprietor
2. cash transactions / commission business
3. owner of sole-proprietor

Upon uncovering discrepancies or evidence of non-adherence during their examination or inquiry, the IRD holds the discretion to widen the extent of the investigation, potentially involving additional fiscal years or different segments of the individual’s financial activity. The purpose of field audit and investigation is to ensure that taxpayers comply with the requirements of the Ordinance and file accurate returns to the Department.

Signals you are selected for field audit

If you have been selected for a tax field audit or investigation, you will normally be notified by letter in the first instance. The letter will inform you of the year of assessment to be considered initially and request you to contact the field auditor or investigator to arrange a mutually convenient time and place for the initial interview. The letter will also advise you that your tax representative may attend the initial interview and any subsequent interview.

If you have not received any notification from the Inland Revenue Department (IRD) of Hong Kong, it is unlikely that you have been selected for a tax field audit or investigation. In the event that the IRD uncovers anomalies or signs of non-adherence during their examination or inquiry, they reserve the right to broaden the examination’s purview to encapsulate other fiscal years or different segments of the taxpayer’s financial matters.

Field audit process

The process of a tax field audit in Hong Kong involves the following steps:

1. Notification: If you have been selected for a field audit or investigation, you will normally be notified by letter in the first instance. The letter will inform you of the year of assessment to be considered initially and request you to contact the field auditor or investigator to arrange a mutually convenient time and place for the initial interview.
2. Initial interview: The field auditor or investigator will conduct an initial interview with you and / or your representative to discuss the scope and purpose of the audit or investigation. During the interview, the field auditor or investigator may ask you or your representative to provide information or documents related to your business or personal affairs.
3. Examination of records: The field auditor or investigator will examine the books of accounts and records of your business and visit your business premises to gain a thorough understanding of your business operations and personal affairs. The purpose of this examination is to detect cases where tax evasion or avoidance is involved and to encourage the lodgement of correct returns.
4. Further interviews: Should the on-site auditor or investigator unearth any inconsistencies or signs of non-adherence during the course of their audit or probe, they possess the authority to widen the investigation’s remit to envelop additional assessment periods or other facets of your financial activities. They may also conduct further interviews with you or your representative to clarify any issues or discrepancies found during the audit.
5. Quantification of discrepancies: If the field auditor or investigator finds any discrepancies in your tax returns, they will quantify the discrepancies and project them for back years based on the field audit findings. Other quantification methods may also be used.
6. Penalty consideration: If the field auditor or investigator uncovers any substantial discrepancy during the audit or investigation, it will be taken into consideration when penalties are considered.

It is important to note that the speed of progress of a field audit case depends on the complexity of your business affairs and the support and cooperation of you and your representative. Therefore, it is advisable to make all information and records required by the field auditor or investigator readily available to ensure a smooth and efficient audit process.

How far back will IRD investigate?

The Inland Revenue Department (IRD) of Hong Kong requires a taxpayer to keep proper business records and retain such records for a period of not less than 7 years after the completion of the transactions. This means that the IRD may investigate a taxpayer’s affairs for the last 6 years of assessment .[TW2] 

However, it is important to note that the IRD may expand the scope of the audit or investigation to cover other years of assessment or other areas of the taxpayer’s affairs if they detect any fraud or wilful evasion  during the audit or investigation.[TW3]  Therefore, the period of investigation could be 10 years of assessment.

It is also worth noting that the IRD may take into account any voluntary disclosure made by the taxpayer during field audit, investigation, or other inquiry action initiated by the Department. If a taxpayer makes a full voluntary disclosure, the disclosure is regarded as a favorable factor when the imposition of penalty is subsequently considered in relation to the case.

Potential penalty for underpaid tax

There may be penalties for underpaid tax. Penalty action may be taken in respect of a failure to comply with a requirement specified under the Ordinance where the person concerned has not had a reasonable excuse or has acted wilfully with intent to evade tax. The penalties for non-compliance may include a monetary penalty, prosecution, or both. The amount of the penalty will depend on the nature and severity of the non-compliance. The penalty may be a fixed amount or a percentage of the tax undercharged or not paid. The penalty may also be increased if the non-compliance is found to be deliberate or fraudulent.

Do keep in mind that any voluntary disclosure offered by the taxpayer prior to the inception of a field audit, investigation, or any other form of inquiry by the IRD might be considered. A comprehensive voluntary disclosure, if made by the taxpayer, is viewed as a beneficial element during subsequent deliberation over the enforcement of penalties related to the case.

We are here to help

Should you notice any discrepancies in your tax records, or fear an impending investigation, it’s crucial to engage a tax attorney immediately. The possibility of a tax audit is not a matter to be taken lightly. It can potentially lead to substantial additional tax obligations and penalties, even including criminal repercussions. It’s essential for taxpayers to approach this process with the utmost seriousness.

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