Hong Kong Codification of Transfer Pricing Part 1 (1/2)

Welcome to our Transfer Pricing Series Part 1. In this 2-part series, we will talk about the latest Hong Kong transfer pricing law.

Transfer Pricing has become a popular tax topic, as global tax authorities are fighting for more profits of MNCs to be allocated to their jurisdiction and thus increase their tax revenues. It is also one of the BEPS actions set out by the OECD. As such, it is important for MNCs to balance the interest of all involved tax authorities when they determine their group transfer pricing policy.

Thanks to its low tax rate, Hong Kong is a place where most MNCs tend to allocate more profits. However, occasionally, MNCs will sacrifice Hong Kong in their transfer pricing policy. Based on our experience, below are the two common scenarios: -

Scenario one: Assigning big losses to Hong Kong entities during a recession

The economic recession caused a significant drop in the profit margin of MNCs group. As the overseas and Mainland China group companies have already guaranteed a certain level of profit margin with their respective tax authorities, the residual loss was borne by the Hong Kong entity. Now, the IRD will probably impose transfer pricing adjustments to the Hong Kong entity.

Scenario two: Hong Kong as a collection and payment hub.

For some MNCs, Hong Kong entities made payments and collected recipients on behalf of their overseas group companies without receiving a fee. In other words, they enter into significant amounts of sales and purchase transactions without any profits. These break-even transactions made by Hong Kong entities will result in lower-than-average overall profit margin, triggering the attention of the IRD to make transfer pricing adjustments to ensure the Hong Kong entities earn a reasonable level of profits.

Under the new law, the IRD can make tax adjustments up to a reasonable level of profits among the industry peers. More importantly, in the absence of proper transfer pricing documentation, penalty up to 1 times of tax undercharged will be imposed and no Tax Credit will be available for the tax penalty.

If you want to know more about the threshold of transfer pricing documentation in Hong Kong and reasons to prepare benchmarking studies, subscribe to our channel and continue to watch our Part 2 Video.