On November 11, 2012, the Government of the Hong Kong Special Administrative Region of the People's Republic of China and the Government of Canada signed a comprehensive income tax treaty. The Treaty will enter into force once Hong Kong and Canada have notified each other that local ratification procedures have been completed.
If ratification is mutually completed in 2013, for example, the Treaty will apply (i) for most Canadian purposes, for amounts paid or taxation years beginning on or after January 1, 2014, and (ii) for Hong Kong purposes, for any year of assessment beginning on or after April 1, 2014.
Broadly speaking, the Treaty will:
- Encourage cross-border business and investment;
- Allow investors to better determine their cross-border business and investment tax profile; and
- Provide protection against tax discrimination and potential double taxation.
Canada has long had a close relationship with Hong Kong, in no small part due to the sheer number of Hong Kong born persons who have taken up Canadian citizenship, and the signing of the Treaty can be seen as a natural step in this relationship.
Some specifics under the Treaty will include the following:
- Cross-border dividend withholding tax will be capped at 15% (and 5%, in the case of dividends paid to a company that controls at least 10% of the votes of the dividend payer). While this would significantly help tax-efficient repatriation of profits from Canadian businesses established by Hong Kong-based owners, Canada's investment industry has also been reported as lobbying for reduced withholding tax, to stimulate additional interest in Canadian dividend-paying stocks and to help Canadian financial firms that are expanding their wealth management business into Hong Kong, and indirectly, China;
- Cross-border withholding tax on interest payments will generally be limited to 10%. However, cross-border interest payments will be subject to 0% withholding tax where the payer and recipient deal at "arm's length" and the interest is not contingent or participating interest (this largely parallels existing Canadian domestic tax rules);
- Given the fact that Hong Kong has not historically relied significantly on withholding taxes, the benefits of the reduced Treaty withholding rates on dividends and interest are expected to provide practical advantages primarily to cross-border payments from Canadian entities to Hong Kong owners (otherwise taxable at a 25% Canadian withholding tax rate, in the absence of a tax treaty). Here, it is worth noting that both the dividend and the interest articles of the Treaty contain anti-treaty-shopping provisions, and therefore any Hong Kong company that is effectively an intermediary must have sufficient independent substance to enjoy effective access to the lower Treaty withholding rates;
- Tax paid in one jurisdiction will effectively be allowed as a credit against tax payable on the same income in the other jurisdiction;
- Under special provisions dealing with shipping and air transport, profits derived from international traffic will be taxable only in the jurisdiction of the carrier, and as a result, Hong Kong-based airlines that fly to Canada will generally not be taxed in Canada;
- While not as expressly worded as other tax treaties, the Treaty appears to preserve Canada's right to tax capital gains on the sale of shares of a company (wherever incorporated) deriving more than 50% of their value directly or indirectly from underlying Canadian "immovable property", including resource property; and
- The Treaty includes broad "exchange of information" provisions, but a Protocol released at the same time as the signing of the Treaty clarifies that these provisions will not require exchanges of information "on an automatic or a spontaneous basis".
With its Hong Kong office, McMillan LLP is well-positioned as a gateway for Hong Kong and Chinese companies looking to access the North American markets, and for Canadian companies looking to access Hong Kong and China. Our tax team has the depth and experience to help you achieve your goals.