Mainland Chinese working in Hong Kong have found a way to use "free money" from local banks to invest in profitable financial products across the border.
They take advantage of cheap personal loans aggressively hawked by banks in an attempt to expand their business. The borrowers quietly turn around and invest the cash on the mainland for higher returns.
Given the big gap in interest rates between Hong Kong, which has a market-based banking system, and the mainland, where the central bank tightly controls loan and deposit rates, it's no surprise that some are able to exploit the opportunity for arbitrage.
One practical difficulty remains, however, for these individual investors – how to transfer the money to the mainland? Sometimes they have to do it illegally. Chinese citizens are legally allowed to transfer up to US$50,000 per year into the mainland. Violators face fines or criminal prosecution.
The annual tax season in Hong Kong provides an opportunity for investors to obtain the cheap cash from local banks in the form of loans ostensibly to help them pay off their taxes.
Robin Wang, a managing director in the Hong Kong office of a major Chinese state-owned enterprise who earns more than HK$2 million a year, faces an eyebrow-knitting tax statement every year.
This year, he learned something new from his friends about how to make profitable use of his tax filing – submit the statement to a local bank and apply for a tax loan at a very low rate, in some cases less than 2 per cent per year.
Wang, who spoke to the South China Morning Post on condition that his real name not be used, said he could borrow up to 10 times his salary from one of the major local banks, although he does not, in fact, need the loan to pay his taxes.
"For me, this means 'free money', so why not?" he said.
Wang said instead of using the loan to pay his tax bill, he transferred the cash – after converting it into yuan – to the mainland through underground money agencies in Sheung Wan.
Once the cash reached his mainland bank account, he could sit back in Hong Kong and place orders online for short-term investments.
These are typically wealth management products, mostly offered by trust companies. They mature in three to six months and offer an annualised return of at least 6 per cent. They are part of the mainland's shadow banking business, the regulation of which has been a growing headache for Beijing.
Wang said that with part of the returns he earns on these investments, he was able to quickly repay the tax loans.
Jiang Rongqing, senior partner at Dacheng Law in Beijing, said the practice carried a number of risks.
"Transferring money through underground banks – this practice is illegal itself, because those banks totally avoid the settlement of exchange," said Jiang. "Also, this transaction is not secure at all."
"The government bureaus often focus on companies conducting illegal transactions but ignore individual practice. If it is a big amount, violators will be subject to criminal charges."
Once the cash gets into the mainland banking system, some investors may also pour the money into the red-hot property market, where they can put a down payment on a flat financed at the cheaper offshore borrowing rates.
In an interview with the Post, a Hong Kong-based mainland business executive, who only wanted to be identified as Mr Su, said he recently made the down payment for his new flat in Zhongshan, Guangdong province, with part of his tax loan from a local bank.
Su said he had the financial strength to repay the loan, since his job paid well.
"I don't see it as a problem for both the Hong Kong and mainland banking system," Su said.
"As a borrower, I will repay my loan to the Hong Kong bank on time. As a property buyer, I make my down payment in cash. No one asks me where the money comes from, and I don't think anyone should ask."
Wang said the availability of low-interest personal loans in Hong Kong is widely known among mainlanders.
"I don't see anything wrong with [borrowing in Hong Kong and investing in the mainland]. This is what we are entitled to, because this is how the two different systems work," Wang said.
"The only risk may happen in the money transfer process, given the dodgy nature of those underground banks, but if you think about the low-rate loans you can get in Hong Kong, it is too compelling [an opportunity to ignore]."
Customer service staff at major Hong Kong banks from HSBC to Bank of East Asia said they were aware of the loophole and that some of those taking out tax loans might not really use the money to pay their taxes. But they said the banks have no control over how the borrowers spend their money.
For the 2013/2014 tax year, many banks started promoting tax loans in October, with a monthly flat rate ranging from 0.12 per cent to 0.17 per cent.
After taking into account all fees and promotional discounts, a borrower usually pays an annualised interest rate of 1.7-2.6 per cent.
The larger the loan a borrower applies for, the lower the interest rate. For example, HSBC charges 1.7 per cent interest for smaller tax loans, but if the amount exceeds HK$100,000, the rate drops to 1.4 per cent.
On the mainland, the benchmark interest rate set by the People's Bank of China, the central bank, is 6 per cent for one-year loans. It rises to 6.55 per cent for loans of more than five years.
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