India: India Signs A Tax Treaty With Hong Kong

Last Updated: 9 April 2018
Article by SKP  

Hong Kong is a significant economic partner of India in terms of trade and investment. India is Hong Kong's seventh largest trading partner and the total value of bilateral trade has reached HKD 266 billion.

Despite such large-scale trade relations between India and Hong Kong, India did not have a Double Tax Avoidance Agreement (tax treaty) with Hong Kong. Furthermore, the Indian government had categorically clarified vide Instruction No. 1948 dated 4 May 1998 that the tax treaty between India and China would not extend automatically to Hong Kong since Hong Kong has a right to conclude and implement agreements with other jurisdictions on its own.

In 2017, the Union Cabinet of India gave its approval for entering into a tax treaty with Hong Kong. Accordingly, India entered into a tax treaty with Hong Kong on 19 March 2018 for the avoidance of double taxation and fiscal evasion of taxes on income. The said tax treaty would become effective once the same is notified by both the countries.

Key takeaways from the tax treaty

Permanent Establishment – Article 5

  • Service Permanent Establishment (PE) is established if services are provided by a resident of one country in another country through its employees/other personnel for a specified period.

    India-Hong Kong Tax Treaty provides for a threshold of 183 days. This threshold is substantially higher than the limits of 30/60/90 days in various other tax treaties. However, this clause provides that the period has to be considered for any 12 month period and also covers connected projects.

  • Recently, India had expanded the definition of Dependent Agent PE (DAPE) under the domestic law to bring the same in line with the definition provided under the Multilateral instrument (MLI) signed under the Base Erosion & Profit Shifting (BEPS) project.

    The India-Hong Kong Tax Treaty continues to have the old definition ( narrower definition) of . could be Hong Kong has reserved its rights on the expanded definition of provided under MLI in respect of its covered tax treaties.

Shipping and Air Transport – Article 8

  • The India-Hong Kong Tax Treaty provides for partial exemption of profits earned by a shipping company or airline company. The tax treaty provides that income from a shipping business or airline business would be taxable in the source country at 50% of the tax rate of the source country.

    Typically, most of the Indian tax treaties provide for an exemption in source country for shipping companies and airline companies. Provisions of partial exemption present only in a few Indian tax treaties like India-Netherlands, India-Greece India-France among others.

Dividends – Article 10

  • The India-Hong Kong Tax Treaty provides for a 5% tax rate on dividends in the hands of the recipient of the dividend without any ownership condition.

    Most of the Indian tax treaties with developed countries like the USA, the UK, France, Germany, etc. provide for a higher rate of dividend tax. India has limited tax treaties which provide for a 5% dividend tax rate. However, all those treaties have an ownership condition for availing the 5% rate. However, the India-Hong Kong Tax Treaty provides for a lower without any ownership condition.

Royalties & Fees for Technical Services – Article 12 & 13

  • Royalties and Fees for Technical Services (FTS) are taxable at the rate of 10%.

    Many Indian tax treaties with countries like Singapore, the USA, the UK, etc. provides for an expanded definition of FTS. However, such a clause is not present in this treaty.

Capital Gains – Article 14

  • Capital gains to be taxable in the source country for shares as well as others.

SKP's comments

This is a welcome development as the India-Hong Kong Tax Treaty would assist in augmenting the economic trade ties between the two jurisdictions.

This tax treaty would help in creating transparency in tax matters and also help companies in avoiding double taxation of income. It would be pertinent to note that most of the terms negotiated in the tax treaty are in line with the recently signed tax treaties by India. However, in respect of shipping income, the treaty does not have the same advantage as available under the India-China Tax Treaty.

Also, it would be pertinent to note that various articles of the tax treaty (i.e., dividend, interest, royalties, FTS, capital gain articles, etc.) have a specific anti-abuse provision which requires a principal purpose test to be fulfilled. Benefits of these articles would not be available in cases where the main purpose or one of the main purposes of the company was to avail these benefits.

The only silver lining in the tax treaty is a favorable tax rate of 5% for dividend taxation in source state without any condition. However, in the Indian context, this may not be of relevance as dividend income from companies would be exempt.

Nevertheless, signing this tax treaty would help Hong Kong companies to claim tax credit in the home country of taxes paid in India.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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