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May 1, 2023

Hong Kong proposes safe harbor rules for onshore equity disposal gain

  • Hong Kong proposes safe harbor rules for onshore equity disposal gain to enhance tax certainty.
  • The related legislative amendments are expected to be enacted later in 2023 with effect from 1 January 2024.
  • Multinational enterprises may consider how best to structure an equity disposal transaction in light of the proposed safe harbor rules.

Executive summary

Hong Kong issued a consultation paper regarding the proposed enhancement of tax certainty of onshore gains of equity interests. The consultation paper proposes conditions for a safe harbor rule under which onshore disposal gains on equity interests will be accepted as being nontaxable capital gains in Hong Kong.

Detailed discussion

Under the Hong Kong tax rules, foreign-sourced disposal gains from the sale of equity interests received in Hong Kong by a multinational enterprise carrying on a trade, profession or business in Hong Kong are nontaxable in Hong Kong if the additional requirements under the revised foreign-sourced income exemption regime are met. Meanwhile, onshore disposal gains are nontaxable in Hong Kong if they are classified as capital in nature. However, currently there is no bright-line test for what constitutes gains on a capital account; hence the taxability of disposal gains will require a fact-specific "badges of trade" analysis under the domestic tax law to determine how the gains should be characterized.

To provide upfront certainty on onshore disposal gains without undertaking the "badges of trade" analysis, Hong Kong has now proposed a safe harbor rule under which an onshore gain on disposal of an equity interest will be deemed a nontaxable capital gain in Hong Kong if the equity interest is:

  • At least 15% of the total equity interest of an entity
  • Held continuously for 24 months before the disposal

There are certain exclusions for gains that are normally not considered to be capital in nature and for which the risk of abuse is relatively high; nonetheless the taxability of such disposal gains would continually be determined under the current taxation principle.

Subject to the views collected during the consultation period, which will be considered during the legislative process, the proposed safe harbor rule is expected to be codified in second half of 2023 and the proposed legislation will take effect from 1 January 2024.

For additional information with respect to this Alert, please contact the following:

Ernst & Young Tax Services Limited, Hong Kong

Ernst & Young LLP (United States), Hong Kong Tax Desk, New York

Ernst & Young LLP (United States), Asia Pacific Business Group, New York

Ernst & Young LLP (United States), Asia Pacific Business Group, Chicago

Published by NTD's Tax Technical Knowledge Services group; Carolyn Wright, legal editor


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