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Profit Tax Review

15th August, 1997  

Mr. K. C. Kwong  
Secretary for the Treasury  
Central Government Offices,  
Lower Albert Road,  
Hong Kong.  

Dear Mr. Kwong,  

PROFITS TAX REVIEW  

Thank you for inviting us to submit our comments on the above consultation document.  

Although we support a profit tax reduction, we do not feel that it is appropriate to review profits tax in isolation. Any review should surely approach the tax system as a whole. Coming so soon after the commencement of the SAR Government, such a narrow review gives the unfortunate impression that the business community is being targetted for special favours. We strongly recommend that this review of profits tax is extended into a review of the entire system by which the Government raises revenue.  

A comprehensive review of Government revenues is urgently needed. For example, while the document rightly states that Hong Kong's profits tax rate is low compared with that of other economics in the region, the yield from the various land-related taxes in Hong Kong is often larger than the entire profits tax yield. Taking land taxes into account, the total tax burden on Hong Kong business is not low. There are also problems with Government fees and charges which have been rising sharply in recent years and are widely perceived as a form of "double taxation". We urge that these factors be taken up in full scale review of the Government revenue system as a whole.  

Our comments on the document itself are as follows :-  

1. The Government's reserves are at an excessive level, and its annual budget is  
    in a state of chronic surplus. In this context, it is not merely possible but  
    urgently necessary to cut taxes. We therefore support a reduction in profits  
    tax, and suggest that this be phased in at the rate of 1% per year for the next  
    six years until the rate has been reduced to 10%. A 6.5% total reduction of  
    this kind, taken at the current rate, would amount to some HK$11.7 billion  
    annually, which would make a useful contribution to dealing with the problem  
    of excessive surpluses.   

2. Generally, we prefer any lightening of the profits tax burden to take the form  
    of a cut in the general rate rather than allowances in specific areas.  
    Government should not seek to micromange the economy through allowances  
    targeted at specific industries or activities. It should be born in mind that an  
    allowance for one business is, by implication, a tax on all the rest.  
    Government's job is to provide an environment in which businesses of all  
    kinds can flourish, which is best done through a low general rate. Allowances  
    also divert resources into administration and interpretation, and often have  
    unintended consequences.  

3. Para 12. We oppose granting deductions of 150-200% on research or  
    training for the reasons given in 2 above. This is not to say that we're ignoring  
    the need to upgrade the skills of those who are already employed. We are  
    simply supporting the point on the distinct possibility of complicating our  
    simple taxation system. We do not have a more appropriate solution for  
    encouraging Research & Development (R & D) and Training at this  
    point-of-time; however, we shall be pleased to share our thoughts with you on  
    this subject when we complete our policy review on R & D and Training in   
    September.   

4. Para 13 and 14. We see no justification in continuing the high initial  
    allowances on plant and machinery. Anecdotal evidence suggests that such  
    allowances are often claimed on plant and machinery purchased for use in  
    mainland China, and do not benefit Hong Kong at all. We are aware that high  
    initial allowances in the UK, from which the Hong Kong system derives, were  
    phased out in the early 1980s. We recommend that the same is done in Hong  
    Kong, and that the current system is replaced by a system of flat annual  
    allowances of 20% or 25% per year.   

5. Para 15. We recommend that a standard approach be adopted for buildings  
    in used by any kind of business, without discrimination, i.e. a standard  
    percentage of say 4% per annum be applied across the board.  

6. Para 17. We oppose the granting of special incentives in the financial services  
    sector or other sectors for the reasons given in 2 above. If it is felt that action  
    has to be taken, then we would prefer an across-the-board waiver or  
    reduction in tax rather than a reduction applying only to certain industries or  
    activities. So, for example, the 50% concession on tax on income from certain  
    debt instruments and exemption for others, quoted in paragraph 16, should be  
    extended to all debt instruments. The existing system merely distorts economic  
    activity and favours some instructions over others.   

7. Para 21. We oppose any further ventures into the field of double taxation  
    agreements. Firstly, since Hong Kong does not levy tax on profits sourced  
    outside Hong Kong, the territory has nothing to give away in double tax  
    negotiations. Secondly, under double tax treaties it is necessary to pass  
    information on Hong Kong residents to overseas authorities, which would  
    breach the principle of business confidentiality which is a mainstay of the Hong  
    Kong business system. Thirdly, we understand that the way certain of these  
    tax treaties have been implemented may actually result in some airlines paying  
    more Hong Kong tax than they would otherwise have done, which to the  
    extent that this is the case, would appear to defeat the purpose of the exercise  

8. Para 22. We support reasonable efforts to deal with tax evasion. However,  
    we would emphasise that while investigations increase tax revenues, they have  
    net negative effects on the economy as a whole, since management and  
    professional resources are employed by both sides in the investigation. We  
    also observe that the attitude of the IRD assessors is in many cases  
    unreasonable, with some taking a "bounty hunting" attitude to their  
    investigative work. The discretionary powers available to the assessors in their  
    investigative work also open the possibility of corruption or extortion. We  
    recommend that before any further expansion of the investigative work of the  
    IRD, a review is conducted of the total costs of the investigative process and  
    the appropriateness of the powers wielded by the Inland Revenue in this  
    regard.   

I hope that the above comments and recommendations are helpful and we would be pleased to meet you at your office to clarify or further explain our views if you feel necessary.  

Yours sincerely,  

Alan LUNG Ka-Lun  
Chairman