The COVID pandemic has created significant changes to the mode of operation of businesses and to the place of employment, which changes have resulted into various tax related issues. On 28 July 2021, the Hong Kong Inland Revenue Department (“IRD”) released its guidance on tax issues arising from the pandemic. The IRD’s approach is generally in line with the guidance released by the Organisation for Economic Co-operation and Development (“OECD”) on how to deal with COVID tax issues.

Summarised below is the IRD’s approach to the tax challenges arising from the pandemic in relation to tax residence of companies and individuals, permanent establishments, employment income of cross-border employees and transfer pricing.

Tax Residence of Companies

The IRD does not consider a temporary change in location of board members or other senior executives, as a result of the pandemic, to have any impact on a company’s residency status, especially not there where the tie breaker rules contained in tax treaties apply. The IRD however will still take into account all the relevant facts and circumstances in assessing a company’s residence.

Tax Residence of Individuals

An individual’s residency will unlikely change if he/she temporarily stays in the host jurisdiction as a result of travel restrictions or other public health measures imposed during the pandemic, particularly where the tie breaker rules under tax treaties apply. However, if such stays continue after the travel restrictions are lifted, such assessment may be different.

Permanent Establishment (“PE”)

The IRD will examine all the relevant facts and circumstances and is prepared to adopt a flexible approach for PE assessment given the extraordinary nature of the pandemic. For a temporary change of employees’ working location due to the COVID-19 pandemic, e.g. working from home, that should not create new PEs for the employers. Likewise, any temporary conclusion of contracts in the home of employees or agents because of the pandemic should also not create PEs for enterprises. However, if an individual continues to work from home after the cessation of the public health measures, further examination of the facts and circumstances would be required.

Income from employment

Where Hong Kong has entered into a tax treaty with the counterpart jurisdiction, the additional days spent by the employee being stranded in Hong Kong due to the pandemic would be disregarded for the purposes of counting the 183-days threshold.

This approach covers situation where the employee is prevented from travelling due to quarantine requirements, certified sickness caused by COVID-19, travel ban imposed by government and cancellation of flights necessitated by government public health measures.

On the other hand, if there is no double tax treaty in place, the IRD will have no discretion to exclude the days of physical presence for the purpose of the 60-days exemption rule under Hong Kong’s domestic tax legislation. In other words, if one spends more than 60 days in Hong Kong for a year of assessment, he will be liable to tax in Hong Kong where tax treaties are not applicable.

Transfer pricing

The IRD will generally follow the Guidance on the Transfer Pricing Implications of the COVID-19 Pandemic issued by the OECD in December 2020. More specifically, when conducting a comparability analysis, separate testing periods for the duration of the pandemic or loss-making comparable may be appropriate.

In addition, it could be acceptable for a limited-risk entity to have losses if such losses are incurred at arm’s length basis. Furthermore, the receipt of government assistance may also be relevant when determining the price of a controlled transaction.

For existing advance pricing arrangements (“APA”), the IRD will continue to uphold them unless a condition leading to the revocation, cancellation or revision of the APA has occurred.

COVID Tax Issues Latest Update

The IRD stated that the guidance is for general information only and the treatment for each case will be determined on its own facts and circumstances. In case of doubt, one should seek professional advice from a tax advisor about these COVID tax issues.

Readers may also refer to our previous tax articles at Covid-19 Tax Concerns in Hong Kong and COVID-19 Tax Guidance Update on Tax Treaties published on 11 November 2020 and 31 January 2021 for more details on the OECD’s guideline, and our COVID-19 tax implication article.