Hong Kong Tax News Flash 

   
Note:
Subsequent to the issuance of this news flash, the comprehensive double tax agreement between Hong Kong and Vietnam became effective on 12 August 2009 after the completion of the ratification procedures of both sides.  The agreement will be applicable in Hong Kong for any year of assessment beginning on or after 1 April 2010 and in Vietnam from 1 January 2010.
       
The Double Tax Agreement between Hong Kong and Vietnam
       
A comprehensive double tax agreement between Hong Kong and Vietnam ("the HK/Vietnam DTA") was signed on 16 December 2008.  Upon completion of the ratification procedures by both governments, the HK/Vietnam DTA will apply with effect, in Vietnam, from 1 January in the calendar year following that in which the DTA enters into force and, in Hong Kong, from 1 April in the calendar year following that in which the DTA enters into force.
      
Key features of the HK/Vietnam DTA
      
Some of the key features of the HK/Vietnam DTA are as follows:

1. The DTA provides limited benefits in withholding tax rates.  The following is a comparison of the withholding tax rates for dividends, royalties and interest with and without the treaty:
   
   

   	Dividends	Royalties	Interest
   Vietnam non-treaty rate	Nil	10%	10%
   Hong Kong non-treaty rate	Nil	4.95% / 4.5% (note:2)	Nil
   Treaty rate	10% (note:1)	7% / 10% (note:3)	0% / 10% (note:4)

   
   Notes
1. Currently, there is no withholding tax on dividends in Vietnam after tax is paid on the profits out of which the dividends are declared.  The 10% treaty rate represents the maximum rate applicable to dividends received by a Hong Kong resident should a withholding tax on dividends be levied in Vietnam in the future.
2. The 4.95% rate applies to corporations whereas the 4.5% rate applies to unincorporated businesses/partnerships.
3. The 7% rate applies to royalties for the use, or the right to use, any patent, design or model, plan, secret formula or process.  The 10% rate applies to all other cases.
4. The 0% rate applies to interest payments to the HKSAR Government and recognised institutions.  The 10% rate applies to all other cases.
       
2. Currently, foreign companies performing business in Vietnam or having contracts with Vietnamese customers without establishing a legal entity in Vietnam are subject to "Foreign Contractor Withholding Tax" ("FCWT") at various rates depending on the business activities performed (for service fees, the FCWT is 10% on the turnover, being 5% value added tax and 5% deemed business income tax).  The business income tax component of such FCWT will be eliminated under the DTA provided that a Hong Kong company does not carry on business in Vietnam through a permanent establishment ("PE") in Vietnam.
         
3. Under article 5 of the DTA, a PE is defined to include provision of services by an enterprise if the services continue (for the same or connected project) for a period or periods aggregating more than 180 days within any 12-month period.
      
4. If a Hong Kong investor has a PE in Vietnam, the income attributable to that PE will be subject to business income tax in Vietnam.  If the same income is subject to Hong Kong profits tax, the Vietnamese tax paid will be allowed as a credit against the Hong Kong profits tax payable in respect of that income.  The tax credit allowed includes the Vietnamese tax that would have been paid but for an exemption or reduction granted as tax incentives for foreign investments by the Vietnamese government (the sparing provision).  This sparing provision applies for a period of 10 years from the day the DTA comes into effect.  Please note that it is likely that the income attributable to the PE in Vietnam will not be taxable in Hong Kong as the source of the income is likely to be outside Hong Kong.
       
5. The DTA does offer tax exemption in relation to capital gains derived by a Hong Kong resident from the alienation of less than 15% interest in a Vietnamese company that does not derive 50% or more of its asset value directly or indirectly from immovable property situated in Vietnam.  Currently, transfers of business interests are generally subject to business income tax of 25% on the gains derived from the transfers or 0.1% on the sales proceeds in Vietnam, depending on the type of business interests being sold.
     
6. As far as employment income is concerned, Hong Kong employees will be exempt from Vietnamese personal income tax provided that:
           
   
   1. they do not spend more than 183 days in Vietnam in any 12-month period commencing or ending in the fiscal year concerned;
   2. their remuneration is not paid by, or on behalf of, an employer who is a resident of Vietnam; and
   3. the remuneration is not borne by a PE in Vietnam.
          
   In the absence of a treaty, foreigners who spend less than 183 days in a consecutive 12-month period are still subject to personal income tax at a flat rate of 20% on their Vietnam-sourced income.
         
7. Similar to the other double tax agreements that Hong Kong has entered into so far, the Exchange of Information article included in the HK/Vietnam DTA is the more restrictive 1995 version of the Organisation for Economic Cooperation and Development model convention.
        
8. The DTA also contains "Associated Enterprise" and "Mutual Agreement Procedure" articles similar to those in Hong Kong's other double tax agreements as well as provisions to eliminate double taxation that include relief (for a period of 10 years from the day on which the DTA comes into effect) for tax spared as a result of tax incentives granted under Vietnam's provisions for encouraging foreign investment for development purposes.

PwC observations

Investing into Vietnam - One of Asia's emerging markets
         
In recent years, numerous economic and tax reforms have taken place in Vietnam with the aim of making it an attractive destination for foreign investors, including those from Hong Kong.  As reported by the Vietnamese government, Hong Kong has so far had more than 400 investment projects in Vietnam with total registered capital of nearly US$5 billion, ranking the fifth among 70 nations and territories investing into Vietnam.
  
Hong Kong investors can benefit from the HK/Vietnam DTA by means of the reduced withholding tax rate on royalties received from Vietnam, potential tax exemption for capital gains derived from disposal of their investments in Vietnam, and elimination of double taxation for income taxes paid (or deemed to have been paid under the tax sparing provision) in Vietnam.
  
Hong Kong has now signed comprehensive double tax agreements with five countries, namely Belgium, China, Luxembourg, Thailand and Vietnam.  The following table provides a comparison of some of the key features under the treaties with Thailand, China and Vietnam.

Notes:

1. The 5% rate applies to royalties in relation to copyrights whereas the 10% rate applies to royalties in relation to any patent, trademark, design or model, plan, secret formula or process.  The 15% rate applies to all other cases.
2. The 10% rate applies to interest paid to financial institutions or insurance companies and interest paid with respect to indebtedness arising from the sales on credit of any equipment, merchandises or services on arm's length basis.
3. The 5% rate applies where the shareholding is at least 25%.
4. The 0% rate applies to interest paid to the PRC government or recognized institutions.

So far as Chinese investors are concerned, the HK/Vietnam DTA does not provide any significant benefits for them to invest in Vietnam through Hong Kong.  This is because China has itself concluded a double tax agreement with Vietnam (the "China/Vietnam DTA") with treaty withholding rates for dividends and interest similar to those under the HK/Vietnam DTA.  For royalties received by a Chinese company from Vietnam, although the withholding tax rate under the China/Vietnam DTA is 10% (vs 7% under the HK/Vietnam DTA), the 10% withholding tax paid should generally be allowed as a credit against the corporate income tax payable by the Chinese company in China on the income concerned.
      
Concluding remarks
        
The HK/Vietnam DTA is the fifth comprehensive double tax agreement entered into by Hong Kong.  At the time of writing, the Hong Kong SAR Government has also initialled a double tax agreement with Kuwait and is having negotiations with Austria, the Netherlands and a number of other countries.  The expansion of Hong Kong's treaty network with other countries will help strengthening Hong Kong's position as the preferred location for multinational corporations to set up their regional headquarters in the Asia-Pacific region.