Many foreign invested enterprises are unaware of the annual regulations needed to maintain their entities in Hong Kong and China. Should these regulations not be adopted by companies, penalties may arise and ultimately closure could be foreseeable. It is important that all companies are aware and understand what these policies are.
Annual Regulations for Hong Kong Companies
All local companies incorporated in Hong Kong under the Companies Ordinance are required to file an annual return. For a private company having a share capital it is mandatory to file an annual return and the filing deadline is within 42 days after the anniversary date of incorporation. This annual return needs to be manually signed by at least one director of the company or the company secretary and submitted to the Company Registry in Hong Kong. Every director, company secretary and manager is liable for late filing. The maximum penalty for each breach is HKD 50,000 and a daily fine of HKD 700. In addition, a higher registration fee is payable for the late filing of the annual return.
At the end of every financial year each Hong Kong Company is committed to file an annual audit (also known as an annual report). This annual audit must be presented to the shareholders at the Annual General Meeting (see below) and submitted to the Inland Revenue Department together when filing the profits tax return. This audit has to be done in accordance with the Hong Kong Financial Reporting Standards by a certified public accountant; making it necessary and important to keep proper financial books. An annual report consists of three parts: the director's report showing key information concerning the company, annual accounts showing an overview of the annual statements and an auditor's report which states whether the profit and loss statement and the balance sheet exhibit a true and fair view of the company's financial position.
Annual General Meeting
Every company must hold its first Annual General Meeting (AGM) within 18 months after its incorporation and thereafter at least once in every calendar year.
Annual Profits Tax Application
Every Hong Kong Company has to file its profits tax return on its profit arising in or derived from Hong Kong. The profit will be taxed with 16.5%. Each year the company will receive a letter from the Inland Revenue Department (IRD) with the application form. The filled-in and signed documents will be sent back to the IRD together with the audit report and tax computation. This form together with other supporting documents needs to be handed in to the IRD no later than one month after the letter from the IRD was issued otherwise penalties up to three times the tax payable may be charged.
Annual Tax Exemption Application
If a Hong Kong Company is only conducting business outside of Hong Kong (known as an offshore business), the company is able to apply for a tax exemption. In general in order to be able to justify offshore business your company should:
Once the company receives the request of the IRD to pay its profits taxes, it can file a formal letter to the IRD applying for a tax exemption. The IRD will then send a letter back with extensive questions in order to asses whether the company's demand can be justified or they may request that the company provide full documentation of several or all business transactions running through the Hong Kong Company. Depending on the profit the company generated and the complexity of the business, the offshore claim can take up to several months or even a year.
Annual Personal Income Tax Application
Different compared to other countries, personal income tax is paid once a year and will not be automatically deducted from the salary. Each person is responsible to file the application. The company is not liable to conduct this filing. Every person working for a Hong Kong Company that is more than 60 days in a year in Hong Kong is liable to pay personal income tax in Hong Kong. The standard tax rate is 15% of the annual income. Depending on your status (e.g. single, married, with children) there are certain allowances which are deductible from your annual taxable income.
Statutory requirements for a Hong Kong Company
Every Hong Kong Company must have at least one director and one shareholder which can be the same person or company and Hong Kong residency is not required. In order for the government to have a contact person in Hong Kong each Hong Kong Company needs a Company or Corporate Secretary. This person can either be an individual who ordinarily resides in Hong Kong, or a corporate body, which has its registered office or a place of business in Hong Kong. A registered office address in Hong Kong is a must as well. Hong Kong companies must keep its normal statutory books such as the register of members and transfers together with "minute books" of the meetings of its directors and shareholders. It is important to note that proper accounting is an essential aspect to fulfilling all annual mandatory requirements in an efficient and easy manner. Without proper accounts the company could risk incurring penalties for late filing or no filing at all which in the worst case scenario could result in the company being forced to close down.
Annual Regulations for China Companies
Annual Audit for Foreign Invested Enterprises (FIEs)
All FIEs (whether Representative Office or Limited Company) in China are required to prepare annual financial statements, including balance sheets and income statements for their annual Chinese audit. Such accounts must be in accordance with the Chinese accounting standards for business enterprises.
FIEs, including their legally responsible persons, must take full responsibility for the truthfulness, legitimacy and completeness of these financial statements. The financial statements must be completed each month for each financial calendar year from January 1st to December 31st. These documents must be completed and audited before end of April of the following year. The audited accounts will then have to be consolidated and submitted for tax purposes by the end of April every year. These statements will be used for computing the FIEs taxable and distributable profit. Accordingly, an annual audit by a firm of certified public accountants registered in the PRC is required under Chinese law.
Annual Tax Declaration for FIEs
FIEs will also need to submit to both the national tax bureau and local tax bureau the Annual Taxation Consolidation Reporting Package, authorized by a CPA firm by the end of April each year. In this reporting package, a CPA firm shall verify all the taxes including VAT, Business Tax, Consumption Tax, Foreign Enterprise Income Tax (FEIT), and other taxes on the basis of the audit result.
The FEIT is obviously the most important issue to be disclosed in this report. The related taxable elements, and in particular items involved in FEIT such as income, cost and expenses, are specified in detail, while the auditing firm shall make the FEIT reconciliation between financial profit and taxable profit in accordance with PRC FEIT regulations.
If the audited taxes are different from the taxes paid by the FIE, the FIE shall discuss the variation with the tax bureau. For example, should the audited tax figure be lower than the figure paid, the FIE will need to apply for a tax rebate or tax reduction for the fiscal year in question. Accordingly; should the audited tax figure be higher than the paid FEIT, once the FIE submits the report, it would have to pay the balance due to the tax bureau.
Annual License Renewals for Limited Companies
Besides an annual audit, Limited Companies, such as Wholly Foreign Owned Enterprises, Foreign Invested Commercial Enterprises and Joint Ventures (NOT Representative offices) also have to submit a range of other documents and licenses to the authorities for checking and renewal if necessary. The so-called annual renewal is a bureaucratic process, but also a good time to take stock and ensure all your paperwork is up to date. The Audited Financial Report, the Foreign Exchange Audit Report, and the Annual Report must be submitted to seven government departments. These documents must be submitted before June 30th each year.
Annual Inspection for Limited Companies
Limited Companies need to apply for and obtain the annual inspection documents from the same office of the State Administration for Industry and Commerce (SAIC) from which they have obtained their original business license. They must also complete the annual inspection report form from the relevant provincial or municipal SAIC website.
Annual Individual Income Tax (IIT) Application for Expatriates and Mainland Chinese
Apart from the monthly income tax filing, employees in China with annual income in excess of RMB 120,000 (about US$16,200) should complete an annual self-declaration to be submitted by the end of March each year - at the latest - for their income earned in the previous tax year. This annual self-declaration means such expatriates should complete and submit an Individual Income Tax Declaration Form to the local tax authority in addition to their regular routine monthly tax filings.
In accordance with The Implementing Rules of the Individual Income Tax Law of the People's Republic of China and The Self-declaration Rules Concerning Individual Income Tax, taxpayers who meet any one of the following five conditions should file self-declarations of individual income taxes:
The company is obligated to process monthly IIT filings on behalf of the expatriate employee. However, expatriates have the responsibility to complete the annual income tax self-declaration. Individuals who have paid tax promptly but who do not complete the annual self-declaration may face a personal tax audit by the tax bureau and a potential tax fines risk for late tax filing.
The accounting year (fiscal year) runs from January to December in China. It is therefore important in November/December to start planning for declaration of dividends for repatriation and/or re-investment of profits. Repatriation of profits from China is of course preferable if your organization requires the funds for re-investment abroad, or to return to the shareholders.
Declaration and Repatriation Process of Dividends
The first step is to calculate the available funds for repatriation. The fourth quarter's Foreign Enterprise Income Tax filing is recommended to be done as quickly as possible in order to conduct the annual audit. The annual audit will then be submitted to the State and Local Tax Bureau for approval. Assuming there are no problems with the submitted documents, the tax bureau will issue a tax receipt confirming the final amount of FEIT payable. With this figure defined, the profits tax payment can be completed and the net profit figure derived.
Not all profit can be repatriated or reinvested. A portion of the profit (which for FIEs must be at least 10%) must be placed in a reserve fund account. This is treated as part of owner's equity on the balance sheet. This account is capped when the amount of reserves equals 50% of the registered capital of the company. In addition the investor may choose to allocate some of the remainder to a staff bonus/welfare fund or a development fund, although these are not mandatory. The remaining balance is then available for redistribution.
Firstly, a resolution of the Board of Directors to authorize such redistribution must be signed by each director, and translated into Chinese. Additional documents must be submitted for approval at the Tax Bureau. If accepted, the tax bureau will issue an Evidence of FEIT Payment Certificate. This certificate authorizes the bank to disperse funds as detailed on the certificate. Since January 1st 2008, a withholding tax must now be paid ranging from 5% to 20% of the amount to be repatriated (depending on where the investor is from).
The government has stated that the pre-2008 retained earnings of an FIE shall be exempt from withholding tax when they are distributed to its foreign investor in 2008 and beyond. However, the FIEs' profits arising in year 2008 and beyond to be distributed to the foreign investor as dividends shall be subject to withholding tax. It is understood that the Chinese authorities are considering whether to adopt an application and examination procedure in 2008 to verify the amounts of FIEs' undistributed retained earnings up to the end of 2007 which are eligible for this special concession of withholding tax exemption.
Maintaining a Hong Kong and/ or China entity involves a lot of administration work and any misunderstandings or late filings could cause your entity penalties and even more administrative effort. As always when dealing with a jurisdiction outside of your home country, it is advisable to seek expert advice on these topics and outsource important functions - at least for the starting period of your business. This will spare you a lot of trouble and enable you to focus on your daily business. Most FIEs do appreciate to have a service provider who can provide a full-service package of all mandatory annual requirements so they do not have to deal with the different parties and spend so much time on these requirements.
All information in this report is verified to the best of our ability and is assumed to be correct at time of release; however, Klako Group does not accept responsibility for any losses arising from reliance on the information provided within.
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