Hong Kong tax agency advises on tax and transfer pricing effects of Covid-19

The Hong Kong Inland Revenue Department on July 29 clarified its approach to the disruptions caused by Covid-19 with respect to various tax issues, including issues related to tax residence, permanent establishment, and transfer pricing. In general, Hong Kong’s approach to these issues is aligned with the OECD’s Covid-19-related guidance for tax treaties and transfer pricing.

In line with OECD guidance, the Hong Kong tax agency considers the arm’s length principle to remain the standard for evaluating transfer pricing of controlled transactions, although consideration must be given to how the pandemic has affected the outcomes of economically significant risks. The Hong Kong agency’s guidance adds that it may be appropriate to have separate testing periods for the pandemic or to include loss-making comparables in comparability analyses. In addition, the effect of any government assistance on the price of controlled transactions should be considered.

The Hong Kong tax agency also states that it will uphold existing advance pricing arrangements (APAs), provided no conditions triggering their revocation, cancellation, or revision have occurred. It adds that taxpayers must notify the agency of any material change in economic conditions leading to a breach of critical assumptions within one month of such breach.

Regarding tax residence of companies, the guidance clarifies that temporary changes in the location where certain management meetings and activities take place due to the pandemic do not by themselves alter a company’s tax residence. For purposes of applying tie-breaker rules under a tax treaty for a company resident in more than one jurisdiction, the guidance states that travel restrictions imposed by one of the jurisdictions are unlikely to affect residence determination.

In determining whether a non-Hong Kong resident has a permanent establishment in Hong Kong, the tax agency will consider all relevant facts and circumstances, including the effect of the pandemic and associated travel restrictions, and it is “prepared to adopt a flexible approach” on the issue. In accordance with OECD guidance, the agency says temporary employment location changes due to Covid-19 should not create new permanent establishments for employers. The same also generally applies to the temporary conclusion of contracts in the home of employees due to the pandemic.