After filing the profits tax return on time and paying the tax amount according to the tax bill, has the tax responsibility for the year been fulfilled?
Definitely not! To streamline the tax assessment process, IRD will first issue the tax bill based on the tax return and relevant information submitted by the company. The tax assessors will then review and investigate. Therefore, don’t think that the tax responsibility has been fulfilled after paying the tax. Sometimes IRD will send a letter requesting further information for tax assessment or even a field audit. We have handled different tax issues for our customers, and the following is to share with you which types of companies are more likely to be requested for information by IRD.
Companies applying for offshore profits exemption
Hong Kong adopts a territorial source principle of taxation, which means one of the criteria of tax collection is the source of the company’s profits. If the company’s profits are derived from relevant earnings in Hong Kong, it needs to be taxed in Hong Kong. On the contrary, if the company’s profits are derived from places outside Hong Kong, the relevant profits do not need to be taxed in Hong Kong. As IRD has strict guidelines for companies to apply for offshore profits exemption, IRD will send a letter requesting further information to verify that the relevant profits are derived from places outside Hong Kong after two to three years of assessment.
Company with capital income
In addition, if companies have capital income, there will be a chance of receiving the letter issued by the IRD for further information. According to tax regulations, capital income can be exempted from tax collection. For verification, IRD will ask for proof of the capital income and examine whether it fulfills the requirements of capital income.
Remarks: Capital income mainly refers to the sudden and lump-sum income obtained by the company, such as the income generated by selling companies’ fixed assets and contract damages received for losing a major contract, which are not earned by company’s daily operation.
Companies with non-unqualified opinions issued by accountants
When accountants issue the company a non-unqualified opinion, there will be a higher chance of receiving a letter from IRD requesting further information. This is because audit opinion is one of the important references of IRD. Therefore, when the company’s audit report is non-unqualified, there is a violation of accounting standards or Companies Ordinance on the financial statements, leading to material misstatements of the amounts, classifications, or disclosure. Therefore, IRD will require further information to determine whether the information is wrong.
Companies with unreasonable financial information
IRD will also conduct a brief audit based on tax return data, tax computation, and financial statements. If the financial information submitted is unreasonable, there will be a greater change of being investigated selectively by IRD. Below is some common unreasonable financial information.
1) Companies with negative gross profit: Generally, companies strive to obtain profits and survive in the market, and there may be different reasons for a pre-tax loss for the year. But if a business has a negative gross profit margin, it is very apparent that there is an operational problem, hidden income, or mispresented expenditures. IRD will then require further information explaining these unreasonable figures.
2) Huge variance between financial information of different years: If a company’s business model stays mostly the same, there should not be a significant difference in financial data. Therefore, if the company does not change its business model and the financial information is significantly different from the previous years (such as a sharp increase or decrease in gross profit, or a sharp increase in administrative expenditure), this will be considered as unreasonable and will be doubted by IRD. Further information will be required for investigation.
Although the above cases are some companies that are more likely to be targeted by IRD, if the companies submit relevant proofs, provide valid reasons, and have no intention of tax evasion, there is no worry about submitting further information to IRD.
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