Belgium - Macao and Belgium - Hong Kong: passages to the dragon's lair part 1
1. Introduction
On June 19th 2006, the Belgian Minister of Finance Reynders and Ho Hau Wah, Chief Executive of Macao signed a double taxation agreement (DTA) between Belgium and Macao. The Agreement, which is based on the OECD Model Convention with respect to taxes on income and on capital, is the third of its kind concluded by Macao, which until that moment only had tax agreements with Mainland China and with Portugal.
Belgium already concluded a DTA with Hong Kong which entered into effect on Jan 1st 2004. Like the Belgium – Hong Kong Agreement, the Agreement with Macao is part of a Belgian effort to facilitate access for Belgian companies to the Chinese market. The financial sector in particular stands to benefit from this policy.
The new Agreement, together with the one concluded earlier with Hong Kong, should also help Chinese enterprises to enter the European Union market through Belgium. Belgium offers many attractive incentives for foreign investors, the most notable being an advantageous holding company regime and a deduction on the risk-free component of equity (“notional interest deduction”).
The following article is written from a Belgian investor’s perspective.
After presenting the general legal and economic background to the conclusion of the DTA’s, the main features of the Mainland China, Macao and Hong Kong tax system will be presented.
Furthermore, the Belgium – Hong Kong DTA and the Belgium – Macao DTA will be studied in detail and compared.
The next article in this series will discuss the effects on China-bound investments in practice and give an overview of structuring opportunities.
2. Background
Under the “one country, two systems” regime currently in effect in China, the two Special Administrative Regions (further: SARs) of Hong Kong and Macao are entitled to conclude agreements with respect to taxation which differ from the treaties concluded by Mainland China.
The Belgium – China double tax treaty, concluded in 1985, does not apply to Macao and Hong Kong residents, because Macao and Hong Kong are separate political and tax jurisdictions enjoying a large degree of autonomy, until 2049 and 2047 respectively.
Hong Kong and Macao can conduct their own external relations in the fields of economy, education, science, technology and culture. As only the People’s Republic of China can conclude treaties and conventions, however, the two SARs can only enter into so-called “Agreements” with other countries.
The Chinese government spares no effort to profile Mainland China as an attractive region for investors. On the taxation level, however, there’s an asymmetry: China has one of the most extensive networks of tax treaties in the world, lowering the effective tax rate for foreign source income repatriated to China to minimal levels.
China sourced income, however, can be subject to a tax rate varying from 0% up to 60%, depending on the investment region and specific investment incentives granted by the Chinese government.
As a result, many foreign investors, as well as Chinese entrepreneurs, are looking for a more transparent and stable way for structuring their investments in Mainland China. The Chinese government seems to have adapted itself to this reality. Where, during the 1990’s, Shanghai was profiled as the main financial hub for China, the new policy appears to accept the use of holdings in the SARs.
From the Belgian point of view, the Agreements with Hong Kong and Macao are part of a larger effort to facilitate access to the Chinese market for Belgian companies. The big “push” behind the two recent Agreements with Hong Kong and Macao appears to come from the Belgian financial sector. However, all Belgian resident companies stand to benefit from these Agreements.
Furthermore, many Chinese domestic groups are structured as follows: a holding in Hong Kong or Macao, with subsidiaries on the Mainland. The two new DTAs make an acquisition of a Chinese domestic enterprise group easier for foreign investors. A second effect is that outward-bound investments of Chinese enterprises are encouraged under the new DTAs.
To conclude, as was the case with the Belgium – Hong Kong Agreement, Belgium is once again profiled as an attractive gateway into Europe for Chinese investors.
3. Mainland China, Macao and Hong Kong: tax jurisdiction profiles
3.1 Mainland China
As stated earlier, the Mainland China tax system is characterized by high complexity, strict controls, and rules that vary in each economic sector and region. Nevertheless, for the purposes of this article, we’ll summarize its most general and important features here.
An important note: any investment in China must be authorized by the government agencies and authorities competent in the matter.
3.1.1 Foreign investment operating structures
A foreign investor wanting to deploy economic activities in Mainland China has many investment options. The first choice is whether a local entity will be set up, which will then be subject to the foreign-invested enterprise (FIE) regime, or whether the investor will first test the waters and use a representative office.
Alternatively, the presence on the Mainland is kept minimal, in which case the foreign enterprise (as opposed to foreign-invested enterprise) or FE regime will apply.
The most important FIEs are the equity joint venture, the cooperative joint venture, the wholly owned foreign enterprise, and the Chinese holding company. The investor can also opt for the merger with, or acquisition of, a domestic company. A merger with a domestic company, however, is only possible with a previously established FIE. As far as acquisitions are concerned, if the target is a purely domestic enterprise, after the equity purchase, the target will also have the status of FIE.
Establishing a branch, without legal personality, is not permitted, except for financial institutions. However, some other permitted forms of economic activity may give rise to an establishment according to Chinese law, subject to the Foreign Enterprise or FE regime.
Under the Income Tax Implementing Rules, the term “establishments” is defined as “administrative organizations, business organizations, representative offices, factories, places where natural resources are exploited, places where construction, installation, assembly, exploration and other projects are undertaken, places where labor services are provided, as well as business agents”.
If a tax treaty or arrangement has been signed by the China and the country of residence of the investor, the definition in the treaty at issue will be used to determine whether the investor has a permanent establishment in China.
If a foreign company receives China-sourced income, such income will also be subject to the FE regime.
Even though setting up a branch is not permitted by Chinese law, a foreign investor can start up a so-called “representative office”. A representative office (RO) cannot carry out any business activities. Most investors start with a RO before expanding their ventures. The RO is subject to a special tax regime.
We’ll now give an overview of the most important FIEs.
3.1.1.1 Equity joint venture
An EJV is a limited liability company with at least one foreign shareholder and one domestic shareholder. The foreign investor(s) must own at least 25% of the EJV, and any change in the shareholding structure must be approved by the Chinese Government. Profits are distributed proportionally according to the capital contributions.
3.1.1.2 Cooperative joint venture
Like the EJV, the CJV is an association between a foreign and a domestic company, but more flexible than the former. Administration, profit sharing and other elements of the joint venture are governed by the CJV contract entered into between the foreign partner(s) and the Chinese partner(s). There is no minimum foreign interest requirement and a CJV can be formed as a separate legal entity or not.
3.1.1.3 Wholly foreign-owned enterprise
A WFOE (pronounced woofee) is the Chinese equivalent to the classic subsidiary. There are less incorporation requirements compared to the setup of an EJV and CJV. The WFOE is currently the most common form of structuring investments into China.
3.1.1.4 Chinese holding company
The Chinese holding company is actually a WFOE with shareholdings in other WFOEs. This structure is subject to strict capital requirements: the minimum capital of the holding should be at least 30 million USD, and the total amount of shares held should be at least 10 million USD.
3.1.1.5 Merger with or acquisition of a domestic company
If, in the resulting entity of a merger or a takeover of a domestic company, the percentage of foreign shareholding exceeds 25%, the newco can apply for a regime change to FIE. Even though the tax regime changes, loss carry-over from the original domestic enterprise to the newco is allowed. Furthermore, the newco may also enjoy a new set of tax incentives, if other conditions are satisfied, as if it were a new established entity.
3.1.2 The FIE& FE tax regime
FIEs on one hand, and FEs that dispose of a permanent establishment in China on the other hand, are treated essentially the same way for tax purposes. Only where the treatment differs, we’ll mention it explicitly.
3.1.2.1 Taxable basis
FIEs in China are subject to foreign enterprise income tax (FEIT) on their annual worldwide income. The FEs that derive income from Chinese sources, without disposing of a permanent establishment, will only be subject to tax on that particular income.
Capital gains arising from the realization of assets are included in the taxable income in the year of disposal. Dividends received from a domestic company can be excluded from the taxable income.
In an international taxation context, China gives relief for double taxation through the credit method. Tax paid abroad can be offset against the tax payable on foreign-source income. Each country is considered separately and the credit will be offset against the portion of Chinese income tax attributable to the foreign-source income from that country, with a maximum of the foreign income tax paid effectively paid on that income.
Should an excess credit remain, it can be carried forward and offset against future FEIT payable on foreign-source income up to a maximum period of five years.
All normal expenses incurred in the course of carrying on the business are allowed as deductions, with the notable exceptions of start-up costs, interest on capital, and royalties paid to the head office of an enterprise.
Start-up costs are costs incurred by an enterprise before starting operations. These costs cannot be deducted but have to capitalized and amortized for at least five years following the month in which operations were started.
Interest on capital refers to interest on debts to acquire fixed assets, and/or, in an EJV or CJV, the interest on loans obtained by the partners to finance their capital contributions to the joint venture. This interest is not deductible but may be capitalized and deducted through depreciation or amortization over the life of assets subject to depreciation. Interest on debt to acquire working capital is deductible, provided the amount is reasonable.
As far as royalties to the head office are concerned, the Chinese authorities interpret the notion of “head office” very strictly. Only the overseas headquarters of the legal entity that is shareholder in the FIE are within the scope of the definition.
China allows a loss carry-forward for five years following the year in which the losses were incurred.
3.1.2.2 Tax rate
The standard national income tax rate applicable to FIEs is levied at 30%, with a local income tax surcharge of 3%.
3.1.2.3 Withholding tax
Dividends paid to foreign investors in FIEs are exempt from withholding tax.
FEs with an establishment in China that derive income that is not connected with that establishment, pay a withholding tax of 20% on that income. FEs without an establishment in China are subject to a statutory withholding tax of 20% on gross dividends, interest, rental, royalties and other income derived from China.
However, as from 1 January 2000, the aforementioned withholding tax has been reduced to a concessionary rate of 10%.
Furthermore, many of the double tax treaties concluded by China provide taxpayers with an exemption or a reduction of Chinese withholding tax.
The rate of withholding tax on interest, royalties and rental income obtained from the leasing of property in China is set at 10%.
Some types of interest are exempt from withholding tax, mainly interest on loans to the Chinese government and Chinese state banks, where the lender is a private or intergovernmental financial institution.
The FE that acts as a lessor in a finance lease with a Chinese enterprise as lessee will be taxed on the net rental income, after deducting the purchase price of the leased assets.
Royalties include income obtained from the provision of patent rights, proprietary technology, copyrights, trademark rights, etc. Proprietary technology is a catch-all definition for technical know-how in general.
3.1.3 Representative office regime
A representative office is not a FIE. A RO is an extension of its head office and is not a separate legal entity in China. As stated earlier, the RO cannot, in principle, engage in business activities. It may not issue invoices or enter into trade contracts and its activities must be limited to liaison duties, information collection, market research and technology exchange.
Whether the income of the RO will be taxed or not, however, depends on the nature of the organization establishing the RO. If the enterprise is a trading company, business organization, or agent of these types of companies, the activities of the RO will be taxed. The same will be true for consulting firms, holding companies of large groups, travel agencies, financial institutions engaging in consulting, and transport companies.
The exempt activities of a RO, therefore, are limited. The first condition is that the overseas head office, establishing the RO, is a manufacturer or a trader. Secondly, only market research, provision of commercial information and liaison and other preparatory and supplementary services rendered at nil consideration for the manufacture or sale of the head office’s products into China will be exempt.
ROs that are established by non-profit or governmental organizations will also be exempt.
Depending on the activities and the completeness of the RO’s accounting records, the taxable income of a RO will be determined by the actual, deemed profit or cost-plus method.
The RO found to be engaging in taxable activities, will generally be liable to income tax at the standard national rate of 30%, plus local income tax of 3%, on net taxable income.
3.1.4 Investment incentives
The Chinese government offers a wide array of tax incentives to foreign investors, in most cases reducing the effective tax rate considerably. Currently, these incentives are granted to investors who set up their operations in a specific region. In the future, incentives will be granted to investors who set up operations in a specific economic sector.
3.1.4.1 Special Economic Zones
All FIEs set up in a Special Economic Zone (SEZ) are subject to a reduced income tax rate of 15%. For the reduction to apply in the Pudong District of Shanghai Municipality, the enterprise must be geared towards manufacturing, or be involved in the construction of energy or telecom infrastructure.
3.1.4.2 Economic and Technological Development Zones
Almost every province in China has a “Economic and Technological Development Zone” (ETDZ) which offers the following incentives: a reduced rate of 15% for every company involved in production.
3.1.4.3 Areas adjacent to SEZs or ETDZs
The FIE established in an open coastal zone or old urban district of a city where a SEZ or ETDZ is located, can apply for a reduced rate of 24% if it is active in manufacturing. A further reduction to 15% is possible for those FIEs that are active in high-tech, or are involved in a project with a worth of at least 30 million USD, or are active in the energy, transportation or harbor construction sector.
3.1.4.4 National High Tech Zones
High-tech FIEs in thes zones are subject to a reduced rate of 15%.
3.1.4.5 Central and Western China
The reduced rate of 15% is available for those FIEs active in an “encouraged project”, even up to three years after the expiration of the initial tax exemption and reduction period.
3.1.4.6 Tax holidays
A high-tech FIE is established in a national high-tech zone is granted a two year exemption from all income tax, starting from the first profit-making year, if they are scheduled to operate at least 10 years.
A three year rate reduction of 50%, but with a minimal effective rate of 10%, after the period of other reductions and exemptions has expired, is available to FIEs that the Chinese authorities have certified as an “high-tech FIE”, provided they stay active in this sector, regardless of whether they are located in a high-tech zone or not.
A two year exemption of all income tax is available to all manufacturing FIEs scheduled to operate at least 10 years. This exemption period starts in the first year of profit-making. After these two years, the applicable tax rate (30%, 24% or 15% dependent on whether other reductions apply) is halved.
A similar exemption is available to a FIE active in services, provided it is established in a SEZ and the investment exceeds 5 million USD and is scheduled to operate at least 10 years. Contrary to the manufacturing FIEs however, the full exemption is only available for the first profit-making year.
Finally, an export-oriented enterprise is entitled to further exemptions after the expiration of the initial reductions and exemptions. In any year in which the FIE exports at least 70% of its total output, it may be granted a 50% reduction of the applicable tax rate, but with a minimum of 10%.
3.1.4.7 Other incentives
Local governments have discretionary power to reduce the local income tax of 3% for FIEs or exempt FIEs completely from this tax.
The Chinese government offers many further investment incentives, of which the most important are:
- if a FIE directly reinvest profits, the foreign investor may obtain a refund of 40% of the tax paid on the reinvested amount;
- FIEs may offset 40% of the acquisition cost of locally manufactured equipment against the excess amount of FEIT payable in the year of purchase, compared to that of the preceding tax year, provided the equipment is used in an “encouraged” project;
- FIEs engaged in “encouraged industries” may qualify for tax holidays and preferential tax treatment on the income derived from projects that are funded by additional invested capital, provided that the additional registered capital is at least 60 million USD, or provided that the additional registered capital is at least USD 15 million and at the same time least 50% of the original registered capital.
3.1.5 Conclusion
Any overview of the Mainland China tax system will be incomplete by nature. In the end, the effective tax rate paid will depend on the agreements made with local authorities and government agencies in connection with a particular investment project.
The Chinese government’s policy with respect to foreign investments is clearly revealed in the tax regime. Manufacturing, especially for export, is encouraged. Development of China’s northern and western regions is imperative. Finally, China tries to attract as many high-tech enterprises as possible.
However, the lack of maturity of domestic financial markets, combined with a rather strict holding company regime, will induce investors to coordinate financing and profit repatriation from abroad for the foreseeable future.
In 2007 at its earliest, the different tax regimes for FIEs and domestic enterprises will be unified, with a nominal tax rate that will probably be fixed at 24%.
3.2 Hong Kong
The Hong Kong tax system is a topic that has been extensively covered and discussed in international taxation literature. Nevertheless, to make an adequate comparison with the Macao system possible, we’ll summarize its most important features.
For years, Hong Kong has held the number one spot in the authoritative World Economic Freedom Index. The tax regime is based on the pursuit of simplicity and efficiency; the Hong Kong tax system planners are firm believers in the Laffer curve.
This leads to some typical characteristics of the Hong Kong tax system, such as the territoriality principle, the flat tax rate and the absence of many anti-abuse measures we find in other tax systems.
3.2.1 Taxable basis
The territoriality principle means that only income or profits which arise in Hong Kong, or which are derived from Hong Kong sources, are subject to taxation. Residence status and other elements, such as whether the taxable entity is a branch or a foreign-owned subsidiary, do not affect tax treatment. Persons taxable are simply all persons, domestic or foreign, that derive income from Hong Kong and they will be taxed on that income only.
There is no capital gains tax in Hong Kong. Domestic double taxation is avoided using the exemption method: profits from dividends already subject to profits tax are excluded from the taxable profits of the shareholder.
In this system, the focus therefore lies on source of profits, not on nature of profits. The question of whether income is derived from Hong Kong is a factual one that has to be answered on a case-to-case basis. Nevertheless, from practice and case law (Hong Kong is a Common Law country) a number of rules can be distilled.
The Hong Kong tax authorities apply the “operations test” to a transaction to determine whether the nexus lies in Hong Kong or not. What has the taxpayer done to earn the profits in question and where he has done it?
The distinction between Hong Kong and offshore profits is made by reference to gross profits arising from individual transactions. In certain situations where gross profits from an individual transaction arise in different places they can be apportioned as arising partly in and partly outside Hong Kong.
The place where day-to-day investment decisions are taken does not generally determine the locality of profits and the absence of an overseas permanent establishment of a Hong Kong business does not of itself mean that all of the profits of that business arise in or are derived from Hong Kong.
Dependent on the nature of the business involved, the operations test will be carried out differently. It must be noted that in recent years, the Hong Kong tax authorities are taking an increasingly stricter stance on offshore profits.
3.2.2 Tax rate
The corporate income tax rate, called “profits tax” in Hong Kong, is a fixed 17.5%.
Also, capital gains are not taxable.
3.3 Macao
The Macao tax system is characterized by low tax rates and simplicity. For the purpose of this article, we will focus on corporate income tax and on personal and corporate tax on passive income.
The Macao tax system does not make a distinction between companies and individuals.
However, for the purpose of determining taxable profits under the business income tax (called “complementary tax” in Macao), taxpayers are divided into two groups.
Group A is composed out of all incorporated companies with a capital of more than 125.000 USD or an average annual profit over the last three years of more than 62.500 USD, and entities electing to be classified as Group A taxpayers. These taxpayers are taxed on the basis of their annual financial statements.
Group B comprises all other companies, partnerships and individuals engaged in business activities. They are taxed on presumed profits based on turnover.
3.3.1 Taxable basis
The complementary tax is levied on the annual taxable profits earned by companies from commercial or industrial activities. These taxable profits include capital gains arising from the realization of assets. Dividends, interest, royalties, technical service fees received by a Macao company are in principle included in the taxable basis.
Income derived outside Macao by a company resident in Macao, be it dividends, interest, royalties, technical service fees or other income, are subject to complementary tax whether or not such income is remitted. This is a major difference with the tax system in Hong Kong, which completely exempts such foreign-source income from taxation.
As far as deductions are concerned, all normal expenses incurred by the taxpayer in the production of assessable profits are deductible, including interests. However, interest, royalties and management fees paid by a resident company to an overseas affiliated company will be disallowed as a deduction from profits if the amount is deemed unreasonable on an arm’s length basis.
Dividends distributed from a Macao Company to another Macao company can be deductible from the assessable profits of the receiving company, thus avoiding the dividends from being subject to economic double taxation.
Losses may be carried forward and deducted from assessable profits for 3 years following the year in which the losses were incurred. The carry-back of losses is not permitted. Losses sustained as a result of activities which benefit from an exemption from, or a reduction of, complementary tax may not be deducted from other activities subject to the same tax. Losses incurred abroad cannot be deducted from profits derived in Macao.
There are no withholding taxes in respect of business income. In practice, however, payments of dividends, interest or royalties to non-residents, royalties and non-bank interest are subject to withholding tax at the appropriate complementary tax rate. Companies must withhold complementary tax at the appropriate rate from any dividend payments which have been deducted from taxable income.
There is generally no personal or corporate tax on capital gains arising from the transfer of shares, bonds and other securities. However, if the shares, bonds or other securities transferred were acquired for speculative purposes, profits from such transfers will be subject to the complementary tax as ordinary income.
3.3.2 Tax rate
Complementary tax is levied at a progressive rate with brackets of 2500 USD. The lowest average rate is 2%; the maximum rate is 15% on profits exceeding 37500 USD.
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Profits in USD (1 USD = 8 Macao Pataca) |
Rate (%) |
Average tax rate (%) |
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|
|
||||||||
|
first |
2,500 |
|
2 |
2.0 |
|||||
|
|
2,500 ‑ |
5,000 |
3 |
2.5 |
|||||
|
|
5,001 ‑ |
7,500 |
4 |
3.0 |
|||||
|
|
7,501 ‑ |
10,000 |
6 |
3.75 |
|||||
|
|
10,001 ‑ |
12,500 |
8 |
4.6 |
|||||
|
|
12,501 ‑ |
15,000 |
10 |
5.5 |
|||||
|
|
15,001 ‑ |
17,501 |
12 |
6.5 |
|||||
|
|
17,501 ‑ |
20,000 |
14 |
7.3 |
|||||
|
|
20,001 ‑ |
22,500 |
16 |
8.3 |
|||||
|
|
22,501 ‑ |
25,000 |
18 |
9.3 |
|||||
|
|
25,001 ‑ |
27,500 |
20 |
10.3 |
|||||
|
|
27,501 ‑ |
30,000 |
22 |
11.3 |
|||||
|
|
30,001 ‑ |
32,500 |
24 |
12.3 |
|||||
|
|
32,501 ‑ |
35,000 |
26 |
13.3 |
|||||
|
|
35,001 ‑ |
37,500 |
28 |
14.3 |
|||||
|
over |
|
37,500 |
‑ |
15.0 |
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3.3.3 Macao Offshore Institutions
An attractive feature of the Macao tax regime is that is possible to establish a so-called “Offshore Institution”, which is not subject to any substantial taxation in Macao. Companies incorporated in Macao, or companies abroad who dispose of a branch in Macao, can apply for a special license in Macao to make their subsidiary or branch an Offshore Institution.
Only companies that are active in offshore, non-Macao business (= non-Macao) can obtain the license. The company must be active in offshore financial services, such as offshore banking, offshore insurance, offshore re-insurance or offshore trust and asset management services.
In 2005, the Macao government has extended the list of permissible activities to non-financial services. An offshore institution can now also be active in one or more of the following businesses:
- management and administration of ships and aircraft;
- hardware consultancy;
- software consultancy;
- data processing,
- database related activities;
- research and development activities;
- tests and technical analysis activities;
- back-office activities.
These non-financial OI’s are either offshore commercial services institutions, that can provide services to any third party, or offshore auxiliary services institutions, than can only provide services to their parent or group companies.
An offshore institution can only use non-Macao currency in its transactions. Only non-Macao residents can be targeted as customers and the company can only focus on non-Macao markets.
Additional conditions for obtaining the license are:
- a detailed business plan must be submitted to the government of Macao;
- the company must engage resident staff in Macao;
- the company must occupy an independent office in Macao;
- the company must have substantial activities, demonstrated by its turnover or assets, in the field of the declared offshore activities.
If the license is successfully obtained, and the company respects all conditions, the offshore institution enjoys full exemption from various kinds of taxes, including industrial tax, property tax, and stamp duties. Furthermore, the offshore institution can engage non-resident manager or specialist technicians who will be exempted from professional tax (income tax) of Macao for up to three years.
2. The Double Tax Agreements in detail
We will now examine the most original and notable features of the Belgium – Macao DTA in detail. As both Macao and Hong Kong can be considered by an investor as home bases for structuring investments into Mainland China, we will compare the DTA with Macao to the DTA Belgium concluded earlier with Hong Kong.
2.1 Scope of the Agreement
2.1.1 Personal scope
As usual in DTA’s concluded by Belgium, the Macao – Belgium DTA is applicable to persons that are residents of a contracting party. A notable feature of this DTA is that this Agreement includes partnerships in its scope, which are considered taxable entities in Macao.
The Macao – Belgium DTA contains a “Limitation on Benefits”-clause, which the Belgium – Hong Kong DTA lacks. The use, by residents of third states, of legal entities established in Belgium or Macao with a principal purpose to obtain the benefits of the tax treaty between the two Contracting States, is not allowed. The tax treaty benefits will be denied to these entities.
However, if investors are able to demonstrate substantial economic reasons for establishing the structure that are unrelated to obtaining treaty benefits, the structure will fall outside the scope of the prohibition in the LOB-clause and benefits will be granted.
2.2.2 Taxes covered
All taxes on income in effect in Belgium and in Macao are covered by the Agreement.
In contrast to the Belgium – Hong Kong Agreement, which is an Agreement “with respect to taxes on income and on capital”, the Belgium – Macao Agreement is an Agreement “with respect to taxes on income” solely. The reason for the omission in the latter Agreement is that neither Belgium nor Macao has a real capital, wealth, or net worth tax in effect, whereas the Hong Kong “property tax” on real estate is so extensive it can be considered as such a tax. Furthermore, the Hong Kong government may introduce extra taxes on capital in the future, which will also be covered by the current DTA with Belgium.
2.2 Definitions
Different from the Belgium – Hong Kong DTA, is that the term “business” is not defined as including the performance of professional services and other activities of an independent character. The Contracting Parties have instead chosen to follow the OECD Model Convention from before April 29th 2000, which included a separate article on independent personal services.
This means that income derived from professional services or activities of an independent character are not dealt with under the provision with respect to business profits (Art. 7 OECD Model Convention, Art.7 Belgium – Macao DTA).
The reason why Art. 14 was deleted from the OECD Model Convention was to reflect the fact that there were not intended to be differences between the concepts of permanent establishment (see Articles 5 and 7 of the OECD Model Convention) and a “fixed base” (as used in Article 14), or between how profits were computed and tax was calculated under either of these provisions.
Because both Contracting Parties agree, in the additional Protocol to the DTA, to adhere to the general principles of the Commentary of the Model Convention, in which professional services are assimilated to business profits, the separate article on professional services will not pose any problems in practice.
2.3 Residence
The sole difference here between the Belgium – Macao DTA and the Belgium – Hong Kong DTA is that the latter specifically makes reference to the criterion of place of incorporation to decide if a business if resident in one of the Contracting Parties. The Belgium – Macao DTA, like the OECD Model Convention, gives more weight to factual elements, without going so far as to exclude the criterion of place of incorporation as an element to be considered.
2.4 Permanent establishment
Even though the rest of the Belgium – Macao DTA closely follows the OECD Model Convention, for the definition of a “permanent establishment” the Contracting Parties have chosen to follow the United Nations Model Convention instead, which is more extensive. This means that a permanent establishment also arises if:
- There is “a building site or a construction, assembly, installation or dredging project which exists for more than six months in any 12-month period”;
- An enterprise “carries on supervisory activities in that Party for more than 6 months in any 12-month period in connection with a building site, or a construction, assembly, installation or dredging project”;
- An enterprise “furnishes services, including consultancy services, through employees or other personnel engaged by it for such purpose, but only where activities of that nature continue for a period or periods aggregating more than 6 months within any 12-month period”;
Different to the Belgium – Hong Kong DTA, however, is that there is no mention of “a stock of goods or merchandise belonging to the enterprise from which a person habitually fills orders on behalf of the enterprise” constituting a permanent establishment, when this person acts on behalf of an enterprise in the other Contracting Party. The Belgium – Macao DTA appears to be less strict on this point.
A second difference between the two DTA’s is that the Belgium – Macao DTA we find in the sixth paragraph of the article on permanent establishments. “An enterprise shall not be deemed to have a permanent establishment in a Contracting Party merely because it carries on business in that Party through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business.” The Belgium – Macao DTA adds the following sentence, pursuant to the UN Model Convention, making the definition more extensive: “When the activities of such an agent, however, are devoted wholly or almost wholly on behalf of that enterprise, he will not be considered an agent of an independent status within the meaning of this paragraph.”
2.5 Business profits
In this article, the Belgium – Macao DTA follows the OECD Model Convention to the letter. The Belgium – Hong Kong DTA, however, contains extra provisions concerning the determination of profits attributable to a permanent establishment.
In paragraph 2 of Article 7 of the Belgium - Hong Kong DTA, it is stipulated that profits attributable to a PE will be determined as if it was a distinct and separate enterprise, dealing wholly independently with the enterprise of which it is a PE, “or with other enterprises with which it deals”, making this provision more strict than the OECD Model Convention.
Furthermore, in its paragraph 3, the Belgium – Hong Kong DTA contains detailed provisions on the allowance of deductions from the profit from the PE, which are absent in the OECD Model Convention and the Belgium – Macao DTA. “No such deduction shall be allowed in respect of amounts, if any, paid (otherwise than towards reimbursement of actual expenses) by the permanent establishment to the head office of the enterprise or any of its other offices, by way of royalties, fees or other similar payments in return for the use of patents or other rights, or by way of commission, for specific services performed or for management, or, except in the case of a banking enterprise, by way of interest on moneys lent to the permanent establishment. Likewise, no account shall be taken, in the determination of the profits of a permanent establishment, for amounts charged (otherwise than towards reimbursement of actual expenses) by the permanent establishment to the head office of the enterprise or any of its other offices, by way of royalties, fees or other similar payments in return for the use of patents or other rights, or by way of commission for specific services performed or for management, or, except in the case of a banking enterprise, by way of interest on moneys lent to the head office of the enterprise or any of its other offices.”
In paragraph 4, the Belgium – Hong Kong DTA is also stricter than the OECD Model Convention and the Belgium – Macao DTA. Where the latter two contain the condition that the determination of profits attributable to a PE, based on apportionment of the total profits of the enterprise to its various parts, is possible, “insofar it has been customary”, there’s no such condition in the Belgium – Hong Kong DTA. There, the Contracting Parties are still free to introduce this method, even after the conclusion of the Agreement.
This all leads to the conclusion that transactions between PE’s and the enterprise of which they are dependent, are under more extensive scrutiny in Hong Kong than in Macao.
2.6 Shipping and air transport
Where the Belgium – Macao DTA follows the OECD Model Convention, there’s a difference in the Belgium – Hong Kong DTA. As a corollary to its article on residence, where reference was made to the place of incorporation to determine where an enterprise is resident, in the article on shipping and air transport no reference is made to the “place of effective management”.
One can conclude therefore that in the Belgium – Hong Kong DTA, it was the will of the Contracting Parties to disregard the criterion of “place of effective management” in favor of the criterion of “place of incorporation”. The Belgium – Macao DTA, however, gives more weight to the “place of effective management” to determine residence status.
2.7 Dividends
The DTA provides that withholding tax on dividend distributions to beneficial owners resident in the other Contracting Party may not exceed:
- 0 % if the beneficial owner of the dividends is a company which at the moment of the payment of the dividends holds, for an uninterrupted period of 12 months, shares representing at least 25% of the capital of the company in the other Contracting Party paying the dividends;
- 5% of the gross amount of the dividends if the beneficial owner is a company which holds directly at least 10% of the capital of the Belgian company paying the dividends
- 10% of the gross amount of the dividends in all other cases.
The difference with the Belgium – Hong Kong DTA lies in the last hypothesis. In the case where a Hong Kong beneficial owner receives dividends from a Belgian company and his shareholding remains below the threshold of 25% or 10%, Belgium will tax at 15%. For Hong Kong, this article on dividends is less relevant, because Hong Kong does not levy a withholding tax on dividends.
2.8 Interest
With regards to interest payment, the Macao and Hong Kong DTA are identical: withholding tax at source cannot exceed 10%.
2.9 Royalties
As with interest payments, withholding tax at source is capped at 5% in both DTA’s.
2.10 Capital gains
The Macao – Belgium DTA follows the OECD Model Convention, whereas the Hong Kong – Belgium DTA exempts: “gains derived from the alienation:
- of shares quoted on a recognised stock exchange of one of the Parties; or
- of shares alienated or exchanged in the framework of a reorganisation of a company, of a merger, of a scission or of a similar operation; or
- of shares more than 50 per cent of the value of which is derived from immovable property in which the company carries out its activity”.
2.11 Independent personal services
As stated earlier, the Macao – Belgium DTA treats this subject separately, whereas the Hong Kong – Belgium DTA follows the most recent version of the OECD Model Convention, where this income is assimilated to business profits.
2.12 Income from employment
Both DTA’s follow the OECD Model Convention, the Hong Kong – Belgium DTA however adds an extra condition to taxability of remuneration derived from an employment in the other Contracting Party: for the source jurisdiction to tax, the (type of) remuneration should also be taxable in the residence jurisdiction of the employee.
2.13 Artistes and sportsmen
The Macao – Belgium DTA contains an extra clause that the Hong Kong – Belgium DTA and the OECD Model Convention lack: income from activities exercised in a Contracting Party shall not be taxed by this Party if the activities are substantially supported by public funds of the other Contracting Party.
2.14 Pensions and other maintenance payments
Both the Macao – Belgium and the Hong Kong – Belgium DTA add extra provisions to the OECD Model Convention.
In the Macao – Belgium DTA, it is stipulated that pensions and similar remunerations paid under the social security legislation of a Contracting Party will only be taxed in that Party.
The Hong Kong – Belgium DTA makes annuities (such as paid out by an insurance company) subject to the same regime. Furthermore, alimonies or other maintenance payments paid by a resident in a Contracting Party to a resident in another Contracting Party shall be taxable only in the first-mentioned Party. If these payments are disallowed as a relief in the first-mentioned Party, they are considered as being taxed there and the other Party will have to refrain from taxing these payments.
2.15 Professors and researchers
The Macao – Belgium DTA contains another original feature. Professors and researchers who leave their residence jurisdiction to teach or to engage in research in the other jurisdiction, will be exempt from tax in the latter jurisdiction for a period of 2 years, provided their teaching and research is “in the public interest” and not for private benefit.
2.16 Methods for elimination of double taxation
Belgium has chosen for the exemption method for eliminating cases of double taxation, even though Belgium may apply the rate of tax which would have been applicable if the income had not been exempted.
Macao, however, chooses full exemption; Belgium-source income will not be taken into account in any way, not even to determine the tax rate.
Finally, Hong Kong gives relief through the credit method, provided the tax credit granted for foreign-source income does not exceed the amount of Hong Kong tax.
If losses are incurred by an enterprise carried on by a resident of Belgium in a permanent establishment situated in Macao or Hong Kong, and these losses have been deducted from the profits of the enterprise for its taxation in Belgium, the exemption shall not apply in Belgium to the profits of other taxable periods attributable to that establishment to the extent that those profits have also been exempted in Macao by reason of compensation for those losses. In other words, a loss can only be offset in one, not in both jurisdictions.
