China/Russia Trade Opportunities Under The Russia-Hong Kong Double Tax Agreement
The Comprehensive Double Taxation Agreement (CDTA) between Hong Kong and Russia entered into force on 1st January this year in Russia, with Hong Kong following on 1st April this year.
Signed at the beginning of 2016, the CDTA aims to provide greater certainty on taxing rights between Hong Kong and Russia, incentivizes foreign investment with reduced income tax and withholding tax rates, and helps investors to better assess their potential tax liabilities on business transactions.
Before the CDTA came into effect, companies operating in Hong Kong but listed in Russia were subject to income tax in both jurisdictions. In some cases, the taxation of repatriated profits of a Hong Kong company based in Russia would be determined by the tax bureau individually, depending on the source of the income.
For either case, tax credits will now be employed to relieve double taxation under the provisions of the treaty. The residence jurisdiction, either Hong Kong or Russia, is required to grant a tax credit for tax payable accrued in its counterpart. According to Article 2, Paragraph 3, the following tax categories are qualified for double tax avoidance:
(1) in the Hong Kong Special Administrative Region:
- profits tax;
- salaries tax;
- property tax; whether or not charged under personal assessment;
(2) in Russia:
- the tax on profits of organizations;
- the tax on income of individuals.
Under the agreement, the dividend withholding in Russia for qualified Hong Kong companies is now taxed at a lower five percent or ten percent than non-treaty companies, according to the shareholding of the dividend beneficiary. The agreement also provides a zero percent Russian withholding tax on interest and a cap of three percent in Russian withholding tax on royalties. Together, these provisions account for a cutback of 17 percent from the non-treaty tax rate. A detailed comparison of Russia’s withholding tax rates on Hong Kong residents before and after the agreement is shown below:
Meanwhile, the treaty specifies that profits arising from the operation of ships or aircraft in international traffic will be taxed only within the jurisdiction where the operating companies are registered.
In keeping with other CDTAs, the two parties have agreed to the mutual exchange of information for increasing tax transparency and combating tax evasion.
Pivot towards Asia
The signing of the CDTA with Hong Kong follows an eastward shift in Russia’s economic focus in recent years. Following the economic consequences of the sanctions placed on Russia from the EU and U.S. – which targeted not only individuals and companies in Russia’s military sector, but later prohibited exports of goods of dual use – Moscow has been pushing to consolidate its political and energy sector ties with Asia. Its focus is especially primed towards China, which is the second largest importer for Russian raw materials and energy.
One of the most prominent examples of the strengthened relationship between Russia and China is the historic 30-year gas deal between the two parties. The deal not only secured a long-term economic relationship grounded in Chinese dependency on Russian oil, but also encouraged economic development in China’s Far East. Last year, China started the construction of the proposed pipeline route that will deliver 38 billion cubic meters of Russian gas to Japan, northeastern China, South Korea and North Korea. In turn, Russia has intensified cooperation with China on various infrastructure projects along the China-led One Belt One Road Initiative, such as the ongoing construction of the Trans-Eurasian railway project.
Hong Kong – China – Russia Benefits
Even though Beijing has eased regulations for businesses in recent years, Hong Kong still acts as a critical link between Russian and Mainland markets for both inbound and outbound investment. Governed by the “One Country, Two Systems” framework, Hong Kong enjoys a close political and economic connection with the Mainland while benefiting from well-developed legal and financial systems that favor foreign investment. Based on the current tax regime between Hong Kong and Beijing, companies operating in the Special Administrative Region benefit from various tax deductions laid out in the Mainland and Hong Kong CDTA. Meanwhile, the Mainland has streamlined the process for Hong Kong companies wishing to register in Mainland and provided investment incentives, such as zero tariffs for goods originating from Hong Kong. The newly enforced agreement between Russia and Hong Kong can further the existing tax benefits that encourage foreign companies to establish in Hong Kong as a stepping stone to tap the Mainland market.
In terms of international trade, Hong Kong has long been the re-export platform for both Russia and Mainland China. The bulk of Hong Kong’s trade with Russia is comprised of exports in goods originating from the Mainland. In 2015, 95 percent of total exports from Hong Kong were made in Mainland China, according to Hong Kong’s trade bureau. Primarily, these include telecommunications equipment, jewelry, clothing, toys and automatic data processing machines. On the other hand, Russia is one of the largest suppliers of natural resources to Hong Kong, exporting mainly jewelry, pearls, precious and semi-precious stones, compounds of precious metals, coal, silver and platinum.
The agreement is also seen as a means for Hong Kong to extend its presence in Eurasia. Hong Kong has been actively promoting itself as the “Super Connector” along the One Belt One Road Initiative, determined to expand its current international tax treaty network with jurisdictions along the modern Silk Road. According to its Chief Executive, Hong Kong aims to seize the opportunities brought by the Initiative by negotiating with countries along the Belt and Road on investment protection agreements, CDTAs, and agreements on double taxation relief arrangements for shipping income.
For Russian investors and businesses, a key advantage of the Agreement is that Hong Kong’s withholding tax rate on royalties is reduced to a maximum of 3% from 4.95% for companies and 4.5% for individuals (and from 16.5% for companies and 15% for individuals if the royalties are received by or accrued to an associate). This has advantages for Russian companies who structure their investments in China through Hong Kong companies. There are no withholding taxes in Hong Kong on dividends or interest.
For Hong Kong investors and businesses, key advantages of the Russia Hong Kong Double Tax Agreement include:
- Russia’s dividend withholding tax rate is reduced from 15% to either 10% or 5%. The lower rate applies where the beneficial owner of the dividends is a company which directly holds at least 15% of the company paying the dividends;
- Russia’s withholding taxrate on royalties is reduced to a maximum of 3% from 20% for companies and 30% for individuals; and
- Hong Kong airlines operating flights to Russia will only be taxed in Hong Kong. Profits from international shipping transport earned by Hong Kong residents arising in Russia, which are currently subject to Russian tax, will not be taxed in Russia under the Agreement.
Mainland China and Russia have recently enforced their own CDTA effective later in 2017, which competes with the CDTA between HK and Russia. For example, withholding tax on interest has been fully eliminated in the source jurisdiction under the provisions of the China-Russia CDTA, mirroring the Hong Kong – Russia agreement. However, there are many non-tax factors to be considered when deciding where to launch a businesses in Asia, including human resources and the accessibility of business intelligence.
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