THE UNIVERSITY OF HONG KONG

FACULTY OF BUSINESS AND ECONOMICS

ACCT3107 – Hong Kong Taxation

Tutorial Questions
Unit 10 – Profits Tax (4)

Question 22

Mr. Lee has been carrying on a business in Hong Kong as a distributor of micro-
computers for many years. His operating results for the year ended 31 December 2018
were as follows:

$ $
Gross Profit 3,600,000
Interest received (Note 1) 80,000
Commission received (Note 2) 55,000
Profit on disposal of fixed asset 15,000
Sundry income (Note 3) 25,000
3,775,000
Less: Expenses
Salaries and bonuses to staff 550,000
Rent and rates 350,000
Telephone, telex and postage 21,000
Entertainment and travelling (Note 4) 100,000
Legal and professional fee (Note 5) 65,000
Interest expenses (Note 6) 105,000
Repairs and maintenance (Note 7) 162,000
Insurance (Note 8) (23,000)
Salaries to proprietor 162,000
Provision for bad debts (Note 9) 30,000
Depreciation for fixed assets 85,000
Donations (Note 10) 6,000
Miscellaneous expenses (Note 11) 8,000
1,621,000
Net profit 2,154,000

Additional information:

(1) Interest received from

(i) US$ deposits placed with a bank in Singapore $40,000
(ii) Euro$ fixed deposits with a local bank 16,000
(iii) Debentures registered in US 8,000
(iv) HK$ deposits placed with a local bank (deposits were
used to secure for bank borrowings and interest expenses
on the borrowings are deductible – see note 6) 16,000
$80,000

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(2) Commission received from a company in Malaysia for the sale of certain products.
Sale contracts were negotiated and concluded by Mr. Lee’s staff in Malaysia.

(3) Sundry Income

Dividend from shares investment $10,000
Sale of scrap stock to staff 15,000
25,000

(4) Entertainment and travelling

Air tickets and hotel charges for sales manager’s trip to $60,000
attend an exhibition in US
Entertainment of local customers 30,000
Travelling expenses in respect of commission income
mentioned in note (2) above 10,000
100,000

(5) Legal and professional fee

Solicitor fees and stamp duty for the purchase $45,000
of a new office
Solicitor fees for litigation to recover debts
from – customers 12,000
– staff (loan to staff) 3,000
Registration of trade mark in HK 5,000
65,000

(6) Interest expenses

Interest on bank overdrafts (secured by a
personal guarantee given by Mr. Lee) $8,000
Interest paid to Mr. Lee for capital injection 25,000
Interest paid to a local bank for a mortgage to
finance the purchase of the new office 42,000
Interest on bank borrowings secured by the
bank deposits as mentioned in (1)(iv) above 30,000
105,000

(7) Repairs and maintenance

Decoration of new office $150,000
Repairs and maintenance of office equipment 12,000
162,000

(8) Insurance account included a credit entry for a compensation of $28,000 received
from the insurance company for the loss of stock in a fire. The cost of the stock
loss of $32,000 was written off in the trading account. Mr. Lee paid an annual
insurance premium amounting to $5,000.

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(9) Provision for bad debts
General Provision b/f $(30,000)
Bad debts recovered (previously allowed for tax
deduction) (7,000)
Specific provision for bad debts - trade debts 12,000
- staff loans 5,000
Bad debts written off - loans to customers (the
loans were not trade debts) 10,000
General Provision c/f 40,000
Charged to profit and loss accounts 30,000

(10) Donations
Paid to Tung Wah Group of Hospitals $1,000
Paid to a hospital in Shenzhen, PRC 5,000
6,000

(11) Miscellaneous expenses

Including office expenses of $6,000 and government traffic fines of $2,000.

(12) Depreciation allowance for fixed assets for the year of assessment 2018/19 as agreed
with the IRD is $92,000.

Required:

(a) Compute the profits tax liability of Mr. Lee in respect of his sole proprietorship
business for the year of assessment 2018/19. Assume Mr. Lee does not elect
personal assessment for the year and ignore profits tax relief, if any, in your
computation.

(b) Explain the tax treatment you have accorded to the issues arising in the above
notes.

Check figure for Question 22:

Assessable profit: $2,430,000

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Question 23

Part I
(a) Referring to Question 19 [Part I (a)], discuss whether or not the sum paid by the
Hong Kong television company is deductible for HK profits tax purposes.

(b) Referring to Question 19 [Part I (c)], assuming that the IRD has agreed that the
manufacturing company is subject to HK profits tax in respect of 50% of its profits
derived from the sale of its products; discuss the deductibility of the cost incurred
in the PRC activities in terms of :
(i) cost of machinery;
(ii) cost of staff who regularly visited the PRC factory; and
(iii) cost of raw materials used in the PRC manufacturing.

Question 19 (Part I)
(a) Sums received by a foreign film production company for allowing a Hong
Kong television company to show in Hong Kong certain designated films it
produced offshore Hong Kong. The film production company has no
representative office or agent in Hong Kong.

(c) Profits earned by a manufacturing company from its sale of products in Hong
Kong. The products were partly manufactured in Hong Kong and partly in
the PRC. The manufacturing activities conducted in the PRC were greatly
involved by the manufacturing company in terms of expertise, machinery,
raw materials and quality control.

Part II
Evaluate the deductibility of expenditure/loss incurred in each of the following cases:
(a) Company A placed the sale proceeds it received from a local customer into a three
month time deposit account with a bank in Tokyo. The account was in Japanese
Yen. However, owing to fluctuation in the exchange rate, it suffered an exchange
loss when converting the deposit back to Hong Kong dollars.

(b) Company B is an international medicine manufacturer. One of its chief researchers

retired and the company paid him a substantial sum of money for entering into an
agreement whereby he agreed not to become involved in any activities which
might compete directly or indirectly with the company’s business.

(c) In order to maintain a constant source of supply of raw materials, Company C

made a large loan to one of its main suppliers which had a serious financial
problem. However, the supplier later went into liquidation and the company could
not recover this loan which was later written off as bad in its accounts.

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