Advanced Taxation

Hong Kong
(ATX HKG)
June 2022
Examiner’s report
The examining team share their observations from the
marking process to highlight strengths and
weaknesses in candidates’ performance, and to offer
constructive advice for those sitting the exam in the
future.

Contents
General Comments ............................................................. 2
Format of exam ................................................................ 2
Approach and guidance ................................................... 2
Comment on individual questions ....................................... 3
Question 1 ........................................................................ 3
Question 2 ........................................................................ 5
Question 3 ........................................................................ 7
Question 4 ........................................................................ 9
Conclusion ......................................................................... 10

Examiner’s report – ATX HKG June 2022 1

General Comments

Format of exam

The examination consisted of a three-hour and 15-minute exam containing two

sections with all four questions being compulsory. In Section A, Question 1 carried 35
marks and Question 2 was for 25 marks, while in Section B, Questions 3 and 4 were
for 20 marks each. Four professional marks were awarded in Question 1 for logical
approach, appropriate presentation of the report and effective communication. This
report should be used in conjunction with the published exam which can be found here.

Approach and guidance

The purpose of the advanced taxation examination is to test the candidates’ ability to
apply tax laws and principles, considering the different perspectives of employer and
employee, client and tax adviser, taxpayer and tax authorities, business acquirer and
acquiree, together with the taxpayer entity and its shareholder or associates, in the
context of the scenarios provided in each question.

Most candidates were able to demonstrate a fair standard of computing skills and there
were no indications of any candidate suffering any difficulty in working between
different exhibits or having time pressure in completing the exam. In those cases
where questions were not well-performed or left unanswered, this appeared to be due
to a lack of knowledge in that topic area or simply inadequate preparation. These
areas included taxability of non-residents in receipt of deemed trading receipts, double
taxation relief and mechanism, stamp duty calculation especially on leases, principles
underlying interest income taxability and exemption, and HK-China cross border
income and its withholding tax.

The overall performance of this exam was fair, mainly attributable to Question 1 (35
marks) which was best performed, in particular, in parts (a) and (b) on assessment
rules and deductibility.

As noted in the last report, many candidates tried to copy-and-paste the facts directly
from the questions to their answers without elaborating or addressing the tax issues
as required. Other candidates provided irrelevant answers (e.g., interest expense
deductibility in responding to interest income assessability) or non-tax answers (e.g.,
accounting treatments) which would not receive any marks.

Other well-performed questions included Q2(a) on the scope of charge to salaries tax,
source, exemptions and tax treatment of remuneration items, Q3(c) on eligibility to
carry forward tax losses and Q4(a) on bank deposit interest income.

Worst-performed questions included Q1(c) on the assignment of HK performance

rights, Q2(c) on double taxation relief and mechanism, Q3(a) and Q3(b) on stamp duty
on leases and Q3(d) on ‘reasonable excuse’, and Q4(b) on transfer pricing and cross-
border interest withholding tax. Examiners were disappointed to find that candidates
were not able to demonstrate an adequate level of understanding of these topics which
aim at advancing the students’ capability beyond TX HKG.

Examiner’s report – ATX HKG June 2022 2

Comment on individual questions

Question 1

This was a 35-mark question addressing the tax implications of income received by
non-residents including entertainment fees, royalties and income from the assignment
of the performance in Hong Kong. Candidates were also required to present their
answers in the form of a report. The question was generally well answered, mainly
attributable to the common tax principles surrounding general scope of charge and
deductibility rule under parts (a) and (b). However, candidates did not seem to be as
strong in answering questions regarding deemed trading receipts under s.15, specific
taxability of assignment income and specific deduction for performance rights. Some
candidates appeared to be confused around the entertainer’s fee, royalty income and
assignment income, such that they repeated the same answers under different parts.
Part (d) required candidates to evaluate the two given options. Some did not make an
attempt to provide an answer under this part, possibly because they were not confident
of their analysis in the earlier parts of their answers. Examiners strongly recommend
that candidates should make every attempt to provide their evaluations based on their
earlier analysis, and markers would exercise reasonable judgement in awarding marks
for sensible answers deliberated from their earlier analysis.

Question 1 required candidates to present the answers in a report format. Some

candidates did not present their answers in an appropriate report format and therefore
lost marks.

The following common errors were found:

Part (a)
- The overseas company has no permanent establishment in HK and thus not
taxable in HK
- The assessment basis of 2/3 for non-resident entertainer was taken as 1%/0.5%
(as for consignment) or 30% (as for royalty)
- The HK company pays the entertainment fee and thus is the HK ‘agent’ of the
overseas company

Examiner’s report – ATX HKG June 2022 3

Part (b)
- Royalty is taxable in HK because it is paid from Hong Kong, without explaining the
assessability principle under s.15.
- Royalty is taxable or not depending on the place of granting and acquiring the IP
licence
- Royalty is taxable or not depending on whether it is ‘in the production of
assessable profits’
- Correct to cite deduction rule under s.16(1) but wrongly interpreted: royalty cost is
tax deductible because the royalty is taxable in the hands of recipient

Part (c)
- Unable to distinguish assignment income from royalty
- Correct to cite that the nature of income being capital but failed to address the
specific provision to assess the assignment income
- The specific deduction over five years was taken as tax depreciation

Part (d)
- Failed to suggest any other relevant considerations

Examiner’s report – ATX HKG June 2022 4

Question 2

This was a 25-mark question which tested candidates’ knowledge of related tax issues
associated with employment income including the source of employment, exemptions,
tax treatment of lump sum payments and share award, and double tax relief.

Part (a) on assessability to salaries tax of employment income was best performed,
probably as candidates appeared to be better prepared for it. Most candidates were
able to explain the scope of charge to salaries tax, the Goepfert’s principles in
determining the source of employment income, and the exemptions for all services
rendered outside Hong Kong and during visits not exceeding 60 days. However, quite
a few of them did not comment further on the application of the Goepfert’s principles
to the present case and did not explain why the income was taxed on 100% basis with
no time apportionment.

Part (b) on Article 16 of the Hong Kong-Cambodia DTA was satisfactorily answered.
Most candidates were able to apply the three conditions, as given in the question, to
the case and conclude that the treaty exemption was available. However, most
candidates did not seem able to explain clearly whether the remuneration was borne
by a permanent establishment (PE) in Cambodia, they simply stated that a subsidiary
was not a PE; and thus, were not able to identify the crucial factor necessary for the
DTA exemption to be available.

Part (c) on relief from double taxation was generally not well answered; quite a few
candidates did not attempt this part. Instead of discussing the exclusion of income
under s.8(1A)(c), some candidates wrongly applied the 60-day exemption. On the
other hand, while some candidates were aware of the relevant exclusion of income
under s.8(1A)(c), they were not aware of the amendment made in 2018/19 that the
exclusion will not apply if double taxation arises in a DTA territory and tax credit relief
has to be claimed. Furthermore, only a few candidates could explain the procedures
for claiming the tax credit relief; some explained the calculation of effective tax rate
which was not required.

Other common errors included:

Part (a)
- applying time-apportionment to HK employment
Examiner’s report – ATX HKG June 2022 5
- explaining that the 60-day exemption did not apply to HK employment
- stating that Hong Kong residents could not be making visits to HK
- taxing the salary on a net basis
- treating the lump sum incentive payment as taxable if included in the employment
income and not taxable if not so included
- failing to distinguish the two approaches: back-end and upfront

Part (b)
- repeating the conditions for treaty exemption as given in the question without
providing analysis and conclusion
- misunderstanding the three conditions and concluded that the treaty exemption
was not available because the individual was present in Cambodia for less than
183 days

Part (c)
- treating the foreign tax paid as an allowable deduction from assessable income
- providing irrelevant answers on hold over and objection

Examiner’s report – ATX HKG June 2022 6

Question 3

This was a 20-mark question, which examined the stamp duty payable on acquisition
of shares and lease agreement, the treatment of tax losses and ‘reasonable excuse’.
Overall, performance was not as good as anticipated. Performance for part (a) on
stamp duty was relatively better on stamp duty on transfer of shares under Head 2.
However, parts (b), (c) and (d) were generally not well answered. Many candidates
had left parts (c) and (d) unanswered, possibly due to of lack of knowledge.

Performance for part (a) on stamp duty payable on acquisition of shares and lease
agreement was disappointing. Many candidates failed to explain that the issue of
shares does not fall within any of the charging heads and is not dutiable. Some
candidates calculated the stamp duty payable on the lease agreement on the basis
that the premium was spread over three years or ignored the premium. Furthermore,
only a few candidates were able to comment that the exemption for property transfers
between associated bodies corporate does not apply to leases.

Performance for part (b) was not as good as expected. Many candidates failed to
demonstrate an understanding of the contingency principle – where the lease
stipulates a certain figure on account of an unascertainable amount, that figure can be
taken into account in ascertaining the stamp duty payable. Some simply stated that
there was no difference between parts (a) and (b).

Performance for part (c) on treatment of tax losses and eligibility to carry forward the
tax loss was not satisfactory. Only very few candidates appeared to be aware of the
rules governing the treatment of tax losses. On the eligibility of the company to carry
forward the tax losses, many candidates discussed the application of s.61A (the
general anti-avoidance provision) to disallow the carry forward of the loss, instead of
the specific provision of s.61B. They also failed to explain whether the anti-avoidance
provision might be applied.

Part (d) on ‘reasonable excuse’ was generally not well answered. It appears that
candidates had not adequately prepared for the topics on tax administration. Very
few candidates showed an understanding of the meaning of reasonable excuse, and
many candidates gave absence from Hong Kong or illness as reasonable excuses.

Examiner’s report – ATX HKG June 2022 7

Moreover, quite a few candidates provided irrelevant discussion of the source of the
profit from internet sales, whether the company could lodge an objection or an ‘error
or omission’ claim under s.70A, and penalties for the omission of internet sales.

Other common errors included:

Part (a)
- applied the old rate of 0.2% on transfer of shares instead of 0.26%
- failed to mention the fixed duty of $5 on duplicates and counterparts
- did not calculate the stamp duty payable

Part (b)
- replaced the premium with the monthly rental of $50,000
- did not calculate the stamp duty payable

Part (c)
- provided the conditions for stamp duty relief under s.45 (the companies remained
to be associated for two years) as the conditions for the carry forward of tax loss

Examiner’s report – ATX HKG June 2022 8

Question 4

This was a 20-mark question which examined the topic area of interest income,
together with the topic of transfer pricing law/rules and the double tax implications
arising from the cross-border interest charge.

Part (a) examined the Hong Kong assessment basis for interest income on bank
deposits. Most candidates were able to provide a good answer to this part, but others
were found only able to give the tax treatment of the interest income (that is, bank
interest is exempt in Hong Kong) without going further to explain the source rule for
interest income as well as the exceptions to the exemption order.

Part (b) was not satisfactory, in particular the issue of transfer pricing was not well-
addressed by most candidates. Well-prepared candidates were those who could
demonstrate an adequate level of knowledge and understanding of the HK tax
law/rules on transfer pricing under s.50AAF. However, the majority of candidates did
not appear able to recognise the transfer pricing issue arising from the below-market
interest charge.

Moreover, despite the question requiring tax implications on interest income earned
by the lender, some candidates spent excessive time in delivering rules and principles
underlying the deductibility of ‘interest expense’ to the borrower which was not
required by the question.

Answers to part (c) on the double tax issue relating to the cross-border interest
payment were not satisfactory, possibly due to candidates being not well prepared for
the cross-border tax implications in a double taxation scenario.

Common errors included:

Part (a)
- most candidates simply answered bank interest is exempt without going further as
presumably they had not noted this part was worth six marks
- source rule for interest income: provision of credit test was missed out
- mixed up principles for interest income and expense, e.g., interest income is
taxable if it is ‘in the production of assessable profits’

Examiner’s report – ATX HKG June 2022 9

- interest income is not arising from trade or business and thus not taxable
- interest income is passive nature of income and thus not taxable
- interest on USD term deposit used as a security for bank loan was incorrectly
taken as ‘interest flow-back’ to associate under s.16(2B)
- exception to bank interest exemption order being (a) USD term deposit was used
to secure another loan and (b) tax deduction was claimed on the loan interest –
most candidates missed out point (b), or some suggested that the difference
between interest income and expense would be exempt.

Part (b)
- interest earned from intra-group financing is non-taxable
- Interest income is taxable depending on whether interest expense is deductible
- failed to address transfer pricing issue arising from the below-market interest
charge
- spent excessive time to list out principles/rules for interest expense deduction
- simply replicated the information of China-HK DTA and China domestic tax rate
directly from the question without elaboration

Conclusion

Accountants require a comprehensive working appreciation of tax issues. The ATX

HKG exam requires candidates to identify and explain the principles used in their
calculations and provide a cogent answer. It examines a wide range of issues
commonly encountered in business operations. A skilful application of tax principles
learned is key to doing well in this exam and the examining team will continue to
encourage a comprehensive understanding of tax issues in the business environment.

Examiner’s report – ATX HKG June 2022 10