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Hong Kong IRD still accepts air value taxable profits

Hong Kong IRD still accepts air value taxable profits

HONG KONG: Hong Kong’s Inland Revenue Department (IRD) has stated that financial statements prepared on a fair value basis in 2014/15 profits tax returns will be accepted, as it has yet to conclude a review on the impact of the Court of Final Appeal’s (CFA’s) ruling in Nice Cheer Investment Limited v Commissioner of Inland Revenue (FACV 23/2012).

Last year, the CFA allowed an appeal by the taxpayer against a determination from the Commissioner. The IRD had previously confirmed an assessment that the investment trading company was liable for profits tax in respect of unrealized gains for the three years between 2003/04 and 2005/06.

There was no dispute between the parties that, in accordance with prevailing accounting standards, unrealized gains and losses should be shown in the taxpayer’s profit and loss account at fair value. However, the taxpayer relied (and the CFA agreed) on a provision of the Hong Kong Inland Revenue Ordinance (IRO) that anticipated or imputed profits must first be realized before they are subject to tax.

The IRO states that taxable profits mean “real profits arising in or derived from actual buying and selling of commodities in commercial transactions between the taxpayer and his trading partners or supply of professional or other services by the taxpayer to another person and do not include notional or unrealized profits arising out of revaluation of the taxpayer’s stock of trade.”

The difference between the profits tax assessed by the IRD over the years, and the tax calculated by Nice Cheer Investment without taking into account the unrealized gains (but including unrealized losses), was substantial, being in the region of HKD250m (USD32.25m).

Subsequently, following the final resolution of the case, it was confirmed that the Financial Services and Treasury Bureau and the IRD were reviewing the issues arising from the judgment, and, in particular, whether there should be a change in law to allow continuation of the mark-to-market practice for computation of taxable profits.

With regard to 2013/14 profits tax returns, the IRD understood that substantial costs would be incurred by firms if taxable profits computed on a fair value basis had to be immediately recomputed on a realization basis. The IRD therefore agreed, as an interim administrative measure, to accept returns in which the assessable profits are computed on a fair value basis.

This measure has now also been extended to 2014/15 filings, pending completion of the review.