THE HONG KONG POLYTECHNIC UNIVERSITY

AF3210 HONG KONG TAX FRAMEWORK

Tutorial 4 – Salaries Tax (2)

Answer 10

Part (a)
The IRO lays down specific rules for ascertaining the taxability of various fringe benefits
provided by an employer, which include:

(1) Accommodation - section 9(1)(b)&(c), section 9(1A)&(2)

The benefit of rent free or subsidised accommodation provided by an employer or an
associated company is taxed based on a rental value calculated at 10% of the
employee's income from the employment. The 10% may be reduced to 4% or 8% if the
accommodation is hostel or hotel room depending on the number of rooms provided. If
a certain portion of rent is borne by the employee, the portion borne/suffered is
deducted against the rental value calculated, leaving the balance to be included in the
assessable income.

(2) Share options - section 9(1)(d)

Special rules also exist for taxing a gain derived by an employee from a share option
scheme set up by an employer. The option is a taxable benefit and tax is imposed on
any gain arising from the exercise or assignment or release of the option. In the case of
exercise, the gain is calculated based on the market value of the shares acquired under
the option as at the time of exercise less the price paid for the shares together with the
cost of the option. Any gain or loss arising from subsequent disposal of the shares is not
taxable under section 9(1)(d). In the case of assignment or release, the gain is
calculated based on the consideration received less the cost paid for the option.

Under section 9(1)(a), chargeable income from any office or employment also includes any
perquisite. However, not all fringe benefits provided by the employer are taxable. A
"liability test" is provided under section 9(1)(a)(iv) which excludes from chargeability any
benefit where the relevant payment is one for which the employer has the sole and primary
liability and there is no surety made by any person. The exclusion does not apply to any
benefit which is capable of being converted into money by the recipient. It is irrelevant
whether the employee actually converts the benefit into cash.

Furthermore, education benefits for employee’s children remain as chargeable to salaries tax,
even if the employer has the liability for the relevant payment. With effect from 1 April
2003, all payments by an employer in connection with a holiday journey are also subject to
tax, irrespective of whether it is convertible into cash and whether the primary liability for the
benefit is the employee’s own. The amount to be assessed is based on the actual amount paid
by the employer, instead of the amount to which the benefit would be converted.

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Part (b)
(i) Provision of a domestic helper
If an employer pays the wages of a domestic helper who provides services to an
employee, the payment is tax free if the domestic helper is employed directly by the
employer. But if the employee signs the employment contract with the domestic
helper, it is the employer who discharges the employee's own indebtedness and the
payment is therefore taxable to the employee.

(ii) Low interest loan

If the low interest loan is provided by the employer to the employee and it is the
employer's sole and primary liability to provide such benefit, the benefit should be
exempt under section 9(1)(a)(iv). To ensure such exemption is available, the benefit
should not be convertible into cash.

On the above basis, the benefit i.e. interest differential should not be taxable. To
ensure such exemption is available, the employer should impose restriction on the
application of the loan, for example, the employee is prohibited from sub-lending the
loan fund at an interest rate higher than that charged by the employer, the employee
can only apply the loan on acquiring property for residential purpose and such
property cannot be re-sold within a particular period of time, etc. In doing this, the
benefit would not be regarded as convertible into cash, nor a discharge of employee’s
liability.

(iii) Club membership

Where an employer makes a payment in respect of an individual membership fee or
other club expense for which an employee is personally liable, the payment will
constitute chargeable income of the employee. However, the cost of acquisition of
corporate membership of a club will produce no chargeable benefit as the IRD
recognises that the entitlement to corporate membership benefits may be transferred
from one employee to another and it is not possible to attribute such expenditure to a
particular employee.

(iv) Education fee of child

Amount paid by an employer in connection with the education of a child of an
employee are by virtue of section 9(2A) not subject to the “liability test”, and
accordingly the amount will be treated as chargeable income of the employee
irrespective of whether the employee or the employer is the party liable for the
relevant expense. This would include not only tuition expenses but also payment for
incidental expenses such as boarding fees.

However, in accordance with the decision in an English case (Barclays Bank v

Naylor), the IRD in DIPN No. 16 states that payment in respect of education expenses
provided by a genuine discretionary trust funded by the employer will not be
regarded as a chargeable benefit.

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Answer 11

Part (a)
Section 8(1) of the IRO imposes tax on employment income arising in or derived from a
source in Hong Kong. The relevant tests for determining the location of employment as set
out in Goepfert case and DIPN No. 10 are:
(1) the place where the contract of employment was negotiated, entered into and
enforceable;
(2) the place of residence of the employer; and
(3) the place where the remuneration was paid.

If not all of the above factors are outside Hong Kong, the second factor may be considered as
more important than the other factors.

While Anson’s employment contract was negotiated and signed outside Hong Kong, TGL
carries on business in Hong Kong and is prima facie resident in Hong Kong. Anson’s
remuneration was also paid in Hong Kong. If a person is recruited by an employer resident in
Hong Kong, it is unlikely that the IRD would accept that the employment is located outside
Hong Kong.

Applying the above tests, Anson’s employment is sourced in Hong Kong and all his
remuneration for services under this employment, wherever rendered, is within the scope of
salaries tax, unless it is exempt under section 8(1A)(b) where all services are rendered outside
Hong Kong. For this purpose, it is further provided in section 8(1B) that services rendered in
Hong Kong during visits of not exceeding 60 days are ignored.

Since Anson had rendered services in Hong Kong and stayed in Hong Kong for more than 60
days in a year, he is not eligible for the exemption under section 8(1A)(b). Furthermore, he
was present in Mainland China for more than 183 days during the year. He would also be
liable to individual income tax in the Mainland in respect of at least part of his employment
income. He can claim the China tax paid as a tax credit against his Hong Kong salaries tax
liability under section 50 pursuant to the provisions under the “Arrangement between the
Mainland of China and the Hong Kong Special Administrative Region for the avoidance of
double taxation and the prevention of fiscal evasion with respect to taxes on income”. (Note:
the exclusion of income under section 8(1A)(c) no longer applies effective from the year of
assessment 2018/19.)

Any housing allowance received by Anson by virtue of his employment would be subject to
salaries tax under section 9(1)(a). However, by entering into the leasing arrangement with
TGL, the monthly rental income of $10,000 received by Anson in his capacity as an onwer of
the property would not be chargeable to salaries tax. Instead, he is only required to pay
salaries tax on the “rental value”, being 10% of his income from employer after deducting
outgoings and expenses and depreciation allowance. Also, the “rent” borne by him is
deductible from the rental value as Anson is required to pay “rent” for this “place of
residence”, where “rent” includes rates and management fee. However, the rental income he
received as a property owner would be subject to property tax.

The medical insurance policy purchased by TGL is a contractual obligation between TGL
and the insurance company. TGL is discharging its own liability. The benefit is exempt

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under section 9(1)(a)(iv) as TGL is discharging its sole and primary liability in making the
payment to the insurance company and no one was a surety for such payment.

Medical expenses reimbursed by the insurance company in pursuance to the insurance policy
under which the employee is a beneficiary is not assessable. This is because the
reimbursement arises from the contractual entitlement of the employee under the insurance
policy as a beneficiary rather than from the employment. However, the refund from TGL is
assessable because the benefit is arising from his employment, for his services rendered and
in money’s worth (discharging the employee’s personal liability).

The share option is a taxable benefit under section 9(1)(d) and the amount of taxable benefit
is determined in accordance with section 9(4). The taxable gain is a notional one, calculated
at the time when the right is exercised, as the difference between the market value of the
shares at the time of exercise and the consideration paid for the option and the shares. The
latter amount can include any brokerage, stamp duty or other charges that would have been
levied if the notional sale had actually taken place. The gain is taxable under section 9(l)(d)
and is thus excluded from the calculation of rental value. The gain from the subsequent
disposal of the shares is not taxable under salaries tax.

The share award is a taxable perquisite under section 9(1)(a). As the shares were granted to
Anson without condition, the market value of the shares on the date of award was used to
compute his taxable income (the “upfront approach”), with a 5% discount for each year of
sale restriction as per DIPN No. 38.

The painting benefit was derived from employment and for services rendered. It is in
“money’s worth”, i.e. TGL discharged Anson’s personal liability on the painting price. The
amount taxable is the amount of liability discharged of $3,000. If TGL bought the painting
and gave it to Anson, the benefit would become a cash convertible benefit, where the taxable
amount will be the second-hand value of $40,000.

Holiday journey benefits are specifically chargeable under section 9(2A)(c), whether or not
they are convertible into cash. The amount chargeable is the cost paid by TGL, not the resale
value. According to DIPN No. 41, in cases where a trip is taken partly for business and
partly for holiday, the IRD will look at the immediate purpose of the trip. If a holiday was
merely incidental to a business trip, the IRD will refrain from taxing the benefit. However,
where a clearly identifiable part of the journey is taken for holiday purposes, the expenses
relating to that part of the journey will be taxable. The cost of accommodation for the extra
nights spent on holiday by Anson is distinct and separable and is taxable; while the cost of
the air ticket would not be taxable because it would have to be incurred irrespective of the
holiday element.

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Part (b)
Anson Lam
Calculation of Assessable Income
Year of Assessment 2021/22
$ $
Salary ($40,000 x 12) 480,000
Holiday journey ($7,000 x 4/7) 4,000
Medical expenses refunded by TGL 2,500
Painting paid by TGL 3,000
Share award (10,000 x $6 x 0.9) 54,000
Rental value ($543,500 x 10%) 54,350
Less: Rent paid by Anson (24,000) 30,350
Share option - exercise [($5-$2) x 50,000 - $10,000 - $1,000] 139,000
Assessable income 712,850

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