6 Red Ltd (Red), a Hong Kong incorporated company, carries on a business of bottling and packaging in Hong Kong.

For
the year ended 31 December 2018, Red has the following trading results:
Note $ $
Income
Income from sale of bottles 5,000,000
Income from packaging 2,500,000
Rental from warehouse sub-lease (1) 90,000
Compensation from supplier (2) 400,000
Finance income (3) 32,000 8,022,000
––––––––––
Expenses
Directors’ fees 680,000
Staff costs (4) 2,910,000
Research and development (5) 100,000
Warehouse lease rental (1) 480,000
Distribution and shipment (6) 60,000
Legal and professional fees (7) 213,000
Interest expenses (8) 27,000
Insurance 8,000
Donations (9) 30,000
Depreciation on furniture and fixture (10) 24,000 (4,532,000)
–––––––––– ––––––––––
Profit for the year 3,490,000

––––––––––
––––––––––
Notes:
(1) Red leased a warehouse for bottles storage at a rental cost of $40,000 per month. In January 2018, Red installed
storage cabinets in the warehouse at a cost of $1,000,000, which was partially funded by a bank mortgage loan
and partially by an interest-bearing loan from one of the directors who is a resident in China. Red agreed with the
landlord that these costs were to be borne by Red. Since April 2018, Red sub-leased part of the warehouse to a
friend of the director at a rental cost of $10,000 per month.
(2) In March 2017, Red lodged a legal claim against a China bottles supplier which breached its contract to supply
two batches of bottles at the agreed international standard. The legal claim was finally settled in June 2018, and
as a result, Red received compensation of $400,000 to cover financial losses suffered by Red.
(3) Finance income comprises:
$
Interest on a HK$ deposit with a bank in Hong Kong 1,000
Interest on a RMB deposit with a bank in Hong Kong 2,000
Gain from trading in foreign currencies 29,000
–––––––
Total 32,000

–––––––
–––––––
(4) Staff costs comprise:
$
Salaries and allowances 2,400,000
Mandatory provident fund (MPF) contributions (including a special
contribution of $50,000) 150,000
Statutory severance payment to a leaving staff member 310,000
Recruitment incentive payment to a joining staff member 50,000
––––––––––
Total 2,910,000

––––––––––
––––––––––
(5) Research and development expenditure of $100,000 was paid to a research institute in Hong Kong; $40,000 to
acquire rights in research and development, $60,000 to acquire a registered patent.

12
 (6) The distribution and shipment cost of $60,000 was a special commission paid to an undisclosed shipping agent
in China. This was approved by Red’s director.
(7) Legal and professional fees comprise:
$
Audit and tax filing fees 50,000
Tax advisory fees for lodging a tax appeal 35,000
Legal fees for settling the legal claim against a supplier (see (2) above) 128,000
––––––––
Total 213,000

––––––––
––––––––
(8) Interest expenses comprise:
$
Interest on director’s loan for storage cabinets (see (1) above) 15,000
Interest on bank loan for storage cabinets (see (1) above) 10,000
Interest on bank overdraft 2,000
–––––––
Total 27,000

–––––––
–––––––
(9) Donations include cash of $10,000 to the Hong Kong Red Cross and a supply of bottles to the value of $20,000
to the China Care Fund.
(10) Accounting depreciation was calculated based on the cost of the storage cabinets (see (1) above) and office furniture
and fixtures. Other than the addition of storage cabinets mentioned at (1) above, there were no non‑current asset
movements during the year. The tax depreciation allowance pool of 20% has a written down value carried forward
figure of $50,000 at 1 January 2018.
Red’s profits tax return for the assessment year 2017/18 shows a tax loss of $20,000 eligible for carry-forward to future
years.

Required:
Prepare Red Ltd’s profits tax computation for the year ended 31 December 2018, showing the net assessable
profits/adjusted loss and profits tax payable, if any. Clearly identify both the year of assessment and the basis
period.
Note: You should ignore overseas tax aspects.

(15 marks)

End of Question Paper

13
 Marks
6 Red Ltd

Profits tax computation for the year of assessment 2018/19

Basis period: year ended 31 December 2018 0·5
$ $
Profit for the year per accounts 3,490,000 0·5
Add: Depreciation 24,000 0·5
Donations 30,000 0·5
Special contributions to mandatory provident fund (MPF)
(50,000 x 4/5) 40,000 1
Commission to undisclosed agent 60,000 0·5
Legal fees for tax appeal 35,000 0·5
Interest on loan from director 15,000 0·5
Research and development 40,000 244,000 1
–––––––– ––––––––––
3,734,000
Less: Depreciation allowance 690,000 0·5
Interest income from bank (1,000 + 2,000) 3,000 1
––––––––
(693,000)
––––––––––
3,041,000
Less: Donation (Hong Kong Red Cross) (10,000) 0·5
––––––––––
3,031,000
Less: Tax loss brought forward (20,000) 0·5
––––––––––
Net assessable profits 3,011,000

––––––––––
––––––––––
Profits tax payable:
First $2,000,000 at 8·25% 165,000 0·5
Balance of $1,011,000 at 16·5% 166,815 0·5
––––––––––
Profits tax payable 331,815

––––––––––
––––––––––
Correct treatment of items which require no adjustment (candidates are NOT required to prepare the following
table in their answers). Marks will be awarded if they are not adjusted in the tax computation.
Taxable/non-deductible items $ Deductible/non-taxable items $
Rental from warehouse 90,000 Severance payment 310,000
Compensation from supplier 400,000 Recruitment incentive payment 50,000
Gain from foreign currency 29,000 Legal fee for legal claim 128,000
Bottles donation non-deductible 20,000 Interest on bank loan 10,000
Acquisition of registered patent 60,000
0·5 mark each, maximum 4
Depreciation allowance schedule
20% Total
2018/19 $ $
Written down value brought forward 50,000 0·5
Addition:
– Storage cabinets 1,000,000 0·5
––––––––––
1,050,000
Initial allowance at 60% (600,000) 600,000 0·5
––––––––––
450,000
Annual allowance at 20% (90,000) 90,000 0·5

––––––––––
–––––––––– ––––––––
––––––––
Written down value carried forward 360,000

––––––––––
–––––––––– –––
690,000 15

––––––––
–––––––– –––

23
Illustration Question:

McMickey is a Fast Food Production Ltd. The operating results of McMickey for the year ended
March 31, 2020 are as follows:

Notes HK$ HK$

Income
Sales 1,536,890.00
Profits from disposal of fixed assets 50,000.00
Dividend income 8,500.00
Interest income 1 12,200.00
1,607,590.00
Expenses
Salaries and allowances 750,000.00
Office rent and rates 500,000.00
Retirement and provident fund 2 178,500.00
Depreciation 25,000.00
Bank charge and interest 3 9,900.00

Legal and professional fees 4 6,500.00

Donations 5 50,000.00
Foreign tax paid 6 5,000.00
Penalty 7 1,500.00
General expense (allowable) 95,000.00
1,621,400.00
Net Loss for the Year -13,810.00

Explanatory Notes:

1 Interest on $EURO fixed deposit with a bank in Hong Kong 5,500.00

Interest on $HK fixed deposit with a bank in Hong Kong 3,000.00
Interest received from a customer for an overdue account receivables account 3,700.00
12,200.00

Provision for annual contribution to MPF (Hong Kong, 30% of total

2 123,500.00
employee emolument)
Provision for special contribution (Hong Kong, made to a retirement scheme
55,000.00
other than a Recognized Occupational Retirement Scheme)
178,500.00

3 Bank charges on daily transactions 2,300.00

1|Page
 Interest for money borrowed from an overseas associate company to finance
7,000.00
purchase of a manufacturing machine
Hire purchase charge on computer used 600.00
9,900.00

4 Legal fee for overdue trade debt collection 1,500.00

Legal fee for staff loan collection 1,400.00
Auditing and tax service fee 1,600.00
Legal fee paid for initial lease of new office 2,000.00
6,500.00

5 Donation to Red Cross (an approved charity) 50,000.00

6 Foreign profits tax paid 2,000.00

Export tax to the US Government for export products sold in the US 3,000.00
5,000.00

7 Traffic fines 500.00

Penalty for late delivery of goods to customers 1,000.00
1,500.00

8 Depreciation allowance agreed with Inland Revenue Department for the year
5,000.00
is:

9 Agreed tax loss brought forward: 24,000.00

Based on the information available, prepare the Hong Kong tax computations for McMickey in
respect of the year ended March 31, 2020. Show all your workings and ignore provisional tax
and overseas tax.

McMickey was a standalone company without any equity affiliation with other entities.

2|Page
Profits Tax Computation Illustration

McMickey
Profits Tax Computation
Year of Assessment 2019/20
Basis Period: 1 April 2019 to 31 March 2020

Net loss per book - 13,810

Add:
Book depreciation 25,000
Donations 50,000
Total annual contribution to MPF 123,500
Provision for special contribution to non-approved retirement scheme 55,000
Interest for money borrowed from an overseas associate company to 7,000
finance the procurement of production machine
Foreign tax paid 2,000
Legal fee for collecting staff loan 1,400
Legal fee paid for initial lease of new office 2,000
Traffic fines 500
266,400
252,590

Less:
Non-taxable interest income $(5,500 + 3,000) 8,500
Dividend income 8,500
Allowable deductible amount re: MPF annual contribution under 61,750
s.17(1)(i)
Gains from disposal of fixed assets 50,000
128,750
123,840
Less:
Tax depreciation allowances agreed with the IRD 5,000
118,840
Less:
Approved charitable donations (subject to 35% limitation) 41,594
Net assessable profit for the year 2019/20 77,246
Less:
Accumulated tax loss b/fwd. 24,000
Net adjusted assessable profit after loss set-off 53,246

Tax payable at 8.25% (two-tiered tax rate) 4,392

Note: the tax liability should be truncated from $4,392.795 to $4,392

Profits Tax Computation Illustration

McMickey
Profits Tax Computation
Year of Assessment 2019/20
Basis Period: 1 April 2019 to 31 March 2020

Net loss per book - 13,810

Add:
Book depreciation 25,000
Donations 50,000
Excess contribution to MPF denied by s.17(1)(i) 61,750
Provision for special contribution to non-approved retirement scheme 55,000
Interest for money borrowed from an overseas associate company to 7,000
finance the procurement of production machine
Foreign tax paid 2,000
Legal fee for collecting staff loan 1,400
Legal fee paid for initial lease of new office 2,000
Traffic fines 500
204,650
190,840

Less:
Non-taxable interest income $(5,500 + 3,000) 8,500
Dividend income 8,500
Gains from disposal of fixed assets 50,000
67,000
123,840
Less:
Tax depreciation allowances agreed with the IRD 5,000
118,840
Less:
Approved charitable donations (subject to 35% limitation) 41,594
Net assessable profit for the year 2019/20 77,246
Less:
Accumulated tax loss b/fwd. 24,000
Net adjusted assessable profit after loss set-off 53,246

Tax payable at 8.25% (two-tiered tax rate) 4,392

Note: the tax liability should be truncated from $4,392.795 to $4,392

 Profits tax computation for the year of assessment 2018/19

Basis period: year ended 31 December 2018

$ $
Profit for the year per accounts XXXXXX
Add:
Balancing charge
Club debenture written off
Commercial building – balancing charge
Commission to undisclosed agent
Compensation payment to leaving staff
Depreciation
Donation
Fine/Penalty (e.g. Traffic lines)
Foreign profits tax paid
Interest for money borrowed from an overseas associate company to
finance the procurement of production machine
Incorporation fee
Interest on loan from shareholder/director/associate
Legal fee for collecting staff loan
Legal fee for tax appeal
Legal fee on setting up the company
Legal fee paid for initial lease of new office
Loan interest paid to Bond Ltd
Loan to staff written off
Loss from trading in China listed shares
Loss on disposal of fixed asset
Payment for promise not to compete
Research and development
Salaries to partners
Sale proceeds of prescribed fixed assets (computers)
Special contributions to mandatory provident fund (MPF) (amount x
4/5 or amount x 1)
Taxation expense accrued

Less:
Commercial building allowance (4%)
Dividend income from anywhere listed shares
Environmental protection vehicle
Exchange gain (unrealised) from year-end conversion
Gains from disposal of fixed assets
Interest income from bank
Interest income from tax reserve certificates
Interest income on loan made to director
Interest income – HK$ deposit
Interest income on RMB deposit
Loan interest to director in China
Prescribed fixed assets (e.g. computers)
Profit from securities trading in China
Rental income from China
Replacement of carpets

Less: Depreciation allowance

Y
Less: Donation (maximum 35% of Y)
Less: Tax loss brought forward
Net assessable profits
Profits tax payable:
First $2,000,000 at 8·25%
Balance of $(Z-2,000,000) at 16·5%
Profits tax payable
Less: Property tax paid set-off (s.25)
Taxable/non-deductible items
Bottles donation non-deductible
Compensation from supplier
Donations to China Refugee Fund / other than money
Fee from China customer
Gain from foreign currency
Gain from HK listed shares
Interest income from customer (OVERDUE)
Interest income on HK$ deposit (security)
Loan interest from director (remitted)
Net rental income
Profit from residential property
Profit from securities trading – HK
Rental from warehouse
Sales to China
Z
AA
BB
AA+BB
Deductible/non-taxable items
Acquisition of registered patent
Club fee (entrance and subscription)
Distribution costs to China shipment company
Finance charge
Hire purchase finance charge
Interest on bank loan
Interest on bank overdraft and credit line
Interest to China supplier
Legal fee – audit and tax filing
Legal fee for legal claim
Legal fee for overdue receivable
Loss from Hong Kong securities trading
Loss on foreign exchange trading
MPF for partners (salaries x 5%)
Recruitment incentive payment
Regular contributions to MPF
Rent and rates for warehouse in China
Rental for director’s accommodation
Salary paid to secretary
Severance payment
Utilities for director’s apartment
Wages to helper for director’s use