In present day, Hong Kong has managed to achieve outstanding milestones economically and socially through its highly competitive labor force, geographical location and more importantly its free economy.
Hong Kong has grown from a fishing village with an unpopulated territory in the early nineteenth century to become one of the most important financial centers of the world with a population of seven million. Before achieving the status Hong Kong has today, it has gone through various transitions.
A portion of Hong Kong, named Hong Kong Island, was ceded to the British under the Nanking Treaty in 1842, with a population of only 8000 inhabitants across the whole city at the time. By the end of the century in 1898, the whole of Hong Kong was ceded to the British for 99 years.
Hong Kong was consequently affected by the disastrous events in China during the war periods. The overthrow of the dynastic system in 1911 in China, the Great Depression and fluctuations in the price of silver disrupted China’s relations with the outside world as well as its stability. From 1937 onwards, China engaged in the Sino-Japanese war and a civil war which further pushed China’s economy into a downward spiral.
During this period, wealthy entrepreneurs and businesses were diverted towards Hong Kong from China due to uncertainty of China’s future which caused a rapid increase in businesses and capital invested in Hong Kong. Since Hong Kong was a British colony at that time, it was a relatively safer and stable choice for the new arrivals.
After the establishment of the People’s Republic of China (PRC) in 1949, it began a process of isolation from the global economy due to ideological reasons introduced by the then leader Chairman Mao Zedong and also because of the embargoes imposed by the United Nations in 1951. During this period, Hong Kong was rapidly transforming into an industrialized economy with the help of lucrative businessmen, labors and capital from up north. Hong Kong’s main industry during the 1950s was production of textiles which then gradually diversified into different industries in the 1960s to production of electronics, clothing, plastics and other labor-intensive products for exports.
The government did not intervene much in the market and maintained the industrialization process as a free market since it was more focused on housing projects and building infrastructure to cope with the rapidly increasing population. Hong Kong has its own unique Asian economic development success when compared to other developed Asian countries such as Japan, Taiwan, South Korea or Singapore. Low taxes, lax employment laws, absence of government debt, and free trade have all been pillars of the Hong Kong experience with economic development.
Although Hong Kong faced minor shocks during its time such as the global oil crisis and the Cultural Revolution in China during the late 1960s and 1970s, it managed to maintain a positive growth rate for its GDP averaging at 6.5% per year.
The Open-Door Policy was announced by China’s then leader Deng Xiaoping in 1978. The main objective of such a policy was for China to attract foreign investment. China then set-up Special Economic Zones around the Pearl River Delta for foreign enterprises to set up their factories. This move was highly favored by entrepreneurs around the world since China was able to provide a low-priced labor force as well as other costs at a minimum price.
As a result of this policy, factories in Hong Kong started to relocate back to China in order to save costs. This was a turning point in the economy status of Hong Kong, it had to shift from an industrial-based economy to another one in order to survive. Hong Kong saw a surge in commercial and financial based services demand after the announcement of China’s Open-Door Policy.
As seen from Figure 1, the manufacturing industry was at a steady decline while the financing and services-related sector was booming. Hong Kong had transformed into a serviced-based economy.
According to a survey done by the Hong Kong Census and Statistics Department, the services sector accounted more than 90% of the contribution to Hong Kong’s GDP.
The handover of Hong Kong was made on the 1st of July 1997 from the British to the Chinese. Hong Kong was given the right to practice its own laws and policies while being under surveillance by China. The ‘One Country, Two Systems’ policy has been adopted ever since. The advantage of such a policy is that Hong Kong has been able to maintain its British colonial times’ lax employment laws, low taxes and free trade while also serving as a stepping-stone for China.
Due to Hong Kong’s rising importance as a serviced-based economy providing professional services, many foreign companies decided to set up their offices in Hong Kong rather than China due to risk concerns, expertise of the labor force and Hong Kong’s simple taxation system. In addition, Hong Kong is a free port that only taxes tobacco, hydrocarbon oil, spirits and methyl alcohol. Other than that, everything that comes in and goes out of the city is tax free. Earned profit in Hong Kong is taxed at 16.5%. However, if you have a Hong Kong registered company that only earns offshore profits, the tax rate is 0%.
You might wonder why not directly set up a business in China instead of setting up somewhere next to it.
According to the World Investment Report released in 2009 by the United Nations Conference on Trade and Development, Hong Kong is one of the largest destinations for Foreign Direct Investments (FDI). Hong Kong attracted US$68 billion of inward investment during 2008 and has continued to be the second largest Asian and the world’s seventh largest FDI recipient.
For over a decade, Hong Kong has been ranked the “World’s Freest Economy” by the Hertitage Foundation, Wall Street Journal and the Fraser Institute. It comes to no surprise that many multinational companies choose Hong Kong for their regional headquarter in Asia. With no trade barriers, low level of government intervention and in addition, an expansion and encouragement in its service sector, Hong Kong’s position is strengthened even further.
The structure of taxation in Hong Kong is relatively simple; Hong Kong imposes income tax on a territorial basis. This means that generally income is only taxed in Hong Kong if it arises in or derives from Hong Kong. There are three main direct taxes, profits tax, salaries tax and property tax. Any income that is not within any of these categories is not subject to tax. Hong Kong does not impose payroll, turnover, sales, value-added, dividends, withholding and capital gains taxes.
Hong Kong’s enduring appeal is built on political stability, pro-business governance, rule of law and an independent legal system from China, free flow of information with English and Chinese being the two main languages of business.
Hong Kong is a natural gateway to China due to its geographic location and its beneficial business, finance and legal systems. It is therefore no surprise that a Hong Kong Company is the most common entity incorporated as a holding company for businesses entering the China market.
With a Hong Kong company, it is possible to sell directly from Hong Kong to worldwide clients without involving the headquarters, and without goods burdening the warehouse. As a result, lower Freight on Board (FOB) prices Asia prices are offered. In addition, a bank credit is not required since clients could open a transferable Letter of Credit. This frees up capital and improves the cash flow. Most importantly, the business can also be operated with minimal cost.
A Hong Kong company is required to file an audit and a tax return each year so regular bookkeeping according to Hong Kong standards is advisable. The standard profit tax rate is 16.5%. However, if the company has only conducted offshore business and is able to prove this to the Inland Revenue Department (IRD) in Hong Kong, it can apply for 0% tax rate. In order to justify an “offshore business” status, the company should:
The duration until the tax exemption is approved differs on the profit the company made in the specific tax year and very often a long negotiation process is involved.
In order to minimize the financial and administrative expenses, service providers such as Korpus Prava have developed cost-effective outsourcing solutions for companies. You do not need to rent an office in Hong Kong or hire staff. A simple incorporation of a limited liability company in Hong Kong along with an opening of a bank account can get your business running. With a well-developed economy, a competitive labor force that speaks both Chinese and English and minimal government interference, Hong Kong is without a doubt a much preferred destination for setting up a business.
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