Oversight- Hong Kong proposes 0% tax rate on eligible carried interest

On 4 January 2021, the Legislative Council of Hong Kong (LegCo) published a paper by the Financial Services and the Treasury Bureau (FSTB) titled Tax concession for carried interest (Paper). The Paper aims to brief LegCo members on the legislative proposals in connection with a 0% profit tax rate on carried interest distributed by eligible private equity (PE) funds operating in Hong Kong, and the exclusion of 100% of eligible carried interest from employment income for the calculation of salaries tax (Proposal). Prior to this, the Hong Kong government released its proposals to provide a tax concession for carried interest on 7 August 2020 (August 2020 Proposal), which was followed by an industry consultation (which ended on 4 September 2020).

This is a significant development for the PE industry in Hong Kong. It is part of the Hong Kong government’s efforts in developing Hong Kong as a premier PE hub, which include the introduction of a unified tax exemption for funds (Unified Fund Exemption) under the Inland Revenue Ordinance (IRO), effective 1 April 2019, as well as the introduction of a Limited Partnership Fund (LPF) vehicle under the Limited Partnership Fund Ordinance (LPF Ordinance) which came into effect on 31 August 2020.

A carried interest refers to the general partner's (GP's), investment manager's or investment adviser's share of the profits of a fund. The profits are usually calculated after the principal amount and a small interest (in percentage terms) on such principal amount (such interest is also commonly known as “preferred return” or “hurdle rate”) is returned to each limited partner (LP) investor. In accordance with the PE market practice, the rate of such carried interest is usually 20% of the net profits. The main point of carried interest is to align the interest of the GP, investment manager or investment adviser with that of the LP investors.

Read the full Oversight below which examines the present tax regime in respect of PE funds and considers the tax concession proposals set out in the Paper. It also discusses the practical implications of the update.