How the IRD will interpret and administer the concessionary tax regime for qualifying aircraft leasing activities

Karina Wong and Veronica Lee
Karina Wong and Veronica Lee cover the clarifications and guidance provided by DIPN 54
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Karina Wong and Veronica Lee


Karina Wong and Veronica Lee cover the clarifications and guidance provided by DIPN 54

In late October, the Inland Revenue Department (IRD) issued Departmental Interpretation and Practice Notes No. 54 Taxation of Aircraft Leasing Activities (DIPN 54) addressing the new law that introduces a concessionary tax regime for qualifying aircraft lessors and aircraft leasing managers in Hong Kong.

Summary of the concessionary tax regime

Corporations that meet the specified conditions may make an irrevocable election in writing to utilize the concessionary tax regime. Under the concessionary regime:

i. Applicable profits of qualifying aircraft lessors and aircraft leasing managers will be taxed at the concessionary tax rate of 8.25 percent (i.e. 50 percent of the current profits tax rate of 16.5 percent); and

ii. In lieu of tax depreciation allowances, the deemed taxable amount in respect of income derived from the leasing of aircraft to an operator by a lessor will be equal to 20 percent of the tax base of the lessor concerned, i.e. their gross rentals less deductible expenses, but excluding tax depreciation allowances.

For the operation of the concessionary tax regime, DIPN 54 states that qualifying profits include incidental income such as interest income, exchange gains or hedging gains, to the extent that the relevant transactions are ancillary to the qualifying activities.

The 20 percent deemed tax base is granted because under section 39E of the Inland Revenue Ordinance, a lessor would be denied tax depreciation allowances in respect of the cost they incurred on the acquisition of an aircraft if the aircraft is leased to an overseas operator.

The lessor of an aircraft to a Hong Kong operator would normally be entitled to tax depreciation allowances. However, if tax depreciation allowances are claimed by a lessor in such situations, the lessor as a result will not be eligible for the concessionary tax rate and the deemed notional tax base.

Clarifications detailed in DIPN 54

Leasing of aircraft to an operator indirectly via an intermediate lessor may still be eligible for the profits tax concession

Under the literal meaning of the relevant provisions of the new law, it is only when a qualifying aircraft lessor leases their aircraft directly to an operator that such a lessor could qualify for the profits tax concession.

Despite the strict law, if due to various commercial reasons a qualifying lessor leases their aircraft indirectly to an operator situated in another jurisdiction via an intermediate lessor (which is not itself an aircraft operator), DIPN 54 indicates that the IRD may still consider the lessor to be eligible for the profits tax concession.

The commercial reasons cited in DIPN 54 in this regard appear to include an intermediate lessor being set up, in either the lessee jurisdiction or a third jurisdiction, in order to obtain: (i) preferential tax benefits offered by the lessee jurisdiction; or (ii) a reduction in withholding tax in respect of lease payments out of the lessee jurisdiction under a tax treaty between the third jurisdiction and the lessee jurisdiction.

Nonetheless, DIPN 54 states that the IRD would carefully examine the facts of each case in order to ascertain if a leasing arrangement involving the interposition of an intermediate lessor is one for which the profits tax concession was intended.

How the substantial activity requirement will be considered satisfied

In addition to being a qualifying lessor or leasing manager as defined in the new law, such a lessor or manager must satisfy one of the specified conditions concerning the activities which produce their qualifying profits, namely said activities have to be either (a) carried out in Hong Kong by the lessor or manager themselves; or (b) arranged by the lessor or manager to be carried out in Hong Kong (i.e. “the substantial activity requirement”).

DIPN 54 explains that to satisfy “the substantial activity requirement,” the core income generating activities which produce the qualifying profits of a qualifying lessor or a leasing manager need to be carried out in Hong Kong. Such activities include: raising funds; agreeing funding terms; identifying and acquiring aircraft to be leased; soliciting lessees; setting the terms and duration of leases; monitoring and revising lease agreements; managing any risks and maintaining documentation.

For lessors that are established as a special purpose vehicle (SPV) to hold an aircraft, DIPN 54 states that it may be necessary to consider whether such an SPV has sufficient nexus with the active conduct of aircraft leasing activity in Hong Kong, including the engagement of an aircraft leasing manager carrying on business in Hong Kong.

Prescribed safe harbour rules applicable to aircraft leasing managers

There are safe harbour rules under which a corporation not dedicated solely to carrying out one or more of the qualifying aircraft leasing management activities would nonetheless qualify as a qualifying aircraft leasing manager.

One of the prescribed safe harbour rules requires that both the aggregate amount of the aircraft leasing management profits (Profits) and the aggregate value of the aircraft leasing management assets (Assets) for a year of assessment in question, are not less than 75 percent of the total amount of the profits and value of the assets of the corporation concerned.

In relation to cases where an aircraft leasing manager also acts as the holding company for a leasing group, DIPN 54 states, apparently as an extra-statutory concession, that the IRD is prepared to exclude from the denominators for the calculation of the Profits and Assets percentages both equity investments in group companies and dividends. By way of the IRD adopting this approach, such a corporation would more readily qualify as a qualifying aircraft leasing manager under the relevant safe harbour rule.

DIPN 54 also contains an example indicating that a corporation can serve both as (i) an aircraft lessor and (ii) an aircraft leasing manager rendering services to third parties for a fee. In such a situation, the activities undertaken by the corporation in (i) and (ii) above may be considered separately in isolation when determining whether the two respective activities qualify for the concessionary tax regime (under the relevant sole dedication or safe harbour rules).


We welcome the clarifications and guidance provided by DIPN 54. “The substantial activity requirement” in Hong Kong may however pose some uncertainties for certain aircraft lessors or leasing managers as regards to their eligibility for the concessionary tax regime.

Hong Kong as yet may not have established a critical mass of aircraft leasing management expertise in certain overseas aircraft leasing markets. As such, an aircraft lessor set up as an SPV in Hong Kong may need to appoint related or unrelated overseas aircraft leasing managers to solicit lessees, negotiate lease terms and provide other lease management services including those relating to aircraft acquisition and disposal matters etc. whilst the ultimate investment and leasing decisions are evaluated and made by the SPV in Hong Kong.

The apparent emphasis of DIPN 54 on the engagement of a Hong Kong leasing manager by such an SPV lessor as being an important test of whether “the substantial activity requirement” is satisfied, may create some uncertainty as to the eligibility of such an SPV for the concessionary tax regime.

Similarly, a current lack of aircraft leasing expertise in Hong Kong may prompt a Hong Kong aircraft leasing manager to subcontract the delivery of part of its aircraft leasing management services to an overseas aircraft leasing manager. Whether such a Hong Kong aircraft leasing manager would then be eligible for the concessionary tax regime may also be unclear.

Notwithstanding the issuance of DIPN 54, the application of the new law to certain situations could still be complicated. Taxpayers who have any questions on the operation of the concessionary tax regime should seek professional tax advice. 


Karina Wong is Tax Partner and Veronica Lee is Tax Senior Manager at EY Hong Kong.

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