The growth in family offices (FOs) among Asia’s wealthy has been phenomenal in recent years. Many jurisdictions hope to attract FOs to their territory. In May, Hong Kong enacted a new concessionary tax regime for family-owned investment holding vehicles (FIHVs) managed by a single FO. The tax concession applies retrospectively from the 2022/23 assessment year (from 1 April 2022).
The key question for a jurisdiction trying to attract more FOs is, how do you come up with a regime that would entice wealthy families to set up shop? An attractive regime would offer most, if not all, of five competitive advantages:
- Favourable tax regime;
- Low threshold for qualification;
- Minimal government involvement with the initial approval and annual maintenance procedures;
- Conducive immigration policy; and
- A free economy with world-class capital markets.
What is a family office?
An FO is a company that provides prescribed services to prescribed family members. The services generally encompass:
- Asset management;
- Procurement of professional services;
- Education support;
- Immigration assistance;
- Lifestyle and concierge services; and
- Assisting with philanthropic activity.
An FO may serve a single family or multiple unrelated families. Hong Kong’s FO tax concession covers only investment-holding vehicles managed by FOs that serve a single family via a single-family office (SFO).
A typical SFO structure comprises one or more FIHVs that hold the family’s wealth. Also, there is often a separate entity that serves as the SFO that manages the FIHV’s assets.
Advantages of Hong Kong as a family office hub
Hong Kong enjoys the reputation as one of the most tax-friendly jurisdictions in Asia. For example, its standard individual tax rate is 15 percent and only applicable to salaries, business profits, and property rental income. Dividends, most interest income, and capital gains received by individuals are tax-free.
However, if financial assets are held in an entity, it is not clear if it would qualify for tax-free treatment on capital gains as in general, a corporation or partnership is considered to have a profit-seeking motive and to carry out profit-making activities. For example, if a wealthy non-resident of Hong Kong established an entity to trade or hold stocks and securities through a private bank in Hong Kong, it is possible that the entity would be considered to carry on a business in Hong Kong (through the private bank in Hong Kong) and derive Hong Kong-sourced profits.
Because this structure is not considered foreign investor-friendly or conducive to enhancing Hong Kong’s international financial centre position, in 2006 the government introduced the offshore fund exemption regime (OFER) with amendments made in 2015, which exempts non-resident investment funds from Hong Kong taxation, provided specific conditions are met. However, there is a set of anti-round-tripping rules that would preclude the application of the tax exemption to a more-than-30-percent Hong Kong resident owner.
If the non-resident moved to Hong Kong and became a Hong Kong resident, the OFER exemption would be forfeited. Hong Kong therefore introduced the FO regime under which the FIHV’s investment income, even if derived from Hong Kong, would not be taxable in Hong Kong regardless of whether the beneficial owners are Hong Kong residents.
Under the new FO regime, an FIHV or a family-owned special purpose entity, can enjoy a 0 percent tax rate for profits derived from qualifying transactions in specified assets (for example, shares, debentures, etc.) and transactions incidental to them (subject to a 5 percent threshold). To be eligible for the tax-free treatment, an FO structure would need to meet certain requirements regarding the FIHV and SFO.
Legal form: An eligible FIHV could be a body of persons or a legal arrangement but not limited to a corporation, partnership, or trust to allow more FIHVs to apply for the tax concession.
Broad definition of family members: Both the eligible FIHV and eligible SFO should be at least 95 percent held (directly or indirectly) by members of a single family. The definition of a family member is broad and accommodating. It can even cover a divorced spouse and the spouse’s connected persons for two years from the year of divorce so that the FIHV/SFO would not be immediately disqualified when the divorce is finalized.
Charity as beneficiaries: An approved tax-exempt charitable entity under the Hong Kong Inland Revenue Ordinance is allowed to hold up to 25 percent of beneficial interest (direct or indirect) in an FIHV and still be eligible for the tax concession.
Service scope of SFOs: An eligible FIHV must be managed by an eligible SFO. Hong Kong’s FO regime is flexible enough that as long as a family member or FIHV is considered a recipient of SFO’s services and the service income received by the SFO is chargeable to profits tax, the services will be qualifying, unless the SFO receives more than 25 percent of its assessable profits from non-family members or non-FIHVs.
Normal management or control: The FIHV and SFO are required to be “normally managed or controlled” in Hong Kong. The requirement is fulfilled if either the management of daily operations or the highest level of control of the FIHV and SFO are in Hong Kong. The use of the “normally” language (which is likely a first under Hong Kong law) reflects the extent to which the Hong Kong government intends to make the regime as friendly as possible. It provides flexibility so that the family may have other significant SFOs in other jurisdictions. It would also be convenient and practical for frequent-travelling executives as the employees of the Hong Kong SFO would not necessarily have to be physically in Hong Kong most of the time.
Minimum asset threshold: The FO regime in Hong Kong has a relatively low minimum threshold. Assets managed by the SFO for the FIHV or multiple FIHVs must be at least HK$240 million in aggregate. There is no local investment requirement.
Substantial activities requirement: The local substance requirements in Hong Kong are also relatively simple and straightforward: two full-time employees (Hong Kong residents or non-residents who are in Hong Kong on work visa) and local operating expenditure of HK$2 million. There is no specific requirement on the qualification of the employees.
No license requirement: In general, an SFO is not required to apply for a license under the Securities and Futures Ordinance if it does not carry on the business of a regulated activity, for example, managing third parties’ money.
The Hong Kong government does not require qualifying FIHVs and SFOs to obtain pre-approvals to become eligible for the FO regime. A qualifying FIHV only needs to file a tax form to inform the Inland Revenue Department (IRD) that it elects to be eligible for the FO regime. A more discerning FO may consider applying for an advanced ruling from the IRD over its eligibility to obtain certainty.
Talent and immigration policy
Hong Kong’s immigration system has a straightforward path to permanent residence – seven years of residence in Hong Kong.
The Hong Kong government recently expanded its immigration programmes to attract qualified individuals. The FO regime, which requires at least two full-time employees to work for an SFO, does not mandate that they be Hong Kong permanent residents. Talents from outside Hong Kong would be welcome to fill these SFO vacancies under one of these immigration programmes.
Hong Kong has also instituted a number of programmes to nurture and develop talent for the private wealth industry that would further expand the talent pool available for FIHVs/SFOs that choose to set up in Hong Kong.
Hong Kong’s capital markets
Hong Kong has the third-biggest capital market in Asia in terms of capitalization (following Mainland China and Japan). While there is no requirement for an FIHV to invest in any local Hong Kong stocks and securities, Hong Kong nevertheless provides a wide array of investment opportunities and choices to FIHVs and SFOs that may be unmatched by other capital markets in Asia. Given that the Hong Kong dollar is pegged to the U.S. dollar and backed by Hong Kong’s enormous foreign reserves, Hong Kong provides a stable investment environment that allows the free movement of capital. Hong Kong’s core values in the rule of law and its vast pool of international professionals set Hong Kong apart as one of the most desirable places in which to conduct financial transactions and make investments. Finally, its geographic location (and being part of China) enables Hong Kong to be in the unrivaled, enviable position to facilitate cross-border financial transactions and investments with Mainland China.
As wealthy families become more global in their investment strategies and lifestyle preferences, Hong Kong is uniquely positioned as an international financial centre that can provide families with both vast global investment opportunities and the ease with which to fund and manage their international lifestyles. The new FO regime is widely perceived to be a favourable and necessary framework within which global FOs can develop and thrive. Most would agree that Hong Kong’s new regime has checked the five boxes outlined earlier, making Hong Kong a highly competitive and preferred FO location.
Moreover, judging from the amount of inquiries from potential clients, the business and professional community is optimistic that many of the world’s families, in particular those from Asia, will choose Hong Kong to set up their SFOs. The new regime will further reinforce and accelerate a virtuous cycle that is already in motion: more financial and human capital inflows into Hong Kong and more economic benefits to Hong Kong’s economy that in turn magnify the benefits of the city as the undisputable FO hub in Asia and beyond.
This is an abbreviated version of the article, ‘Hong Kong’s Family Office Regime Poised to Draw Asia’s Wealth,’ written by Patrick Yip, Vice Chair and International Tax Partner, and Doris Chik, Tax Partner of Deloitte China, published by Tax Notes International (TNI) on 18 September 2023. It is republished here with the consent of TNI.