Profits Tax Exemption for Offshore Funds in Hong Kong

Hong Kong grants a full profits tax exemption for offshore funds, and since 1 April 2019 the same exemption is available to onshore privately offered funds under a unified regime in the Inland Revenue Ordinance. Qualifying funds pay nothing on gains from a defined list of asset transactions, against a standard profits tax rate of 8.25% on the first HK$2 million of assessable profits and 16.5% above that.¹ To keep the benefit, a fund has to fit the statutory definition, trade in the right kinds of assets, use a licensed manager, and stay inside the incidental-income limit.

Who Counts as a Fund

The Inland Revenue (Profits Tax Exemption For Funds) (Amendment) Ordinance 2019 replaced the older offshore-only relief with a single exemption that no longer cares where the fund is managed. What matters now is whether the entity meets the definition of a “fund” under Section 20AM.²

That definition broadly tracks the concept of a collective investment scheme under the Securities and Futures Ordinance. The pooled assets are managed for the investors, and the participating investors do not have day-to-day control over the management. The vehicle can be a corporation, a partnership, or a trust, incorporated in Hong Kong or elsewhere. From 1 April 2019, entities that qualify as a “fund” under Section 20AM are governed by the unified regime rather than the older Section 20AC exemption for non-resident persons.²

The unified regime has no “tainting” rule. If some transactions fall outside the exemption, those transactions are taxed on their own; they do not spoil the exemption for the fund’s qualifying transactions. That was a real risk under the old rules.

Qualifying Transactions and Schedule 16C Assets

The exemption applies to profits from “qualifying transactions” in assets set out in Schedule 16C of the Inland Revenue Ordinance. The schedule lists eleven asset classes, including:²

Securities: publicly traded shares, stocks, debentures, and bonds.
Shares, stocks, debentures, loan stocks, funds, bonds, or notes issued by a private company, subject to the extra conditions below.
Futures contracts and over-the-counter derivative products.
Foreign exchange contracts under which the parties exchange currencies on a set date.
Bank deposits and certificates of deposit.
Exchange-traded commodities and foreign currencies.

Bringing private company investments into scope was one of the biggest changes in 2019. Under the older offshore fund exemption, private company holdings were largely shut out. They are in now, but with guardrails.

The Three Tests for Private Company Investments

A gain from a private company interest is only a qualifying transaction if it clears three conditions:

Immovable property test. The private company must not hold, directly or indirectly, more than 10% of its assets in Hong Kong immovable property. Infrastructure assets such as roads, utilities, and communication networks are excluded from that calculation.
Holding period test. The fund must have held the investment for at least two years.
Short-term asset test. If the two-year hold is not met, the fund must either not have a controlling stake in the private company, or the private company must not hold more than 50% of its assets in short-term assets (broadly, those held under three years).

The practical effect is that genuine long-hold private equity fits inside the exemption, while short-cycle trading of Hong Kong property through corporate wrappers does not. The immovable property test is the hard line: even a two-year hold will not rescue the exemption if the target company is essentially a Hong Kong real estate vehicle.

The 5% Incidental Income Cap

Funds usually earn some income that supports the main strategy but does not itself sit in Schedule 16C. The regime allows this as “incidental transactions” as long as the total value of the incidental transactions stays at or below 5% of the fund’s combined trading receipts from qualifying and incidental transactions taken together.³

Cross the 5% line and only the excess incidental income becomes taxable at the standard profits tax rate. Qualifying transaction profits stay exempt. This is the no-tainting principle at work: a slip on the incidental side no longer sinks the whole exemption.³

The Specified Person Requirement

The fund’s transactions must be carried out or arranged in Hong Kong by a “specified person.” That means a corporation licensed, or an authorized financial institution registered, under the Securities and Futures Ordinance to carry on a regulated activity.⁴

The regulated activities cover ten types, including dealing in securities (Type 1), dealing in futures contracts (Type 2), leveraged foreign exchange trading (Type 3), and asset management (Type 9). Type 9 is the most common route, but any of the ten can satisfy the condition depending on what the fund actually trades. Using an unlicensed entity to execute trades knocks out the exemption entirely; this is the mechanism keeping the benefit tied to Hong Kong’s regulated industry.

If You Are Not a Fund: Section 20AC

Section 20AC still exists for non-resident persons that are not “funds” under the unified regime — individual investors, business undertakings, and other entities that fall outside Section 20AM. To claim it, the person must show they are not resident in Hong Kong for tax purposes.⁵

Residence turns on the central management and control test. The Inland Revenue Department looks at where the highest-level strategic decisions are actually taken, not where day-to-day administration happens. Incorporation in Hong Kong does not by itself make an entity resident, and incorporation elsewhere does not by itself make it non-resident. Every case is decided on its facts.²

Records to Keep

An exemption claim only holds up if the fund can prove every element of it. The core records are:

Transaction logs covering dates, counterparties, asset classes, and proceeds, to show that trades fall within Schedule 16C.
Evidence of the specified person’s current SFC licensing and registration.
Board and partner meeting minutes, which matter especially for Section 20AC claims where the location of central management and control has to be proved.
Fund constitutional documents, participating person details, and beneficial ownership records showing the entity operates as a collective investment scheme.

Business records must be kept for at least seven years under the Inland Revenue Ordinance.⁶ Board minutes are usually the weakest link when an exemption is challenged later, so it pays to write them so they actually show where decisions were made.

Filing the Profits Tax Return

The exemption is claimed through the annual Profits Tax Return. The form depends on the entity type: BIR51 for corporations, BIR52 for persons other than corporations (including partnerships and sole proprietors), and BIR54 for non-resident persons.⁷ Each requires figures on qualifying income and disclosures on the fund’s structure and beneficial ownership.

Electronic filing runs through the Inland Revenue Department’s Business Tax Portal or Tax Representative Portal, which handle returns from the 2022/23 through 2025/26 assessment years and accept supplementary forms, financial statements, and supporting schedules. Voluntary e-filing carries an automatic one-month extension of the filing deadline.⁸

A semi-electronic option lets you complete the return online and print it for signature and physical submission. Entities in scope of mandatory electronic filing for in-scope multinational enterprise groups cannot use that hybrid route.⁸

Penalties for Missing the Return

Missing the filing deadline exposes the fund to two penalty tracks. Under Section 80(2) of the Inland Revenue Ordinance, failing to furnish a return without reasonable excuse is an offense carrying a fine of up to HK$10,000 plus a further penalty of up to three times the amount of tax undercharged.⁹

Section 82A adds a percentage-based additional tax:

First offense: 10% of the tax undercharged, rising to 20% if the return is filed only after two or more estimated assessments have been issued.
Second offense within five years: 20% of the tax undercharged, or 30% after two or more estimated assessments.
Third or later offense within five years: 35% of the tax undercharged, or 50% after two or more estimated assessments.

These percentages are guideline figures. The department adjusts them for length of delay, amount of tax involved, the reasons given, and what remedial steps the taxpayer has taken.⁹ After a return is filed, the department may issue letters of inquiry to test the exemption claim; a slow or thin response can lead to further penalties or an outright denial of the exemption for the year.

A Note for U.S. Investors

Hong Kong’s exemption is a Hong Kong tax result. It does not reach home-country tax on U.S. persons who invest in the fund, and those obligations are severe enough to flag here.

Most offshore investment funds meet the definition of a Passive Foreign Investment Company under U.S. tax law: at least 75% of gross income is passive, or at least 50% of assets produce passive income. Without an election, IRC Section 1291 treats any “excess distribution” (broadly, a distribution above 125% of the average of the prior three years) as if it had been earned rateably across the entire holding period, taxed at the highest marginal rate for each earlier year, with interest running from each of those year’s original return due dates. A sale of the PFIC stock is treated as an excess distribution in full.¹⁰

A Qualified Electing Fund election or, for publicly traded PFIC stock, a mark-to-market election under Section 1296 avoids that default treatment. Either election requires Form 8621, filed separately for each PFIC held; the IRS estimates about 49 hours of compliance work per form.¹⁰ A limited exception lets you skip the detailed Part I reporting if the aggregate value of all your PFIC holdings is $25,000 or less at year-end ($50,000 for joint filers) and you received no excess distribution and recognized no gain on disposition. The annual filing obligation under Section 1298(f) still applies.¹¹

Two account-level reports run alongside PFIC reporting. FBAR (FinCEN Form 114) is required if a U.S. person has a financial interest in or signature authority over foreign financial accounts whose aggregate value exceeds $10,000 at any point in the calendar year.¹² A non-willful violation carries a civil penalty of up to $10,000; a willful violation the greater of $100,000 or 50% of the account balance at the time of the violation.¹³

FATCA reporting on Form 8938 applies at higher thresholds. For taxpayers living in the United States, filing is triggered when specified foreign financial assets exceed $50,000 at year-end or $75,000 at any time (single or married filing separately), or $100,000 at year-end or $150,000 at any time (married filing jointly). For taxpayers living abroad, those thresholds are $200,000 and $300,000 for single filers, and $400,000 and $600,000 for joint filers.¹⁴ Form 8938 and FBAR are separate filings with different thresholds and different destinations, and a U.S. investor in a Hong Kong fund may owe both.

1
GovHK. Tax Rates of Profits Tax
2
Inland Revenue Department. Departmental Interpretation and Practice Notes No. 61
3
Inland Revenue Department. Tax Concessions for Family-owned Investment Holding Vehicles
4
Inland Revenue Department. Departmental Interpretation and Practice Notes No. 43 (Revised)
5
Hong Kong e-Legislation. Cap 112 Inland Revenue Ordinance Section 20AC Certain Profits of Non-Resident Persons Exempt From Tax
6
Inland Revenue Department. Record Keeping
7
Inland Revenue Department. Specimen of 2025/26 Paper Profits Tax Return (BIR51, BIR52 and BIR54)
8
Inland Revenue Department. Electronic Filing of Profits Tax Return
9
Inland Revenue Department. Penalty Policy
10
Internal Revenue Service. Instructions for Form 8621 (December 2025)
11
Internal Revenue Service. Instructions for Form 8621 (Revised December 2025)
12
FinCEN. Report Foreign Bank and Financial Accounts
13
Office of the Law Revision Counsel. 31 USC 5321 Civil Penalties
14
Internal Revenue Service. Summary of FATCA Reporting for U.S. Taxpayers