Types of tax

Associate Level – Principles of Taxation · HKICPA QP (Hong Kong CPA) · 6 min read

Welcome to the World of Hong Kong Taxation!

Hello there! If you are just starting your journey into the HKICPA QP Principles of Taxation, you might feel a little overwhelmed by all the rules and figures. Don't worry—we are going to break this down together. Think of this chapter as the "Map of the Territory." Before we learn how to calculate tax, we first need to know what types of tax exist in Hong Kong and who has to pay them.

Hong Kong is famous for having a simple and low tax system. Unlike many other countries, we don't have Sales Tax (GST/VAT) or Capital Gains Tax. This makes our job as accountants a little easier, but there are still specific rules we must master!

1. The Two Main Families: Direct vs. Indirect Taxes

In the world of tax, almost everything falls into one of two categories. Understanding the difference is your first step to success.

Direct Taxes

Direct taxes are paid directly by the person or the company to the Government (the Inland Revenue Department, or IRD). You cannot "pass the bill" to someone else. The amount you pay is usually based on how much money you made.

Example: If you earn a high salary, the IRD sends a bill to you. You pay it out of your own pocket. This is a direct tax.

Indirect Taxes

Indirect taxes are collected by an intermediary (like a shop or a service provider) and then passed on to the Government. You pay the tax as part of the price of a good or service.

Example: When you buy a bottle of wine in a restaurant (which may include duties) or buy shares in a company, the tax is often "hidden" in the transaction or paid via a third party. In Hong Kong, Stamp Duty is a classic example of an indirect tax.

Quick Tip: If the tax man comes knocking on your door specifically for a piece of your income, it’s Direct. If you pay the tax while buying something, it’s usually Indirect.

2. The "Big Three" Direct Taxes

In Hong Kong, our tax system is schedular. This is a fancy way of saying we have different "buckets" for different types of income. There are three main types of direct tax you need to know:

I. Salaries Tax

This is the tax on income from employment, offices, and pensions. If you work for a boss and get a monthly paycheck, you are likely in the Salaries Tax bucket.

Who pays? Employees and directors.
On what? Salaries, bonuses, commissions, and even "perks" like a company-provided flat.

II. Profits Tax

This is the tax on business profits. If you run a business—whether you are a sole proprietor, a partner in a firm, or a large corporation—you pay Profits Tax.

Who pays? Corporations, partnerships, and sole traders.
On what? Profits arising in or derived from Hong Kong from a trade, profession, or business.

III. Property Tax

This is the tax on rental income. If you own a flat in Hong Kong and rent it out to a tenant, the money they pay you is subject to Property Tax.

Who pays? Owners of land and/or buildings in Hong Kong.
On what? The actual rent received (minus some standard deductions).

Important Note: If a company owns a property and earns rent, it might pay Profits Tax instead of Property Tax. Don't worry about the details yet—just remember that the source of the income determines the "bucket" it falls into!

3. The "Hybrid" Option: Personal Assessment

Wait! What if you have income in all three buckets? You have a job (Salaries Tax), you run a small side-hustle (Profits Tax), and you rent out a room (Property Tax). Do you just pay three separate taxes?

This is where Personal Assessment (PA) comes in. Personal Assessment is NOT a separate tax. It is a method of calculation that allows individuals to group all their income together. This is often beneficial because it allows you to claim certain deductions (like mortgage interest) that aren't available in the individual buckets.

Did you know? Personal Assessment is usually a "choice." If grouping your income makes your tax bill higher, the IRD will simply ignore your PA election and tax you under the separate buckets instead. They are quite kind that way!

4. Common Indirect Taxes in Hong Kong

While Hong Kong has no General Sales Tax, we do have specific indirect taxes that generate revenue for the government.

Stamp Duty

This is the most important indirect tax for your exams. It is charged on legal documents related to:

The sale or lease of immovable property (houses, offices, etc.).
The transfer of Hong Kong stock (shares in companies).

Other Duties and Rates

Betting Duty: Tax on horse racing, football betting, and lotteries (the Mark Six!).
Dutiable Commodities: Tax on specific goods like tobacco, hydrocarbon oil (petrol), and strong alcohol.
Rates and Government Rent: Taxes based on the estimated "ratable value" (rental value) of a property.

5. How the Tax is Calculated: Two Systems

In Hong Kong, we use two different "philosophies" for setting tax rates. Understanding these will help you understand why some people pay more than others.

A. Proportional (Flat) Rate

The tax rate stays the same regardless of how much you earn. Most Profits Tax and Property Tax use this. If the rate is 15%, you pay 15% whether you earn \$10,000 or \$1,000,000.

B. Progressive Rate

The more you earn, the higher the percentage of tax you pay. This is used for Salaries Tax and Personal Assessment. It works in "steps" or "bands."

Analogy: Imagine a ladder. The first few steps are very cheap to climb. As you get higher, each step costs a little more. This ensures that those who earn more contribute a larger share of their income.

Key Takeaway: Hong Kong uses a Standard Rate as a "ceiling." For Salaries Tax, you calculate your tax using the progressive steps, but you will never pay more than the Standard Rate (currently 15% or 16% for high earners) of your total income. It's like having a "maximum price" guarantee!

6. Summary and Quick Review

Before you move on to the next chapter, let's make sure these basics are "stuck" in your brain.

Quick Review Box:

1. Direct Taxes: Salaries Tax, Profits Tax, Property Tax.
2. Indirect Taxes: Stamp Duty, Betting Duty.
3. The Territorial Principle: Hong Kong only taxes income that comes from Hong Kong. If you earn money in London or New York, the Hong Kong IRD usually isn't interested!
4. Personal Assessment: An optional way for individuals to combine their income to possibly pay less tax.

Memory Aid: The "Three P's and an S"

Most of Hong Kong's revenue comes from these four:
Profits Tax
Property Tax
Personal Assessment (method)
Salaries Tax

Don't worry if the math seems scary right now. For this section, your goal is simply to identify which tax applies to which situation. If you can see a landlord and think "Property Tax," or see a shop owner and think "Profits Tax," you are already halfway there!

Quick check

Can you answer these now?

Open each question to check the key ideas from this chapter.

What is the primary characteristic of a direct tax in Hong Kong?

Direct taxes are paid directly by a person or company to the Inland Revenue Department (IRD) based on their income or profits, and the burden cannot be passed to others.

How is an indirect tax different from a direct tax?

Indirect taxes are collected by intermediaries (like shops or service providers) and passed to the government, often appearing as part of the price of a transaction.

What is meant by a "schedular" tax system in Hong Kong?

It is a system where different types of income are categorized into distinct "buckets" (schedules) and taxed separately rather than taxing a person's total global income together.

What is the scope of Salaries Tax in Hong Kong?

Salaries Tax is charged on income arising in or derived from Hong Kong from any office, employment, or pension.

Who is liable for Profits Tax and on what basis?

Corporations, partnerships, and sole traders are liable for Profits Tax on profits arising in or derived from Hong Kong from a trade, profession, or business carried on in Hong Kong.

What income is subject to Property Tax in Hong Kong?

Property Tax is charged on the owners of land and buildings in Hong Kong based on the rental income received from tenants.

Is Personal Assessment (PA) a separate type of tax?

No, Personal Assessment is a calculation method that allows individuals to aggregate their income from various sources to potentially reduce their total tax liability.

What triggers the payment of Stamp Duty in Hong Kong?

Stamp Duty is triggered by legal documents (instruments) relating to the sale or lease of immovable property or the transfer of Hong Kong stock.

What is the difference between proportional and progressive tax rates?

A proportional rate remains constant regardless of the income level, while a progressive rate increases as the taxpayer's income rises through different bands.

How does the "Standard Rate" ceiling apply to Salaries Tax?

The tax liability for Salaries Tax is the lower of the amount calculated using progressive rates (with allowances) or the amount calculated using the Standard Rate (without allowances).

What is the Territorial Principle in the context of Hong Kong tax?

Hong Kong only taxes income and profits that arise in or are derived from Hong Kong; income from outside Hong Kong is generally not taxable.

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