Trading Efforts of Taxpayer having Sole Proprietorship HK under Board Cases, Trading Profits and Re-Invoicing Center in accordance with DIPN 21

In this blog we will discuss some cases to understand the word trading in term of Hong Kong taxation system. The next thing we will discuss with references from the cases is weighing exercise. Then we will explore some other terms such as trading effort, re-invoicing center and buying office. These terms are defined properly in the departmental interpretation and practice notes. So throughout this discussion our reference will be DIPN 21.  


It was stated by the judge Lord Bridge in case of Hang Seng Bank that, the place where the contracts are effected are the test for selling and buying the commodities. In DIPN 21 this test was adopted by the Inland Revenue department. However, the main point to notice here is that, this test is not alleged to be of selling and buying goods for all businesses rather it is only a broad guiding principle.

‘It is an important factor to consider that where the contract of purchase and sale is undisputable of the source of profits but there is no rule of law to place this factor’. The reference for this statement is taken from the judgement given by the deputy judge in case of Consco Trading Company Ltd.

In case of a set up company in HK, named as Magna Industrial Company Ltd., it was observed that, a trading business (i.e. business of buying and selling) was carried out by a taxpayer. In the decision it was stated by the Court of Appeal that, ‘this question is also important that, where the goods were sold and bought but there are also some other questions. For example: how were the goods stored after procurement? How were the sales requested? How were the orders carried out? How were the goods exported? How was the financing taken place? How was the payments made?’

In case D 107/96 it was found by board of review that, contracts in above specified case might not be unaffected outside Hong Kong, to enable the taxpayer to earn the profit, collections of payments in Hong Kong and the opening of letters of credit in Hong Kong were the important facts. It was concluded by the board of review that profits were derived in Hong Kong.

Weighing Exercise

The weighing exercise is most efficient and adopted method to determine the source if some of the activities were carried outside Hong Kong while some inside Hong Kong. In case of Magna it was discovered that, the contracts of sales were effected outside Hong Kong while contracts of purchase were entered inside Hong Kong. As result of this that profits were held to be offshore, the purchases were considered to be outweighed by the sales. The opposite conclusion was observed in the case of Sinolink Overseas Ltd. In that case predominance of the activities that helped in making the profits, including placing of orders by taxpayer having sole proprietorship HK and opening of letters in Hong Kong both took place in Hong Kong so the profits of Consco trading were held to be onshore.

The Court and Board Cases  

In case D 20/02 it was found by board of review that, the taxpayer having incorporate HK company was being put in a position to earn a ‘markup’ from the selling and buying of finished products and raw materials. So a taxpayer earned his / her profits by reason of being put in this position. The transactions were brought together through the taxpayer operating in Hong Kong and in respect of finished products and raw material Hong Kong was also the shipping and finance center for trading operation of taxpayer. So the profit was held onshore.

In case of D 76/03 the profits were accepted as not being onshore rather offshore. This was due to the reason that, the orders were managed in Singapore by the agent of taxpayer, even though letters of credit, received and made payments and issued invoices were opened by the taxpayer in Hong Kong. And he / she also maintained the accounting records.

The profits may be offshore as long as taxpayer was inactive in Hong Kong. Consider the case of International Wood Products, in which commission was earned by the taxpayer from its overseas principal but sub-agent of overseas principal conducted all the work for him outside Hong Kong.

In the judgement of case D 29/84 it was observed that, as long as profits were booked merely in Hong Kong without any considerable activities in Hong Kong, the profits were not onshore rather offshore.

However, it was observed in the case of an incorporate HK company, named as Euro Tech (Far East) Ltd. that, as long as activities of taxpayer in Hong Kong were not less than those of an only puppet and all the sales and purchases are handled in Hong Kong, the profits were not tax free.

In a judgement of case Exxon Chemical International Supply SA it was observed that, the profits were considered onshore where the sales orders were issued and purchase orders were received from Hong Kong, even though the transactions occurred within the group with no need for debate of terms and prices virtually. 

DIPN 21 - Trading Profits

In general, the Inland Revenue department considers that, the place where the contracts of sales and purchase are effected is the determining factor for the source of profits. The assessing practice of Inland Revenue department is as follow:

  • No part of the profits is taxable, if both the contract of sale and contract of purchase are have an effect out of HK. 
  • Fully taxable profits occurs, if both the sale and purchase contract are effected in HK.
  • The contract of sale will mostly be assume as effected in HK if sale is made to a customer of Hong Kong (including the overseas customer’s Hong Kong buying office).
  • Even though sale and purchase contracts are important factors but to determine the locality of profits (DIPN 21) all the relevant operations must be looked at that produce the trading profits.
  • Where either the contract of sale or contract of purchase is effected in HK, the profits are fully taxable will be the initial arrogance. Matter such as those were mentioned in Magna, will be examined for determining the issue.
  • The contracts where effecting of the sale and purchase contract not involve travel out of HK but is being taken place in HK by fax, telephone etc., will be assumed as HK effected only.
  • The purchase contract will be assumed as effected usually in HK if goods or commodities are purchased from either a Hong Kong manufacturer or supplier.

The division of trading profits was not accepted by the Inland Revenue department. Either the profit of trading can be completely non-taxable or taxable. Even though there might be some sort of overseas activities between Hong Kong and other countries but still no space is present for additional assorted source for HK source.

It considered by the Inland Revenue department that, legally executed cannot be merely mean by the word ‘effected’. It totally depends upon the formal legal rules of acceptance and offer. The Inland Revenue department agrees with the approach in Manga and will inspect all the petition of the orders, performance and shipment of the contracts, negotiation conclusion and all the relevant operations that were carried out to earn the profits.

It was mentioned by the Inland Revenue department in case of Advance Ruling Case number 54 that, more than decision to accept an offer should involves in the concept ‘effecting’. Also it should be understood that meaning of obtaining facilities from bank is same as to give effect to the conditions and terms of the contract of sale and purchase.

There is a basic claim that, contracts are terminated overseas by the overseas agents who exercise a general authority habitually to conclude after debating the contracts on the behalf of their overseas principals or employee of Hong Kong business travelling overseas. This contract must be proven by submitting the respective details of subsistence and hotel expenses, travelling in respect of each single transaction. The agency agreements or other documentary proofs are required for submission if it is claimed that overseas agent effected the contract.

DIPN 21 - Re-Invoicing Centre

It is considered by the Inland Revenue department that; the profit is taxable if it is derived from the service provided by a person in Hong Kong. Profit or commission income is chargeable to profits tax if it arises to a ‘re-invoicing center’ as a result of services provided. Service incomes do not include profits derived from the selling and buying of the goods. Taking of commercial risks such as inventory risks, product risks, credit risks, capital risks and exchange risks that are different from those attached to a service are involved in the transaction. The main indications for the transaction to be a trading transaction are issue of purchase orders and confirmation of sales. The source of trading profits is dependent on the locality of the trading operations.

According to the Inland Revenue department, such circumstances cannot be categorized under which, profit or income derived by a ‘re-invoicing center’ would not be regarded as a trading profit rather as a service income. The type of risks in question for determination of whether they consist of the allowance of trading or services and nature of the operations would be examined in each case by the Inland Revenue department. The label named as ‘re-invoicing center’ does not provide the answer itself as different business structure can be meant by it.


Company A is a set up company in HK. It is a re-invoicing center of a group of companies. The holding company of this re-invoicing center is incorporated in the United States. It directs all foreign currency vulnerabilities from trade of intra-company in Hong Kong. It also guarantees intra-associates cash flows and exchange rates for future orders including all the ups and downs of payments. Company A buys the goods from manufacturing affiliates in Mainland China and distribution affiliates in Europe and North America buys the goods from Company A. As of its services Company A resells the goods at cost plus a markup. That markup on the reselling covers the cost of re-invoicing center and a sensible return on the services provided.

The profits that was resulted to Company A are the services obtained from the Hong Kong. The markup earned by Company A acts as a re-invoicing center. That mark-up is chargeable to the profits tax.    

DIPN 21 - Buying Office 

A trading company setting up an office in Hong Kong to act as a buying office for the reason of purchasing merchandise, goods or of collecting information. The activities of branch of that company are restricted to the purchase of merchandise, goods or collecting information in Hong Kong and is not involved in sale of the company in either Hong Kong or elsewhere. In this type of scenario, a liability to tax on profits would not arise. An agent or a subsidiary company may also carry out the functions of buying office. However, as long as an agent or subsidiary company is a branch it must not be involved in the sale of the goods. On the other side according to the reference taken from DIPN 21, any other remuneration or commission will be fully taxable if it is earned by the agent or subsidiary company for performing its services in Hong Kong.   

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