Question
Moon Hong Kong Limited Moon Hong Kong Limited (Moon HK) carries on a business in Hong Kong, the shares of which are listed on the
Moon Hong Kong Limited
Moon Hong Kong Limited (Moon HK) carries on a business in Hong Kong, the shares of
which are listed on the Hong Kong Stock Exchange. Moon HK was a manufacturer of cutlery.
To take advantage of lower labour and other costs in the Mainland of China (the Mainland),
Moon HK has set up a wholly owned subsidiary, Moon Manufacturing Limited (Moon
Manufacturing) in the Mainland for the manufacture of the cutlery. Moon Manufacturing was
registered as a wholly foreign owned enterprise in the Mainland in the year 2015. Moon
Manufacturing was granted a licence to carry on manufacturing and trading in the Mainland.
Moon Manufacturing Limited
The business licence of Moon Manufacturing is an import processing licence. It was so
arranged that Moon HK would sell raw materials to Moon Manufacturing and, after processing,
buy finished goods from Moon Manufacturing. Customs reporting documents show that Moon
Manufacturing takes up the title of raw materials upon import and transfers the title of finished
goods upon export. The sale and purchase contracts were prepared by the sale and purchasing
department of Moon HK in HK office. The pricing of the raw materials and finished goods
to/from Moon Manufacturing was determined on an arms length basis. To facilitate the
manufacturing process, moulds owned by Moon HK were transferred to Moon Manufacturing
for its use, at no cost. However, the moulds are only used to manufacture finished goods
supplied to Moon HK. In addition, a number of senior management staff employed by Moon
HK are stationed in Moon Manufacturing to monitor and manage its operations.
Moon Overseas Limited
Moon Overseas Limited (Moon Overseas), incorporated and carrying on business in Country
X, is a wholly owned subsidiary of Moon HK. From June 2019, Moon HK sells the finished
goods to Moon Overseas at a price 20% below the market price. After that, finished goods are
said to be sold by Moon Overseas to end customers in Hong Kong at a market price. Profits
from sale of finished goods in the Hong Kong market are taken up by Moon Overseas.
Moon Overseas is a tax resident in Country X and is taxed in Country X. Moon Overseas
asserts that it does not have a permanent establishment in Hong Kong.
As the tax adviser for Moon HK, prepare a report for the board of directors addressing
the following issues, from a Hong Kong tax perspective:
(a) The management of Moon HK has heard of the 50:50 offshore profits claim for Hong
Kong tax reporting. With supporting references from tax authorities (e.g. DIPN, tax
legislation or tax cases), explain the qualifying conditions for offshore profits claim and
evaluate whether Moon HK could be entitled to such a claim.
(13 marks)
(b) The opinion of the assessor of Inland Revenue Department is that the arrangement
between Moon HK and Moon Overseas was entered into for the purposes of shifting the
profits from the former to the latter. Explain to the management of Moon HK, with
reference to the transfer pricing principles and relevant tax rules, how the transaction
between Moon HK and Moon Overseas can be chargeable and how the profits so shifted
are to be brought back into charge in the context of the relevant provisions of the Inland
Revenue Ordinance.
(11 marks)
Professional marks will be awarded in Question 1 for the appropriateness of the format and
presentation of the report and the effectiveness with which the advice is communicated.
(4 marks)
(Total for Question 1: 28 marks)
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