Mr. Gary Ng established Hope (Holding) Limited (HH) in Hong Kong in 1995. HH has two subsidiaries in Hong Kong: Hope Property Limited (HP) and Hope Toy Limited (HT). The main businesses of HP are property investment, property trading and rental business in Hong Kong, Mainland China and Asia Pacific. Mr. Mike Lee is the CEO of HP. All profits of HP have been offered for tax assessment. During the year ended 31 March 2020, the following items are noted from HPs books of records: 1. Interest income $225,000 which consists of: (a) $165,000 from RMB deposit of RMB3 million @ 5% placed with Bank of China in Shenzhen, and (b) $60,000 from HK$ deposit of $2 million @ 3% placed with Hang Seng Bank in Hong Kong. 2. Interest expenses of $355,000 which consists of: (a) $40,000 for bank overdraft charges on daily operations; (b) $115,000 on a bank loan of RMB1.5 million @ 7% secured by the above-mentioned RMB deposit with Bank of China in Shenzhen; and (c) $200,000 on a bank loan of $4 million @ 5% secured by the above-mentioned HK$ deposit with Hang Seng Bank in Hong Kong. HT is a toy manufacturer. Gary is the CEO of HT. During the year end 31 March 2020, the management accounts of HT show the following items: - Gross profit of $27,500,000, and - Processing fee of $2,500,000 paid to PCL, HT signed a processing agreement with Precision (China) Limited (PCL), a mainland Chinese company for a term of 5 years on 1 April 2019. The processing agreement has been approved by the relevant mainland Chinese authorities. The agreement includes the following terms: - HT provides PCL with raw materials, manufacturing machinery and equipment, and technical assistance at no charge. - HT rather than PCL takes title over the raw materials and the finished goods. - PCL manufactures the finished goods which are exported to HT at no charge. - HT then sold the finished goods to customers in Hong Kong and overseas. Mr. Tony Wong is an experienced trade fair organiser and has been working at HT for years. In November 2020, Tony is negotiating a new employment contract with HT. Tony intends to provide services to HT indirectly through a Hong Kong limited company known as Good Show Limited (GSL) which is owned by the parents of Tony. Under the new arrangement: - Tony anticipates that annual service fees to be $1,200,000. GSL will then pay Tony an annual salary of $500,000 and provide him with non-taxable fringe benefits which cost the company $300,000. - Tony will be provided with an office together with secretarial and administrative support by HT. - During the period of providing services to HT, Tony will continue to hold the title of Regional Business Manager, and will remain under the instruction and supervision of HTs Group Business Director. - The service agreement explicitly mentions that HT does not act as the employer of Tony, and thus is not obliged to comply with any necessary employment regulations and reporting obligations.

Question 3

Comment the Hong Kong tax exposure of the new arrangement between HT and GSL.