As of January 1, 2012, the new tax treaty between the Netherlands and Hong Kong, that was signed in March 2010, took effect. The tax treaty applies to financial years that commence on or after January 1, 2012, for the Netherlands, and to financial years as of April 1, 2012, for Hong Kong. This is the first general tax treaty concluded between Hong Kong and the Netherlands: the current tax treaty between China and the Netherlands does not encompass Hong Kong. It is true that, in 1997, Hong Kong became part of Greater China, but Hong Kong is still authorized to independently levy taxes and conclude tax treaties.
The tax treaty’s overall objective is to further encourage economic relations, mutual investments between the two treaty countries, and the avoidance of double taxation. The treaty also aims to prevent tax evasion by including a number of specific anti-abuse provisions that serve to prevent the treaty being abused by way of unwanted conduit situations and situations of double non-taxation.
Deviations from the Dutch treaty policy
The form and terms used are in general similar to other treaties recently concluded by the Netherlands. It also states that the OECD Commentary is an important guideline for interpreting the treaty. However, some parts of the treaty deviate from Dutch treaty policy, in particular:
· regarding service activities as a permanent establishment if these are carried out for more than 183 days within a 12-month period;
· a limited withholding tax of 3% for royalties;
· a provision for land-rich companies, for the purpose of taxing the capital gains on shares in the state where the real estate is located;
· a provision that enables the Netherlands to retain its right to tax residents of Hong Kong that hold a substantial interest, which applies not only to personal income tax, but to corporate income tax as well;
· a specific anti-abuse provision for dividends.
Place of residence of entities
For the purposes of the tax treaty, the Netherlands regards any person who, under the laws of the Netherlands, is subject to tax by reason of their domicile, residence, place of management, or any other criterion of a similar nature, as being resident in the Netherlands.
A special rule has been included in the treaty for Hong Kong to accommodate their national legislation. Entities incorporated in Hong Kong or entities which have not been incorporated in Hong Kong but are normally managed or controlled in Hong Kong, are regarded as resident in Hong Kong.
In the event that, based on these rules, an entity is considered resident in both jurisdictions, then the competent authorities will enter into discussions with each other to determine the place of residence.
Dividends
Dividends paid to a resident of the other treaty state that is the ultimate beneficiary of those dividends, may be taxed by the source state up to a maximum of 10% of the gross amount of the dividends. However, the tax is reduced to zero for:
· companies that directly hold at least 10% of the shares in the company paying the dividends, and:
o whereby the shares of the company receiving the dividends are regularly traded on a recognized stock exchange;
o whereby at least 50% of the shares of the company receiving the dividends are held by a company whose shares are traded on a recognized stock exchange in the Netherlands, Hong Kong, or in another EU Member State, but only if the company would be entitled to the same or more advantageous benefits as a result of a treaty or multilateral agreement between that company's state of residence and the jurisdiction where the benefits are claimed (source state). This includes, in any case, the stock exchanges of Hong Kong and EU Member States. Other stock exchanges can be recognized, provided that both parties are in agreement;
o the entity is a bank or insurance company resident and regulated in Hong Kong or the Netherlands;
o the entity is a head office of a multinational group with business operations in at least five countries, that generates at least 10% of the group’s gross income in each of those countries and whereby the group is largely responsible for the general supervision of the group and carries out the group’s administration. The business activities may only generate up to 50% of the gross income in the jurisdiction where the entity paying the dividends is resident; or
o it is a company that is not entitled to an exemption of dividend withholding tax based on the abovementioned provisions, but the competent authority confirms that benefiting from the exemption of dividend withholding tax is not a primary reason for the entity’s existence;
· pension funds, the Contracting States and/or certain public entities.
Interest and royalties
The treaty provides for a zero tax rate on interest payments and up to 3% on royalty payments. However, note that the Netherlands does not levy withholding tax on royalties.
Capital gains on shares
The capital gains resulting from the sale of shares are generally taxed in the country where the shareholder is resident. However, there are exceptions, for example for shares in entities whereby 50% or more of the assets consist of real estate, although this is subject to certain conditions.
Conclusion
The new tax treaty offers favorable conditions for investing in and through the Netherlands from Hong Kong. In particular, the exemption, under certain conditions, of Dutch dividend withholding tax on dividends paid to a shareholder in Hong Kong, is a major improvement. However, it will be necessary, in some circumstances, to have the zero rate confirmed by the competent Dutch authority.