Benefits of Transshipment Trade for Hong Kong Companies
Hong Kong's tax system is very different from mainland China. It can be said that Hong Kong is one of the regions in the world with the fewest types of taxes and the lowest tax rates. There is neither business tax nor value-added tax in Hong Kong. Generally, there are three types of taxes in Hong Kong:
First, property tax. Property tax is levied on the owners of land or buildings in Hong Kong, with a tax rate of 16%. If you have a property in Hong Kong for rent, then the rental income needs to be reported to the Hong Kong Tax Department as property tax.
Second, salaries tax. Similar to personal income tax on the mainland, it refers to income derived from employment, office, or pension in Hong Kong, which must be subject to salaries tax, with a tax rate of 16%. Like the mainland individual income tax which has a threshold, salaries tax has an annual exemption of HK$100,000.
Third, profits tax. Profits tax is calculated by subtracting costs, expenses, etc., from the company's operating revenue, leaving the net profit multiplied by a tax rate of 17.5%. If the company makes no profit or incurs a loss, it does not need to pay taxes to the Inland Revenue Department. Apart from having fewer types of taxes and lower tax rates, Hong Kong also applies the principle of source-based taxation. The Hong Kong Tax Department only has the authority to collect profits sourced from Hong Kong. If the profit of a Hong Kong Limited Company is not sourced from Hong Kong, it can apply to the Hong Kong Tax Department for overseas profits, and there is a high possibility of legally avoiding paying taxes to the Hong Kong Tax Department.
Next, let’s use a Hong Kong company as an example to introduce how transshipment trade operates:
Assume your Shanghai company mainly serves clients in the U.S., and now you have received a $1 million order for clothing. Assume the cost of this batch of clothing is $600,000. Your Shanghai company may fall into two scenarios: 1) You have self-operated import and export rights, and also have a factory that can produce and sell directly; 2) You do not have import and export rights, so after purchasing domestically, all goods are entrusted to a foreign trade company for export. First, let's discuss scenario 1, where the original operation was a very simple bilateral trade: the Shanghai company directly exported through customs in Shanghai, and upon receipt of the goods by the U.S., they would wire transfer (T/T) back to China. Without considering other costs, your Shanghai company would make a $400,000 profit, subject to a corporate income tax rate of 33%, without considering other taxable items, already quite high. Additionally, China still imposes foreign exchange controls. Even if the enterprise has import and export rights and a dollar account, there is still a limit, determined by your export amount. That means any foreign exchange exceeding the dollar account limit will still be converted into RMB, incurring conversion losses. Conversely, when importing and paying out foreign exchange exceeding the account limit, it must be realized through bank purchases of foreign exchange. Thus, both inbound and outbound transactions result in significant annual conversion losses for enterprises. Now, if you have a Hong Kong company, first, you can use the name of the Hong Kong company to accept the U.S. client's $1 million order. Since your Hong Kong company itself is not involved in production, it will make a purchase action from the Shanghai company, acting as an "import-export company" or intermediary. The procurement contract amount generally cannot be less than the $600,000 cost, otherwise it would involve anti-dumping issues. Here we assume a $700,000 procurement contract signed with Shanghai. After clarifying the contract issues, we consider logistics and funds in the trade. First, let's talk about logistics. The flow of goods remains from Shanghai to the U.S. Specifically, since your Shanghai company has import and export rights, it can take the contract with the Hong Kong company to customs declaration. Many people ask, can my goods, bought from Shanghai for Hong Kong, be directly shipped to the U.S.? We need to explain clearly to customers that our contract specifies the delivery location as a certain port in the U.S. As long as you specify this, there is no problem going through customs declaration. Because shipping the goods there is unrelated, this is just a commercial behavior between two companies. After declaring the product, quantity, value, destination, and origin certificate at customs, and ensuring all documents are complete, the goods can be handed over to the shipping company for transportation. Without these documents, no shipping company would dare to take the order to transport it. Not declaring customs is smuggling, so before finding a shipping company, you need to go through the entire customs declaration process. After customs declaration and handing over to the shipping company, your goods arrive at the wharf, the shipping company loads the containers onto the ship, buys insurance, sets sail, and departs. When the ship departs, the shipping company gives a receipt to the Shanghai company. The Shanghai company sends the documents via courier to the U.S. However, since all signing units on these documents are the Hong Kong company, a endorsement procedure must be done, i.e., changing the bill of lading, which involves changing the consignee. Customers might ask, wouldn't it be troublesome if the goods go to Hong Kong to change the bill of lading? Actually, this is unnecessary. The goods don't need to go to Hong Kong. This Hong Kong company belongs to you, so changing the bill of lading is something you can do yourself. You modify the bill of lading, endorse it, and send the documents via courier to the U.S., allowing the U.S. customer to pick up the goods at the wharf.
As for the flow of funds, first, after receiving the goods, the U.S. customer will transfer $1 million T/T to your Hong Kong company account according to the order signed with the Hong Kong company. Then, the Hong Kong company will transfer $700,000 back to the domestic account for foreign exchange verification according to the procurement contract signed with the Shanghai company. After completing this step, the tax base of your Shanghai company will decrease from the original $400,000 to $100,000. The remaining $300,000 profit retained in the Hong Kong company, after applying for overseas profits, does not require any taxation, greatly reducing your tax cost. How to use the money in the Hong Kong account? There are two situations: 1) If your account is opened in Hong Kong, your money is free to withdraw, as there is no foreign exchange control in Hong Kong. 2) If your account is opened in a domestic offshore account, it is equivalent to opening a bank account abroad. The funds in the account can freely transfer to domestic or international entities, companies or individuals, without submitting any government approvals, customs declarations, verification forms, invoices, or contracts. It functions like a personal wallet, allowing free inflow and outflow of foreign exchange, including receiving personal commissions in foreign currency, as it is an offshore account and not subject to mainland foreign exchange control. It avoids foreign exchange restrictions and facilitates international trade settlements such as transferring letters of credit (LC) or receiving telegraphic transfers (TT).
Additionally, some friends may settle payments using letters of credit, but the operation is similar. The U.S. customer first finds a local issuing bank to issue a $1 million LC to the Hong Kong company, and the advising bank receives the $1 million LC. However, the advising bank receiving this LC = waste paper (usually, LCs come with documentary LCs, what are documentary LCs? They are LCs with conditions for collection). This means it can only be cashed under certain conditions. Typically, the minimum conditions include a delivery note, an acceptance note, and a confirmation note. Only when these three documents are provided by the U.S. can they receive them. The U.S. sends the delivery note, acceptance note, and confirmation note via courier to the Hong Kong company, and the Hong Kong company submits these documents to the advising bank. Once the advising bank sees all the documents are complete and match the terms of the letter of credit, the bank will honor the $1 million, crediting it to the account. These steps can actually be completed on the mainland. For your domestic supplier, the Shanghai company, there are two scenarios:
1) Has money, allows the factory to produce first, without needing immediate payment of $1 million.
2) No money, first opens a $600,000 LC to the factory, allowing the factory to produce goods.
The $600,000 cash or relevant collateral is placed in the bank, and the bank will help open a new LC, unable to use the original $1 million LC as collateral; however, if the upstream party's LC is a transferable letter of credit and the factory accepts transferable letters of credit, the customer can take the $1 million LC to the bank for transfer, making this letter of credit the mother certificate and collateral. Transfer a $600,000 LC to the downstream party, at this point, he does not need to take out any money. But the premise is that this LC must be a transferable LC, thus completing the entire operation of the letter of credit.
In the second scenario, many individual SOHU trades are like this, without self-operated import and export rights. After buying goods from the factory, they entrust a foreign trade company to handle the export operation. Still taking the U.S. customer's $1 million clothing order with a cost of $600,000, the role of the foreign trade company is very simple, helping to handle the export logistics and settlement of funds. After the foreign trade company helps you declare customs and export to the U.S., during the initial settlement, your U.S. customer first settles with the foreign trade company, wiring $1 million. Then the foreign trade company helps you settle in RMB. Among the costs, including agency fees and handling fees, are not calculated here, resulting in a $400,000 profit for you. Now, if you have a Hong Kong company, the Hong Kong company first signs a $1 million order with the U.S. customer, then the Hong Kong company signs a $700,000 procurement contract with your foreign trade agent.
Similarly, as described above, directly change the bill of lading and ship to the U.S. After the U.S. customer receives the goods, they will, according to the contract, transfer $1 million to the Hong Kong company's account. Then, the Hong Kong company transfers $700,000 to the foreign trade agent company for foreign exchange verification. The foreign trade company then settles with you as usual. But because it is not $1 million being transferred back, but rather $700,000 converted into RMB for settlement, in this case, the tax base of your domestic company decreases from the original $400,000 to $100,000. The additional $300,000 profit is retained in your offshore account, similarly playing a role in reducing tax costs. For those who are initially engaged in trade, accumulating capital faster is more important.
Finally, regarding the issue of tax rebates, many people worry that having a Hong Kong company will affect the original rebate, but it actually doesn't. Rebates refer to value-added tax refunds, one type being refunds based on cost, which does not affect customers in this situation. Another type is rebates based on export amounts, where less increase results in less refund, and profit splitting. Transshipment trade actually saves on expenditures! Imports involve more factors compared to exports, involving tariffs, the VAT situation of your products, and different products have different tax conditions given by the domestic authorities. For instance, some companies importing certain equipment do not need to pay corporate income tax but instead pay a sales tax of six per thousand based on domestic retail prices. Some enterprises importing raw materials for processing and re-export do not need to pay VAT. Therefore, for different companies producing different products, the tax situation varies, but you can use a Hong Kong company to adjust the import price, accordingly changing the corresponding tariffs, VAT, and income tax, minimizing your overall tax cost. Source: Register Hong Kong Company Network: http://www.registersh.com