The Government has recorded a continuous increase in collected tax revenue over the last two years. The Commissioner of Inland Revenue announced in May 2005 that a total tax revenue of HK$127.7 billion was collected in 2004/05, representing a 20% increase when compared to 2003/04. We are interested in seeing whether 2005/06 will be another blossoming year as a result of the economic recovery.

On 25 June 2004, various amendments were introduced to the Inland Revenue Ordinance through the enactment of the Inland Revenue (Amendment) Ordinance 2004. The amendments relating to withholding taxes on royalties paid to non-Hong Kong residents were covered in the Spring 2005 Issue of Tax Talk.

The Inland Revenue (Amendment) Ordinance 2004 lays down more restrictions on interest deductions and seeks to discourage aggressive tax planning schemes to claim interest deductions through arrangements involving interest flow-back or other artificial interest expense streams. The new provisions require taxpayers to comply with more rigorous tests before they are entitled to interest deductions. We will discuss the revised deductibility rules in this issue.

Employee share options have become a widely-used incentive measure for corporations to enhance profitability. The Inland Revenue Department (IRD) released the original Departmental Interpretation and Practice Notes No. 38 (DIPN 38) in February 2001, giving its view on the taxability of share option gains. Since that time, various Board of Review cases have been heard which provide clarification on certain areas including the time when an option is exercised, valuation of shares, etc. DIPN 38 was therefore revised in March 2005 in response to these Board cases. There is an article in this Tax Talk highlighting the major revisions.

The IRD is more inclined to conduct field audits and investigations of corporations and individuals nowadays. The main objective is to enforce compliance and to discourage blatant tax-avoidance schemes. The amount of back duty and penalties collected, as shown in one of the articles below, is another likely reason for the IRD's interest in this move. Companies and individuals who have tax planning schemes are recommended to closely monitor their documentation and arrangements to ensure that compliance is being adhered to and they are prepared to meet challenges by the IRD.