One major amendment is to remove the condition that patent and know-how rights must be used in Hong Kong by the taxpayer before a tax deduction can be granted.
The Inland Revenue Department (IRD) has issued Departmental Interpretation and Practice Notes No. 49 (DIPN 49) in respect of the new legislation granting tax deductions for the costs of acquisition of certain intellectual property rights (IPR) effective from the year of assessment 2011-12.
Certain views expressed by the IRD in DIPN 49 would create issues for tax deductions claimed under the new legislation.
Some of these issues may be more appropriately addressed during the structuring process prior to the acquisition of the relevant IPRs.
Clients should therefore seek professional tax advice when contemplating such an acquisition, including that made in the context of acquiring the assets and liabilities of an on-going business.
The new legislation
Aside from the new legislation, the existing provisions of section 16E of the Inland Revenue Ordinance (IRO) allow for a 100% immediate tax write-off of capital expenditure in respect of patent and know-how rights in the year of purchase, provided that the specified conditions are met.
The new legislation has added three new sections to the IRO, namely 16EA, 16EB and 16EC. These new sections govern the new tax deduction rules for capital expenditure incurred on the purchase of three new categories of IPRs, i.e., registered trademarks, copyrights and registered designs.
The new legislation has also amended certain provisions of section 16E itself.
The box below summarizes the major provisions of the new legislation. Please refer to our Hong Kong Tax alert dated 10 January 2012 for a more detailed discussion on the relevant provisions.
Section 16EA –
Capital expenditure incurred on the purchase of registered trademarks, copyrights and registered designs is deductible, generally spread over five years, commencing from the year of purchase.
Section 16EB –
Where a relevant IPR is subsequently sold, the tax deduction otherwise available in the year concerned will be denied. The sales proceeds will be compared with that part of the cost of the relevant IPR that has not yet been allowed for tax deduction, and a balancing adjustment computed for tax purposes.
Section 16EC –
This anti-avoidance provision will deny a tax deduction where a relevant IPR is (i) purchased from an associate; (ii) used wholly or principally outside Hong Kong under the term of a license by a person other than the taxpayer (i.e., section 16EC (4)(b) to be referred to below); (iii) used in certain sale-and-lease- back arrangements; (iv) acquired by way of certain non-recourse debt arrangements; or (v) acquired in a manner which involved the early termination of a license in certain circumstances.
Amendments to section 16E –
One major amendment is to remove the condition that patent and know-how rights must be used in Hong Kong by the taxpayer before a tax deduction can be granted. This removal is to make the tax deduction rules for patents and know-how rights in this respect the same as those for registered trademarks, copyrights and registered designs as specified in the new section 16EA. As a result, tax deductions will now be granted to the extent the relevant patent and know-how rights are used by the taxpayer in the production of profits which are chargeable to tax in Hong Kong (regardless of whether the same are used by the taxpayer in Hong Kong or not). Another major amendment is that the anti-avoidance provisions contained in the new section 16EC will also apply to tax deductions claimed for patent and know-how rights.