Provisional Legislative Council
PLC Paper No. CB(1) 1337
(These minutes have been
seen by the Administration)
Ref : CB1/BC/11/97
Bills Committee on
Inland Revenue (Amendment) (No. 2) Bill 1998
Minutes of meeting held on Monday, 23 March 1998, at 4:30 pm
in Conference Room B of the Legislative Council Building
Members present :
Hon Eric LI Ka-cheung, JP (Chairman)
Hon WONG Siu-yee
Hon Henry WU
Hon CHAN Kam-lam
Members absent :
Hon James TIEN Pei-chun, JP
Hon MA Fung-kwok
Hon Mrs Sophie LEUNG LAU Yau-fun, JP
Hon Kennedy WONG Ying-ho
Hon Bruce LIU Sing-lee
Hon NGAN Kam-chuen
Public officers attending :
- Mr Martin GLASS
- Deputy Secretary for the Treasury
- Mr WONG Ho-sang
- Commissioner of Inland Revenue
- Mrs Agnes SIN
- Deputy Commissionr of Inland Revenue (Technical)
- Mr Alan SIU
- Principal Assistant Secretary for the Treasury (Revenue)
- Mr Austin GRADY
- Senior Assessor, Inland Revenue Department
- Ms Sherman CHAN
- Senior Assistant Law Draftsman
- Department of Justice
- Miss Vivian SUM
- Assistant Secretary for the Treasury (Revenue)
Attendance by invitation :
- Hong Kong Society of Accountants
- Mr Tim LUI
- Chairman, Taxation Committee
- Mr Roderick HOUNG-LEE
- Member, Taxation Committee
- Ms Winnie CHEUNG
- Director of Professional Practices
Clerk in attendance :
- Ms Estella CHAN
- Chief Assistant Secretary (1)4
Staff in attendance :
- Mr LEE Yu-sung
- Senior Assistant Legal Adviser
- Mr Andy LAU
- Senior Assistant Secretary (1)6
I Meeting with deputations
(PLC Paper No. CB(1) 1180, submission from the Hong Kong Society of Accountants, and the response from the Administration tabled at the meeting and subsequently circulated under PLC Paper No. CB(1) 1216)
In order to facilitate efficient conduct of meeting and taking into account the fact that the Administration's response to the written submission of the Hong Kong Society of Accountants (HKSA) on the Inland Revenue (Amendment) (No.2) Bill 1998 (the Bill) was just available and tabled at the meeting, the Chairman suggested and members agreed to let the Administration take part in the discussion between the Bills Committee and HKSA.
Clause 7 - Expenditure on Scientific Research
2. Whilst HKSA welcomed the proposed tax concessions in respect of expenditure on scientific research, they were concerned about the proposed tax extension provided for in section 16B in respect of the sale of "a right" arising out of a scientific research. They pointed out that the existing section 16B of the principal ordinance did not deem the sale of "a right" arising out of a scientific research a taxable trading receipt, but such item would become taxable as proposed under the Bill.
3. HKSA was also concerned that where a deduction was allowed under this provision, the proceeds of subsequent sale of the assets concerned would be fully taxed as trading receipt although proceeds of capital assets were otherwise not normally taxable.
4. Members noted that in response to HKSA's concern, the Administration had accepted the proposition that when the plant and machinery used in scientific research or the rights concerned were sold, only the proceeds to the extent of the deduction allowed, and not the full proceeds, should be taxed as trading receipt. In this regard, the Administration had agreed to propose Committee stage amendments (CSAs) to this effect.
5. HKSA remained of the view that it was inequitable for the sales proceeds from the sale of a "right" to be taxable in cases where such sales proceeds would be a capital gain. The Commissioner of Inland Revenue (CIR) advised that the expansion of the definition of scientific research and the extension of the 100% deduction under section 16B to research carried out for the purpose of any feasibility study or in relation to any market, business or management research was intended to help businesses to cope with the changing business environment. Hence, a deduction was allowed for this kind of capital expenditure to be claimed in full for that year of assessment. However, it was a normal practice that if a deduction was allowed in respect of a capital expenditure, the subsequent proceeds of sale attributable to the expenditure was chargeable to tax.
6. HKSA enquired whether it was possible to distinguish between the research expenditure of market research companies which sold the results of their research projects to clients for trading purpose and that of other ordinary companies which conducted research projects for self-use purpose, and apply different tax treatments to them.
7. CIR replied that they could not distinguish between scientific research conducted for self-use or trading purposes as the results of research projects created for self-use purpose might eventually turn into "a right", which could be of substantial business value. He further advised that unlike the case in the past where the definition of scientific research was rather narrow and confined to only natural and applied sciences, the scope of the deductions for capital expenditure on research and development would be expanded to cover market research, feasibility studies and other research activities related to business and management sciences. Given the wider definition and having regard to the great business values associated with the disposal of "a right" arising out of the research projects, it was considered necessary to charge the proceeds of sale attributable to the expenditure to tax. After all, under existing section 16E in respect of purchase and sale of patent rights, the full proceeds of sale were taxed as trading receipt.
8. HKSA further enquired whether it was possible to allow the expansion of the scope of deduction for capital gains expenditure on research and development whilst maintaining the existing right of taxpayers under the old section 16B in respect of the sale of "a right" arising out of a scientific research which could have been deductible. CIR confirmed that taxpayers would have a choice -
- if the corresponding expenditure was deducted under the new provision, the proceeds to the extent of the deduction allowed in case of disposal would be taxed as trading receipt; or
- if the taxpayer treated the item as a capital asset and did not claim the deduction under the new provision, then any gains arising from its subsequent sale would not be taxed as profits, as provided for under section 14(1) of the principal ordinance.
9. Members noted that in response to HKSA's concern about the transitional arrangements for research expenditure incurred before or after 1 April 1998, the Administration had agreed to move a CSA to the effect that the proposed trading receipt provision would only apply in respect of expenditure incurred on or after 1 April 1998, where deduction was allowed under the new provision. In respect of continuing expenditure straddling 1 April 1998, the provision would be applied on a pro-rata basis and the detailed arrangements would be set out in Practice Notes to be issued by the Inland Revenue Department.
10. In concluding the discussion on Clause 7, the Chairman remarked that with the passage of the Bill, some companies could end up having to pay more tax whilst some other companies which conducted research projects for self-use purpose might benefit from the expanded definition of scientific research and hence, the resulting tax allowance. Members noted that HKSA would examine this provision further and put forward their views to the Bills Committee as soon as possible.
Clause 9 - Capital expenditure on the provision of a prescribed fixed asset
11. Members noted that HKSA's concerns were fully addressed by the Administration. In this regard, the Administration would move a CSA to the effect that only the proceeds to the extent of the deduction allowed would be regarded as trading receipt in case of disposal of the plant and machinery concerned. As to HKSA's concern about the write-off of the residual value of prescribed fixed assets which were already in hand before 1 April 1998, members noted that the Administration had also agreed to move a CSA so as to allow taxpayers to elect, on an irrevocable basis, to write off the residual value of such items immediately or, if the residual value could not be determined, to allow them to remain in the capital allowance pool and be written off in accordance with current depreciation allowances.
Clause 17 - Balancing Allowances and Charges, Commercial Buildings and Structures
12. HKSA pointed out that the budget measure to increase the annual depreciation allowance for commercial buildings from 2% to 4% was not a pure concession. It also introduced with it a new tax charge which would render some taxpayers worse off taxwise. Under the proposed section 33B, a balancing charge was imposed when the property concerned was sold. Since no such charge was levied previously, HKSA was concerned that while taxpayers would receive a tax benefit in the form of an accelerated tax allowance, the tax would be recaptured from the sales proceeds when the building was sold.
13. As to why the increase in annual depreciation allowance for commercial buildings had to be linked to the balancing charge/allowance arrangement, CIR advised that the provision was part and parcel of the proposed relaxation, otherwise it might lead to abuse. He cited a possibility where a corporation, after claiming the increased depreciation allowance for several years, would transfer the building to another company of the same group and continue to seek for the depreciation allowance in a repeated manner. This would give rise to loss of tax revenue, particularly taking into account the long life span of commercial buildings, and restrictions should therefore be imposed accordingly.
14. The Chairman shared HKSA's view that the provision was not purely a tax concession but rather a rationalization measure to tighten up the existing taxation system. Depending on the circumstances, some companies could be made worse off taxwise by it while some others might benefit from the proposed doubling of the annual depreciation allowance. In this regard, he enquired whether the Administration had made an assessment of the provision in respect of its impact on future tax revenue.
15. CIR advised that it was estimated that in the long run, revenue collected from the balancing charge would be offset by the balancing allowance granted to buyers of properties and hence, a break even situation in respect of tax revenue would result.
16. As to why commercial buildings were not entitled to initial allowances as in the case of industrial buildings, CIR advised that an initial depreciation allowance was granted for an industrial building so that a provision could be made for damages that might be caused to the building as a result of the intake of heavy machines and other materials into the building. The same degree of damage, however, did not normally happen in commercial buildings, which were also subject to better maintenance.
17. After deliberation, HKSA was still concerned that the concessions entailed in this clause were to some extent offset by the clawback provision. They would re-examine the provision and forward further comments to the Bills Committee as soon as possible.
Clause 30 - Advance Rulings
18. Members noted that the Administration had accepted HKSA's submission and proposed CSAs to the effect that :
- if the Commissioner declined an application for a ruling, he should provide the reason for the refusal in writing to the applicant; and
- if the Commissioner withdrew a ruling made, he should also provide the reason for the withdrawal in writing to the applicant.
19. Noting that the CIR's decision to decline or withdraw a ruling could be subject to judicial review, members accepted that the circumstances under which the CIR might withdraw a ruling would not be specified in the legislation.
Clause 32 - Schedule added
20. Members noted that an advance ruling made in respect of an arrangement should continue to apply in relation to the arrangement for the remainder of the period specified in the ruling so as to protect the applicant's interest, since the applicant might have relied on the ruling to enter into contracts or make business decisions which involved a substantial amount of money. The Senior Assistant Legal Adviser advised that where the CIR gave a ruling and there was a subsequent court decision which interpreted the law differently, the CIR's previous ruling should not continue to stand in contradiction of the court decision. However, as the decision would not apply to acts done before it, the decision would not affect what had been done before the decision pursuant to the CIR's ruling. CIR added that in cases where a time limit in respect of an advance ruling was not specified, any subsequent court ruling on the same subject matter of the advance ruling would supersede the earlier ruling made by CIR to the extent of, and with effect from the date of that court ruling. As an example, in case the court decided that a table was not a deductible item under the category of plant and machinery, any prior decision made by the CIR in this respect would cease to apply with effect from the date when the court made such a ruling.
21. Members noted that under Section 15 (a) in Part I of Schedule 10 to the Bill, if any provision of the Inland Revenue Ordinance that was the subject of or affected by a ruling was repealed, the ruling should cease to apply to the extent of, and with effect from the date of that repeal. However, in cases where a ruling made in respect of an arrangement was withdrawn by CIR, the ruling should continue to apply in relation to the arrangement for the remainder of the period specified in the ruling, if the arrangement had been entered into or effected on or before the date of the withdrawal as provided for under Section 13 (b) in Part I of Schedule 10 to the Bill.
22. HKSA opined that in cases where the CIR gave a ruling and there was a subsequent court decision which interpreted the law differently, the taxpayer should be notified of the resulting implications and whether the CIR's previous ruling should cease to apply. The Chairman also remarked that the detailed arrangements in respect of the interpretation of any subsequent court ruling on the same subject matter of the advance ruling should be set out in Practice Notes to be issued by the Inland Revenue Department.
23. The Chairman thanked representatives of HKSA for coming to the meeting and requested them to forward their further comments on Clause 7 and Clause 17 as soon as possible.
II Meeting with the Administration
Committee stage amendments
24. Members went through the CSAs tabled at the meeting and noted that most of the amendments were either proposed in response to members' concerns or were technical in nature. Furthermore, CIR highlighted that in response to members' concern raised at the last meeting about the capital expenditure on refurbishment and redecoration provided for under Clause 8 of the Bill, a CSA was proposed to make it clear that capital expenditure incurred by a person to enable a building or structure to be first used substantially or to be used for a purpose different from that for which it was used immediately before the capital expenditure was incurred for the production of profits would not qualify for the 5-year write-off in respect of capital expenditure on refurbishment and re-decoration.
25. Members did not object to the Administration's proposed CSA to add a provision to protect the Government against any liability in the provision of the advance ruling service.
26. In concluding the discussion, the Chairman said that the Bills Committee was generally in support of the Bill and the proposed CSAs. The Bills Committee would report to the House Committee on 27 March 1998 and recommend that Second Reading debate on the Bill be resumed. Pending HKSA's further submission on Clauses 7 and 17 and on some other technical amendments in respect of the CSAs, members agreed that if necessary, another meeting might be convened prior to reporting to the House Committee.
III Any other business
27. There being no other business, the meeting ended at 6:15 pm.
Provisional Legislative Council Secretariat
8 June 1998
