Tax Treatment of Royalty Income Derived from Licensing of Intellectual Property Rights
Under the “territorial source” concept for Hong Kong taxation, different tax treatments apply to the royalty income for the use of intellectual property (“IP”) received by either a Hong Kong resident (i.e. a person who carries on trade or business in Hong Kong) or a non-Hong Kong resident.
In general, IP refers the following intangible assets:
- Registered trademark
- Trade secrets (undisclosed commercial information)
- Patent right
- Protection of layout-design (topography) of integrated circuit
- Copyrights
- Registered design
- Plant varieties protection
The board guiding principle in determining the source of royalty income is that “one looks to see what the taxpayer has done to earn the profits in question and where he has done it”.
Royalty Income Received by a Hong Kong resident…
The Inland Revenue Department (“IRD”) generally follows Section 14 of the Inland Revenue Ordinance (“IRO”) for royalties derived from the licensing of IP by a Hong Kong resident but has different views on the source of royalty income in the scenarios below:
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The IP is created or developed by the Hong Kong resident
The source of the royalty income is determined by the place where the IP was developed as the effort and expenses in developing the IP were very likely incurred in Hong Kong. In addition, the place of use of the IP is not relevant in determining the source of royalty income. As such, the royalty income derived from licensing of IP is fully taxable under Hong Kong Profits Tax.
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The IP is purchased by the Hong Kong resident
If the Hong Kong resident acquired the proprietary interest of the IP, the place where the IP being used by the licensee is used in determining whether or not the royalty income is subject to Hong Kong Profits Tax. In other words, royalty income derived from the licensee for the use of IP in Hong Kong is taxable while royalty income derived from the licensee for the use of IP overseas is not taxable.
- The IP is not owned by the Hong Kong resident
If only the licence to use the IP is obtained from its owner by the Hong Kong resident which then sub-licenses the IP to another party outside Hong Kong, the place of acquiring and granting the license is taken in determining the source of the royalty income. In other words, if both the acquisition of the licence to use the IP and granting of the sub-licence are in Hong Kong, the royalties derived from sub-licensing the IP is sourced from Hong Kong and subject to Profits Tax.
Royalty Income Received by a Non-Hong Kong resident…
For royalties from Hong Kong received by or accrued to a non-Hong Kong resident not carrying on business in Hong Kong, the IRD follows Section 15(1)(a), (b) and (ba) of the IRO instead of Section 14 of the IRO in charging the non-Hong Kong resident for such royalty income. The royalties, not otherwise chargeable to Profits Tax, shall be deemed to be receipts arising or derived from Hong Kong from a trade, profession or business carried in Hong Kong and the assessable profit of the royalty income is deemed to be 30% of the gross receipts (the percentage would be changed due to double tax agreement / arrangement entered into between Hong Kong and the respective country of the non-Hong Kong resident as tax resident). However, if the payer and recipient of the royalty income are associated and the IP was once owned in Hong Kong, the full amount of the royalties is deemed to be the assessable profit.
Should you require further details or assistance on the above, please contact Mr. Sylvester Chu at sylvester.chu@zetland.biz.
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