Transfer Pricing in Hong Kong: 10 questions that help you uncover it

Content Team14 minute read14 Aug 2021

Transfer pricing refers to the costs charged between a Hong Kong company and its related entities in transferring goods, services, and intangible property. Hong Kong transfer pricing legislation is a striking contribution to the anti-tax- avoidance of cross-border transactions, especially to those who are part of a multinational company group.

Below are the top 10 questions to cover need-to-know things about this interesting law!

transfer pricing in Hong Kong

1. How was Transfer Pricing legislation developed in Hong Kong?

One must-know term in Transfer Pricing (TP) legislation is the arm’s length principle. This term is mentioned in the Associated Enterprises Article/Article 9 under the Organization for Economic Co-operation and Development (OECD) Model. This standard rule is enlightened in most current Double Tax Agreements (DTA) of Hong Kong.

On 13 July 2018, the Inland Revenue (Amendment) No. 6 Ordinance 2018 (“Amendment Ordinance”) announced Hong Kong’s new transfer pricing model. Accordingly, the Inland Revenue Department (IRD) would have the right of adjustment to profits or charges derived from non-arm’s-length transactions between related entities which can be made for tax purposes in Hong Kong. Related or associated entities of an enterprise here to mention often encompass the parent and subsidiary companies and companies under common control.


On 19 July 2019, the IRD released a series of Departmental Interpretation and Practice Notes (DIPNs) as the followings:

  • DIPN 58: Transfer pricing documentation and Country-By-Country reports
  • DIPN 59: Application of transfer pricing between associated entities
  • DIPN 60: Profit allocation to permanent establishments in Hong Kong

It should be noted that Hong Kong transfer pricing basis follows quite the same as the OECD TP Guidelines for Multinational Enterprises and Tax Administrations which came into force in July 2017. The TP rule is applicable to the year of assessment which starts on or after 1 April 2018.

The arm’s length principle obliges any income or loss arising from one or more transactions in relation to associated persons of a Hong Kong enterprise to be calculated on the arm’s length basis. Simply put, the price and expenses in a controlled transaction charged by your Hong Kong company’s related entities should be the same as the amount that would have been paid by independent companies.

Arm’s length term refers to the transaction in which there are two independent parties, and each of them is acting in its own interest and benefit. A key to mention is that, if transfer pricing does not comply with this principle, the associated entities of that enterprise would be subject to stricter tax liabilities under the corresponding law.

2. Which Hong Kong entities are subject to the purview of TP legislation?

Pursuant to the transfer pricing regime, it is required for Hong Kong taxpayers of a group that exceed the prescribed thresholds to prepare the transfer pricing documentation when engaged in transactions with its associated entities. The transfer pricing documentation covers three main papers: master file and local file, plus Country-by-Country report.

Entities subject to master and local file preparation


Note that the threshold conditions will be determined based on two tests:

  • Business size test; and
  • Related-party transactions amount test

Business size test. If TWO of the following conditions are met, then the company is determined to satisfy the first test:

  • The company’s annual revenue exceeds 400 million HKD in total;
  • The company’s asset value is more than 300 million HKD in total;
  • The company’s average number of employees is not less than 100 persons

Amount of related-party transactions test. Combined with the first test, Hong Kong entities having types of income surpassing below corresponding threshold are required to comply with the obligation of TP documentation:

  • The annual amount of property transactions excluding financial assets and intangibles exceeds 220 million HKD;
  • The annual amount of transactions in relation to financial assets such as accounts receivables, equity or debt investments, etc reaches over 110 million HKD;
  • The annual amount of transfers in relation to intangible assets exceeds 110 million HKD;
  • The annual amount of other transactions is not less than 44 million HKD.

A Hong Kong entity, if staying below such thresholds, will be exempted from preparing the master and local file. Still, the IRD advised that it had better for those excluded companies to prepare readily needed documents which would serve as solid proof for the fact their company’s TP arrangements are well complying with the arm’s length basis.

Be advised that a Hong Kong entity, if fully exempted from the local filing obligation based on the amount of controlled transaction test, is not obliged to prepare the master file.

It should also be noted that domestic related-party transactions can be excluded from the TP obligation if they meet certain conditions. Please read more in Question 5 to know what such conditions are.

Other than a corporation, a partnership and a trust, a Hong Kong permanent establishment including a joint venture, a representative or branch office can also be the one subject to the obligation for the master and local file. Dealings between the head office and a foreign branch, or between an overseas branch and an associated entity of the enterprise are typical examples.

Entities subject to Country-by-Country report


Country-by-Country (CbC) Reporting is set out under Action 13 of the Base Erosion and Profit Shifting (BEPS) Package of the OECD. It is actually a minimum standard in which a multinational enterprise (MNE) group must file a CbC report for the preceding accounting period when it falls into certain conditions regarding revenue threshold and its constituent entities’ place of operation.

The similar approach is implemented in Hong Kong. The CbC reporting in Hong Kong is only applicable to a multinational enterprise (MNE) group which is a reportable group with its consolidated group revenue on a yearly basis meeting the prescribed threshold amount.

For example, the threshold volume for a Reportable Group in Hong Kong is set to be not less than 6.8 billion HKD. And it is the Hong Kong ultimate parent entity (UPE) resident of this group who must file the CbC report to the competent authority in Hong Kong, but not other Hong Kong entities owned by this MNE group.

In another scenario, if the UPE in question is a non-Hong Kong resident, then it’s Hong Kong constituent entities shall be subject to filing the CbC Notification to the IRD when certain conditions prescribed in Division 3 (4) of the Amendment Ordinance are met.

3. What are the requirements for non-arm’s length transactions between Hong Kong entities and related parties under TP Ordinance?


To specify, non-arm’s length transactions, aka arm-in-arm transactions, indicate business arrangements in which buyers and sellers knew each other or have business or personal relationships. Transactions between family members or related shareholders in one company are typical instances of a non-arm’s length deal.

In most cases, there tends to be a lack of fair determination of pricing in a non-arm’s length transaction. Meanwhile, in a deal with a stranger, he will definitely work for his own interest, then such practices are not likely to happen.

In pursuance of TP Ordinance, a Hong Kong taxpayer in relation to its tax liability from the year of assessment on or after 1 April 2018, shall be determined on arm’s-length transactions between that taxpayer and its related parties. For this regard, tax adjustments are required for non-arm’s length arrangements.

4. How do Hong Kong entities determine arm’s length price between related parties?

What factors to consider

As stipulated in Article 69 of the DIPN 59, the determination of the arm’s length price between related parties depends on the comparison test between provisions in a controlled transaction and those in an independent arrangement. To obtain the most proper assessment, certain factors should be put into consideration, keys of which include:

  • The commercial or financial relations between the related entities
  • Specific contractual terms tied to the relevant transactions
  • Associated economic circumstances of relevant transactions


How to determine the arm’s length price

Hong Kong entities are advised to apply transfer pricing methods and pick the most appropriate one to identify the arm’s length price. There are 5 transfer pricing methods that can be utilized to satisfy the arm’s length provision:

  • Comparable uncontrolled price method
  • Resale price method
  • Cost plus method
  • Profit split method
  • Transactional net margin method

Other than the above common ways, other TP methods are still acceptable providing that those given to establish price will not run beyond the arm’s length principle. One thing to keep in mind is that your selection of that other method should be supported by documentation on why it is a better solution.

5. Does the TP rule apply to domestic transactions?


Domestic transactions are excluded from the scope of the transfer pricing requirement, so no adjustments are made by the IRD on related persons in these transactions. Domestic transactions which can qualify for the TP requirement exemption if the following conditions are met:

  • Domestic in nature – i.e., the actual provision of the transaction is made in respect with the related persons’ trade, profession or business carried out in Hong Kong.
  • No actual tax difference/non-business loan – i.e, the income generated from the relevant activity of the related person is taxed in Hong Kong; or the transaction in question does not relate to interest-free loans in the ordinary course of money lending or intra-group financing business.
  • No actual provision for tax avoidance purpose – i.e., the key purpose of the provision is NOT using the loss of any related person to reduce Hong Kong tax liability.

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6. What Hong Kong entities must do to stay compliant with annual TP documentation and filing requirements?

For CbC filing requirement

The Hong Kong ultimate parent entity (UPE) in relation to the MNE group (a reportable group) must file a CbC report for every accounting period starting on or after 1 January 2018, as prescribed in Section 58E of Inland Revenue (Amendment) (No. 6) Ordinance 2018. Deadline for CbC filing obligation is within 12 months after ending the accounting period.

Based on OECD’s guide to CbC reporting, certain documents below should be prepared for filing a CbC report:

  • Information of the group’s economic activity: related/unrelated party revenues, number of employees, tangible property except cash, regulatory financial statements, internal management accounts, etc.
  • Information of the group’s constituent entities: the jurisdiction of tax residency/incorporation of each entity, and description of each entity’s business activity.
  • Supporting proofs may be required to clarify the information in CbC report.

Consistent with the Country-by-Country Reporting XML Schema implemented by the OECD, Hong Kong also requires a CbC report to be made in the format of Extensible Markup Language, or XML for short, according to DIPN 58. The content of the CbC report for each in-scope group should cover each tax jurisdiction it is carrying out business with the following information:

  • Total revenue
  • Profit before income tax
  • Paid and accumulated income tax
  • Total number of employees
  • Total capital and retained earnings
  • Tangible assets

*How about other entities other than the above stated Hong Kong UPE of a reportable group? In line with section 58H, unless falling into the exemption cases, Hong Kong constituent entities must file CbC notification to the Commissioner during 3 months within the end of their corresponding accounting period.


For Master File and Local File

In-scope entities have the obligation to submit master file and local file for accounting periods on or after 1 April 2018. Section 58C stipulated the time limit for preparing master and local file is 9 months from the end of that Hong Kong company’s accounting period.

A master file would help the Assessor to obtain a high-level picture of the company group in terms of both the operation of its business and how transfer pricing is implemented within its structure. Meanwhile, a local file’s function is to describe the enterprise’s in-depth information on transactional transfer pricing in its particular jurisdiction. Both are essential documentation which contributes to ensuring that the company is being well compliant on the arm’s length basis in its transfer pricing situation.

What are needed documents when preparing master and local file?

Master File Local File
  • Information on the organizational structure
  • Written description of the group’s business
  • Group’s intangibles
  • Group’s financial statements and related pricing agreements
  • Documents on financial activities of each constituent entity of the group
  • Other additional documents (if requested)
  • Local entity description
  • Proofs of controlled transactions
  • The entity’s financial documents

For a detailed description of what should be included in the above categories of information, please move to Question 8.

As per the case for transactions between the permanent establishment and other parts of one company, the Commissioner tends to consider the appropriateness of the documentation under the following aspects:

  • Consistence between the documentation and the economic substance of the company’s activities;
  • Similarity between dealing agreements of the permanent establishment and those adopted by independent companies;
  • Compliance of the permanent establishment’s dealing papers with the provisions in Rule 2, section 50AAK.

7. Who is exempt from complying with TP documentation obligation?

The good news is that certain Hong Kong entities are able to reduce the burden of TP documentation compliance. Exemptions are given for those Hong Kong entities based on tests of the size of business and amounts of controlled transactions.


Particularly, if your Hong Kong company does NOT exceed the thresholds, as we mentioned in Question 2, you are in no need of preparing the master and local file.

Below is one example for your better understanding of whether your entity is exempted from this TP requirement:

Michael began business with his Hong Kong corporation from 1 April 2019. The company’s financial statement was measured for the period between 1 April and 31 December 2019. The results to 31 December 2019 showed that the company reached its total revenue of $360 million and the value of the total assets of $270 million for the period concerned.

Regarding the size of the business test, as 2 out of 3 criteria were below the thresholds of $400 million and $300 million in turn, Michael’s company would not be obliged to comply with the master and local filing requirements.

8. What information must be included in the master and local file?

Prescribed information under Hong Kong TP regime, as specified in Part 3, Schedule 17I, for the master file and local file would include:


For Master File. You need to make sure your company covers sufficient information in respect of the below 5 categories of documents:

  1. Organizational structure information:
  • the group’s legal and ownership structure;
  • the geographical location of constituent entities whose group is a multinational enterprise group
  1. Group’s business description on:
  • important drivers of business profits;
  • the supply chain for the group’s 5 biggest products/services in relation to its turnover and for which products/services performed over 5% of its turnover;
  • list of key service arrangements between constituent entities of the group, excluding Research & Development services;
  • brief of the key geographic markets for the group’s mentioned products and services;
  • functional analysis of each constituent entity on the correlation between the contribution and value within the group;
  • brief of related transactions, acquisitions or divestitures within the period concerned;
  1. Group’s intangibles:
  • brief of how intangibles would be used for the group’s growth, ownership, and exploitation;
  • list of the group’s intangibles for transfer pricing purposes and the legal owners of mentioned intangibles;
  • list of agreements in relation to mentioned intangibles;
  • brief of the group’s transfer pricing policies in respect of the research and development and intangibles;
  • brief of transfers of interests in or control of intangibles among the group’s constituent entities within the concerned accounting period.
  1. Financial activities between constituent entities
  • list of financing arrangements with unrelated lenders of the group;
  • list of the group’s financing entity (if any);
  • brief of the group’s general transfer pricing policies in connection with financing arrangements among the group’s constituent entities.
  1. Group’s financial and tax positions
  • consolidated financial statements for the concerned accounting period; and
  • list of the group’s ongoing unilateral advance pricing arrangements and other tax rules concerning how income among territories is allocated.


For Local File. Needed documents for a local file under Hong Kong TP legislation are less than what must be retained for a master file:

  1. Description of local entity on:
  • management structure or organizational chart of the local entity;
  • information of senior individuals who receive the management reports of the local entity, and location of the individuals’ principal offices;
  • brief of business strategy in which the local entity got involved in;
  • list of important competitors;
  1. Information on controlled transactions
  • brief of the material controlled transactions and their context;
  • amount of charges and receipts between the local entity and its related parties for each category of controlled transaction;
  • list of the local entity’s related partners in each category of controlled transactions;
  • copies of all material agreements between the local entity and its related parties;
  • comparability and functional analysis of the local entity and its associated entities for each category of controlled transactions;
  • description of the most suitable transfer pricing method and why you choose it;
  • brief of the tested party and why you choose it;
  • brief of assumptions and financial information in regard with the transfer pricing methodology;
  • copy of ongoing unilateral, bilateral and multilateral advance pricing agreements and other tax rules in relation to the controlled transactions;
  • Additional documents as prescribed by the corresponding provisions.
  1. Financial information
  • the audited financial statements of the local entity for the accounting period concerned. In case of no audited financial statements available, the entity can submit its current unaudited statements for the mentioned accounting period;
  • schedules of related financial data and its distribution in relation to the financial statements; and
  • schedules of related financial data in relation to the comparability analysis.

9. Does income derived outside of Hong Kong have to be incorporated in local file?

q9_income-derived outside-of-Hong Kong

Non-Hong Kong sourced earnings are still subject to the transfer pricing legislation in this city.

As prescribed by DIPN 58, the local file of one Hong Kong entity in regard to its corresponding accounting period must NOT exclude transactions generating profits or income from outside Hong Kong.

In this regard, if two related Hong Kong entities engage in one controlled transaction and one of which or both entities is regarded to earn income outside Hong Kong, then this type of income would be considered as NOT for Hong Kong tax purposes. Consequently, this controlled transaction comes out of the scope of domestic transactions for exemptions, hence must be in the local filing, according to section 58C of the Inland Revenue Ordinance.

10. What are the penalties for non-compliance with TP legislation?

As for the Country-by-Country report, the penalty for non-compliance actions can result in a fine at level 5 or level 6 with court order, depending on each case. Any failure to comply with the CbC report on requirements for Hong Kong UPE and other constituent entities under section 58E (1), 58F and 58H of the IRO can also lead to a daily fine of 500 HKD.


If your entity commits offenses in connection to the transfer pricing documentation, including master file and local file, the penalties under section 80(2Q), (2R) and (2S) are applied. Particularly, it would be imposed a conviction to a fine of level 5 or level 6.

It is worth mentioning that in case the taxpayer’s reasonable efforts in respect of the arm’s length principle are proven, there would be no additional tax levied on that individual. The penalties for non-compliance can vary from case to case.

Other than TP obligation, there might be other annual administration tasks that your proposed Hong Kong company needs to comply with. Feel free to contact BBCIncorp team to let us know your case and give you best advice.

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