Update: a tax-efficient holding route between Mainland China and Hong Kong

The question our desk receives most frequently from Mainland-connected groups is not about headline rates. It is about source and substance — whether the profits flowing through a Hong Kong holding entity will be treated as Hong Kong-sourced under the territorial system, and whether the structure will hold under scrutiny from the Mainland revenue authority and the Inland Revenue Department simultaneously. That dual-authority read is where this corridor is won or lost.

Hong Kong taxes profits on a territorial basis under the Inland Revenue Ordinance: only profits arising in or derived from Hong Kong are chargeable. A holding entity positioned between a Mainland operating group and offshore investors can, in principle, achieve a tax-efficient posture — but only if the source question and the economic-substance conditions are satisfied at the time of filing, not in anticipation of it.

Three developments make this the right moment to review an existing structure or confirm a planned one before the relevant filing windows close.

What has changed — and what the filing position now requires

The foreign-sourced income exemption (FSIE) regime — Hong Kong's economic-substance condition for offshore passive income — has been in force since 1 January 2023 and has continued to be refined. Under the regime, dividends, interest, royalties and disposal gains received by a Hong Kong entity from an offshore source are exempt from profits tax only if the entity meets prescribed substance conditions in Hong Kong or can satisfy a participation exemption or nexus test.

For a Mainland-connected holding structure, this creates a concrete checklist item. Passive income flowing upward from a Mainland subsidiary through a Hong Kong holding company must be traced to the correct source category. If the Inland Revenue Department determines that the income is not genuinely earned from Hong Kong activities, the exemption may not apply. The practical consequence is a charge at the standard profits tax rate — 16.5% for corporations above the two-tier threshold — rather than nil.

Separately, the Hong Kong minimum top-up tax and the income inclusion rule under the global Pillar Two agreement apply to in-scope multinational enterprise groups for fiscal years beginning on or after 1 January 2025. Groups with consolidated revenue at or above the EUR 750 million threshold must now model whether the Hong Kong effective tax rate at the entity level will meet the global minimum. For holding entities that carry low taxable income relative to their booked profits, a top-up charge may arise. This is a new variable in any structure review; it was not present two filing cycles ago.

The sequence above describes the standard position. Your matter turns on the documents, the jurisdictions actually engaged, and the ordering of steps — which is where the route is won or lost.

To discuss how the FSIE conditions and the Pillar Two interaction apply to your cross-border holding position, contact info@lockhartyip.com.

Who this affects across the Mainland–Hong Kong corridor

The groups most directly affected are those using a Hong Kong entity as the intermediate layer between Mainland operating subsidiaries and ultimate shareholders in an offshore centre — typically the British Virgin Islands or the Cayman Islands — or in a jurisdiction with which Hong Kong maintains a tax treaty.

In our cross-border tax practice, we regularly see three recurring fact patterns where the current position is not optimal. First, structures established before the FSIE regime came into force that have not been reviewed for substance since. Second, groups that have grown past the Pillar Two revenue threshold without updating their entity-level tax modelling. Third, holding entities that rely on a treaty access position — for example, the Mainland–Hong Kong Comprehensive Arrangement for the Avoidance of Double Taxation (the double-tax arrangement governing dividend withholding between Mainland subsidiaries and Hong Kong holding companies) — without maintaining the governance records that support a treaty benefit claim.

The Mainland's own anti-avoidance rules add a further dimension. A beneficial ownership determination by the Mainland revenue authority can displace the reduced dividend withholding rate under the double-tax arrangement. That determination looks at substance on the Hong Kong side: board meetings, decision-making records, staff and office. A Hong Kong holding entity that cannot demonstrate those elements faces a materially higher withholding cost on every dividend repatriation.

For analysis of how treaty access interacts with the Hong Kong holding position in a comparable cross-border corridor, see our treaty access analysis. For the equivalent review covering the CIS–Hong Kong corridor, see our CIS briefing.

The immediate action

Three steps apply now.

First, confirm that the Hong Kong holding entity's substance profile — board composition, meeting records, office presence, staffing — is documented and current. This is the single most important file in any Mainland beneficial ownership inquiry or FSIE review.

Second, run the Pillar Two screen for the current fiscal year if your group's consolidated revenue is approaching or has crossed the EUR 750 million mark. The effective-tax-rate calculation at the Hong Kong entity level should be done before, not after, the fiscal year closes.

Third, review the income categorisation for each passive income stream passing through the Hong Kong entity. The FSIE regime applies different tests to dividends, interest, royalties and disposal gains. A single structure may have two or three income types in flight simultaneously, each with a different exemption condition.

Our desk advises international groups, Mainland-connected holding structures and family offices on the tax-source and substance position across this corridor. The full picture of our tax advisory work is set out at Tax Positions.

For a preliminary read on your holding structure and the filing steps, email info@lockhartyip.com.

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Related

• Tax Positions
• Treaty Access Between Hong Kong Uae Uae Analysis
• Tax Efficient Holding Route Between Cis Hong Kong 5

This publication is general information and does not constitute legal advice. For advice on your situation, contact info@lockhartyip.com.