Understanding Hong Kong Incorporation And Business Entity

The very initial and crucial thing to do to establish a business entity is the determination of the preferred business type. One of the first steps towards harnessing the optimal business vehicle is to evaluate the advantages and disadvantages of each option in the context of your business goals. Such evaluation will help to focus on the right structure and choose the ideal pathway for your business.

Your choice of a certain business structure will depend on the following factors:

• What is your brand? What is the nature and mission of your business? Does it match up with the most suitable business model?
• What is the size and scale of your business?
• How about the revelation of how much of your assets can be accounted for while you are choosing the business you are down for?
• What will be the respective scale of your business in the first three years and how much capital will you need to get started? Do you have the capacity to bootstrap funding or do you need private investor’s backing to stand on your feet?
• Can your start-up gain the trust of venture capitalists and raise funds?
• How much does it cost what do we need to be able to purchase at the startup phase, how long will it take and what else do we need to consider during this process?
• What are the taxation issues that come with setting up a business as opposed to establishing a partnership operation?
• What are your present receding needs and what are your future needs?
• Do you want to be the one who makes decisions and there is a need to find a solution for each problem?
• Is the operation of your business inherently at risk?

The business structure that is most usual in Hong Kong is companies, sole proprietorships and partnerships are the most common of all.

• Limited Liability Company: Hong Kong’s business structures are dominated by Limited Liability Companies (LLCs) formation. A limited liability company allows the protection of personal assets from the given risks from the company and creates a separate legal entity.
• Sole Proprietorship:  Sole proprietorships are the right type of business for small-scale and low-risk entrepreneurs with one owner; they are simple to establish. Nevertheless, this is not a best business structure for entrepreneurs as it does not represent a separate legal entity and does not protect the owner’s personal assets from business liabilities.
• Partnership: This business form enables two or more people to own a single business. Partnerships allow for a division of responsibility and enhance the fundraising capacity. On the other hand, the partners are severally and jointly responsible for the acts of the other partners. The Limited Partnership is the most popular form of partnership because limited partners have limited liability.
• Foreign Company Office: A representative of a foreign business wanting to function in Hong Kong can be set up by registering a branch office, a subsidiary, or a representative office.

As the highlighted manual briefly describes, the guide below will provide a more detailed discussion of the different types of companies that you can establish in Hong Kong.

Limited Liability Company in Hong Kong

In Hong Kong, a limited liability company can be registered by the Companies Registry under the Companies Ordinance. A company is an independent legal entity from its members. Companies can be limited liability companies as well as unlimited companies. Seldom does an investor choose an unlimited company. A limited liability company can be private company or public company and limited by shares or limited by guarantee. In Hong Kong, most investors opt to establish a private limited company business entity, which is the choice of the majority, where the liability of the owners is limited to the assets in the company and their personal assets are protected from business liabilities. Read Hong Kong Company Formation and Incorporation.

Private Limited Company

A private company limited by shares business entity is the predominant type of small to medium-sized (SME) enterprise being started in the Hong Kong market and the business is popularly known as a ‘private limited company’. They opt for it generally in replacement of other forms of business entities like sole proprietorships and partnerships which have loads of benefits. “A company limited by shares” or “Company with limited liability by shares” is the most popular type of business corporation for business and trade. In one sense, a private limited liability company has a share capital which is represented by a quantity of shares that are each of a certain amount. These shares are perceived by shareholders (investors) who are the recipients of profit from the company and gain a dividend on it corresponding to their distinct total ratio of shareholding in the company. While shareholders may lose the investment it made in the company’s shares in case of loss, they also have the opportunity to earn a return on their investment in case of success.

Private Limited Company Advantages

• Separate Legal Entity: The private limited company has an independent legal entity, separate from the members of the company. Thus, the corporation is capable of acquiring assets, borrowing money, entering into contracts, and putting and taking lawsuits as itself.
• Limited Liability: It is the fact that the liability of the shareholders is limited just to the amount of their respective shareholdings/investments.
• Perpetual Succession: A compensatory membership turnover does not put the company to an end. Shares are the most convenient to transfer into new hands, and they carry no material effects on a company’s business operations, even in case of changes in shareholders. It is a fact that the continuous existence of the company, despite the death, resignation, or bankruptcy of shareholders or directors, is guaranteed.
• Ease of Raising Capital: Fundraising can provide financial expansion by letting in more equities by new shareholders or distributing more equities to the existing shareholders. Compared to the other types of business entities, the secured loan from the banks is very simple for limited companies.
• Positive Image: Private limited companies are considered more reliable than partnerships and proprietorships and thus investors often want to be associated with the good name of such companies to gain respect among their individuals, customers, and clients.
• Easier Transfer of Ownership: A full or partial takeover of the company is done when the entire percent or part of its shares is sold or through the issue of new shares. On the one hand, business operations may not be affected and legal paperwork is not as complicated.
• Tax Benefits and Incentives: Among many advantages, private limited liability corporations have access to certain tax benefits in Hong Kong. Corporate income tax (known as profits tax in some books) has a rate of 16.5% imposed on profits that are taxable for corporations. Respecting the original principle of a territorial basis of taxation, Hong Kong is a city where all the profits derived from local economic activities are taxed. Therefore, only those profits that already either existed or derived in Hong Kong will be subject to tax in Hong Kong. In Hong Kong, no capital gains tax exists, withholding tax on dividends and interest, and no sales tax or VAT, which makes Hong Kong a specialized place for free trade, investments, and an entirely different economic environment.

Private Limited Company Disadvantages

• Complex to Set Up: A private limited company usually comes with more complicated technicalities, costs, and demanding legal requirements when compared to sole ownerships and partnerships.
• On-going Compliance: There are many imperative statutory compliance requirements that private limited companies are obliged to respect.
• Disclosure Requirements: The company must disclose certain information (capital structure, directors and manager information, etc.) to the public. It would do this by filing documentation with the Companies Registry.
• Complex Winding-up Procedures: Shutting a business is a more complex, time-consuming, and capital-intensive process than any other kind of business.

Public Limited Company

A public company limited by shares is a type of business entity in which the home country incorporation is made and whose no of shareholders can be more than 50. What is meant by a public company is that it’s one where shares and debentures are available for public to purchase. Mostly, medium to large mature companies that have gained commendable growth in the market would ponder over making the company public through shareholder expansion. The majority of listed companies are on the various stock exchanges. Public/listed companies face a relatively conservative regime in complying with rules and laws since they are raising capital from the public, unlike intricate PE firms. One of the main benefits for a public company is gaining capital easily, enjoying a reputation established among the public, and easing the taking over of other companies. The disadvantages include public disclosure obligations; establishing and operating it may be time-consuming, tough, and expensive; dangers of takeovers; profit-sharing, and sustainable tax remittances.

A Public Company Limited by Guarantee

A company limited by guarantee is the company without share capital. It has members rather than shareholders who guarantee to contribute a certain sum towards the company’s liabilities if and when the company is wound up. The benefits of this business entity are that the members have limited liability and maintain democratic control over all issues. The cons are that there is no possibility to distribute profits and the working capital may be insufficient. This type of business entity is designed for non-profit organizations that want to incorporate in Hong Kong.

Entity Type: Sole Proprietorship

Sole proprietorship is known to be the most simple and easiest form of business entity. As the name implies, the business is owned and operated by a single individual, and since the business is not a separate legal entity, the owner and the business are one. This is the most basic form of business but is generally regarded as the riskiest since there is no protection of personal assets from risks and liabilities that the business may incur. The sole proprietor takes all the profits of the business but is also completely responsible (solely and personally) for all the liabilities. This is a huge financial risk and it is strongly advised for the aspiring entrepreneurs not to adopt this type of business. The registration of a sole proprietorship in Hong Kong is quite straightforward.

Sole Proprietorship Advantages:

• Simple to Establish: A single person who wishes to start a business of his or her own is referred to as a Sole Proprietor and this business is often easy and quick to set up.
• Easy Decision Making: Considering that the owner of the business has full control over all activities of the business, the decision making is quick and effective as there is no need to consult or seek approval from anybody else.
• Sole Beneficiary of Profits: Sole proprietors are sole owners of the organization and can withdraw all profits to their personal bank accounts.
• Ease of Termination: If the business is operated under sole proprietorship, the dissolution of it is more straightforward and less costly than the other business entity.

Sole Proprietorship Disadvantages:

• No Separate Legal Entity: Sole proprietorships are not a separate legal entity and the owner and business are one and the same. All debts and liabilities of the sole proprietor are borne by him.
• Unlimited Personal Liability: In the case of debts incurred, there is no personal asset protection (that includes your property).
• Limited Capital: The only capital source is the personal finance of the sole proprietor and profits generated by the business. Working capital constraint acts as a growth and expansion deterrent to the business.
• Limited Life of the Business: Sole proprietorships are not passed on from one generation to the next, and when the sole proprietor dies, the sole proprietorship ceases to exist.
• Low public perception: The risk posed by this form of investment makes the investors lose confidence and it becomes difficult to raise finance.
• Sale/Transfer of All or Part of the Business: The business can be transferred only through the sale of business assets.

Entity Type: Partnership

Partnerships, a form of a business entity, are two or more people who are setting up and owning a company and have the desire to share and divide the profits that were made. Partnerships in Hong Kong are governed by the Partnership Ordinance and are of two types: General Partnership, and Limited Partnership (GP and LP). Read Sole Proprietorship vs Partnership Business Structure in HK.

General Partnership

Like sole proprietorships, general partnerships make each partner in the firm liable for all of the debts and liabilities of the business. Furthermore, each partner can be made liable for the acts of another partner (provided that these acts were made in the course of the partnership business).

Partnership Advantages

• Ease of Raising Capital: Partners do not have to depend on personal sources for capital. Sources of finance are loans from partners and bank loans against the combined assets of all the partners.
• Ease of Set Up and Maintenance: Partnerships are more simple to establish with less compliances and statutory requirements than companies.
• Combined Expertise: Pooling all the partners’ resources, skills, knowledge and expertise will result in efficiency through effective decision making.
• Attracts Employees: Prospective employees can be lured to the business by offering them the opportunity to become a partner.

Partnership Disadvantages

• Unlimited Liability: The liability of all other partners individually extends towards their share of the business debt and liabilities.
• No protection of personal assets: Partners are also liable for business debts and losses as sole-proprietorships. Personal assets (like a house, car, shares, etc.) are not covered that can be used to pay debts and loss.
• Divided Goals and Opinions: Partnerships can be fractured by partners who are not in harmony about business objectives, management approaches, operational methods. Personal conflicts that may develop within the business could negatively affect the business in its entirety.
• Sharing Profits: All the partners must share in any profits that arise from the business.
• Liability for co-partners actions: Every partner is a surety for the other partners and can be held liable for the tortious acts or debts of co-partners.

Limited Partnership

General Partnerships include both general and limited partners. The general partner is liable for the debts of the firm without limitation and is responsible for the daily management of the business, while the limited partner is only liable up to the amount of his or her unpaid share capital. Partners who are limited partners cannot take part in the management of the partnership business entity.

Limited Partnership Advantages

• Limited Personal Liability of Limited Partners: A limited partner in a limited partnership is not personally responsible for the debts of the business incurred by the firm or the wrongful actions of another partner.
• Ease of Raising Capital: The limited liability of the limited partners has made this form of business entity more appealing to investors over the sole – proprietorships, and, thus, it is easier to raise capital.
• Greater Efficiency: More efficiency is attainable as the general partner has the freedom to manage the business without any supervision and is responsible for decision making and all business affairs of the day. This is good for limited partners who have the money to invest but do not have the time or skills to run the business.
• Lesser Compliances: Limited partnerships have minimal compliance in comparison to corporations.
• Limited partners are free to leave or be substituted without the Partnership being dissolved.

Limited Partnership Disadvantages

• Unlimited Personal Liability of General Partners: The fact that the general ones have an unlimited personal liability may reduce the number of partners who are willing to take the risks.
• Limited Role of Limited Partners: As the only option for the limited partners is to be passive investors, they can never get involved in the day-to-day operation of the company’s business.
• Expensive to Set Up: Setting up a limited partnership is typically costly compared to general partnerships as the complexity of partnership agreements is a lot more time-consuming.

Entity Type: (Foreign/Global Operations Offices)

Foreign or international corporations looking to establish a business presence in Hong Kong have the option of forming a branch office, subsidiary, or representative office within the region.

Which business entity type will you choose?

The type of business framework that you choose will ultimately depend on the circumstances and your business’s plans specific to your scenario. Several variables will be invariably factors in what you decide to opt for such as whether you will run your business for profit or do you expect to do external investment or if you wish to set up a non-profit company. You must take into account the following factors of consideration

• If you want to set up a small-scale business and have the sheer amount of your finances, it would be prudent for you to register the business as Sole Proprietorship. Yet, please remember that every creditor’s claim is enforceable against all your assets without any personal assets being protected.
• If you are looking to team up the roles of owning a company or if you do not have enough financial resources, then, a Partnership might be the most effective option. Although those who are owners of the partnership will be in the case of the acts jointly and severally liable, it is except for the limited partnership if you choose limit partnership. Besides, it is complicated to achieve mutually suitable partners, and can experience a conflict with each other’s expectancies.
• After all, incorporating a private limited is the best direction for the company. The benefits are numerous and outweigh the bureaucracy involved in complying with guidelines and standards.

Read Setting up a Sole Proprietorship or Limited Company

How FastLane Group Can Help?

Fastlane provides corporate services like an incorporation service, company secretary, accounting, and audit. Our experts make setting up a Hong Kong business entity super quick and easy to do, leading the client each step of the way. We deal with all the procedures and formalities including documentation and submissions to the respective authorities. On the other hand, comprehensive support by our company includes the opening of bank accounts and ongoing compliance, enabling you to stay compliant with applicable regulations hassle-free. 

Contact us now to talk to our experts!