Hong Kong hopes to kick-start local ILS investment with tax exemption

Recognising that demand for asset and wealth management services are set to increase and that certain alternative asset classes are currently less attractive due to their taxation, the government of Hong Kong aims to boost its investment sector with a broadening of profit tax exemptions, with insurance-linked securities (ILS) one asset class in focus.

Hong Kong has developed a regulatory regime for the issuance of catastrophe bonds and ILS, but so far investment management of these assets has not been an obvious target for the ILS ambitions of the Special Administrative Region.

But Hong Kong already has a developed investment management industry and also numerous local and regional institutional investors that are active there, so with cat bonds and ILS an asset class that continues to grow in stature around the world, it’s perhaps no surprise they come in for some asset management focus in a location that has already done the hard work on establishing itself as a viable issuance domicile.

Christopher Hui, the Secretary for Financial Services and the Treasury of the Government of the Hong Kong Special Administrative Region of China, explained in a speech this week that expanding asset management is a focus for his department’s financial development strategy.

“We are eyeing the major opportunities of asset allocation diversification and cross-generational wealth inheritance, as well as the subsequent huge demand for wealth management platforms and solutions,” Hui explained.

He went on to highlight some data that suggests a growing asset management opportunity, saying estimates suggest that between 2023 and 2030 cross-generational wealth inheritance in the Asia-Pacific region will reach US $5.8 trillion, with 60% coming from ultra-high-net-worth families inheritance of wealth.

Another survey suggests 77% of family offices in the Asia-Pacific region expect to grow their asset management scale this year, while 84% expect their family wealth to increase.

This data suggests a growing importance of family office assets, with new offices expected as well, but also an increased demand for professional services, including investment management.

But, family office allocations to some alternative asset classes remains relatively low, so Hong Kong is looking to enhance its own regime to attract more assets and support its own industry to capitalise on these trends.

Hong Kong is already estimated to have more than 2,700 single-family offices, over half with assets in excess of US $50 million, Hui explained.

“In order to continue to develop this important market, following the earlier proposals in the Policy Address and the Budget, we plan to optimize the tax incentives currently provided to the asset and wealth management industry in various aspects and strive to expand the market to a new level,” he said.

Adding, “Specifically, we will broaden the definition of funds, expand the categories of eligible assets, and optimize implementation arrangements to provide tax treatment for funds offered privately, family investment control vehicles, and carried interests in private equity funds.”

First, Hong Kong plans to broaden the definition of what is a fund, so more can obtain profits tax exemption, which will include applying the definition to include retirement funds and endowment funds.

But, more relevant to the insurance-linked securities (ILS) space specifically, is a plan to expand the range of eligible asset classes that can than apply under the the profits tax exemption for privately offered funds and family investment control vehicles, Hui said during his speech.

Hui continued to explain, “We propose to broaden the eligible asset categories, in line with the Treasury Bureau’s overall financial development strategy, by adding carbon emission derivatives/emission limits, insurance-linked securities, loans and private debt investments and virtual assets, etc., so that transactions in such assets can also be Profits tax exemption.”

That move would make investing in insurance-linked securities (ILS), such as catastrophe bonds, more appealing to institutions and family offices allocating out of Hong Kong, so helping to stimulate interest from the wealth and assets located there.

Hui said he will chair a newly established task force to promote the development of the asset and wealth management industry in Hong Kong and discuss relevant recommended measures, after which the Treasury Bureau will issue a consultation document on the overall recommendations.

This could help to make cat bonds and ILS a more attractive asset class for investors and institutions based in Hong Kong, while also further helping to promote Hong Kong’s ambition to become a hub for the regional ILS marketplace.