What Are the Risks of Establishing a Subsidiary in Hong Kong? How to Respond Prudently and Prepare Adequately?

What Are the Risks of Establishing a Subsidiary in Hong Kong? How Can Companies Prepare and Respond Prudently?

As global economic integration accelerates, more and more mainland Chinese companies are choosing to set up overseas subsidiaries to expand into international markets and optimize resource allocation. Hong Kong has become a preferred destination for many businesses due to its status as a free economy, low tax regime, robust legal framework, and internationally connected financial environment.

However, despite these advantages, setting up a subsidiary in Hong Kong still presents several potential risks. Identifying and prudently managing these risks is crucial for companies navigating the challenges of international expansion.

I. Key Risks in Establishing a Hong Kong Subsidiary

1. Compliance and Regulatory Risk

Although Hong Kong offers a relatively open business environment, its regulatory system is stringent, particularly in the financial and commercial sectors. Authorities such as the Companies Registry, Inland Revenue Department IRD, and the Securities and Futures Commission SFC enforce strict compliance requirements. In recent years, anti-money laundering AML and know-your-customer KYC regulations have become increasingly rigorous.

Under the revised Anti-Money Laundering and Counter-Terrorist Financing Ordinance issued in May 2025, financial institutions and related enterprises must enhance client identity verification and transaction record-keeping. Non-compliance may result in heavy fines or even criminal liability. For firms engaged in financial services, asset management, or virtual assets, failure to obtain required licenses or adhere to regulatory standards could lead to operational suspensions, significantly impacting normal business functions.

2. Tax Planning Risk

Hong Kong adopts a territorial taxation principle, meaning only profits sourced within Hong Kong are subject to taxation. This provides opportunities for tax optimization. However, it also requires accurate delineation of income sources between domestic and foreign operations. If tax authorities determine that profits originate from Hong Kong, the company will be subject to Profits Tax.

With the OECD’s global minimum tax agreement being implemented, cross-border tax arrangements are under closer scrutiny. By the end of 2025, Hong Kong announced that Economic Substance Requirements ESR would apply from 2025 onward, mandating that certain industries-such as intellectual property, distribution, and financing-conduct substantial local operations. This means companies can no longer rely on shell entities for tax avoidance without facing back taxes and penalties.

3. Currency and Market Volatility Risk

Since the Hong Kong dollar is pegged to the U.S. dollar, companies engaging in cross-border capital flows may suffer financial losses due to exchange rate fluctuations. With the Federal Reserve continuing to raise interest rates and the U.S. dollar strengthening, volatility in the RMB-HKD exchange rate poses significant challenges to cost control and cash flow management.

4. Geopolitical and Uncertainty Risks

While Hong Kong is part of China, the current complex global geopolitical landscape has led some countries to impose restrictions on Chinese enterprises, which may indirectly affect subsidiaries based in Hong Kong. For example, in 2025, the U.S. Department of Commerce added several Chinese entities to the Entity List, restricting their access to key technologies. While Hong Kong-based firms have not yet been broadly impacted, future policy shifts remain uncertain.

II. Prudent Strategies and Preparation Recommendations

1. Fully Understand and Comply with Local Laws

Before establishing a subsidiary in Hong Kong, companies should thoroughly understand local laws and regulations, including the Companies Ordinance, Inland Revenue Ordinance, and Employment Ordinance. Engaging professional legal and accounting advisors is essential. Additionally, internal compliance systems should be established to ensure adherence to regulatory standards, especially regarding AML, data protection, and contract management.

2. Strategically Plan Tax Structure

Leveraging Hong Kong’s favorable tax policies is key to enhancing corporate competitiveness. Businesses may consider setting up multi-tiered holding structures to optimize reinvestment and capital gains taxation. However, excessive reliance on paper companies for tax purposes should be avoided. Instead, companies should focus on conducting real business activities in Hong Kong to meet economic substance requirements.

3. Strengthen Financial Management and Hedging Mechanisms

To mitigate currency risk, companies can use financial instruments such as forward contracts and options to hedge against exchange rate fluctuations and reduce foreign exchange losses. Establishing a centralized treasury management system can help optimize cross-border fund flows and improve capital efficiency.

4. Build a Diversified Business Presence

To manage geopolitical risks, companies should avoid overreliance on a single market. Expanding operations into other jurisdictions like Singapore and Dubai can create a diversified business footprint and enhance resilience against regional instability.

5. Focus on Talent Acquisition and Localization

Hong Kong boasts a wealth of international talent, particularly in finance, law, and accounting. Companies should actively recruit local professionals and build management teams familiar with the Hong Kong market to enhance operational expertise and local adaptability.

6. Regularly Review and Adjust Strategy

Establishing a subsidiary is not a one-time decision but an ongoing process. Companies should regularly assess the subsidiary’s performance, compliance status, and evolving market conditions, adjusting strategies accordingly. For instance, in early 2025, several mainland tech firms revised their RD investment plans in Hong Kong in response to rapid developments in the global AI industry.

Conclusion

Setting up a subsidiary in Hong Kong marks a significant step toward internationalization, but it also presents numerous challenges. In the face of a rapidly changing external environment, companies must proactively identify risks and develop comprehensive contingency plans. Only by doing so can they maintain stability, gain competitive advantage, and achieve sustainable growth in the global marketplace.