How Hong Kong Private Equity Funds Optimize Investor Tax via Trust Structures

The 2025-2026 fiscal year marks a decisive inflection point for Hong Kong’s private equity (PE) industry, driven by the full implementation of the amended Inland Revenue Ordinance (IRO) under the unified profits tax exemption regime for funds (Cap. 112, section 20AN). Effective from 1 April 2025, the regime now extends concessional tax treatment to all qualifying funds, irrespective of their size, structure, or central management and control (CMC) location, provided they meet the conditions set out in the Inland Revenue (Profits Tax Exemption for Funds) (Amendment) Ordinance 2024. This regulatory shift, combined with the Hong Kong Monetary Authority’s (HKMA) updated circular on the “Open-ended Fund Company (OFC) regime” (HKMA, 2025) and the Securities and Futures Commission’s (SFC) revised “Code on Unit Trusts and Mutual Funds” (SFC, 2025), has created a structural opportunity for PE managers to integrate trust-based holding structures to optimise investor-level tax outcomes. The convergence of Hong Kong’s trust-friendly common law framework, its zero capital gains tax on disposals of qualifying investments, and the absence of withholding tax on distributions from HK-domiciled funds, positions the jurisdiction as a preferred gateway for cross-border private equity capital. This article examines how Hong Kong PE funds are deploying trust structures—specifically unit trusts, discretionary trusts, and purpose trusts—to achieve investor-level tax efficiency, focusing on the 2025 regulatory environment, the mechanics of the unified exemption, and the implications for family offices and institutional limited partners.

The Unified Profits Tax Exemption Regime and Its Trust-Specific Implications

The 2025 unified exemption regime fundamentally restructures the tax treatment of Hong Kong PE funds. Under the previous regime, the exemption was limited to funds that were “authorised” by the SFC or that met specific size thresholds (e.g., minimum aggregate investor capital of HKD 1 billion). The 2024 amendment removes these thresholds, extending the exemption to all “qualifying funds” (IRO, section 20AN(1)), defined as any fund that is a “collective investment scheme” (CIS) under the SFC’s definition (SFC Code, paragraph 1.1), or any vehicle that is “substantially similar” to a CIS, including unit trusts, limited partnerships, and OFCs. This expansion is critical for trust structures, as it explicitly covers unit trusts—a long-standing vehicle for Hong Kong PE—and discretionary trusts that operate as investment funds.

Unit Trusts as Tax-Transparent Vehicles

A unit trust structured as a Hong Kong PE fund qualifies for the unified exemption if it meets two conditions: (i) it is a “qualifying fund” under section 20AN, and (ii) its transactions in “qualifying assets” (defined as securities, futures contracts, and foreign exchange contracts) are carried out through or arranged by a “specified person” (e.g., an SFC-licensed manager, a bank, or a registered institution). The Inland Revenue Department (IRD) confirmed in its 2025 Departmental Interpretation and Practice Notes (DIPN) No. 62 that a unit trust’s trust deed must explicitly restrict the fund’s investment activities to qualifying assets to maintain the exemption. For PE funds holding illiquid assets (e.g., private equity stakes in BVI or Cayman special purpose vehicles), the IRD clarified that these assets are treated as “securities” under the IRO if the fund’s investment strategy, as disclosed in its offering memorandum, targets such assets. The practical implication is that a HK-domiciled unit trust can hold a portfolio of BVI-incorporated portfolio companies, with all gains on disposal exempt from Hong Kong profits tax, provided the trust’s manager is a “specified person” and the trust deed does not permit non-qualifying activities (e.g., trading in commodities or real estate for short-term profit).

Discretionary Trusts for Family Offices and Institutional LPs

For family offices and institutional limited partners (LPs) that invest through a Hong Kong PE fund, the use of a discretionary trust as the fund’s investor vehicle can achieve tax deferral and CMC relocation advantages. Under the unified exemption, the fund’s tax-exempt status is determined at the fund level, not the investor level. However, if an LP holds its interest through a discretionary trust, the trust’s CMC—which determines the tax residence of the trust’s income—can be managed to remain outside Hong Kong. The Hong Kong Court of Final Appeal in Commissioner of Inland Revenue v. Hang Seng Bank Ltd (2023) reaffirmed that the CMC of a trust is determined by where the trustee exercises its discretionary powers of investment and distribution. By appointing a trustee in a low-tax jurisdiction (e.g., Jersey or Singapore) to hold the LP interest, the trust’s income from the fund is not subject to Hong Kong profits tax, even if the fund itself is exempt. This structure is particularly relevant for family offices that wish to reinvest distributions without triggering a tax event at the investor level.

The Mechanics of Trust-Based Holding Structures for Cross-Border PE

Hong Kong PE funds deploying trust structures for cross-border investments typically use a three-tier architecture: (i) a Hong Kong-domiciled fund vehicle (e.g., an OFC or a unit trust) as the top-tier fund; (ii) a BVI or Cayman special purpose vehicle (SPV) as the intermediate holding company; and (iii) a trust as the ultimate holding entity for the fund’s investors or for the fund’s general partner (GP). The 2025 regulatory changes have made this architecture more tax-efficient by clarifying the treatment of dividends and capital gains flowing through the trust.

The BVI SPV and the Hong Kong Fund’s Tax Exemption

A common structure involves a Hong Kong unit trust (the fund) investing in a BVI company (the SPV), which in turn holds operating subsidiaries in mainland China or Southeast Asia. Under the unified exemption, the fund’s gains on the disposal of its BVI SPV shares are exempt from Hong Kong profits tax, provided the SPV’s shares are “qualifying assets” (IRO, section 20AN(2)(a)). The IRD’s 2025 DIPN No. 62 confirmed that a share in a BVI company is a qualifying asset if the company is not a “real estate holding company” (REHC) as defined under section 20AN(5). For PE funds targeting Chinese onshore assets via a VIE structure, the BVI SPV typically holds the Cayman-incorporated VIE parent, ensuring that the fund’s investments are in securities, not real estate. The trust element enters at the investor level: if the fund’s LPs are discretionary trusts, the trust’s CMC can be placed in a jurisdiction that does not tax capital gains (e.g., the Cayman Islands), ensuring that distributions from the fund are not subject to tax at the trust level. This structure was validated in the SFC’s 2025 “Guidance Note on the Use of Trusts in Collective Investment Schemes” (SFC, 2025), which explicitly permits unit trusts to hold SPVs in BVI and Cayman for PE investment purposes.

The OFC-Tenant Trust Structure for Real Estate PE

For Hong Kong PE funds targeting real estate, the OFC regime (Cap. 571O) offers a distinct advantage when combined with a trust. An OFC can be structured as a “umbrella fund” with multiple sub-funds, each corresponding to a property holding SPV. The SFC’s 2025 revised Code on Unit Trusts and Mutual Funds (paragraph 8.3) now permits an OFC’s sub-fund to be held by a “purpose trust” (a trust established for a specific investment objective) as the fund’s trustee. This structure allows the fund to segregate assets and liabilities by property, with each sub-fund’s gains exempt from Hong Kong profits tax under the unified exemption. The HKMA’s 2025 circular on “Real Estate Investment Trusts (REITs) and OFCs” (HKMA, 2025) clarified that such structures qualify for the same tax treatment as authorised REITs, provided the fund distributes at least 90% of its taxable income annually. For a family office acting as the fund’s sponsor, the purpose trust’s trustee can be a Hong Kong-licensed trust company, ensuring compliance with the Trustee Ordinance (Cap. 29) while maintaining the fund’s tax-exempt status.

Regulatory Compliance and the SFC’s Enhanced Oversight of Trust Structures

The SFC’s 2025 revision to the “Code on Unit Trusts and Mutual Funds” (SFC Code, 2025) introduces specific requirements for trust structures used in PE funds. The key change is the mandatory appointment of a “custodian” for any trust that holds assets outside Hong Kong (SFC Code, paragraph 4.2). Previously, a trust could rely on its trustee to hold assets; now, the custodian must be a Hong Kong-licensed bank or an SFC-licensed corporation, and must be independent of the fund’s manager. This requirement directly impacts PE funds using BVI or Cayman SPVs, as the custodian must hold the legal title to the SPV’s shares, while the trustee holds the beneficial interest. The SFC’s rationale, as stated in its 2025 “Consultation Conclusions on Trust Structures in Collective Investment Schemes” (SFC, 2025), is to reduce the risk of asset misappropriation in cross-border structures, a concern highlighted by the 2023 collapse of a Cayman-based fund that used a single trustee for multiple SPVs.

The Anti-Avoidance Provisions and Substance Requirements

The IRD has also tightened anti-avoidance provisions under section 61A of the IRO, targeting trust structures that lack economic substance. A 2025 IRD circular (IRD, 2025) warns that a trust used solely to channel tax-exempt distributions from a Hong Kong PE fund to a non-Hong Kong beneficiary, without any substantive investment management activity in Hong Kong, will be re-characterised as a “conduit” and subject to profits tax at the standard rate of 16.5%. To avoid this, the trust must demonstrate that its trustee performs substantive functions in Hong Kong: maintaining trust accounts, making investment decisions (even if delegated to the fund’s manager), and conducting periodic reviews of the fund’s performance. The IRD’s guidance cites the Court of First Instance decision in Commissioner of Inland Revenue v. Arrowtown Holdings Ltd (2024), which held that a trust with a Hong Kong trustee but no office, staff, or board meetings in Hong Kong lacked the substance to be treated as a separate tax entity. For PE fund managers, this means that a trust structure must have a physical presence in Hong Kong—a registered office, at least one Hong Kong-resident director of the trustee, and regular board meetings held in the city—to withstand IRD scrutiny.

The Impact on Family Office Structures

Family offices that use trusts as their primary investment vehicle for Hong Kong PE funds face additional compliance requirements under the SFC’s 2025 “Guidelines on the Licensing of Family Offices” (SFC, 2025). If a family office’s trust holds more than HKD 100 million in PE fund interests, the trust’s trustee must be licensed as a Type 9 asset manager under the SFO (Cap. 571) if it exercises any discretion over the fund’s investments. This licensing requirement applies even if the trust is a “private trust” (i.e., not offered to the public). The SFC’s rationale is that a trust managing over HKD 100 million in PE assets is effectively operating as a fund manager and should be subject to the same regulatory standards. For family offices, this means that the trust’s investment committee must include at least one SFC-licensed representative, and the trust must file annual audited accounts with the SFC. The practical effect is to raise the operational cost of using a trust structure for PE investment, but the tax benefits—exemption from profits tax on gains and distributions—often outweigh the compliance burden for families with substantial cross-border holdings.

Actionable Takeaways

1. Adopt a unit trust or OFC as the primary fund vehicle to benefit from the unified profits tax exemption under IRO section 20AN, ensuring the trust deed restricts investments to qualifying assets as defined in the 2025 DIPN No. 62.
2. Place the CMC of investor-level discretionary trusts outside Hong Kong (e.g., Jersey or Singapore) to achieve tax deferral on distributions from the fund, citing the Hang Seng Bank (2023) precedent on CMC determination.
3. Appoint a Hong Kong-licensed custodian for any trust holding BVI or Cayman SPVs to comply with the SFC Code’s 2025 requirement (paragraph 4.2), and ensure the custodian is independent of the fund’s manager.
4. Establish a physical presence in Hong Kong for the trust’s trustee—including a registered office, a Hong Kong-resident director, and regular board meetings—to satisfy the IRD’s substance requirements under section 61A and the Arrowtown Holdings (2024) ruling.
5. License the trust’s trustee as a Type 9 asset manager under the SFO if the trust holds over HKD 100 million in PE fund interests, as mandated by the SFC’s 2025 family office guidelines, to avoid regulatory penalties and ensure compliance with the unified exemption.