What should you do if you receive an IRD Tax Enquiry? A real case on part-time salary breakdowns to show you how to respond and prove your innocence

What is an IRD Tax Enquiry?

A tax enquiry does not necessarily require an on-site visit

When many SME owners hear “tax enquiry”, they immediately think of an assessor visiting the company to conduct a Field Audit. In practice, the IRD may first make a written request for information and explanations. This type of IRD Tax Enquiry Letter may focus on a single expense item, such as salaries, subcontracting fees, rent, or directors’ remuneration.

Therefore, receiving a letter does not mean you have been found guilty of tax evasion, but it should not be treated as a routine administrative questionnaire either. The information submitted in your reply may affect whether the IRD accepts the expense and whether it later expands the scope of its enquiries.

The IRD’s statutory power to request information

Under section 51 of the Inland Revenue Ordinance (Cap. 112), the IRD may require a taxpayer to provide information, particulars, and documents relevant to an assessment. The requested materials are usually to verify whether the figures in the return are accurate, and whether the expenses were genuinely incurred, business-related, and borne by the company.

A company’s reply should not be limited to “yes” or “no”. It should link each expense to the corresponding payment, work performed, and personnel information, forming a verifiable evidence trail.

Why would a company receive an enquiry letter about part-time salaries?

Common reasons include the following:

1. Cross-check anomalies: Salary expenses reported in the Profits Tax Return (BIR51) may not match the Employer’s Return (IR56B) or the return of remuneration paid to persons other than employees (IR56M). For example, a company may mistakenly believe that IR56B is not required if a part-time employee’s annual salary is below HKD 132,000, causing a mismatch between salary expenses and employer reporting.
2. Payer and payee details cannot be matched: Your expense is someone else’s income, and someone else’s expense can also be your income. To claim a deduction, both parties should report truthfully. If one side is inconsistent or fails to report, it may trigger the IRD’s cross-check review.
3. Unusual expense amount or proportion: If salaries, part-time, or subcontracting expenses account for an unusually high proportion of total revenue, or if payment patterns differ significantly from prior years, the IRD may request further explanations.
4. Insufficient documents to support the deduction claim: For example, there are only general ledger figures but no contracts, attendance records, receipts, or proof of payment.

Understanding the burden of proof under section 68(4)

Many business owners ask after receiving an enquiry letter: “I really hired people—why do I still have to prove it?” The key point is that tax disputes are handled differently from criminal cases as most people imagine.

Section 68(4) of the Inland Revenue Ordinance provides that the appellant bears the burden of proving that the assessment objected to is excessive or incorrect. In other words, when a company objects to or appeals an assessment, it is not enough to say “I really hired people”. The company must provide sufficient information to prove that the reported salaries were genuinely incurred and are business expenses. This does not mean the assessor can disallow expenses without reason, but if documentation is insufficient, the company will be in a very disadvantaged position.

What you need to prove is not a story, but an evidence trail

For part-time salary expenses to be more readily accepted, you usually need to answer all of the following:

• Who provided the service? Do you have names, identity details, and identifiable employee/service provider information?
• What work was done? Do you have a contract, work arrangement, timesheets, deliverables, or communication records?
• When was the work completed? Do the work dates, attendance times, and payment dates align?
• Did the company actually pay? Do you have bank transfers, FPS, PayMe, cheques, or cash withdrawal records?
• How was the amount calculated? Do the salary breakdown, hourly/daily rate, workload, and total amount reconcile?

If you only have an internal Excel list with no external documents or proof of payment, the evidential value is usually weak. Conversely, when contracts, attendance records, deliverables, signed receipts, and bank records all match, it more clearly demonstrates the commercial substance of the payments.

Why are verbal explanations usually not enough?

“Because it was part-time so we kept no records”, “We paid in cash so there are no bank statements”, or “The employee has left and we can’t find the information” may all be true, but verbal statements alone are not sufficient to discharge the burden of proof. When replying to the IRD, the focus is not what story the company tells, but what verifiable supporting documents are provided: timesheets, employee receipt confirmations, recruitment or communication records, project delivery materials, and funds-flow information.

Real case: how the IRD traced part-time salaries step by step?

Stage 1: Initial enquiry into salary expenses

In this case, the company reported about HKD 655,950 in salary expenses in its Profits Tax filing. The IRD issued the first enquiry letter and gave the company a 1-month reply deadline, requesting employee information and specified proof of payment, including:

1. Names of all employees;
2. Hong Kong Identity Card numbers (HKID);
3. Employment contracts or work agreements;
4. Salary breakdowns and calculation basis;
5. Records of the two largest payments.

The focus at this stage is to verify whether the total amount reported was genuinely incurred for services provided by real employees, and whether each person’s salary can be matched to the accounts and payment records.

Stage 2: After the company replied that part of it was part-time salaries, the enquiry deepened

The company replied that about HKD 536,350 was paid to part-time staff. As some payments were made in cash, the IRD further sampled and queried detailed information for 5 part-time staff.

The second letter, focusing on cash payroll, required the company to provide three core categories of information for those 5 part-time staff:

1. Signed receipts or acknowledgements by the employees;
2. Screenshots of online recruitment ads or WhatsApp chat records;
3. Company bank withdrawal records (Bank Statement) showing the funds flow for the cash payments.

The company may also submit timesheets, deliverables, or project records to help link the personnel, work, and payments.

Key lesson from the case

The IRD’s second letter reflects the practical requirements of “the burden of proof is on the taxpayer”. The IRD is not merely asking “were salaries paid”, but requiring the company to prove the entire payment process: the staff genuinely existed, the work genuinely occurred, the calculation is reasonable, payment was actually made, and the cost was borne by the company.

If the company cannot provide a complete evidence trail as above, the part-time salary expense of about HKD 536,350 may be treated as insufficiently substantiated, exposing the company to the risk of full or partial disallowance and additional tax. This is why part-time salaries should not be handled only at year-end through accounting entries, but records should be kept at each hiring, attendance, and payment stage.

If salaries were genuinely paid in cash but there is no bank withdrawal record, what remedies are available?

Cash payroll does not necessarily mean the payment did not occur, but compared with bank transfers, cash is harder to reconstruct after the fact. If the company did pay in cash, it should first organise the existing materials and then assess what can corroborate what. Do not backdate or fabricate records just to “fill the gaps”.

1. Contact part-time staff to supplement receipt confirmation

If you can still reach the relevant staff, you may ask them to re-sign a receipt confirmation or provide a formal declaration based on the actual facts, with a copy of their identity document, stating:

• Work period and work content;
• Receipt date and amount;
• Method of receipt;
• Payee identity details;
• Whether all wages have been received.

Documents should be based on the true facts at the time and clearly marked as a post-event supplementary confirmation. You must not backdate the document date to the payment date.

2. Use business records to prove the services genuinely occurred

Depending on the nature of the work, you may compile:

• Design drafts, videos, copywriting, or other deliverables;
• Delivery notes, work photos, or service reports;
• Client chats and project emails;
• Timesheets, rosters, and attendance records;
• Client payment records and matching information for the relevant projects.

These materials may not, on their own, prove that wages were paid, but they can help prove that the relevant personnel did provide services, thereby supporting a complete context together with other payment documents.

3. Reconstruct the funds trail where the owner/manager paid on behalf of the company

If the owner or a manager withdrew cash from a personal account and paid cash on behalf of the company, you should compile:

• Personal bank statements;
• Internal company reimbursement forms or advance-payment records;
• Director’s current account or cash book;
• Employee signed receipts;
• An explanation of how the entries were recorded in the accounts.

A personal-account cash withdrawal record only proves that someone withdrew cash; it does not automatically mean the company paid wages to employees. Therefore, it must be supported by internal accounting records and receipt confirmations, and a tax representative should assess whether the explanation is reasonable.

Received an IRD enquiry letter? 4 critical mistakes when replying on your own can easily double your additional tax!

A Tax Enquiry must never be handled like a routine administrative letter. Many owners think it is “just submitting extra documents”, but due to improper explanations or inconsistent documents, the IRD may expand the enquiry to accounts from prior years and may even trigger an IR56 non-filing investigation. Below are the four most common critical mistakes SMEs make when replying on their own:

❌ Mistake 1: Misjudging the deadline and missing the crucial one-month window

The deadline is 1 month counted from the “Date of Issue” shown at the top right of the letter, not from the day you receive it. Many owners miss the deadline due to internal handover delays or because they think “there’s still time”, and the IRD then directly disallows the entire expense and issues an additional tax assessment. One month may sound sufficient, but in reality it is extremely tight to contact former employees, obtain supplementary signed receipts, retrieve bank records, and organise communication logs from years ago.

❌ Mistake 2: Submitting only internal documents and failing to form a complete evidence trail

Many companies submit only a “payroll list” or “general ledger screenshot”, but cannot produce contracts, timesheets, signed receipts, or bank payment proof. What the IRD requires is not “how the company recorded it internally”, but “whether the transaction genuinely occurred”. An Excel sheet without external supporting documents has virtually no evidential value to an assessor. More dangerously, if documents conflict on dates, amounts, or names, it may instead raise suspicion of fabrication.

❌ Mistake 3: Rushing to explain cash payroll and making things worse

Many owners write in their reply, “We paid in cash so there are no records” or “Part-time income was low so we didn’t file IR56B”, thinking that being candid will resolve the issue. In practice, such statements may directly expose IR56 non-filing issues, or lead the IRD to treat it as “negligence without reasonable excuse”, triggering the risk of additional tax under section 82A of the Inland Revenue Ordinance. A wrong explanation can be more dangerous than no explanation.

❌ Mistake 4: Dumping disorganised documents and irritating the assessor

Sending the IRD a large bundle of unorganised WhatsApp screenshots, years of bank statements, and scattered receipts in one go not only fails to prove the expense is reasonable, but also makes it impossible for the assessor to verify, leading to a direct conclusion that “the documents are insufficient to support the deduction”. More seriously, messy documentation may cause the IRD to suspect poor accounting controls and expand the enquiry to other years or other expense items.

What chain reactions may occur if you do not deal with an IRD enquiry letter?

1. Past years’ accounts may be reopened

If the IRD finds issues with documentation or reporting for part-time salaries in a particular year, it may further require the company to explain whether the same arrangement was used in other years. Section 60 of the Inland Revenue Ordinance concerns time limits for additional assessments, but the years that can be pursued and whether a longer time limit applies depend on the cause of the tax undercharged and the case facts. You should not treat “it will definitely go back 6 or 10 years” as a fixed conclusion for every case.

2. Estimated or additional assessments may be raised

If you fail to reply by the deadline, or if the expense is not sufficiently substantiated, the IRD may make or adjust an assessment based on the information available, disallow the unproven salary expense, and may also adjust the following year’s provisional tax. After receiving an assessment notice, the company may need to pay tax or lodge an objection within the stated time limit. If the company considers the assessment incorrect, please refer to the time limit for objecting to an assessment and the supporting-document requirements. If you discover errors or omissions in prior filings, you may also apply for revision of an assessment.

3. Additional tax penalties under section 82A may be involved

If the case ultimately involves non-reporting, negligence, wilfulness, or a tax undercharge without reasonable excuse, the IRD may consider additional tax under section 82A of the Inland Revenue Ordinance. The law sets a maximum of up to three times the tax undercharged, but the actual penalty amount and whether other procedures are taken must be determined based on evidence, filing conduct, and case circumstances. Receiving an enquiry letter does not, by itself, mean a three-times penalty will necessarily be imposed.

How can SMEs reduce the risk of part-time salaries being challenged?

Prevention is better than post-event remediation. The following 5 principles can help SMEs reduce, at source, the risk of part-time salary expenses being disallowed by the IRD:

1. Use traceable payment methods whenever possible

FPS, bank transfers, or cheques are all easier to prove payer, payee, date, and amount than cash. In the payment reference, include the employee’s name, salary month, or work item to make future reconciliation much clearer.

2. Complete basic information and work arrangements before commencement

Before part-time staff start work, collect the required identity and contact details and sign a simple written agreement stating the work scope, remuneration calculation (especially the calculation for continuous contracts for part-time employees), payment date, and work period. Keep recruitment ads, WhatsApp chats, and emails—do not rely only on the owner’s memory.

3. Reconcile salaries and attendance monthly

Each month, cross-check timesheets, payroll sheets, payment records, and accounting entries. If cash was paid that month, obtain a signed receipt immediately, rather than waiting until years later when an enquiry letter arrives.

4. Clearly distinguish reporting responsibilities for employees vs outsourcing

“Part-time”, “Freelancer”, and “outsourcing” are not legal statuses determined by labels alone. You should assess the actual working relationship, degree of control, payment method, and business arrangements to clarify employer obligations, and have an accountant or tax adviser verify IR56B, IR56M, and other filing requirements. For more on the legal definitions of self-employment vs employment, please refer to Legal Definitions of Self-Employed and Employed Persons in Hong Kong. If it involves non-employee outsourcing, also note the requirements on Freelancer Business Registration.

5. Keep accounting and relevant business records

A company should keep books, vouchers, and supporting documents for a sufficient period as required by applicable laws. In practice, do not keep only the general ledger; also retain source documents that explain each transaction. For the scope of documents needed for annual filings, you may also refer to the Hong Kong Limited Company Tax Filing Guide.