The section 359 reporting exemption: reduced financial reporting for qualifying Hong Kong companies

Section 359 Reporting Exemption for Hong Kong Companies

Section 359 of the Companies Ordinance (Cap. 622) lets qualifying private companies swap full Hong Kong Financial Reporting Standards (HKFRS) for the SME Financial Reporting Framework (SME-FRF) and SME Financial Reporting Standard (SME-FRS). The trade-off is straightforward: lighter disclosure, same statutory audit. The audit requirement does not go away.

Hong Kong Reporting Exemption Requirements

Only private companies qualify. The company must not be obliged to prepare consolidated financial statements, and it must fit within the size thresholds. The Hong Kong Institute of Certified Public Accountants (HKICPA) publishes guidance on applying both SME-FRF and SME-FRS.

The reporting exemption requirements are:

• The company must be a private company as defined in the Companies Ordinance.
• The company must have no public accountability. That means its securities are not listed on a stock exchange, and it does not hold assets in a fiduciary capacity for a broad group of outsiders.
• The company must qualify as a small or medium-sized entity under the size criteria.

A company that is a subsidiary of a listed company or a company with public accountability cannot use the exemption, even if it meets the size criteria on its own. The exemption also fails if the company is a holding company that is required to prepare consolidated financial statements under section 379 of the Companies Ordinance. A dormant company that is exempt from preparing financial statements under section 447 does not need to rely on section 359 at all.

Hong Kong SME Financial Reporting

SME-FRF and SME-FRS were built for Hong Kong SMEs that meet the exemption criteria. They are simpler than full HKFRS and demand far less disclosure, while still requiring financial statements that give a true and fair view of the company’s financial position and performance.

The practical effect is fewer notes and less granular detail. Disclosure requirements for financial instruments shrink. Related party transaction notes contract. Segment reporting disclosures are reduced compared to full HKFRS. The directors’ report and auditor’s report remain mandatory.

SME-FRS is a single standard that covers recognition, measurement, presentation and disclosure. It does not cross-refer to full HKFRS. A company that adopts it must apply it in full. Selective application is not permitted. If a transaction falls outside the scope of SME-FRS, the directors must develop an accounting policy that results in relevant and reliable information, and they must disclose that policy.

Hong Kong Section 359 Qualification

A company qualifies for the section 359 reporting exemption if it meets every condition below in both the current and the immediately preceding financial year:

• The company is a private company.
• The company is not a member of a group that includes a public company or a company with public accountability.
• The company does not exceed two of these three size thresholds:
• Total annual revenue of HK$100 million or less.
• Total assets of HK$100 million or less.
• Average number of employees of 100 or fewer.

Exceed two thresholds in two consecutive years and the exemption is lost. Full HKFRS applies from the following financial year.

A newly incorporated company that meets the conditions in its first financial year can use the exemption immediately. It does not need to wait for a second year of qualification. If a company loses the exemption because it exceeds the thresholds, it cannot reclaim it until it stays within the limits for two consecutive years again. A company that ceases to be a private company loses the exemption at once, regardless of its size.

Hong Kong Reduced Disclosure Financial Statements

The primary statements stay the same: a statement of financial position, a statement of profit or loss and other comprehensive income, a statement of changes in equity, and a statement of cash flows. What shrinks are the notes. They are substantially shorter.

The reduced framework lets companies drop disclosures that full HKFRS would otherwise demand. Examples include detailed breakdowns of property, plant and equipment, fair value hierarchy disclosures for financial instruments, and extensive related party transaction disclosures beyond those required by the Companies Ordinance. Schedule 4 to the Companies Ordinance still governs the format. Directors must approve and sign the financial statements before they are laid before the members.

A company that prepares reduced disclosure financial statements must state prominently on the face of the statements that they have been prepared in accordance with SME-FRF and SME-FRS. The statement must appear before the directors’ signature block. If the company fails to include this statement, the financial statements do not comply with the Companies Ordinance and the directors risk prosecution under section 380.

Practical Effect on Audit and Filing

The audit requirement is unchanged. Every Hong Kong company must have its financial statements audited annually by a practising certified public accountant registered with the HKICPA. The auditor’s report follows Hong Kong Standards on Auditing whether the company uses SME-FRF or full HKFRS.

The auditor must still form an opinion on whether the financial statements give a true and fair view. The reduced disclosure framework does not lower the audit threshold. The auditor will test the company’s qualification for the exemption as part of the engagement. If the auditor concludes the company does not qualify, the auditor must qualify the audit report or issue an adverse opinion.

File the reduced disclosure financial statements with the Companies Registry as part of the annual return. The annual return (Form NAR1) must be delivered within 42 days of the company’s return date. Attach the financial statements to the annual return unless the company is exempt from filing them.

Late filing of the annual return attracts a penalty. The Companies Registry may also prosecute the company and its directors. The court can impose a fine and a daily default penalty for continuing non-compliance.

Comparison with Full Reporting Framework

Companies outside the section 359 exemption prepare financial statements under full HKFRS. That means extensive disclosures: detailed notes on accounting policies, financial instruments, revenue recognition, leases, and related party transactions. The full framework is more complex and takes longer to prepare.

A company that qualifies for the reporting exemption may still choose full HKFRS voluntarily. It cannot apply SME-FRF and SME-FRS if it does not meet the qualification criteria.

A company that chooses full HKFRS when it could have used the exemption must apply every HKFRS in full. It cannot mix SME-FRS recognition rules with HKFRS disclosures. Once a company adopts full HKFRS, it must continue to use full HKFRS unless it formally changes its reporting framework and meets the qualification conditions again.

Directors’ Responsibilities

Directors of a qualifying company must document the basis on which the company qualifies for the exemption. The financial statements must include a statement confirming the company is entitled to the exemption. The directors must also prepare a directors’ report that meets the requirements of the Companies Ordinance.

The directors must assess qualification at each reporting date. If the company exceeded two size thresholds in the prior year and exceeds two again in the current year, the directors cannot sign financial statements prepared under SME-FRF for the current year. Signing non-compliant financial statements is an offence under section 380 of the Companies Ordinance. Every responsible person who authorises the issue of non-compliant financial statements is liable to a fine.

The accounting reference date sets the financial year end. Change it by filing Form NAC4 with the Companies Registry. The financial statements must be prepared within the period prescribed by the Companies Ordinance.

Summary of Key Points

• The section 359 reporting exemption allows qualifying private companies to use SME-FRF and SME-FRS instead of full HKFRS.
• The exemption reduces disclosure requirements but does not remove the audit requirement.
• To qualify, a company must be a private company without public accountability and must not exceed two of the three size thresholds.
• The reduced disclosure financial statements contain the same primary statements but fewer notes.
• The audit must still be performed by a registered practice unit.
• The financial statements must be filed with the annual return unless an exemption applies.

For further details, refer to the Companies Registry website (cr.gov.hk) and the HKICPA guidance on SME-FRF and SME-FRS.