Canadians have been doing business with the people of Hong Kong, and vice versa, for decades. But even though there are almost a million people whose work and family ties are divided between Canada and the semi-autonomous region of China, it wasn't until last year that the two finally hammered out their first tax treaty.

The first Canada-Hong Kong Income Tax Agreement was signed in November 2012 and is expected to come into force some time in 2013. Canada does have a tax treaty with China dating back to 1986, but it does not apply to Hong Kong.

Like similar tax treaties that Canada has with about 90 other countries, the Hong Kong agreement will make it harder for those who do business in the two countries to pay too much or too little tax.

Preventing tax evasion is "an important part" of the treaty, says David Duff, co-director of the National Centre for Business Law at the University of British Columbia, in part because of the increasing financial traffic between Canada and Hong Kong.

Canada's trade with Hong Kong has been inching upward since around 2000, and in 2011, merchandise exports to the so-called special administrative region added up to $3 billion while imports from Hong Kong to Canada totalled $300 million, according to Foreign Affairs and International Trade Canada.

Hong Kong now ranks 10th among international destinations for Canada's exports, with the value of exports to Hong Kong growing by 57.8 per cent just between 2010 and 2011 — largely on the strength of gold and an overall increase in precious metal and stone exports.

In that same period, Canadian direct investment in Hong Kong increased by 15.5 per cent to $8.14 billion, making Hong Kong the second-most important recipient — after Japan — of Canada's foreign direct investment in the region in 2011, outranking even China and India.

Hong Kong’s direct investment in Canada totalled $6.2 billion in 2005, the most recent year for which figures are available.

Treaty 'good news' for corporate sector

With business ties only getting stronger, it's more important than ever that Canada has a tax arrangement in place with Hong Kong, especially given that an estimated 300,000 Canadian citizens live in Hong Kong and another 500,000 people of Hong Kong descent live in Canada.

Tax treaties are meant to normalize paperwork for tax filers with foreign income and to enable the participating governments to exchange information about tax filers.

"That's crucial to preventing tax evasion," says Duff. "If you imagine a Canadian who has income offshore, they might be evading their taxes, but you may never catch them because it's hard to get the right information."

Hong Kong's relatively low tax rate has long made it an attractive destination for those looking to hide their money from the tax man in their home jurisdiction.

Along with discouraging such practices, tax treaties are also meant to prevent tax filers, mainly businesses and investors, from being unfairly overtaxed by both sides.

According to the federal government, there are more than 180 Canadian companies operating in Hong Kong. For them and others in the business world, the new tax agreement is "good news," says Michael Cadesky, an international tax specialist with Cadesky and Associates in Toronto.

"It's also good news for people who live in Hong Kong but have close connections to Canada," he said. "They may own a home here, may have family living here or possibly even a spouse, but they may not wish to be assessed as a Canadian resident, because they don't want to pay Canadian tax rates [which are much higher than Hong Kong's].

"The treaty allows them to take a position that they're not Canadian residents."

'Factual residents'

Residency is an important concept for the Canada Revenue Agency (CRA).

Canadians, of course, can travel and do business far and wide — but never quite far enough to avoid paying taxes. Whether working in a bar in Bangkok or on an oil rig in the Mideast, you may still owe tax on that income because the CRA expects to see a return from all "factual residents" of Canada.

Factual residents are those who might be living and working outside Canada for the time being but who still have ties to Canada, including, for example, a home, a spouse or dependents who remain in Canada, personal property such as a car, bank accounts, health insurance or a Canadian driver's licence.

To avoid paying tax in Canada on income earned abroad, you have to sever all residential ties. This means you must no longer have a place to live in Canada, must have a residence somewhere else, must have opened financial accounts there, and, if married, must have taken your family with you.

To be considered a non-resident, the time you spend in Canada must be less than 183 days in the tax year. Unlike the U.S., which requires all U.S. citizens to file a tax return even if they have not lived or earned income in the U.S., Canada does not require non-residents to file a tax return unless they earned income in Canada.

Most Canadian snowbirds and other casual travellers — indeed, even some hard-core globetrotters — will not meet the non-resident criteria. They will remain Canadian residents as far as the CRA is concerned and owe tax on any income earned abroad.

Both countries get to tax your income

The country in which you earned the money gets to tax you first, after which Canada takes its share, though you get credit for what you've already paid.

For example, let's say you are considered a factual resident of Canada, but you work in the U.S., where you earned $50,000. If the U.S. tax on that amount was $7,000 and the Canadian tax on that amount was $10,000, Canada would give you credit on the $7,000 you paid to the U.S.

You would then pay the remaining $3,000 to Canada.

If the tax rate is higher in the foreign country than in Canada, you won't pay anything to Canada on that income, though you are still expected to file a return and disclose the income you earned abroad. Ottawa always wants to see the paperwork.

The Hong Kong treaty has no real effect on casual travellers but will make a difference to some businesses and their employees, says experts. Under certain conditions, Hong Kong will not tax Canadians employed by a Canadian company that does business in Hong Kong, for example.

"In theory, it's supposed to make life easier for people doing business, because it removes some taxation that might otherwise occur," said Duff.