A new law passed by the US Senate is destined to tighten the economic noose on banks involved in illegal financial activities in the city.
The Foreign Account Tax Compliance Act (FATCA) is another US move to crack down on tax evaders, but it will also play a big part in catching out banks in Hong Kong that have been helping clients hide their wealth from US authorities.
And many of the 60,000 Americans living in Hong Kong - both native-born and former Hong Kong emigrants to the United States who returned home with American citizenship - will be totally unaware of the new FATCA law.
Combined with a US tax amnesty launched two years ago, banks in Hong Kong are under increasing scrutiny.
The amnesty led 15,000 taxpayers to make voluntary disclosures to the US Internal Revenue Service (IRS) involving bank accounts held in more than 60 countries. Another 3,000 individuals have made voluntary disclosures about foreign bank accounts since the amnesty ended in 2009.
US tax authorities inflicted a harsh lesson on Switzerland in 2009 by forcing the world's biggest offshore banking centre to lift its treasured secrecy and slapping a US$780 million penalty on UBS for helping wealthy Americans dodge taxes from 2000 to 2007.
UBS was found to have exploited loopholes in US tax compliancy regulations, known as the Qualified Intermediary (QI) rules. FATCA was partly designed to close these loopholes. The law, passed by the US Congress - both by the House of Representatives and the Senate - last year, will bring in an estimated US$8.5 billion in extra tax revenues, and could have serious ramifications.
The law will come into force on January 1, 2013, and obliges foreign firms to report offshore accounts and security trades by US clients that amount to more than US$50,000. If they fail to do so, they will be hit with a 30 per cent withholding tax penalty.
'[We've had] lots of feedback [in Asia] that says it is unfair, but it is the law,' Jay Krause, partner at law firm Withers, said. 'When you take the voluntary disclosure provisions and you marry them to the FATCA provisions you have a very effective one-two punch.
'FATCA is not a tax-related piece of legislation at all, but if the Americans who have accounts at the various banks aren't tax compliant, the bank is faced with a huge problem.'
He said in the short term banks would either need to apply FATCA's US client identification procedures or exit the US securities markets.
The US authorities' suspicion that UBS had violated QI regulations was the start of the tax dispute between the bank and the IRS and led to closer scrutiny.
The new law can be seen as a broadening of the QI programme. Regulations for individuals will be extended to companies and a much larger circle of financial institutions.
Asia senior partner at Withers, Joe Field, said: 'Under the old QI rules, certain organisations who had an international group would have to sign up in Europe but not necessarily in Asia. The new rules ... [require] everyone to sign up.
'The measure will tighten the noose on both banks that are co-operating with the IRS [through expanded record-keeping and reporting requirements] and those which are non-co-operative [by means of the 30 per cent withholding tax].'
Failure to report US$50,000-plus offshore accounts and security trades will lead to a withholding tax penalty of: 30%