APAC Tax Matters: 13th edition

Korea

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At a glance

  • Announcement of amendments to new Korean withholding regimeIntroduction of specific criteria in determining whether a foreign organization can be classified as a foreign corporation
  • Interest expense on intra company loan transactions to be disallowed
  • Approach to calculation of foreign source income for foreign tax credit limits is clarified
  • Capital gains accruing to foreign corporations to be reported in payment statement regardless of profit or loss

Amendments to the new Korean withholding tax regime and enforcement decrees of Korean Tax Laws for 2013

The Korean tax authority issued a tax ruling on the application of tax exemption for overseas investment vehicles under the new withholding tax regime which has been effective from July 2012. Subsequent to the amendments to tax laws for 2013, relevant enforcement decrees and enforcement rules have been amended.

The new Korean withholding tax regime

Under the new Korean withholding tax regime effective from July 2012, a beneficial owner of Korean source income who would like to enjoy treaty benefits shall submit the following required tax forms to a withholding tax agent. A withholding tax agent shall apply a reduced tax rate only where it has received the required tax forms before any income is paid. Otherwise, the higher domestic tax rate shall be applied. The table below outlines the relevant tax forms.

Investor type Required tax forms
Foreign investor being a corporation or an individual
  • Application for reduced tax rate
Foreign investor being an Overseas Investment Vehicle
(“OIV”)
  • Report of Overseas Investment Vehicle (“OIV Report”)
  • Attachments: List of investors (i.e., Schedule of Beneficial Owners(“BOs”)) and OIV Report received from other OIV(*) (if any)
  • (*) The OIV must collect Applications for reduced tax rate from its investors (being actual BOs)
Foreign investor being an Overseas Public Collective Investment Vehicle
(“OPCIV”)
  • OIV Report including information on
    • The number of BOs and
    • The total investment amount of each country
  • Attachments: Supporting document proving registration with or approval by the relevant authority as collective investment vehicle, prospectus and OIV report from other OIV (if any)
Foreign investor being a pension, a non-profit typed fund, etc.
  • Application for reduced tax rate
  • Attachment: Supporting document to prove that the applicant is a pension or a non-profit typed fund, etc.

If a beneficial owner of Korean source income is a corporation or an individual, “Application for Reduced Tax Rate” shall be submitted. In turn, if Korea-source income is paid through an Overseas Investment Vehicle (“OIV”), the OIV shall submit the “OIV Report” and attached “Schedule of Beneficial Owners (“BOs”)” to a withholding tax agent before the Korea-source income is paid in order to apply reduced tax rate under the relevant tax treaty.

If Korea-source income is paid through an Overseas Public Collective Investment Vehicle (“OPCIV”), the OPCIV needs to submit documentation substantiating registration with or approval by a relevant authority as collective investment vehicle and OIV report including a list of the total investment amount and number of beneficial owners of each country to a withholding agent.

When the OPCIV prepares the OIV report, the list of the total investment amount and number of beneficial owners shall be prepared based on the information of the date of submission. However, if it is extremely difficult to classify it, OIV report can be prepared based on the information of the last day of the previous quarter or any date within 1 month of the submission.

A pension or non-profit typed fund that meets certain requirements under Korean tax laws shall be regarded as a beneficial owner and is allowed to submit “Application for Reduced Tax Rate”.

Recent tax ruling on application of tax exemption to OIVs and OPCIVs

According to a recent tax ruling by the National Tax Service, in order to apply for a tax exemption for a portion of Korean source income earned by BOs of an OIV, each BO of the OIV who would like to enjoy a tax exemption under a relevant treaty is required to submit “the Application for tax-exemption under the tax treaty” together with “Certificate of Tax Residence” (“CoTR”) to a withholding agent.

However, in cases of OPCIVs where tax exemption under a relevant treaty is applicable to one or more of its BOs, “the Application for tax-exemption under tax treaty” can be submitted at an OPCIV level, not by each BO. For OPCIVs, it is also permissible to attach the CoTR of the OPCIV.

Amendments to enforcement decrees of Korean Tax Laws for 2013


Introduction of specific criteria in determining a foreign corporation

Under the Corporate Income Tax Laws (“CITL”), a foreign corporation is defined as a corporation whose head office or principle office is domiciled in a foreign country. However, there had been no clear guidance on how to determine whether a foreign organization is a foreign corporation under the CITL. The amended CITL has introduced specific guidance such that a foreign organization can be classified as a foreign corporation if one of the following criteria is met:

  • The organization has a legal personality in accordance with relevant laws under which it is established
  • The organization is only composed of partners with limited liability
  • The organization has rights and obligations by itself to the extent that it can hold assets or file a lawsuit independent of its members
  • The organization is identical or similar to a domestic organization treated as a corporation under Korean laws such as commercial laws, etc          

Application of an arm’s length principle to cross-border intra-company transactions

Under the amended CITL, Korean source income earned by a foreign company’s domestic place of business from its transactions with its head office or overseas branches shall be clearly calculated based upon an arm’s length principle under the Law for Coordination of International Tax Affairs. As such, expenses incurred from cross-border intra-company transactions shall be only deductible when actually settled by existing agreements within an arm’s length range.

However, the following expenses from intra-company transactions shall not be deductible for corporate tax purposes:

  • Interest expenses arising from loan transactions (excluding interest expenses incurred by a branch of foreign bank)
  • Guarantee fees arising from secured transactions

Clarification on foreign source income in calculating foreign tax credit limits

Under the amended CITL, foreign source income in calculating foreign tax credit limits shall be calculated after subtracting expenses directly or indirectly associated with such foreign source income, where the expenses are treated as deductible expenses for corporate income tax purposes. Further, the decreased amount of foreign tax credit caused by reduction in foreign tax credit limits after subtracting the corresponding expenses from the foreign source income shall not be carried forward. 

Under the previous CITL, in cases where an overseas subsidiary of a domestic corporation received dividends from its overseas subsidiary (i.e., a subsidiary of a subsidiary of a domestic corporation), 50% of the foreign tax credit amount enjoyed by the subsidiary of the domestic corporation in respect of the corporate income tax corresponding to the dividends received from its overseas subsidiary was applied as a foreign tax credit for the domestic corporation. 

The amended CITL has expanded the scope such that 50% of the tax exemption enjoyed by a subsidiary of a domestic corporation in respect of corporate income tax corresponding to the dividends received from its overseas subsidiary shall also be applied as a foreign tax credit for a domestic corporation.

Expansion in scope of Korean source income which is subject to submission of a payment statement

In general, a withholding agent shall submit a payment statement by the end of February on an annual basis.

Under the previous tax laws, there was no requirement to submit a payment statement in respect of Korean source income earned by a foreign corporation or non-resident of Korea where the withholding tax amount was below KRW 1,000.

However, under the amended tax laws, capital gains earned by a foreign corporation or non-resident of Korea that  arise from the disposal of shares (including shares of a company whose assets consist mainly (more than 50%) of real property located in Korea) shall be reported in a payment statement regardless that the withholding tax amount is less than KRW 1,000. Even in cases where no withholding tax applies because a capital loss arises, such transactions shall be included in a payment statement in order for the Korean tax authorities to assess the appropriateness of transactions from a tax perspective.