Classifying a Foreign Incorporated Corporation as a Domestic Corporation for Korean Tax Purposes: “Actual Business Management Place” Rule

그림 67When a foreign incorporated company does a business in Korea, it is very fundamental to determine whether the company is a domestic or a foreign corporation for Korean tax purposes.  A major difference in tax liability is that, in principle, a foreign corporation is liable for taxes only on the incomes generated in Korea rather than a worldwide income.

In this regard, the Corporate Tax Ac of Korea(“CTA”) defines a “domestic corporation” as a corporation with its headquarter, main office, or actual business management place located in Korea, and a “foreign corporation” as an organization which has its head office or principal place of business in a foreign country.  What makes distinguishing domestic corporation for a foreign corporation under CTA difficult and challenging is the meaning and application of the term of “actual business management place” set forth in CTA.  For example, in a case decided by the Supreme Court of South Korea in 2016, a Singapore incorporated company had challenged the Korean tax authority’s decision that its actual business management place was in Korea.

The Singapore company had a wide variety of international business portfolio and among them was a trading foreign issued corporate bonds including a Korean corporate bond.  The Korean tax authority decided that the company’s actual business management had taken place in Korea after finding the facts that the company had a liaison office in Korea, one of the directors was residing in Korea and financial documents relating to the Korean business was stored and managed in Korea.  And this resulted in the company’s Korean tax liability on its worldwide income.  To say the conclusion first, the Supreme Court ruled in favor of the Singapore company.  It is worth looking into more of the highest court’s reasoning as it provided a guideline for the interpretation and application of “actual business management place” rule set forth in CTA.

According to the Supreme Court, “actual business management place” means a place where critical management and commercial decisions are made in order for a corporation to carry out business activities.  Critical management and commercial decisions refer to a corporation’s long-term management strategy, basic policy, finance and investment, management and disposal of key assets, and core revenue generating activities.  Having said that, the Supreme Court held that, in determining the place of actual business management, the court should look to totality of circumstances such as (i) the place where meetings of the Board of Directors or other equivalent decision-making bodies generally convene, (ii) the place where the chief executive officer (CEO) and other executives normally conduct business, (iii) the place where senior managers carry out responsibilities on a daily basis, and (iv) the place where accounting documents are recorded and kept. Especially, the highest Court added that, as a corporation’s actual business management place needs to ensure continuity of activity or operation, if the foreign corporation sets its overall business plan at its home country and merely carrys out a specific business activitiy for a short period in Korea, it cannot be concluded that the corporation has relocated its actual business management place to Korea.

Back to the case at hand, the Supreme Court noted that (i) the Singapore company’s main business and source of income was in and generated from Singapore, (ii) the company’s decision of trading Korean bonds was made by the directors using emails in and out of Singapore, (iii) accounting documents other than the one relating to Korean bonds were kept and managed in Singapore, (iv) the company paid taxes in Singapore.  Given these facts and based on the legal standards provided above, the highest court concluded that the Singapore company should be classified as a foreign corporation under CTA, as the Singapore company’s Korean business was only a part of its business portfolio with being carried out for a short period of time and did not severe its business relationship with Singapore, which all lead to the conclusion that the Singapore company did not relocate its business management place to Korea.

In sum, it should be well noted that a foreign incorporated company doing a business in Korea is subject to the taxation on either Korean sourced income or worldwide income depending on its classification as a foreign corporation or a domestic corporation under CTA.  The CTA does not follow a simple “place of incorporation” rule but implemented “actual business management place” rule.  And the above Supreme Court case is noteworthy in that a foreign incorporated company who wishes to do a business in Korea can use this ruling as a general guidance on how to structure its business management plan in terms of Korean tax liability.

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