Corporate Taxes Paid by Foreign Companies Reduces 3 Trillion Won in 3 Years

Although the South Korean government shows an increase in tax revenue, the corporate taxes paid by foreign companies decreased nearly 3 trillion won (US$2.64 billion) in the past three years. Accordingly, all eyes are on the backdrop.

According to the data from the government on April 9, the national tax income grew by 24.7 trillion won (US$21.72 billion), or 11.3 percent, to 242.6 trillion won (US$213.37 billion) from 2015 to 2016. The increase was higher than 23 trillion won (US$20.23 billion) in 2007, which was a historic record high. The national tax income continuously rose after it stood at 201.9 trillion won (US$177.57 billion) in 2013, down 1.1 trillion won (US$967.46 million) from a year earlier. As the economy expanded, the tax revenues naturally increased as well.

However, the taxes paid by foreign companies operating in Korea, including companies invested by foreigners and domestic branches of foreign firms, are rapidly shrinking, going backward. The total tax payable in terms of tax return and tax payment in March dropped by 2.85 trillion won (US$2.5 billion) from 8.12 trillion won (US$7.13 billion) in 2012 to 5.27 trillion won (US$4.62 billion) in 2015. It means that one third of the corporate taxes paid by foreign firms, or 35.1 percent, disappeared in three years. The ratio of the taxes paid by foreign companies to the total corporate taxes also plunged from 20.1 percent of 40.34 trillion won (US$35.37 billion) in 2012 to 13.2 percent of 39.77 trillion won (US$34.88 billion) in 2015.

When taking a look at taxes paid by industry, the external cause can be found. The taxes paid by foreign investment companies in the manufacturing industry shrunk markedly. The figure showed a whopping 36 percent decrease, or 1.25 trillion won (US$1.09 billion), in three years from 3.47 trillion won (US$3.04 billion) in 2012 to 2.22 trillion won (US$1.95 billion) in 2015. It accounted for 43.8 percent of 2.85 trillion won (US$2.5 billion) of the decrease in the total taxes paid by foreign companies. Foreign investment companies in the manufacturing industry, which are stipulated by the Foreign Investment Promotion Act, refer companies established in South Korea and invested more than 10 percent of shares, over 500 million won (US$43,848) per person, by foreign investors.

It is difficult to figure out why the total taxes decreased. However, tax accounting industry sources pointed out three causes for the trend.

First, multinational companies send excessive profits to their holding companies overseas and evade taxes in South Korea. A lawyer specializing in international tax said, “When South Korea-based foreign investment companies in the manufacturing industry sell products, services and intermediary goods to their holding companies headquartered in other countries and get paid lower than it should be, their profits increase while reducing taxes in South Korea. There is a chance that they committed a tax dodge like this. If the taxes paid by foreign investment firms decreased due to the sluggish manufacturing market, the corporate taxes paid by South Korean manufacturing companies should be dropped as well but it increased.” In fact, the corporate taxes paid by South Korean manufacturing firms grew 13.3 percent from 12.79 trillion won (US$11.21 billion) in 2012 to 14.49 trillion won (US$12.69 billion) in 2015.

There are precedents of foreign companies criticized for making a profit but not paying taxes in South Korea. According to the data from the National Tax Service (NTS) revealed by Lee Man-woo, a lawmaker of the then Saenuri Party, in 2015, 4,752 out of 9,523 foreign firms turned over profits in South Korea in 2013 paid no taxes. In particular, 15 out of 90 foreign companies with sales of more than 1 trillion won (US$875.66 million) paid no taxes at all and 17 out of 82 firms with sales of 500 billion won to 1 trillion won (US$437.91 million to 875.66 million) paid no corporate taxes. They evaded taxes by paying a large amount of royalties overseas and making no paper gains.

Some make a counterargument against the same analysis. Ahn Jong-seok, a researcher at the Korea Institute of Public Finance, said, “We need to analyze microscopically. But, there is a slim chance that foreign investment companies in the manufacturing industry sell products to their holding companies and reduce the bills as the National Tax Service and the Korea Customs Service cross-check on them.”

It cannot rule out the possibility that only foreign companies struggled due to South Korea’s strict regulations. The number of foreign manufacturing companies, which reported corporate taxes to the NTS, stood at 2,081 in 2015, down 6.6 percent in the past three years. On the other hand, a total number of manufacturing companies which reported corporate taxes to the NTS, including Korean firms, increased 22.6 percent to 591,694. In short, there is a possibility that the corporate taxes paid by foreign manufacturing companies dropped because they failed to adapt and withdrew from the Korean market due to tougher restrictions in South Korea or saw their profits plunge.

The sharp decline in the corporate taxes paid by financial and insurance companies as well as manufacturing companies also decreased the total taxes paid by foreign companies. The corporate taxes paid by foreign financial and insurance companies dropped as much as 987.18 billion won (US$865.34 million), or 62.1 percent, in three years from 1.59 trillion won (US$1.39 billion) in 2012 to 602.98 billion won (US$528.47 million) in 2015. The figure accounted for 34.6 percent of the total decrease in the corporate taxes paid by foreign companies of 2.85 trillion won (US$2.5 billion). Ahn said, “The corporate taxes of financial and insurance companies plunged as foreign financial companies withdrew from South Korea over the same period.” The net profits of foreign banks’ domestic branches showed a whopping decrease of 61 percent from 2.43 trillion won (US$2.13 billion) in 2009 to 936.2 billion won (US$820.01 million) in 2013. The gap in interest rates between South Korea and advanced countries, including the U.S., narrowed at that time due to lower domestic interest rates. In addition, there was a lower market volatility as it successfully went through a financial crisis in Europe. Accordingly, foreign financial companies made a gradual exodus from the South Korean market, including Goldman Sachs Asset Management in South Korea in 2012.