Income Tax Issues on the Foreign Private Investment Funds Comparison between the KSC cases and CITA November 9, 2017 Dr. Jae-hyung Jang(Yulchon LLC)

Transcription

1 Income Tax Issues on the Foreign Private Investment Funds Comparison between the KSC cases and CITA November 9, 2017 Dr. Jae-hyung Jang(Yulchon LLC) Copyright 2017 Yulchon LLC.

2 Contents I. Structure of Investment Funds II. KSC cases III. Articles of the CITA IV. Comparison and Issues V. Conclusion

3 Structure of Investment Funds

4 Structure of Investment Funds (1) Investment Fund is a vehicle that investors pool their funds for making and investing in the portfolio investments. Foreign Investment Fund is a vehicle established outside of the domestic area, and is usually treated as transparent entity at that established country. Foreign Private Investment Fund (FPIF) is open to a limited range of investors. Compared to the CIV, it holds less diversified portfolio of securities. 4

5 Structure of Investment Funds (2) Legal form of FPIF is a Limited Partnership having GP and LP. GP is in charge of the operation of fund. LP is a investor. For effective management of the investment risks, FPIF usually use SPC for their investments on the securities. Legal form of SPC is a corporation. 5

6 Structure of Investment Funds (3) General Partner Investors (limited partners) FPIF SPC Investments 6

7 NTS position before KSC decision on 2012 Treated LP or LLC as a transparent entity and exercised its taxing right focusing on its investors (LP). NTS announcement -2624, If US LLC is treated as a partnership, verify the residences of partners, and apply the applicable tax treaty between the ROK and the country of residence of each partner. 7

8 Tax consequences 1 No BO / SO Suppose SPC and FPIF are all corporates. Treaty ; Div, Int 10%, CG non taxable in S Domestic law ; 20% - 20% of CG or 10% of sales price S R Result SPC in treaty partner Tax but in treaty be nefit Minor liabilities Tax but in treaty be nefit FPIF in low tax but non treaty country NA Corporate - Dividend - Participation exe mption Minor tax if any Investors in treaty partner in non treaty country NA Taxed when distrib uted Taxed when distrib uted Tax deferred to the time of distribution 8

9 Tax consequences 2 before 2012 Suppose SPC and FPIF are all pass-through entities. Treaty ; Div, Int 10%, CG non taxable in S Domestic law ; 20% 20% of CG or 10% of sales price S R Result SPC in treaty partner FPIF in low tax but non treaty country Investors in treaty partner in non treaty country Pass-through Pass or Minor liabilities Pass-through Pass-through No Tax Tax Tax - FTC or exempt No Tax or minor liabilities Tax Single taxation on investors. 9

10 Tax consequences 3 After 2012 Suppose SPC is a pass-through entity, and FPIF is a corporate / BO. Treaty ; Div, Int 10%, CG non taxable in S Domestic law ; 20% 20% of CG or 10% of sales price S R Result SPC in treaty partner FPIF in low tax but non treaty country Investors in treaty partner in non treaty country Pass-through Taxed as a corporate Pass or Minor liabilities Pass-through No Tax or minor liabilities Tax NA Tax as a partner tax Double taxation on FPIF and investors. 10

11 Tax consequences 4 FPIF is placed in the treaty country. Suppose SPC is a pass-through entity, and FPIF is a corporate / BO. Treaty ; Div, Int 10%, CG non taxable in S Domestic law ; 20% 20% of CG or 10% of sales price S R Result SPC in treaty partner FPIF in low tax and treaty partner Investors in treaty partner in non treaty country Pass-through Taxed as a corporate. Lowered by the pro portion of partners of treaty country Pass or Minor liabilities Pass-through No Tax or minor liabilities Tax NA Tax as a partner tax Lowered by the pro portion of partners of treaty country Double taxation on FPIF and investors. FPIF s tax liabilities is lowered. 11

12 Decisions of the KSC after 2012

13 (1) Decisions of the KSC since 2012 FPIF is the beneficial owner of the income from its investment of securities The tax treaty or the domestic tax law shall be applied according to the residence of the FPIF. Usually FPIF is placed in the low tax territories having no tax treaty with ROK. Although many investors are residents of the country which has the tax treaty with ROK, the treaty benefits can not be conferred to the income from the FPIF. 13

14 (2) Reasoning behind decisions of the KSC(1) FPIF is the beneficial owner of the income from its investment of securities The FPIF (its legal form is the LP) is a corporate entity for the tax purpose, because it has the definite purpose of investment, and the assets separate from its partners. Since it is a separate entity, it shall be taxed as a separate entity, not an association of persons. 14

15 (2) Reasoning behind decisions of the KSC(2) FPIF is the beneficial owner of the income from its investment of securities The SPC is the formal party of securities transactions. However, it shall be disregarded for the tax purpose by the substance over form principle. FPIF is established in the low tax territories to avoid its high tax liabilities for the income from investments, but that territories do not have tax treaty with ROK. SPC are usually located in Netherlands or Luxembourg whose treaty with ROK provides the exemption or the low tax rate on the income such as capital gains, dividends or interest. 15

16 (2) Reasoning behind decisions of the KSC(3) FPIF is the beneficial owner of the income from its investment of securities Although the legal form is a corporate body, if it is established for the tax avoidance, it shall be disregarded. In that case, the person controlling and managing its assets shall be the taxpayer of the income generated from those assets. 16

17 OIV Rule of CITA in Korea

18 OIV Rule of CITA made 2012 Article 98-4 and 98-6 were made 2012 and 2014 respectively. It is for the application procedure on the tax treaty benefit. Where the relevant domestic source income is paid through a foreign investment fund, the foreign investment fund shall receive a request for application of zero or limited tax rates from the relevant substantive owner and submit a report made out of that request to the withholding agent (usually payer of income). When its request is proved as valid, the withholding agent applies zero or limited tax rates according to the tax treaty between the country of the relevant substantive owner and ROK. * OIV : Overseas Investment Vehicle = FPIF. It supposes that FPIF may not be the beneficial/substantive owner. 18

19 Substantive owner Presidential Decree The substantial owner is the person having substantive ownership on the income, bearing legal or economic risks and having rights to dispose its income. OECD commentary has the similar wording 12.4 In these various examples (agent, nominee, conduit company acting as a fiduciary or administrator), the direct recipient of the dividend is not the beneficial owner because that recipient s right to use and enjoy the dividend is constrained by a contractual or legal obligation to pass on the payment received to another person. (Commentary to Art. 10.) Under these sentences, FPIF may not be the substantive owner. 19

20 Comparison between the KSC and CITA

21 Comparison KSC decisions CITA articles Legal form of FPIF FPIF is a corporate entity Not relevant Whether FPIF is a substantive/beneficial owner Concept of the beneficial or substantive owner Tax avoidance intent Yes, if it is a corporate entity. Control and management of assets Relevant. Especially for the disregard of a corporate entity. The substantive owner can be separately existent. Enjoyment of income Not relevant 21

22 Issue 1 The beneficial owner is only one person? OECD Commentary 12.4 on Article 10. In these various examples (agent, nominee, conduit company acting as a fiduciary or administrator), the direct recipient of the dividend is not the beneficial owner because that recipient s right to use and enjoy the dividend is constrained by a contractual or legal obligation to pass on the payment received to another person. (Commentary to Art. 10.) OECD Commentary 6.14 on Article 1. a vehicle will also be treated as the beneficial owner of the dividends and interest it receives, so long as the managers of the CIV have discretionary powers to manage the assets generating such income. 22

23 Issue 1 The beneficial owner is only one person? According to Reimer (2013), two parameters for BO Payment parameters Who has a payment claim? Is the payment due someone else who requests a bypass? Does he perform any kind of personal services in the financial sphere of someone else? 23

24 Issue 1 The beneficial owner is only one person? According to Reimer (2013), two parameters for BO Payment parameters Is the payment due someone else who requests a bypass? Does he perform any kind of personal services in the financial sphere of someone else? Who bears the payment default risk, payment currency risk? Is he entitled to retain the payment and to use the money for any discretionary purpose? 24

25 Issue 1 The beneficial owner is only one person? According to Reimer (2013), two parameters for BO Asset parameters Special relationship to the income generating objects. Irrelevance where split between asset and yields. Vann(2013), (If CIV report holds) many agents such as a stockbroking firm running a discretionary account will not fail the BO test. 25

26 Issue 2 The scope of the beneficial owner is enough to cover? It may have multiple meanings. Payment parameter Asset parameter It is only used in the three article. Dividends, Interest, Royalties Can it cover the capital gains from shares? 26

27 Issue 2 The scope of the beneficial owner is enough to cover? It may have a different scope with the domestic law. Previous Article 10 (2) OECD model if the recipient is the beneficial owner of the dividends Article 98-6 of CITA shall receive a request for application of zero or limited tax rates from the relevant substantive owner 27

28 Issue 3 The low-tax is sufficient condition for the tax avoidance? Is the placement of FPIF in the low tax territory the avoidance. If the list of the substantive owners of the income is reported to the tax authority, and those owners are taxed accordingly with the tax treaty and the domestic law, the placement of a vehicle in the low tax territory may not be the tax avoidance. However, it has to be noted that placement in such territory has the definite tax benefit. Can that be a justifiable management of funds? 28

29 Conclusion

30 Thank You Jang, Jae Hyung Tel: Parnas Tower, 38F, 521 Teheran-ro, Gangnam-gu, Seoul 06164, Korea Tel: Fax: Web Site: 30

31 Yulchon LLC Parnas Tower, 38F, 521 Teheran-ro, Gangnam-gu, Seoul 06164, Korea Tel: Fax: Ho Chi Minh City, Vietnam Unit 03, 4th Floor, MPlaza Saigon, 39 Le Duan St., Ben Nghe Ward, Dist.1, Ho Chi Minh City, Vietnam Tel: Fax: Hanoi, Vietnam 27th floor, East Wing, Lotte Center Hanoi, no. 54 Lieu Giai street, Cong Vi ward, Ba Dinh district, Hanoi. Tel: Fax: Beijing, China Yangon, Myanmar Unit 6, 7F, Tower 1, HAGL Myanmar Centre Tower, 192, Kabar Aye Pagoda Road, Bahan Township, Yangon, Myanmar Tel: Fax: Moscow, Russia 12th Fl. White Gardens Business Center, 7 Ulitsa Lesnaya, Moscow, Russian Federation, Tel: Fax: moscow@yulchon.com Jakarta, Indonesia (Associated firm) The Energy, 32nd Floor, SCBD Lot 11A, Jalan Jenderal Sudirman, Kav , Jakarta 12190, Indonesia Tel : Fax : jakarta@yulchon.com