[1] In a case where a corporation which is a specialized credit financial business company fails to set a bad debts allowance in violation of the relevant provisions compelling the establishment of bad debts allowance, whether it can be deemed that the loss was caused by the principle of substantial taxation (negative)

[2] Where a merged corporation, which fails to succeed to losses pursuant to Article 45 (1) 2 of the former Corporate Tax Act, did not establish a allowance for bad debts before the settlement of accounts to avoid this, thereby allowing the merged corporation to succeed to the bad debts before the settlement of accounts, and thereby recognizing the bad debts fund of the specialized credit financial business company as losses of the merged corporation, whether such act constitutes an illegal act where the return of income was made by mistake or omission or an act contrary to the good faith principle

[1] The allowance for bad debt under Article 34 (1) of the former Corporate Tax Act (amended by Act No. 9267 of Dec. 26, 2008) falls under the settlement adjustment item that the corporation considers as losses only after the settlement of accounts is reflected in the settlement of accounts. Thus, whether the corporation recognizes the bad debt of a certain claim as losses only when the cause of bad debt occurs in reality or if the cause of bad debt is established by establishing bad debt allowance according to the estimated loss, it depends on the corporation’s choice. Therefore, even in a case where a specialized credit financial business company did not set bad debt allowance in violation of the relevant provision that enforced the establishment of bad debt allowance, it cannot be deemed that the bad debt allowance was incurred in light of the principle of substantial taxation, unless the bad debt

[2] Even if an extinguished corporation, which is a specialized credit financial business company, established a allowance for bad debts before the settlement of accounts, was returned without being reflected in the settlement of accounts, it cannot be deemed as losses of the extinguished corporation. Thus, the merged corporation acquiring monetary claims from a specialized credit financial business company upon merger, only succeeds to the book value at which the allowance for bad debts is not established pursuant to the proviso of Article 72(1)3 of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 18706, Feb. 19, 2005). Even if a merged corporation, which did not succeed to losses under Article 45(1)2 of the former Corporate Tax Act (amended by Act No. 9267, Dec. 26, 2008), did not constitute an act of unlawful or omission in filing a report of bad debts as losses, by preventing the merged corporation from establishing a allowance for bad debts before the settlement of accounts.

[1] Articles 34(1), 41, and 45(1)2 of the former Corporate Tax Act (Amended by Act No. 9267, Dec. 26, 2008); Articles 61(2)21 (see current Article 61(2)13), and 72(1)3 of the former Enforcement Decree of the Corporate Tax Act (Amended by Presidential Decree No. 18706, Feb. 19, 2005); Article 53-3(1) of the former Specialized Credit Finance Business Act (Amended by Act No. 8863, Feb. 29, 2008); Article 19-7 subparag. 3(1)2 of the former Enforcement Decree of the Specialized Credit Finance Business Act (Amended by Presidential Decree No. 20549, Jan. 18, 2008); Article 61(2)21 of the former Enforcement Decree of the Corporate Tax Act (Amended by Act No. 18701, Feb. 16, 2007>

National Bank (Attorney Son Ji-yol et al., Counsel for the defendant-appellant)

The Superintendent of the Central Tax Office (Law Firm and other Appellants, Counsel for the plaintiff-appellant)

Seoul High Court Decision 2011Nu13417 decided January 12, 2012

The appeal is dismissed. The costs of appeal are assessed against the defendant.

The grounds of appeal are examined (to the extent of supplement in case of supplemental appellate briefs not timely filed).

1. As to the grounds of appeal related to the inclusion of allowance for bad debts in inherited claims in deductible expenses

A. Article 34(1) of the former Corporate Tax Act (amended by Act No. 9267 of Dec. 26, 2008; hereinafter the same) provides that "where a domestic corporation appropriates allowances for bad debts for bad debts in order to cover bad debts of credit account sales, loans and other corresponding claims during each business year, they shall be included in deductible expenses within the scope of the amount calculated as prescribed by Presidential Decree." However, Article 53-3(1) of the former Specialized Credit Finance Business Act (amended by Act No. 8863 of Feb. 29, 2008), Article 19-7 subparag. 3 of the former Enforcement Decree of the Specialized Credit Finance Business Act (amended by Presidential Decree No. 20549 of Jan. 18, 2008) and Article 11 of the Specialized Credit Finance Business Act provide that it shall classify assets at the time of settlement of accounts for each business year so that it may accumulate bad debts calculated by applying a certain ratio of bad debts in accordance with the classification.

Meanwhile, the proviso of Article 72(1)3 of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 18706, Feb. 19, 2005; hereinafter the same) prescribing the acquisition value of assets upon delegation of Article 41 of the former Corporate Tax Act provides that where a merged corporation acquires monetary claims, etc. from a specialized credit financial business company under the Specialized Credit Financial Business Act under Article 61(2)21 of the former Enforcement Decree of the Corporate Tax Act through a merger, the merged corporation shall be deemed the acquisition value of the merged corporation’s book value. In addition, Article 45(1)2 of the former Corporate Tax Act provides that the merged corporation may not succeed to the losses carried forward of the merged corporation if the merger corporation fails to meet the requirements that “the stocks, etc. received by stockholders, etc. of the merged corporation from the merged corporation

B. The allowance for bad debts under Article 34(1) of the former Corporate Tax Act constitutes a settlement adjustment item that the corporation considers as losses only when the settlement of accounts is reflected in the settlement of accounts. Thus, whether a corporation recognizes bad debts as losses only when the cause of bad debts accrues in reality or before the actualizing the cause of bad debts by creating bad debts allowance according to estimated losses depends on the corporation’s choice. Therefore, even if a corporation which is a specialized credit financial business company did not establish bad debts allowance in violation of the relevant provisions compelling the establishment of bad debts allowance, unless the bad debts allowance is actually established, it cannot be deemed that bad debts occurred due to the principle of substantial taxation. In addition, even if an extinguished corporation which is a specialized credit financial business company has established bad debts allowance before the settlement of accounts, even if it was returned without being reflected in the settlement of accounts, it cannot be deemed as losses of the merged corporation. Thus, even if the merged corporation acquiring bad debts fund through the merger of a specialized credit financial business company constitutes bad debts allowance under the proviso of Article 72(1)3 of the former Enforcement Decree of the Corporate Tax Act, which would not have been established bad debts allowance after the settlement of accounts.

C. Comprehensively taking account of the evidence adopted, the lower court found that (i) the Plaintiff was merged with the National Credit Card Co., Ltd. (hereinafter “National Card Co., Ltd.”) on September 30, 2003 at the request of the Government intending to manage so-called “credit card situation”; (ii) the allowance for bad debts that the National Credit Card Co., Ltd., which is a specialized credit financial business company, should have established in accordance with the Specialized Credit Financial Business Act supervision regulations, etc. with respect to the bonds held at the time of the merger (hereinafter “instant bonds”) was KRW 1,266,40,343,264 (hereinafter “the instant allowance for bad debts”); (iii) the stocks issued by the Plaintiff to the stockholders, etc., a merged corporation, were 2.4% of the total number of stocks issued as of the date of the registration of the merger, and thus, it was impossible for the Plaintiff to receive the bad faith allowance for bad debts from the Plaintiff’s total income deduction for the instant business year due to the merger without the Plaintiff’s allowance for bad debts.

Furthermore, the court below rejected the defendant's assertion that the establishment of the allowance for bad debts is unlawful, on the ground that the national card is entitled to choose whether to establish the allowance for bad debts, and that unless the national card, which is an extinguished corporation, does not establish the allowance for bad debts, the plaintiff, the merged corporation, will succeed to the monetary claim in the national card that did not establish the allowance for bad debts at the book value, so the plaintiff may establish the allowance for bad debts in relation to the claim in this case after the merger and include the allowance for bad debts in deductible expenses. Thus, the court below rejected the defendant's assertion that the establishment of the plaintiff's allowance for bad debts in the claim in this case, as an error or omission of the return of income, is subject to

D. Examining the above provisions, legal principles, and records, the judgment of the court below is just. Contrary to the allegations in the grounds of appeal, there were no errors in the misapprehension of legal principles as to the acquisition value of assets, the succession to and restriction on losses carried forward or allowances for bad debts, the principle of substantial taxation, or

2. As to the ground of appeal regarding the wrongful calculation father

A. Article 52(1) of the former Corporate Tax Act provides, “Where the head of a district tax office having jurisdiction over the place of tax payment or the head of a district tax office having jurisdiction over the place of tax payment deems that a domestic corporation’s act or calculation of income amount has unjustly reduced the tax burden on the corporation’s income through transactions with a person with a special relationship, he/she may calculate the income amount for each business year of the corporation, regardless of the corporation’s act or calculation of income amount (hereinafter “calculated calculation division”). Article 88(1) of the former Enforcement Decree of the Corporate Tax Act upon delegation of Article 52(4) of the former Corporate Tax Act provides, “Where a domestic corporation purchases or receives assets in kind at a price higher than the market price or acquires assets in excess of the market price” (Article 52(1)1 of the former Enforcement Decree of the Corporate Tax Act

B. The court below held that the disposition of this case was unlawful on the ground that, even if the plaintiff succeeded to the bonds of this case from the national card upon the merger, it is only the effect of the merger, and it cannot be deemed that the plaintiff selected a abnormal transaction form. Since the wrongful calculation division under Article 88 (1) 1 and 4 of the former Enforcement Decree of the Corporate Tax Act is a provision on the premise of specific succession of assets or investment in kind, it cannot be applied to the succession of the bonds of this case by the general successor by the merger, even if the accounting of the national card violates the corporate accounting standards, the real value of the bonds of this case acquired by the merger does not vary even if the plaintiff's corporate accounting of the national card violates the corporate accounting standards, since the national card's succession to the book value by the merger cannot be deemed to be subject to the avoidance of wrongful calculation or to lack

C. Examining the relevant provisions, legal principles, and records, the lower court’s determination is justifiable, and contrary to what is alleged in the grounds of appeal, there were no errors by misapprehending the legal principles on the subject of and requirements for wrongful calculation

3. Conclusion

Therefore, the appeal is dismissed, and the costs of appeal are assessed against the losing party. It is so decided as per Disposition by the assent of all participating Justices.

Justices Kim Chang-suk (Presiding Justice)