[1] The meaning of "subscriber" under Article 40 (1) of the former Inheritance Tax and Gift Tax Act, and whether a person acquiring convertible bonds, etc. for simple investment purposes falls under such meaning (negative in principle)

[2] Legislative intent of Article 2(4) of the former Inheritance Tax and Gift Tax Act that stipulates that gift tax shall be imposed by deeming it as a continuous act or transaction according to the economic substance where the gift tax is unjustly reduced by two or more acts or transactions / Whether a taxpayer may be subject to gift tax pursuant to the said provision solely on the basis of the result after a variety of transactions are conducted (negative)

[3] In a case where there exists a reasonable ground to believe that a transaction partner is making a transaction by appropriately reflecting the objective exchange value or there is a reasonable ground to deem a transaction by such transaction terms as normal from a reasonable economic perspective, whether the transaction partner may be deemed as having justifiable grounds under Article 42(3) of the former Inheritance and Gift Tax Act (affirmative), and whether gift tax may be imposed on the basis of the above provision (negative in principle)

[4] In a case where Gap corporation issued bonds with warrants to a private equity fund, Eul, the shareholder of Gap corporation and the representative director of Eul, purchased the preemptive right separated from the above bonds from Eul private equity fund, and Eul filed a claim for refund of gift tax paid after reporting and paying gift tax on profits acquired by acquiring the preemptive right, but the tax authority rejected such claim and additionally notified gift tax, the case holding that the judgment below erred by misapprehending the legal principles, in light of all the overall circumstances, where the gift tax cannot be imposed pursuant to Article 40 (1) 2 of the former Inheritance Tax and Gift Tax Act, and the gift tax cannot be imposed pursuant to Article 42 (1) 3 of the former Inheritance Tax and Gift Tax Act

[1] Article 40(1)1(b) and 2(b) of the former Inheritance Tax and Gift Tax Act (Amended by Act No. 11609, Jan. 1, 2013); Article 9(7), (8), (9), (11)1 (see current Article 9(11) and (12) of the former Financial Investment Services and Capital Markets Act (Amended by Act No. 11845, May 28, 2013); Article 2(1) and (3) of the former Inheritance Tax and Gift Tax Act (Amended by Act No. 11609, Jan. 1, 2013; see current Article 4(1) and (4) of the former Inheritance Tax and Gift Tax Act (Amended by Act No. 11609, Jan. 1, 201); Article 14(3) of the former Framework Act on National Taxes (Amended by Act No. 11845, Jan. 1, 2013; see current Article 14(15(1) of the Framework Act) / [2)

[1] Supreme Court Decision 2017Du49560 Decided May 30, 2019 (Gong2019Ha, 1331) / [2] Supreme Court Decision 2017Du57899 Decided April 11, 2019 (Gong2019Sang, 1122) / [2] Supreme Court Decision 2015Du3270 Decided January 25, 2017 (Gong2017Sang, 475) / [3] Supreme Court Decision 2013Du2495 Decided February 12, 2015 (Gong2015Sang, 486)

Plaintiff (Attorney Lee Jae-de et al., Counsel for the plaintiff-appellant)

The head of Yangcheon Tax Office

Seoul High Court Decision 2016Nu54635 decided December 14, 2017

The part of the lower judgment against the Plaintiff is reversed, and that part of the case is remanded to the Seoul High Court. The Defendant’s appeal is dismissed.

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

1. As to the Plaintiff’s ground of appeal No. 1

A. Article 40(1) of the former Inheritance Tax and Gift Tax Act (amended by Act No. 11609, Jan. 1, 2013; hereinafter “former Inheritance Tax Act”) provides that “In cases where the largest shareholder of a corporation that has issued convertible bonds, etc. or a person specially related with him/her acquires, acquires, or exchanges convertible bonds, bonds with warrant (referring to warrant certificates if they are separated) or other stocks, or bonds entitled to take over stocks (hereinafter “convertible bonds, etc.”) or obtains profits falling under any of the following subparagraphs by converting, exchanging, or taking over stocks with convertible bonds, etc., the amount equivalent to such profits shall be deemed the value of property donated to the person who has acquired such profits, as a result of acquiring or exchanging stocks by acquiring or exchanging convertible bonds, etc. with stocks in proportion to the number of stocks owned by him/her [including cases where the largest shareholder of a corporation that has issued convertible bonds, etc. or a person who has acquired stocks with a special relationship with him/her acquires or exchanges stocks from the relevant corporation at a lower price than their market price by acquiring or exchanging convertible bonds, etc.”

In addition, Article 9(7) of the former Financial Investment Services and Capital Markets Act (amended by Act No. 11845, May 28, 2013; hereinafter “former Financial Investment Services and Capital Markets Act”) provides that “in order to invite 50 or more investors to make an offer to acquire securities newly issued,” Article 9(7) of the former Financial Investment Services and Capital Markets Act (amended by Act No. 11845, May 28, 201; hereinafter “former Financial Investment Services and Capital Markets Act”) does not fall under public offering, and Article 9(8) of the same Act provides that “in order to invite 50 or more investors to make an offer to sell or invite 50 or more investors to make an offer to purchase the securities already issued.” Article 9(11) of the same Act provides that “The act of acquiring all or part of the securities for the purpose of acquiring the securities to a third party,” and Article 9(12) of the same Act provides that “the act of offering and selling the securities constitutes one of each subparagraph 11.”

In light of the contents of the aforementioned relevant laws and regulations, the term “subscriber” under Article 40(1) of the former Inheritance and Gift Tax Act means a person who acquires convertible bonds, etc. for the purpose of acquiring them by soliciting a third party to acquire them for a corporation issuing convertible bonds, etc., and a person who acquires them for the purpose of simple investment without such purpose shall not be deemed an underwriter, barring any special circumstance (see Supreme Court Decision 2017Du49560, May 30, 2019).

B. Review of the judgment of the first instance as cited by the lower court and the record reveals the following facts.

1) On December 3, 2010, 201, a contract was entered into between the Hyban Industries Co., Ltd. (former trade name: Hanban Industries Co., Ltd.; hereinafter “Hyban Industries”) to issue bonds with warrants worth KRW 10 billion in face value (hereinafter “instant bonds with warrants”). On December 7, 2010, the instant bonds with warrants (hereinafter “instant contract”) issued to the instant private equity fund in order to raise funds for the purchase and sale of stocks of the Hyban Institute (former trade name: KubnB Co., Ltd.; hereinafter “Hyban Institute”).

2) On December 3, 2010, the instant private equity fund concluded a sales contract with the Plaintiff on December 3, 2010, to transfer KRW 5 billion (hereinafter “instant warrant certificates”) of the face value of the warrant certificates separated from the instant warrant certificates to KRW 200 million.

3) On January 11, 2012, the Plaintiff purchased the instant warrant certificates from the instant private equity fund, and on November 30, 2012, the Plaintiff acquired 2,942,900 new shares of wellmaninex by exercising the instant warrant certificates at KRW 1,699 per share price.

4) The instant private equity fund did not receive a underwriting fee in return for the transfer of the instant bonds with warrants from the well-dying Tech. The instant contract did not contain any content that the instant private equity fund bears the risk of the issuance of the instant bonds with warrants.

5) Rather, the instant private equity fund acquired the instant bonds with the intention to obtain investment returns by participating in the right of management of the Hysluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyl Lyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyluri Kyl Lyn

6) In addition, in order to secure the repayment of the instant bonds with warrants, the instant private equity fund created a pledge right to the shares of the Hymangwon, and requested the Plaintiff and the Plaintiff to purchase the instant warrant certificates in order to minimize the risks associated with the investment of the instant bonds with warrants, and there is no evidence to deem that the instant warrant certificates were publicly offered, privately placed, and sold in accordance with Article 9 of the former Capital Markets Act.

C. Examining these facts in light of the aforementioned legal principles and records, it is reasonable to view that the instant private equity fund acquired the instant bonds with warrants as an investor, not an underwriter under the former Capital Markets Act, on the ground that the private equity fund constitutes an underwriter under the former Capital Markets Act. Nevertheless, the lower court determined otherwise that the part within the reasonable tax scope of the instant disposition based on the premise that Article 40(1)2(b) of the former Inheritance and Gift Tax Act is applicable. In so determining, the lower court erred by misapprehending the legal doctrine on the underwriter under Article 40(1)(b) of the former Inheritance and Gift Tax Act, thereby adversely affecting the conclusion of the judgment. Accordingly, the Plaintiff’s ground of appeal pointing this out is with merit.

2. As to the Plaintiff’s grounds of appeal Nos. 2 and 3 and Defendant’s grounds of appeal

A. Article 2(1) of the former Inheritance and Gift Tax Act provides that gift tax shall be imposed on donated property from another person’s donation. Article 2(3) of the same Act provides that “Where it is deemed that the inheritance tax or gift tax has been unjustly reduced by either an indirect method via a third party or a method of performing two or more acts or transactions, it shall be deemed that the relevant party directly trades in accordance with the economic substance or by deeming that the relevant party is a single act or transaction in succession, regardless of the name, form, purpose, etc. of such act or transaction.”

Article 2(4) of the former Inheritance and Gift Tax Act provides that gift tax shall be imposed by deeming the act or transaction subject to gift tax as a continuous single act or transaction according to its economic substance where it is deemed that the act or transaction subject to gift tax has been reduced unfairly through two or more acts or transactions. In order to achieve the effect of gift through a variety of stages of transactions bypassing or changing the transaction, and to cope with the act of tax evasion that unfairly reduces gift tax, it is intended to deny such a variety of stages of transactions and to impose tax on the substance by deeming the transaction as a single act or transaction subject to gift tax at a gift tax level. However, one of the forms of application of the substance over form principle is intended to promote fair taxation by prescribing one of the various legal relations in order to achieve the same economic purpose, and the tax authority as a taxpayer may respect the legal relationship chosen by the parties, barring any special circumstances, and the outcome of the transaction after multiple stages of transactions may intervene in compensation for losses, etc. and external factors or acts, etc., which are subject to gift tax (see, e.g., Supreme Court Decision 2015Do27).

B. Article 42(1) of the former Inheritance and Gift Tax Act provides that “In cases where profits other than donations pursuant to Article 40, which fall under any of the following subparagraphs and exceed the standard prescribed by Presidential Decree, are earned, such profits shall be deemed the value of donated property to the person who has acquired such profits.” Article 42(1)3 provides that “The profits earned by a transaction which increases or decreases the capital of a corporation, such as conversion, acquisition, and exchange of stocks through convertible bonds, etc. pursuant to Article 40(1).” Meanwhile, Article 42(3) provides that “The profits earned by a transaction between a person who is not a specially related person prescribed by Presidential Decree

The legislative purport of Article 42(1) of the former Inheritance and Gift Tax Act, which requires the transaction partner to levy gift tax on the profits earned from the acquisition and exercise of warrant certificates in cases where the transaction partner transfers the profits gained from the acquisition and exercise of warrant certificates to the transaction partner free of charge by abnormal means, is to cope with and promote fairness in taxation. However, in a transaction between unrelated parties, it is a general and easy way to allow the transaction partner to gain gift by giving up an opportunity to gain benefits in a general and easy manner. As such, Article 42(3) of the former Inheritance and Gift Tax Act requires that Article 42(1) of the former Inheritance and Gift Tax Act should not be applied in cases where “justifiable cause for transaction practice” exists. Therefore, even if a transaction partner gains profits from the acquisition and exercise of warrant certificates through a transaction between unrelated parties, there is no reasonable reason to believe that the transaction partner should appropriately exchange the price, or from a reasonable economic point of view, it is reasonable to deem that there is no justifiable reason to impose gift tax under Article 25(1)4(2) of the former Inheritance and Gift Tax Act.

C. Review of the judgment of the first instance as cited by the lower court and the record reveals the following facts.

1) Until December 9, 2010, well-known Kychotex need to raise funds for the purchase and sale of the shares of the Gychoglon Kycho. However, given that the instant private equity fund proposed the investment method by issuing bonds with warrants and had the instant bonds with warrants issued to the instant private equity fund, the instant bonds with warrants are transactions for business purposes in itself.

2) Upon the request of the instant private equity fund, the Plaintiff purchased the instant warrant certificates in KRW 200 million, 4% of the face value (5 billion won) of the face value. The private equity fund of this case, which, as the private equity fund of this case, had the Plaintiff, a shareholder and representative director, guarantee the redemption of the instant warrant certificates, could obtain investment profits from the sale of the warrant certificates, and as the Plaintiff, as well, could minimize business restrictions while securing the trade fund of the shares of the Hyblon and the Plaintiff.

3) The Plaintiff acquired new shares of Gaman Kymanex by exercising the warrant certificates of this case at KRW 1,699 per share, adjusted to KRW 3,774 per share, the exercising price of the warrant certificates of this case, and the exercising price is determined objectively in accordance with the provisions on the issuance and public disclosure of securities.

4) Since the issuance of the instant bonds with warrants, the share price per week of the HyblBT began to decline continuously since the end of 2012. The Plaintiff’s exercising interest in the instant bonds with warrants seems to have resulted from the Plaintiff’s increase in share price by making efforts to raise funds and improve management due to the issuance of the instant bonds with warrants, and there is no ground to deem that the Plaintiff had sufficiently predicted the share price increase at the time when about two years elapsed after the issuance of the instant bonds with warrants.

5) The Plaintiff’s acquisition price of the warrant certificates of this case 200 million won (5 billion won of face value 5 billion won of face value) corresponds to 4-5% of the face value of the preemptive right that was traded in the securities at the time.

D. Examining these facts in light of the aforementioned legal principles and records, a series of acts from the issuance of the instant bonds with warrants to the exercise of warrant certificates and the acquisition of new stocks cannot be deemed to have been performed normally in order to unjustly avoid or reduce gift tax without any particular business purpose. Thus, gift tax cannot be imposed pursuant to Article 40(1)2 of the former Inheritance and Gift Tax Act by applying Article 2(4) of the former Inheritance and Gift Tax Act, and furthermore, from a reasonable economic standpoint, from a reasonable economic standpoint, there is a justifiable reason under the transactional practice under Article 42(3) of the former Inheritance and Gift Tax Act, and thus, it cannot be imposed pursuant to Article 42(1)3 of the former Inheritance and Gift Tax Act.

Nevertheless, the lower court determined otherwise, that even if the instant private equity fund does not correspond to an underwriter under the former Capital Markets Act, the Plaintiff entered into a bypass transaction without any difference in acquiring the instant warrant certificates from a well-dying Tech, and that the Plaintiff’s acquisition of the instant warrant certificates from the instant private equity fund cannot be deemed justifiable grounds in light of transactional practices, since it is not a reasonable economic person’s transaction. In so determining, the lower court erred by misapprehending the legal doctrine on Articles 2(4) and 42(1)3 and (3) of the former Inheritance and Gift Tax Act, thereby adversely affecting the conclusion of the judgment. The Plaintiff’s ground of appeal pointing this out is with merit, and the Defendant’s ground of appeal on the premise of objection cannot be accepted without need to further examine.

3. Conclusion

Therefore, the part of the judgment of the court below against the plaintiff is reversed, and that part of the case is remanded to the court below for a new trial and determination, and the defendant's appeal is dismissed. It is so decided as per Disposition by the assent of all participating

Justices Noh Jeong-hee (Presiding Justice)