Whether profits from the exercise of stock options by issuing new stocks are included in deductible expenses.

In order to constitute a loss, the transaction that reduces the net assets of the relevant corporation must be caused by the "transaction that reduces the net assets of the relevant corporation". When exercising stock options, a corporation that has granted the said stock options shall not only increase the capital as much as the value of the exercise of such stock options,

2018Guhap64116 Revocation of Disposition of Rejecting Corporate Tax

AA Corporation

The head of a tax office

November 29, 2018

January 10, 2019

1. All of the plaintiff's claims are dismissed.

2. The costs of lawsuit shall be borne by the Plaintiff.

Cheong-gu Office

The defendant's disposition of refusing to rectify corporate tax of 284,736,371 won for the business year 201, corporate tax of 600,691,352 won for the business year 2012, and corporate tax of 377,147,086 for the business year 2015 shall be revoked.

1. Details of the disposition;

A. The Plaintiff, who is a stock company that runs the manufacturing and sales business of ○○, etc., granted its executives and employees a stock option that allows the Plaintiff to purchase new shares issued by the Plaintiff at a predetermined price (as an exercise price) (hereinafter “new stock option”).

B. Some of the executives and employees of the Plaintiff (hereinafter “instant executives and employees”) exercised a stock option from 2011 to 2014. At the time of filing a corporate tax return for each business year, the Plaintiff did not include the amount equivalent to the gains from the exercise as indicated below (the amount obtained by deducting the exercise value at the market price of new stocks at the time of the exercise; hereinafter “total gains from the exercise of this case”) as deductible expenses (the title omitted).

C. The Plaintiff: (a) deemed that the amount equivalent to the instant event marginal profit was deductible expenses under the Corporate Tax Act; and (b) accordingly, the Plaintiff paid the same amount to the instant executive officers and employees as the cost of labor; (c) accordingly, deemed that the amount equivalent to the instant event marginal profit constituted deductible expenses under the Corporate Tax Act; (d) subsequently, the Defendant issued a request for the correction of the amount of corporate tax to be reduced to KRW 1,294,256,230 for the business year 201; and (e) refund of the reduced amount of corporate tax to KRW 271,428,060; (e) the amount of corporate tax to be reduced to KRW 3,03,456,759; and (e) the amount of corporate tax to be reduced to KRW 600,691,350 for the business year 2013; and (e) the amount of corporate tax to be refunded to the Defendant for correction to KRW 267,714; and (e) the amount of corporate tax to be refunded to KRW 273715.7

D. On August 25, 2017, the Plaintiff appealed to the Tax Tribunal, but the Tax Tribunal dismissed the Plaintiff’s request on January 30, 2018.

[Reasons for Recognition] Unsatisfy, Gap evidence Nos. 1, 2, and 3 (provisional number)

2. Whether the instant disposition is lawful

A. The issues of the instant case

As seen earlier, the Plaintiff filed the instant claim for correction on the premise that the amount equivalent to the gains from the instant event falls under deductible expenses, but the Defendant rendered the instant disposition on the premise that the amount equivalent to the gains from the instant event does not fall under deductible expenses. Therefore, the key issue of the instant claim is whether the amount equivalent to the gains from the instant event falls under the Plaintiff’s deductible expenses for each business year from 2011 to 20

B. Relevant statutes

It is as shown in the attached Form.

C. Determination

1) The former Corporate Tax Act (amended by Act No. 15222, Dec. 19, 2017; hereinafter the same)

Article 19(1) and (2) of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 28640, Feb. 13, 2018; hereinafter the same) provides that "the amount of losses incurred from transactions that reduce the net assets of the relevant corporation, except as otherwise provided for in this Act and other Acts and subordinate statutes" shall be deemed as "amount of losses or expenses incurred or incurred in connection with the business of the relevant corporation, which is generally accepted as ordinary or directly related to profit." Article 19(1) and (2) of the same Act provides that matters necessary for the scope, classification, etc. of such losses shall be prescribed by Presidential Decree. Article 19(3) of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 28640, Feb. 13

On the other hand, Article 340-2 of the Commercial Act provides that "the company may grant its executives and employees the right to receive new shares ("stock option") or the right to purchase its own shares ("stock option" hereinafter) at an amount of exercising new shares by a resolution of the general meeting of shareholders under Article 434 of the Commercial Act, as stipulated by the articles of incorporation, to the executives and employees of the company who will, or will be able to contribute to the incorporation, management, technological innovation, etc. of the company."

2) In light of the following circumstances acknowledged by the content and purport of each of the above provisions, the amount equivalent to the instant event marginal profit does not constitute the Plaintiff’s deductible expenses for each business year from 2011 to 2014. Accordingly, the instant disposition rejecting the instant request for correction is lawful.

A) As seen earlier, the transaction that reduces the net asset value of the pertinent corporation should be caused by the transaction. “In the event that the difference between the actual value of stocks and the exercising value is compensated, the corporation granting the said stock option may reduce the net asset as much as the compensation difference. On the other hand, while the corporation granting the said stock option at the time of exercising the stock option as to the issuance of new stocks, only the capital increase as much as the exercising value does not occur.

Therefore, the Plaintiff asserts to the effect that, in the case of a stock option in the form of new stocks, the difference between the case of issuing new stocks to a third party and the case of issuing new stocks at the market price, or that the difference between executives and employees should be recognized as losses, as in the case of a difference compensation-type stock option. However, the granting of new stocks differs from the case of granting the difference compensation-type stock option, such as the type of transaction, legal effect, etc., and the Plaintiff selects the method of granting the new stocks in order to recognize such difference and achieve a certain economic purpose. Nevertheless, the reversal of the result by means of assumptive and constructive reorganization of transaction details or comparison and application of the case of issuing new stocks to a third party, which is a legal relationship entirely different from the case of granting the new stocks, goes beyond the scope of substantial taxation, and thus, the Plaintiff’s assertion cannot be accepted (the Plaintiff cannot be viewed as having sustained the difference between the issuance price and the issued value of the new stocks in the case of exercising the stock option at the time of exercising the stock option as well as the difference between the issuance price and the actual market value.

B) Article 20(3) of the Income Tax Act and Article 38(1)17 of the Enforcement Decree of the same Act stipulate that, in the case of a stock option to issue new stocks, gains from the exercise of this case shall be deemed as earned income of its executives and employees, and even if the Plaintiff withheld and paid the labor income tax on the gains from the exercise of this case pursuant to each of the above provisions, this is only the result of the application of the income tax law that selects the principle of listing taxable income. Thus, the taxation and payment of the earned income tax on the gains from the exercise of this case shall not be the basis for deeming the gains from the exercise of this case as deductible expenses. Even in the case of this case where the reduction of net assets related to the granting of the stock option to issue new stocks does not occur, even if the Plaintiff did not necessarily include the amount recognized as earned income by the executives and employees of this case as earned income, there is no logical basis for calculating the amount as deductible

In this regard, the Plaintiff asserts that the exercise marginal profit of this case should be included in deductible expenses on the basis of corporate accounting standards, which reflects the exercise marginal profit following the exercise of appraisal rights for new stocks as deductible expenses. However, the concept of expense in the account and the concept of deductible expenses in corporate tax cannot be seen as completely identical. In addition, considering Article 43 of the Corporate Tax Act and Article 43 of the Restriction of Special Taxation Act, it is difficult to consider corporate accounting standards as the basis for determining whether it falls under deductible expenses under the Corporate Tax Act, since it is difficult to accept the Plaintiff’s above assertion.

C) According to the main sentence of Article 20 subparagraph 1 of the former Corporate Tax Act, where the disposal of a surplus is appropriated as deductible expenses, it shall be excluded from deductible expenses, but Article 20 (1) subparagraph 3 (b) of the former Enforcement Decree of Corporate Tax Act under the delegation of the proviso of the same subparagraph that provides for exceptions issues to a person who has been granted stock options as prescribed by Ordinance of the Ministry of Strategy and Finance at a price lower than the market price, the difference between the actual purchase price and the market price of the stocks shall be included in deductible expenses. According to Articles 1 and 2 of the Addenda, the foregoing provision of the Enforcement Decree (hereinafter referred to as the "new provision of Article 1") newly established on September 26, 2014 shall enter into force from October 1, 2014, and shall apply from the issuance date of the stocks after the enforcement date.

In addition, under the Enforcement Decree of the Corporate Tax Act amended by Presidential Decree No. 28640 on February 13, 2018, a provision was newly established to add "the difference between the actual purchase price and the market price of the new shares in the stock option to the loss included in deductible expenses" (Article 19 subparagraph 19-2 (a) (ii); hereinafter referred to as "Article 19 subparagraph 2 (a); hereinafter referred to as "new provision") and Article 2 of the Addenda of the Corporate Tax Act (hereinafter referred to as "each new provision") that newly established new provision applies from the business year beginning on January 1, 2018.

The gains from the exercise of this case occurred before the time of application of each new provision, and the plaintiff asserts that the gains from the exercise of stock option in the form of new stocks constitutes losses, since the nature of each new provision is not a creative provision, but a provision that confirms that the gains from the exercise of stock option in the form of new stocks constitute losses. Thus, the plaintiff asserts that the gains from the exercise

However, in full view of the following circumstances, each newly established provision has the nature of a creative provision newly established for tax policy purposes, and thus, the Plaintiff’s assertion that the amount equivalent to marginal profits from the exercise of the stock option is merely a provision that confirms that the amount equivalent to marginal profits from the exercise of the stock option is deductible expenses

(1) Each new provision is specified in the Addenda, and applying the same retroactively to the gains from the event in this case before the time of application is contrary to the language and text of the supplementary provision specifying the time of application.

(2) In addition, the new provision of Article 1 expanded the scope of disposal of surplus funds allowed to be included in deductible expenses from the existing difference compensation type stock options to the existing case of new stock options. The new provision of Article 1 newly established that expands the scope of permission for inclusion in deductible expenses as a result of reflecting policy considerations. The new provision of Article 1 is deemed to be newly established in that "if stocks are issued lower than the market price by exercising stock options granted by venture businesses, etc. to support the inducement of outstanding human resources by venture businesses, etc., the difference between the market price and the purchase price of stocks may be included in deductible expenses."

③ Following the amendment of the former Corporate Tax Act by Act No. 1522, Dec. 19, 2017, the proviso of Article 20 subparag. 1, which permits the inclusion of exceptional losses in deductible expenses for a certain piece of bonus out of the appropriation of surplus earnings, was deleted, and thus the disposal of surplus was excluded from the subject of inclusion in deductible expenses (i.e., the first provision was deleted as amended by Presidential Decree No. 28640, Feb. 13, 2018). The reason for the amendment was that “where the former Enforcement Decree of the Corporate Tax Act was prescribed as the subject of inclusion in deductible expenses for the performance bonus of employees paid by a company, it shall be excluded from the subject of inclusion in deductible expenses, but in the future, it seems that the inclusion in deductible expenses for the appropriation of surplus earnings in the calculation of deductible expenses is not a logical and inevitable basis from the concept of deductible expenses, but it appears that the reason for amendment of the new provision of Article 1 is the product of consideration as seen in the reason

④ The new provision was newly established at the time of amendment of the former Enforcement Decree of the Corporate Tax Act of February 13, 2018, where the new provision was deleted, and the reason for such amendment is not specified. However, in light of the content of the new provision and the background leading up to the enactment and repeal of the new provision, it seems that the new provision was newly established to expand the permissible scope of inclusion of deductible expenses in accordance with policy considerations, like the new provision in Article 1.

⑤ The Plaintiff cited Supreme Court Decision 2012Du3491 Decided November 17, 2015, on the basis of the assertion that each new provision is merely a confirmative provision. However, in a case where the parent company compensates for the difference that it paid to its executives and employees in cash and reduces its net assets by compensating for such difference, the above preservation amount of the subsidiary constitutes personnel expenses provided for in Article 19 subparag. 3 of the former Enforcement Decree of the Corporate Tax Act, and otherwise, it is difficult to view that this case is applied as it is to the new shares appraisal right for which no separate net asset reduction has occurred (In addition, in addition, in the case of Article 19 subparag. 19 of the Enforcement Decree of the Corporate Tax Act, which is the provision that is the provision that has the nature of confirmative provision in the above judgment, it is clear that the amended tax law aims to recognize that the subsidiary's expenses incurred in relation to the business of the subsidiary are deductible expenses in relation to the business of the subsidiary).

3. Conclusion

Thus, the plaintiff's claim is dismissed as it is without merit.

1) The Defendant received the Plaintiff’s request for correction regarding the gains from the exercise of 37,326 share options, which were issued after October 1, 2014, among the stock options used by the instant executives and employees in the business year 2014. The gains from the exercise of 2014 business year stated in the said table are pertaining to the portion issued before September 30, 2014; hereinafter in this context, the period until September 30, 2014 out of the business year 2014 for convenience is limited to “2014 business year.”

2) In the event that the Plaintiff’s claim for rectification for the business year 2013 and 2014 was accepted, the Plaintiff filed a claim for rectification regarding the corporate tax for the business year 2015 on the ground that there is no separate amount of refund in the business year 2013 and 2014, while there is no separate amount of refund in the business year 2013 and 2014, due to the increase

3) Article 10-3 of the former Enforcement Rule of the Corporate Tax Act (amended by Ordinance of the Ministry of Strategy and Finance No. 480, Mar. 13, 2015) provides for appraisal rights granted by founders under the Support for Small and Medium Enterprise Establishment Act, new technology enterprises under the Korea Technology Credit Guarantee Fund Act, and venture enterprises under the Act on Special Measures for the Promotion of Venture Businesses. The specific details are as stated in the corresponding