[1] The purpose and limitation of the principle of substantial taxation under Article 14(2) of the former Framework Act on National Taxes

[2] The case holding that in the case where Company A and Company B were subject to corporate tax refund by the Board of Audit and Inspection at the request of the Board of Audit and Inspection on the ground that the foreign currency convertible bonds issued by Company B shall be deemed to have been invested in kind from Company B, and that the period for exercising the conversion right comes to an investment in kind, they evaluated the convertible bonds according to the basic exchange rate at the time and entered into an investment in kind with Company B to receive Company B’s stocks; Company A extinguished convertible bonds appropriated as liabilities in connection with the investment in kind; Company A accounts as the increase in capital and issued stocks; Company A filed a request for correction on the ground that the difference between the investment in kind value of convertible bonds and the book value should be included in deductible expenses related to corporate tax; and Company A was subject to corporate tax refund by the Board of Audit and Inspection; and Company A shall be deemed to have

[1] Article 14(2) of the former Framework Act on National Taxes (Amended by Act No. 911, Jan. 1, 2010) / [2] Articles 17(1)1, 40, and 41(1) of the former Corporate Tax Act (Amended by Act No. 9898, Dec. 31, 2009); Articles 71(3), 72(1)3 (see current Article 72(1)3 and 3-2) and 4 (see current Article 72(1)4, 4-2, and 76(5) of the former Enforcement Decree of the Corporate Tax Act (Amended by Presidential Decree No. 21302, Feb. 4, 2009);

[1] Supreme Court en banc Decision 2000Du963 Decided August 21, 2012 (Gong2012Sang, 359), Supreme Court Decision 92Nu1155 Decided December 8, 1992 (Gong1993Sang, 482), Supreme Court en banc Decision 2008Du8499 Decided January 19, 201 (Gong2012Sang, 359), Supreme Court Decision 2015Du3270 Decided January 25, 2017 (Gong2017Sang, 475)

Hanish Loan Co., Ltd. (Attorneys Lee Jae-de et al., Counsel for the plaintiff-appellant)

The Head of the District Tax Office (Law Firm, Attorneys Yoon-Gyeong et al., Counsel for the defendant-appellant)

Seoul High Court Decision 2014Nu61691 decided June 4, 2015

The judgment below is reversed and the case is remanded to Seoul High Court.

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

1. Article 14(2) of the former Framework Act on National Taxes (amended by Act No. 911, Jan. 1, 2010) provides that “The provisions on the calculation of tax base in tax-related Acts shall apply according to the substance, notwithstanding the name or form of income, profit, property, act or transaction.” This principle is a practical principle for realizing the principle of equality, which is the basic ideology under the Constitution, in a tax law relationship. The main purpose of this principle is to regulate unfair tax avoidance and realize tax justice by imposing tax at a place where the taxable capacity exists, regardless of its form or appearance, in a case where any unreasonable form or appearance, which is distinguishable from the substance, is carried out for the purpose of evading tax burden, to realize tax justice by regulating unfair tax evasion and enhancing the equity of taxation (see, e.g., Supreme Court en banc Decision 2008Du8499, Jan. 19, 201). However, when a taxpayer carries out economic activities, one of the several legal relationships chosen by the parties, barring special circumstances.

2. Review of the reasoning of the lower judgment and the evidence duly admitted by the lower court reveals the following facts.

A. As indicated in the judgment of the court of first instance on September 26, 2006 and March 30, 2007, the Plaintiff issued both convertible bonds with the term of conversion “130,000 won per share” and “from the date 35 months have elapsed from the date of the issuance of the bonds to the date before the date of redemption of the bonds” (hereinafter “instant convertible bonds”), and all of the instant convertible bonds with the 2 and 3rd foreign currency brokerage bonds (hereinafter “instant convertible bonds”), which are Japanese corporations, other than the Plaintiff’s specially related parties.

B. On August 29, 2008, the Plaintiff entered into an investment in kind with a resolution of the board of directors on the investment in kind, a special resolution of the general meeting of shareholders, and an appraisal by an appraiser on the value of the convertible bonds of this case. On August 29, 2008, the Plaintiff: (a) the Nonparty Company evaluated the convertible bonds of this case as 18,829,000,000 won based on the basic exchange rate at the time of the investment in kind; and (b) the Plaintiff would receive 144,838 shares of the Plaintiff; and (c) the Plaintiff’s investment in kind with an authorization therefor from the Seoul Central District Court on September 9, 2008; and (d) the Plaintiff completed the investment in kind on September 23, 2008.

C. However, the Plaintiff, in relation to the instant investment-in-kind contract, entered in the judgment of the court of first instance, concluded that the convertible bonds appropriated as debt are extinguished, and that the capital and the amount in excess of the issuance of stocks increases.

D. Since then, the Plaintiff filed an application for rectification with the Defendant on the ground that “The amount of KRW 18,829,00,000 for the investment in kind of the instant convertible bonds and the book value of KRW 13,526,02,338 (i.e., face value of KRW 15,230,40,400 - face value of KRW 934,277,983 - bond discount of KRW 770,119,679) shall be included in deductible expenses related to corporate tax for the business year 2008.” The Defendant accepted the application and notified the Plaintiff of the payment of KRW 5,302,997,662 for the difference in the bond discount of KRW 934,27,97,662 (hereinafter “instant amount”). The Defendant shall include the issues in deductible expenses, and around August 10, 2010, notified the Plaintiff of the payment of KRW 1,325,410.

E. However, around June 2011, the Board of Audit and Inspection demanded that the Plaintiff collect corporate tax decided on the refund by stating that “The amount of the dispute is recognized as tax deductible expenses and refunded corporate tax to the Plaintiff.” Accordingly, on July 1, 2011, the Defendant imposed corporate tax of KRW 1,325,734,410 for the business year 2008 and additional dues of KRW 48,605,950 for the Plaintiff.

3. Examining the overall process of the transaction, such as the content and form of the transaction, the intent of the parties, and the purpose and circumstance of the investment in kind, based on the aforementioned factual basis and the record, it is reasonable to deem that the Plaintiff was invested in kind by the non-party company.

A. The contribution in kind is an investment with assets other than money and can also be the subject matter of the instant convertible bonds. Therefore, the Plaintiff and the non-party company that issued and accepted the instant convertible bonds may choose the method of investing in kind the instant convertible bonds that cannot be exercised since the period for exercising the right to conversion has not yet arrived.

B. The instant contract for investment in kind was concluded between the Plaintiff and the non-party company without a special relationship. In particular, the Plaintiff, as at the time of the rapid increase in the UN exchange rate, may increase losses caused by cash redemption of the instant convertible bonds or the exercise of the conversion right. Therefore, the instant convertible bonds are deemed to have been invested in kind early in order to prevent this.

C. The Plaintiff has passed a resolution of the board of directors on the investment in kind of the instant convertible bonds, and all the procedures prescribed in the Commercial Act, such as the appraisal of the value of the instant convertible bonds by an appraiser, subject to the court’s examination on the result of the appraisal.

D. Prior to the instant convertible bonds, the primary foreign currency convertible bonds issued by the Plaintiff issued by the non-party company were repaid without exercising the convertible right, such as early redemption in cash, and the instant convertible bonds also were made as part of reasonable transactions taking into account the current management situation, etc., and there is no circumstance to deem that the issuance price of stocks under the instant contract was identical to the initial conversion price, or the Plaintiff was unable to properly account at the time of the said investment in kind. However, even if the issuance price of stocks under the instant contract is the same as the original conversion price, or the Plaintiff was unable to properly account at the time of the said investment in kind, such circumstance alone does not immediately lead

4. If the Plaintiff is deemed to have received the instant convertible bonds from the non-party company as an investment in kind, the key amount may be fully recognized as deductible expenses under tax law.

5. Nevertheless, solely on the grounds indicated in its reasoning, the lower court rejected the Plaintiff’s assertion that the instant investment in kind contract ought to be recognized as deductible expenses under tax law, on a different premise, by deeming that the substance of the contract cannot be recognized as having the same effect as the exercise of the right to conversion as that of the bondholder’s exercise of the right to conversion, the remaining KRW 4,368,719,679, excluding the balance of conversion right adjustment among the key money, should be recognized as deductible expenses under tax law. In so determining, the lower

6. Therefore, without further proceeding to decide on the remaining grounds of appeal, the lower judgment is reversed, and the case is remanded to the lower court for further proceedings consistent with this Opinion. It is so decided as per Disposition by the assent of all participating Justices on the bench.

Justices Park Sang-ok (Presiding Justice)