[1] The meaning of “beneficial owner” under Article 10(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income, and the standard for determining whether such ownership constitutes such “beneficial owner”

[2] In a case where Company A paid dividends to Company B, a Hungary located in the Republic of Korea and the Government of the Republic of Hungary, which hold 50% of its shares six times, and withheld corporate taxes according to the limited tax rate of 5% under Article 10(2)(a) of the Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income between the Government of the Republic of Korea and the Government of the Republic of Hungary, and the tax authority deemed that Company C, a final parent company of the Hungary group to which the said company belongs, is the beneficial owner of the dividend income, and the tax authority deemed that the said Company C, a final parent company of the Hungary group, as the above company, is the beneficial owner of the dividend income and notified Company A of the withheld corporate tax by applying the limited tax rate of 15% under Article 12(2)(a) of the Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and the Prevention of Fiscal Evasion with respect to Taxes on Income", even under the principle of substantial taxation

[1] Article 10(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the People’s Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income stipulates that, in cases where a recipient is a beneficial owner who is a resident of the other country and directly owns not less than 25% of the shares of the corporation paying the dividends, the taxation on dividends in the source country shall not exceed 5% of the total amount of dividends. Accordingly, in cases where a Korean corporation pays dividends to a corporate shareholder who is a beneficial owner of Hungary, the withholding tax on dividends shall be limited to 5% of the total amount of dividends, notwithstanding the provisions of the Corporate Tax Act. In full view of the history and context of the introduction of the provisions of the above Convention, the beneficial owner means a case where the person who received the said dividends has no legal or contractual obligation to transfer the said dividends to another person. Determination of whether a person is a beneficial owner ought to be made by taking into account all the circumstances, such as the content and status of business activities related

On the other hand, the principle of substantial taxation under Article 14(1) of the Framework Act on National Taxes applies to the interpretation and application of tax treaties having the same effect as the Act, unless there are special provisions excluding such principle. Therefore, even if a nominal owner of dividend income falls under a beneficial owner, such application may be denied if it is recognized as abuse of treaty pursuant to the principle of substantial taxation under the Framework Act on National Taxes. In other words, where a nominal owner of property is not capable of controlling and managing property, a person who actually controls and manages it through the control, etc. over the nominal owner, and such disparity arises from the purpose of tax evasion, the application of tax treaties according to the nominal name shall be denied and the income on property shall be deemed reverted to the person who actually controls and manages the property. However, where

[2] Where Company A paid dividends to Company B, a company located in Hungary, which owns 50% of its shares six times, based on the following facts: “The Government of the Republic of Korea and the Government of the Lao People’s Republic have withheld corporate tax based on the limited tax rate of 5% under Article 10(2)(a) of the Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income; and the tax authorities deemed Company C as the beneficial owner of dividends; thus, the Plaintiff Company C, a final parent company of the Hungary Group to which the said Company belongs, as an employee of the Hungary Group, was deemed to have paid corporate tax to Company A by applying the limited tax rate of 15% under Article 12(2)(a) of the “Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and the Encouragement of International Trade and Investment; thus, the Plaintiff, as an employee of the Hungary Group B’s domestic source of business and its share transfer of dividends to Company C, without any legal basis for the establishment of the relevant tax treaty.

[1] Article 10(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income; Article 14(1) of the Framework Act on National Taxes; Articles 93 subparag. 2 and 98(1)2 of the Corporate Tax Act / [2] Article 10(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income; Article 12(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income; Article 14(1) of the Framework Act on

[1] Supreme Court Decision 2010Du11948 Decided April 26, 2012 (Gong2012Sang, 892), Supreme Court Decision 2010Du20966 Decided July 11, 2013 (Gong2012Du16466 Decided July 10, 2014), Supreme Court Decision 2015Du2451 Decided July 14, 2016 (Gong2016Ha, 1195), Supreme Court Decision 2015Du5134, 55141 Decided July 11, 2017 (Gong2017Ha, 163), Supreme Court Decision 201Du5381 Decided July 28, 2015; Supreme Court Decision 201Du5381, May 28, 2018 (Gong2017Ha, 163)

Co-learning precision Co., Ltd. (Attorneys Kim Jong-hwan et al., Counsel for the plaintiff-appellant)

Gu U.S. Tax Office (Law Firm Won et al., Counsel for the plaintiff-appellant)

Daegu High Court Decision 2017Nu4902 decided February 2, 2018

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

The grounds of appeal are examined.

1. Case summary and key issue

A. Case summary

(1) From September 20, 2006 to March 30, 2009, the Plaintiff paid dividends of approximately KRW 841.1 billion (hereinafter “instant dividend income”) in total to Hungary’s Hungary’s data services (hereinafter “CHD”) located in Hungary, which hold 50% of its equity interest, on six occasions. The Plaintiff withheld and paid corporate tax based on the limited tax rate of 5% under Article 10(2)(a) of the Convention between the Government of the Republic of Korea and the Government of the Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income (hereinafter “Korea-Hungary Tax Treaty”).

(2) On September 2, 201 and October 12, 2011, CHDS deemed the beneficial owner of the dividend income of this case by deeming that CHDS was merely a so-called conduit company established for the purpose of tax avoidance, and that CHDS was the final parent company of the Colearning Group (hereinafter “CI”), the U.S. corporation, the final parent company, and thus, was the beneficial owner of the dividend income of this case, and upon applying the limited tax rate of 15% under Article 12(2)(a) of the Convention between the Republic of Korea and the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and the Promotion of International Trade and Investment (hereinafter “Korea-U.S. Tax Treaty”), the Defendant corrected and notified the Plaintiff of approximately KRW 53 billion total corporate tax withheld for the business year from 206 to 2009, and subsequently, adjusted the remaining portion by applying the limited tax rate of Article 12(2)(b)(1)(b) of the Korea-U.

B. Issues

The main issue of the instant case is whether Article 10(2) of the Korea-Hungary Tax Treaty applies to the dividend income of the instant case.

2. Regarding ground of appeal No. 1

A. (1) Article 10(2)(a) of the Korea-Hungary Tax Treaty provides that, in cases where a recipient is a beneficial owner who is a resident of the other country and directly owns 25% or more of the shares of a corporation paying dividends, the taxation of the source country on dividends shall not exceed 5% of the total amount of dividends. Accordingly, in cases where a Korean corporation pays dividends to a corporate shareholder who is a beneficial owner of Hungary, the corporate tax of the Republic of Korea on dividends shall be limited to 5% of the total amount of dividends, notwithstanding the provisions of the Corporate Tax Act. In full view of the history and context of the introduction of the foregoing provision, the context thereof, etc., the case where a beneficial owner has a right to use and benefit without any legal or contractual obligation to transfer the dividends to the other person. Determination of whether a person is a beneficial owner ought to be made by comprehensively taking into account all the circumstances such as the content and status of business activities related to the pertinent income, the actual use and operation of the said income (see Supreme Court Decision 2017Du308, Nov. 15, 2018).

(2) Meanwhile, the principle of substantial taxation under Article 14(1) of the Framework Act on National Taxes applies to the interpretation and application of a tax treaty having the same effect as the Act, unless there is any special provision excluding such principle (see, e.g., Supreme Court Decision 2010Du11948, Apr. 26, 2012). Therefore, even if a nominal owner of dividend income is recognized as abuse of a treaty pursuant to the principle of substantial taxation under the Framework Act on National Taxes, such application may be denied. In other words, where a nominal owner of property is not capable of controlling and managing the property, and there is another person who substantially controls and manages the property through the control, etc. over the nominal owner, and the disparity between the nominal owner and the real owner is attributable to the person who actually controls and manages the property, the application of the tax treaty pursuant to the nominal owner shall be denied and the income on the property shall be deemed as attributed to the person who actually controls and manages the property (see, e.g., Supreme Court Decisions 2012Du1646625, Jul. 25, 14.

B. According to the reasoning of the lower judgment and the record, the following circumstances are revealed.

(1) On December 22, 2005, CHDS is a company established by CIC as an intermediary holding company and as a joint service center in the European, Middle East and Africa area by investing in kind the entire existing shares (50% equity ratio) in the Plaintiff, a subsidiary of CI in the U.S. on December 22, 2005, and has five subsidiaries in Korea, Turkey, Spain, Spanish, Hungary, etc.

(2) It was evaluated that Hungary was a candidate for the location of the establishment of the Common Service Center in Europe, China, Africa, and Africa, compared to Hungary and Hungary, in terms of infrastructure and language acceptance capacity. From 1995 to 2005, the Plaintiff did not pay domestic corporate tax in accordance with the foreign investment tax reduction and exemption system at the time with respect to the dividend paid to CI from 1995 to 2005, and a large number of the tax treaties entered into by the Republic of Korea have a limited tax rate of 5% or less with respect to the taxation of the source country on the dividend income of corporate shareholders.

(3) CHDS established a place of business in Hungary, and employed 6 Hungary in 2006, 38 2007, 50 50 , 2008 and 45 2009 , and actually performed duties as an intermediary holding company, such as receipt of dividends from subsidiaries, management of shares, investment, and fund management, and duties as a joint service center (including auxiliary activities, such as conclusion of various service contracts for this purpose) exercising overall control over the general management (general affairs, finance, computer, etc.) of the relevant companies in the Europe, Middle East, and Africa. The CHDS paid the normal corporate tax on the income accrued therefrom in Hungary and received the external audit of the accounting firm with respect to financial statements. Since then, it continues to perform duties as an intermediary holding company and a joint service center for a long period thereafter.

(4) CHDS voluntarily exercised the authority of shareholders, such as resolution on the increase of capital of subsidiaries including the Plaintiff, appointment of a representative director, establishment of a branch, modification of the articles of incorporation, and approval on the use of the amount of capital increase. CHDS’s financial sector determined the specific scope of duties authorized by each of its employees and employees, the amount of approval, and the approval authority, in detail, voluntarily performed activities such as fund payment and cash request.

(5) Upon receipt of the instant dividend income from the Plaintiff, CHDS deposited and operated the said dividend income with the CTS’s fund management company located in Ireland, and received interest therefrom, and used it for the payment of capital increase for subsidiaries such as the Plaintiff, Hungary’s subsidiaries (CHAM) (in the case of CHA capital increase in 2009, KRW 60 billion), investment in the fund, loans to affiliated companies located in Japan and France, and net expenditure for business activities. CHDS did not have any means of distributing dividends (which does not have any amount distributed to CIC which is the parent company of 100%). Of the instant dividend income, there were no parts that were remitted or otherwise reverted to CI.

C. We examine the above facts in light of the legal principles as seen earlier.

(1) First, we examine whether CHDS constitutes a beneficial owner of dividend income under Article 10(2) of the Korea-Hungary Tax Treaty.

In full view of all the circumstances, including the developments leading up to the establishment of CHDS, the current status of business activities, the place of expenditure and fund operation of the instant dividend income, the details of use and profit-making relationship with CHDS, including the fact that CHDS did not pay dividends and did not transfer the instant dividend income to CI, etc., CHDS appears to have enjoyed the right to use and profit-making income without any legal or contractual obligation to transfer the instant dividend income to CI, etc. Therefore, there is sufficient room to regard it as a resident of the Korea-Hungary Tax Treaty as a beneficial owner of dividend income under Article 10(2) of the said Treaty.

(2) Next, we examine whether the application of the Korea-Hungary Tax Treaty to the dividend income of this case under the substance over form principle of the Framework Act on National Taxes can be denied.

In full view of the developments leading up to the establishment of CHDS, the structure of business division and activities as an intermediary holding company and joint service center, the current status of human and physical facilities including employment and management of executives and employees, the exercise of authority, source of capital increase, dividend management, receipt of dividends, use of funds, and details of disposition of dividend income, etc. as a shareholder of the subsidiary company including the Plaintiff, CHDS is a corporation that has been established in Hungary under the independent business objective of CHD group’s global restructuring, and has a substantial control and management of an intermediary holding company and joint service center for a long time, like other assets owned by it. It is reasonable to deem that CHD had a substantial control and management of the Plaintiff’s shares and dividends therefrom, as in other assets. The mere fact that CI (EC) who is the final parent company of CHS group, exercised influence on the board of directors’ decision through the Management Committee (EC) or that the tax treaty was applied from 2006 after the sunset of domestic tax reduction and exemption regulations, etc. is not capable of controlling and managing the Plaintiff’s’s shares.

As such, insofar as the instant dividend income paid by the Plaintiff is deemed to substantially revert to CHDS under the name of the Plaintiff, as there is no disparity between the name and substance of income attribution, even if based on the principle of substantial taxation under Article 14(1) of the Framework Act on National Taxes, the application of the Korea-Hungary Tax Treaty to the instant dividend income cannot be denied.

D. Nevertheless, the lower court determined that the instant disposition was lawful by deeming the beneficial owner of the instant dividend income as CI solely on the grounds of the tax reduction aspect, etc. In so doing, the lower court erred by misapprehending the legal doctrine on the meaning of beneficial owner under Article 10(2) of the Korea-Hungary Tax Treaty, the principle of substantial taxation under Article 14 of the Framework Act on National Taxes, and the determination of the beneficial owner accordingly, thereby adversely affecting the conclusion of the judgment. The allegation contained in the grounds of appeal on this point is with merit.

3. Conclusion

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 Jo Hee-de (Presiding Justice)