The meaning of the denial of wrongful calculation under Article 52 of the former Corporate Tax Act and the standard for determining whether economic rationality exists / Whether the tax authority is liable to assert and prove the “market price”, which is the standard for applying the avoidance of wrongful calculation (affirmative in principle)

Article 52 of the former Corporate Tax Act (amended by Act No. 11128, Dec. 31, 2011) applies only to cases where a corporation unfairly evades or reduces tax burden by abusing various forms of transactions listed in each subparagraph of Article 88(1) of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 26981, Feb. 12, 2016) without using a reasonable method from a person with a special relationship. This is the legal fiction that the person with a right to taxation denies or reduces tax burden. This is to apply only to cases where, in light of an economic person’s perspective, the person with a right to taxation is deemed to have neglected economic rationality by calculating natural and unreasonable acts and disregarding economic rationality. Determination of economic rationality is based on whether the transaction has no abnormal economic rationality in light of sound social norms or commercial practices, but the tax authority should also consider the transaction price verification as a matter of principle between the persons with a special relationship at the time of the transaction.

Article 52 of the former Corporate Tax Act (Amended by Act No. 11128, Dec. 31, 201); Article 88(1) of the former Enforcement Decree of the Corporate Tax Act (Amended by Presidential Decree No. 26981, Feb. 12, 2016);

Supreme Court Decision 2010Du19294 Decided November 29, 2012 (Gong2013Sang, 89) Supreme Court Decision 2013Du1035 Decided September 27, 2013 (Gong2013Ha, 2006) Supreme Court Decision 2014Du14228 Decided February 3, 2017 (Gong2017Sang, 579) Decided March 15, 2018 (Gong2018Sang, 747)

Boan Highway Co., Ltd. (Attorneys Son Ji-yol et al., Counsel for the defendant-appellant)

Head of Public Tax Office (Law Firm LLC, Attorneys Kang-gu et al., Counsel for the defendant-appellant)

Daejeon High Court Decision 2014Nu10668 decided January 29, 2015

The judgment of the court below is reversed, and the case is remanded to Daejeon High Court.

The grounds of appeal are examined.

1. Case summary

A. On July 22, 1997, the Plaintiff is a public-private partnership corporation established for the purpose of constructing and operating public-private partnership projects on the roads between Yanan-U.S. under the former Promotion Act for the Inducement of Private Capital (amended by Act No. 4773, Aug. 3, 1994; Act No. 5624, Dec. 31, 1998; Act No. 7386, Jan. 27, 2005; Act No. 7386, Jan. 27, 2005).

B. On December 14, 200, the Plaintiff entered into a concession agreement with the Ministry of Construction and Transportation on December 14, 200. The content of the concession agreement was that the ownership of the pertinent facility should be reverted to the Government at the same time as the completion of the said road, and that the right of free use and the right of management and operation shall be granted for 30 years, and that the estimated toll revenue shall be guaranteed by 90% based on the

C. From December 23, 2002, the Plaintiff started the operation of the road. The remaining construction investors, other than Daewoo Construction Co., Ltd., decided to transfer 90.5% of the Plaintiff’s shares to the Korea Road Infrastructure Fund (hereinafter “Korea Road Infrastructure”) comprised of the domestic institutions and individuals, and submitted to the Minister of Construction and Transportation a change of investors and a re-financing plan around June 18, 2004. The said plan includes the content of adjusting the minimum amount of subordinated loans through capital reduction to 90% to 86% from 90% to 86%.

D. On November 26, 2004, the Plaintiff submitted to the Minister of Construction and Transportation a letter of undertaking related to the change of investors and re-financing, including the fact that the minimum operating guarantee rate was lower from 90% to 82% of the estimated toll revenue. The Minister of Construction and Transportation, after review by accounting firms and private investment support centers, determined that the sharing of interest rates on subordinated loans and re-financing profits is reasonable, and approved the amendment and re-financing plan on December 2, 2004 on the condition that the consent of the lender of the entire preferential obligation and shareholders who did not transfer stocks and the changes in the concession agreement are reflected. The Plaintiff and the Ministry of Construction and Transportation concluded a concession agreement reflecting the changes in the concession agreement on February 5, 2005.

E. On February 14, 2005, the Plaintiff entered into a modified loan agreement with the CIT Specialized Company on Asset-backed Securitization. According to this, the Plaintiff’s right to manage and operate a mortgage, etc. may be established, and the subordinated loan may be repaid if there is no impediment to repayment of the senior loan. The principal and interest of the senior loan shall be repaid in installments for ten years from 2006, and the interest rate shall be from 6.92% per annum to 8.62% per annum, and the interest rate for the senior loan shall be 19% per annum

F. Meanwhile, on May 3, 2005, Korea Road Infrastructure transferred 15.5% of the Plaintiff’s shares to the Korea Teachers’ Pension Foundation, and 15% of the Plaintiff’s shares to the Korean National Bank on May 4, 2005, respectively. Then, the Plaintiff concluded a subordinated loan agreement to borrow KRW 274,893,750,000, paid-in capital reduction from the said shareholders on May 20, 2005 in accordance with the refinancing plan, and converted the amount of KRW 28,856,250,000, which was reduced for consideration on September 20, 2005, into subordinated loans.

The Plaintiff agreed to pay interest on the instant subordinated loan as a fixed rate. The interest rate shall be 6% per annum from the date of borrowing or conversion to the end of 2007, 8% per annum from the following day to the end of 2008, 16% per annum from the following day to the end of 2012, and 20% per annum from the following day to the end of the last repayment, and the principal shall be paid in installments for five years from 2025, and the interest rate for delay shall not be set.

G. As a result of the Plaintiff’s request for an analysis of the market price of the interest rate on subordinated loans of this case to Durworkan Accounting Corporation and Samil Accounting Corporation, Jinjin Accounting Corporation selected asset-backed securities transaction as comparative transaction in accordance with the arm’s length price calculation method under the Adjustment of International Taxes Act on August 2009 and calculated the appropriate interest rate on subordinated loans as 17.3% per annum by undergoing adjustment, and Samjin Accounting Corporation also calculated the appropriate interest rate at 19.8% per annum or 23.75% per annum by similar method on September 2012.

2. Issues of the instant case

A. After completing the construction of investment facilities, the Plaintiff, a public-private partnership project implementer, changed the structure of capital by means of capital reduction and replacement for the shares of the existing construction investors, following the completion of the construction of the investment facilities with the approval of the government. The funds refinancing benefits arising from this process are lower than the minimum import guarantee rate originally guaranteed to share with the Government. Under the premise that even if the minimum import guarantee rate of the government’s funds refinancing decreases, it is difficult to deem that the Plaintiff’s default risk increases, the instant subordinated loan transaction is a higher rate of money with no economic rationality (amended by Act No. 11128, Dec. 31, 201; hereinafter the same shall apply) and Article 52 of the former Corporate Tax Act (amended by Presidential Decree No. 26981, Feb. 12, 2016; hereinafter the same shall apply) and Article 88(1)7 of the former Enforcement Decree of the Corporate Tax Act (amended by Presidential Decree No. 26981, Feb. 12, 2016). 201.

B. The key issue of the instant case is whether the instant subordinated loan transaction is subject to the denial of wrongful calculation under the Corporate Tax Act. To determine this, first of all, we need to examine whether the Defendant’s interest rate of 13.41% per annum on subordinated loan, which the Defendant asserted, falls under the market price under Article 52(2) of the former Corporate Tax Act, and whether the Plaintiff’s annual interest rate of subordinated loan after 2009, was determined as

3. The judgment of the court below

For the following reasons, the lower court determined that 13.41% per annum claimed by the Defendant was the market price.

(1) It is reasonable to calculate the interest rate on subordinated loans of this case by adding a premium thereto on the basis of the interest rate on senior loans. Even if there is a decrease in sales of approximately KRW 421.9 billion due to a decrease in the minimum operating guarantee rate due to refinancing, it is difficult to view that the Plaintiff’s default risk or other risk increases accordingly, among the additional factors presented by the Plaintiff, the part arising from the decrease in sales should be excluded.

(2) The purpose of re-financing is to increase investors’ expected profit, and in light of various circumstances such as lowering the corporate tax burden and transferring the profit to the creditor of the subordinated loan in this case, it is reasonable to view the market value of the interest rate on subordinated loan in this case as 13.41% per annum claimed by the Defendant.

(3) The annual 16% asserted by the Plaintiff may be deemed to be abnormal in light of sound social norms or commercial practices.

4. Judgment of the Supreme Court

A. Article 52 of the former Corporate Tax Act (amended by Presidential Decree No. 2035, Nov. 29, 2012; Presidential Decree No. 20358, Nov. 29, 2012; Presidential Decree No. 20355, Nov. 29, 2012; Presidential Decree No. 2010, Nov. 29, 2012; Presidential Decree No. 20135, Nov. 29, 2012; Presidential Decree No. 20135, Nov. 29, 2012; Presidential Decree No. 20135, Feb. 29, 2012; Presidential Decree No. 20135, Feb. 31, 2012; Presidential Decree No. 20135, Feb. 3, 2013>

B. We examine the reasoning of the lower judgment in light of such legal doctrine.

(1) The Plaintiff asserted that the market price of the interest rate on subordinated loans of this case is above 16% per annum in the event that the Plaintiff added the maturity premium of 1.53% per annum, subordinated risk premium of 1.62%, 2.59% of the decrease premium of minimum operating guarantee, 2% of the early termination premium of minimum operating guarantee, 1.64% of the deferred interest on the payment date, etc. based on the interest rate of senior loans of this case. Accordingly, the Defendant regarded 13.41% per annum as the market price of the interest rate on subordinated loans of this case as the basis of 8.62% per annum of the interest rate on senior loans of this case.

However, the lower court accepted the Defendant’s assertion that the Plaintiff’s default risk does not increase even if sales reduction of KRW 421.9 billion occurred due to the decline in the minimum operating guarantee rate due to re-financing. However, considering that the period of business for a private investment project is longer long, and the benefit and cost of the project may vary depending on the actual business environment different from the initial prediction, it is reasonable to view that the risk of nonperformance increases unless the minimum operating guarantee rate is reduced by the concession agreement with the government.

(2) According to the reasoning of the lower judgment, the following circumstances are revealed. In other words, ① the instant subordinated loan differs from the senior loan and its payment terms, collateral, repayment period, etc. ② The reasonable interest rate for the instant subordinated loan, which was calculated by the accounting firm based on the market price analysis, exceeds the interest rate of 16% per annum set by the Plaintiff. ③ The Minister of Construction and Transportation approved the re-financing plan by deeming that the interest rate for the instant subordinated loan is reasonable, following the review by the Private Investment Center, etc. (iii) the Plaintiff followed the re-financing procedure in accordance with the annual plan, and the Minister of Construction and Transportation mitigated the government’s financial burden by lowering the minimum revenue guarantee rate for the Plaintiff from 90% to 82%.

In full view of these circumstances, it is difficult to readily conclude that the annual interest rate of subordinated loans of 13.41% as claimed by the Defendant constituted the market price under Article 52(2) of the former Corporate Tax Act. It is difficult to view that the Plaintiff’s determination of the annual interest rate of subordinated loans of 16% is abnormal in light of sound social norms and commercial practices.

C. Nevertheless, solely based on its stated reasoning, the lower court determined that the annual interest rate of the subordinated loan in this case was 16% subject to the revocation of wrongful calculation. In so determining, the lower court erred by misapprehending the legal doctrine on the economic rationality and market price of the avoidance of wrongful calculation. The allegation in the grounds of appeal assigning this error is with merit

5. 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 Ko Young-han (Presiding Justice)