As the government has presented measures to address the double taxation issue of overseas funds contained in tax-saving accounts, it appears that the tax-saving effects will vary depending on the funds in which they invest. This is because the tax authorities decided to provide a deduction at the same rate for the local taxes imposed on the dividends generated from overseas funds, which could lead to cases where taxpayers receive more deductions than the actual amount deducted. Considering this effect, funds investing in the United States and Europe are advantageous. Conversely, investments in China and Japan will be subject to unfavorable deduction rates.
The concept of the current measures is to deduct the amount calculated by multiplying the deduction rate by the local taxes from the tax the investor must pay upon maturity of the tax-saving account. A portion of the dividends generated from overseas funds must be taxed locally, and to eliminate double taxation, it is necessary to comprehensively investigate the overseas funds contained in all investors' tax-saving accounts to track the local taxes paid. However, due to system limitations, it is not possible to apply the overseas withholding tax rates for each fund individually. The Ministry of Economy and Finance's alternative is to apply a uniform deduction rate across all country funds.
According to the financial investment industry on the 11th, securities companies plan to establish a system to identify overseas funds among the funds contained in Individual Savings Accounts (ISA) in the first half of this year. Currently, they cannot distinguish between domestic and foreign underlying assets of funds, which means that overseas funds that have already paid local taxes are included within the jurisdiction of the domestic tax authorities. Once a system that can filter overseas funds within the ISA is established, the Ministry of Economy and Finance will tax only the amount from which the deduction rate applicable to the local taxes is subtracted from the tax imposed on investors at the maturity of the account.
It does not mean that if the local taxes are 100,000 won, the taxpayer can deduct the entire 100,000 won. Only the amount calculated by multiplying the local taxes with the deduction rate is excluded from the final tax to be paid domestically. The deduction rate is calculated as 'domestic withholding tax rate ÷ overseas withholding tax rate - domestic withholding tax rate.' In countries like the United States, where the local withholding tax rate is 15%, only 51% of 100,000 won (9 ÷ 15 - 0.09), which is 51,000 won, will be deducted. The domestic withholding tax rate for the ISA, excluding local government tax, is 9%.
The issue is that, according to tax treaties, the dividend income tax rates differ by country, and even if a system is established, it will not be possible to identify the funds' assets contained in the ISA accounts by country. Securities firms reportedly showed reluctance in establishing a system that attaches country labels to each fund because multiple fund transactions occur within the ISA accounts before maturity. Funds are products in which multiple investors invest simultaneously, so they undergo creation and redemption frequently, and Exchange-Traded Funds (ETFs) are bought and sold repeatedly throughout the day.
This is why the Ministry of Economy and Finance applies the highest domestic basic withholding tax rate of 14%, regardless of how much the local withholding tax rate is in foreign countries. It is reported as if the investor received a 14% dividend income tax rate locally, regardless of the actual amount paid as local taxes, and only the amount calculated by multiplying the deduction rate is excluded from the tax the investor must pay at the maturity of the ISA.
If this proposal is realized, investments in the United States and Europe will be more advantageous than those in China and Japan regarding taxes. The local withholding tax rate for dividends in the United States is 15%, and under normal circumstances, the deduction rate would be 51%, but when applying the local withholding tax rate of 14% proposed by the Ministry of Economy and Finance, the deduction rate climbs to 55.2%. The same goes for Europe, where the local withholding tax rate reaches 20%.
On the contrary, the withholding tax rates in China and Japan are 10%, which reflects a deduction rate of 81% (9 ÷ 10 - 0.09), but such a rate will not be recognized. When substituting the withholding tax rate proposed by the Ministry of Economy and Finance, which is 14% rather than the local tax rate of 10%, the deduction rate falls to 55.2% (9 ÷ 14 - 0.09).
Meanwhile, the effect of tax deferral has been halved. Until last year, the National Tax Service refunded the local taxes paid by the investor, allowing them to manage their assets before taxes. However, starting this year, the refund process by the National Tax Service has been eliminated, meaning investments must now be managed based on after-tax amounts. The Ministry of Economy and Finance deemed the National Tax Service's refunds to be excessive benefits. This benefit was gained not only by investors but also by organizations such as mutual aid societies and non-profit foundations that invest overseas.
The tax benefits of the ISA itself still remain. Regardless of how much revenue is generated in the ISA account, 2 million won (4 million won for the low-income type) are exempt from taxes. Considering that bank interest is subject to a 15.4% tax, this remains a significant advantage. A lower tax rate of 9.9% is also applied to amounts exceeding 2 million won. There are also ongoing efforts in the National Assembly to raise the tax exemption limit from the current 2 million won to 5 million won (10 million won for the low-income type).
Meanwhile, the proposal to eliminate double taxation on the ISA is set to be implemented starting in July this year after a period of system development. The pension savings fund and the Individual Retirement Pension (IRP) will require legal amendments, which will take more time. However, this only pertains to dividends, as capital gains are only taxed domestically and therefore do not constitute double taxation.