Originally, a tax rate of over 10% would apply, but as the 'reduced dividends' that do not incur any tax have come to the fore as a late tax-saving tool for major shareholders, the government has taken action. Until earlier this year, the Ministry of Economy and Finance's position was that it could not identify reduced dividends for individual shareholders, but it has recently changed its stance. The Ministry has settled on issuing improvement measures focused on situations where the company pays dividends greater than the price at which an individual investor purchased the shares (acquisition price).
According to tax authorities on the 15th, the Ministry has initiated research to prevent the circumvention of taxes by utilizing the non-taxable nature of reduced dividends. A ministry official noted, "This year, we are reviewing a plan to treat individual shareholders receiving reduced dividends in a reasonable manner, just like corporations."
Reduced dividends are similar to regular dividends in that shareholders receive cash from investment companies, but tax authorities differentiate between the two. This is due to the source of funds. Regular dividends are the act of sharing profits (retained earnings) earned by corporations through selling products and services, which incurs a tax rate of 15.4%. However, reduced dividends are structured as shareholders reclaiming the funds (capital reserves) they initially contributed, thus being non-taxable.
Two years ago, the Ministry amended the tax laws to compare the 'funds invested in investment companies' with the 'amount received as reduced dividends' for corporations. If the latter exceeds the former, corporate tax would be imposed on the difference. Individuals were exempt from this measure. Corporations regularly disclose financial statements, enabling them to know the price at which shares were acquired, but currently, there is no way for the government to ascertain individual acquisition prices.
The Ministry's move comes as the market actively exploited the fact that reduced dividends exist in a tax blind spot. To carry out reduced dividends, listed companies must hold a general meeting of shareholders to convert their accounting accounts, and related shareholder meetings increased from 49 last year to 98 this year.
This figure surged to 126 in the first quarter of this year. In addition to the non-taxable benefits, there is also an advantage as earnings exceeding 20 million won in dividends and interest are not included in the comprehensive taxation of financial income, which is subject to a maximum tax rate of 49.5%. Recently, there was talk of being 'foolish' for not utilizing reduced dividends when conditions allowed for holding a general meeting of shareholders. Reduced dividends must not exceed 1.5 times the combined capital reserves and retained earnings according to corporate law.
The Ministry is also aware of this and is working on a plan, focusing on excessive reduced dividends. It means that, similar to corporations, if individuals distribute reduced dividends greater than the value of the shares they hold, it will be categorized within the realm of taxation.
The problem is that the government cannot ascertain what stocks individual investors purchased and at what price. While they know how much dividends are received, they cannot distinguish whether this amount exceeds the stock acquisition price. Domestic securities firms have replied to the Ministry that with over 10 million stock accounts and daily transaction amounts of about 20 trillion won, it is physically difficult to differentiate this.
Therefore, the Ministry is exploring new measures. A ministry official explained, "It is not something that can be tracked by any system for individuals receiving reduced dividends that exceed the acquisition price," adding, "This aspect is under study regarding how to handle it."
Some predict that a similar conclusion may arise as with the overseas fund double taxation controversy. According to the amended tax law enforcement decree earlier this year, investors who included overseas funds in their Individual Comprehensive Asset Management Accounts (ISA) must pay taxes both locally and in Korea. To calculate accurately, the assets contained within the funds must be distinguished by country, and tax rates must be applied based on tax treaties, but the Ministry has decided to apply a uniform deduction rate of 14% due to significant administrative burdens.