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IMF Comments On Korean Tax Policy Direction

Monday, August 22, 2016

The International Monetary Fund's Executive Board has recently commented on South Korea's fiscal stimulus program.

In its annual review of South Korea's policy decisions and future challenges, the IMF Board broadly agreed that, given Korea's low public debt, fiscal support can be used to incentivize structural reforms, cushion any adverse effects, and support growth.

The Board commended Korea's "remarkable economic achievements" over the past sixty years. They noted, however, that the Korean economy now faces structural constraints to sustain its strong growth, including rapid population aging, a heavy reliance on exports, rising corporate vulnerabilities, labor market distortions, and lagging productivity.

They concurred that a carefully targeted expansion of social expenditure over the medium term could help reduce poverty and inequality and aid rebalancing by bolstering consumption and raising productivity.

The IMF Board was split on whether there is fiscal space to implement necessary reforms without tax hikes or an expenditure cut. However, they broadly agreed that fiscal and monetary policies should remain supportive.

South Korea's Ministry of Strategy and Finance has already issued details of the tax measures it plans to introduce from January 2017, subject to parliamentary approval, to encourage investment in growth industries.

To boost business investment in what it calls "future growth engines," the Government intends to restructure the 30 percent research and development tax credit to support 11 new technologies, including "future cars," AI technology, next-generation electronic devices and information security, the bio- and health sectors, energy and environment industries, robots, and aerospace engineering.

An up to 10 percent tax credit will be established for investment in facilities to be used to commercialize future growth engine technologies, and an up to 100 percent foreign investment tax deduction will also be granted. To increase tax support for eco-friendly cars, a KRW4m (USD3,560) consumption tax reduction will be available for purchases of hydrogen fuel cell vehicles.

The Ministry also confirmed that it will increase the tax deduction ceiling for creating new jobs by KRW5m per new employee for small- and medium-sized enterprises (SMEs); raise the cap on the stock option tax break from KRW100m per year to KRW500m for three years to help attract talented human resources to SMEs; set up a five percent corporate tax credit for venture capital investments; and introduce tax breaks for individual investors who invest in private equity funds that finance such ventures.

In addition, the tax measures will target growth in the tourist industry by expanding the limit on the value-added tax (VAT) refund amount for foreign visitors from KRW2m to KRW5m per store. The refund on cosmetic surgery for foreign patients will also be extended for one year.

To support households, the income tax deduction for credit card payments is to be extended until the end of 2019, but the deduction ceiling will be reduced from KRW3m to KRW2m for those with annual earnings of KRW120m or more. There will be a 10 percent income tax deduction for credit card payments made to purchase used cars; the earned income tax credit will rise by around 10 percent; the childbirth tax credit will also increase; and the tax credit for housing rent payments will be lifted by two percent to 12 percent.

To establish tax incentives encouraging corporate investment in long-term, large-scale rental housing supplies, the dividend income from rental housing funds or real estate investment trusts is to be made tax-exempt, while giving a capital gains tax deduction for share transactions.

Within measures to broaden the country's tax base, the Government will extend the special low income tax rate for foreign workers until the end of 2019, but adjust the tax rate from 17 percent to 19 percent.

Furthermore, a 20 percent capital gains tax will be effective from January 2018 on shares owned by large shareholders from the date when they become nonresidents – for instance, as a result of emigration – and gift tax will be imposed on donors instead of recipients if the donors are residents and recipients are nonresidents and the gifts are foreign assets.

In addition, in early July, the Government rejected opposition party calls for a corporate tax rate hike.