Nov. 3, 2009 (The Korea Times) -- By Lee Hyo-sik
Staff Reporter
Korea is seeking to impose capital gains taxes on investment returns realized here by U.S. companies and investors through a revision of the tax treaty with the world's largest economy.
An amendment would enable the Korean government to slap capital gains taxes on Lone Star Funds when the Texas-based private equity fund disposes of its controlling stake in Korea Exchange Bank (KEB).
But it remains to be seen whether the U.S. tax authorities will agree to Korea's demand in the face of opposition from U.S. investors holding interests in Asia's fourth-largest economy.
Under the current tax treaty, U.S.-based businesses that generate capital gains from equity investments in Korea are only required to pay taxes in the U.S., meaning the Korean government has no authority to levy capital gains taxes on them. It is the same for Korean investors operating in the U.S.
An official at the Ministry of Strategy and Finance said Tuesday that the ministry will hold final negotiations with the U.S. Treasury Department early next year to conclude a revision of the bilateral tax treaty. Both sides resumed negotiations in June and held a second meeting in October.
In March 1999 through June 2001, they had three rounds of talks but failed to narrow their differences.
"For the past 10 years, we have been trying to persuade the U.S. to allow us to levy taxes on capital gains realized by its nationals, while Korean investors will also be subject to U.S. taxation, which will be beneficial to both sides. We would like to finish fine-tuning details of the proposed tax treaty revision by the end of this year and bring the matter to a close by February next year," the official said.
If the U.S. agrees to allow Korea to levy taxes on its nationals early next year, the Korean government will be able to impose capital gains taxes on Lone Star when it sells its KEB stake.
Private analysts and civic groups have been pressuring the government over the years to revise the tax accord with the U.S. to prevent American investors from taking profits made here out of the country without paying taxes. They argue that the bilateral treaty is unfair to Korea because not many Korean investors have realized capital gains from equity investments in the U.S.
Following the 1997-98 Asian financial (NYSE:DYP) crisis, Lone Star, Newbridge Capital (TSXV:NBC'P) and other American funds bought distressed corporate assets at bargain prices and realized huge capital gains from selling their holdings several years later in line with improving economic conditions. Under the bilateral tax agreement, they did not pay a single penny in taxes, which fanned a negative public sentiment here.
For instance, Lone Star purchased the Star Tower in southern Seoul for 700 billion won in 2001 and sold it three years later for a 280-billion-won profit, with Newbridge Capital making large returns from its investments in Korea First Bank (OTCBB:FRBA) by selling to Standard Chartered. But they did not pay any taxes.
Riding on negative public sentiment, the National Tax Service (NTS), municipal governments and financial regulators came after them, accusing the U.S. investors of acquiring corporate assets through illegal means.
For example, the tax agency probed Lone Star and Newbridge Capital in 2005 to find out whether they breached the tax law when disposing of their assets, while the Seoul Metropolitan Government imposed taxes on Lone Star against its huge capital gains from the sale of Star Tower.
Among other proposed revisions include slashing a tax rate on royalty payments. Currently, the Korean government imposes a 15-percent tax rate on royalties by local firms to U.S. businesses, and vice versa. But the U.S. wants to lower the rate to 5 percent as U.S. companies receive larger royalties.
