How Preferred Shareholders of Korean Companies Can Address Unfair Tax Treatment

The morning sunlight filtered through the blinds of Mr. Oh's neatly organized office. Bookshelves stacked with volumes on Korean tax law and corporate finance lined the walls, and the subtle scent of freshly brewed tea filled the room. Mr. Hong entered, his expression a mix of worry and determination.

"Good morning, Mr. Oh," Hong began as he took a seat across the polished desk. "I need your expertise on a tax matter involving Redeemable Convertible Preferred Shares, or RCPS."

"Good morning, Mr. Hong," Oh replied, adjusting his glasses. "Please, go ahead."

Hong took a deep breath before explaining. "Our company, Gil-dong Holdings, acquired RCPS from Gil-dong Invest back in 2018. Recently, we attempted to convert these shares into common stock, but we discovered the conversion ratio was set at 1:0.7 instead of 1:1. According to Korean commercial registration precedents, conversions are not permitted if the ratio is below 1:1, and now we’re facing a significant issue."

Oh leaned forward slightly, his face serious. "I see. So the restriction on the conversion ratio under Korean commercial law has effectively blocked the process."

"That’s correct," Hong said with a nod. "To resolve this, we had no choice but to transfer a portion of the RCPS to Gil-dong Industries without compensation. Gil-dong Industries then canceled the shares, which allowed us to adjust the conversion ratio to 1:1 before converting them into common stock. However, this workaround has raised concerns about potential gift tax under Korean tax law. Specifically, we’re worried about the implications of Article 39-2 of the Inheritance and Gift Tax Act."

Oh folded his hands, his expression thoughtful. "I understand. The cancellation of RCPS is indeed considered a reduction in corporate capital under Korean tax regulations. If it is determined that a major shareholder or a related party gained financial benefits from this process, it could trigger gift tax liability."

Hong’s brows furrowed. "So, despite following this procedure due to the legal constraints, there’s still a possibility of taxation?"

Oh nodded gravely. "Yes, the risk exists. Korean tax authorities are particularly vigilant when it comes to transactions involving major shareholders and related parties. To minimize the risk of taxation, I recommend taking the following steps:

1. Legal Justification: Clearly document that the conversion at a 1:0.7 ratio was impossible due to Korean commercial registration precedents. Use relevant Korean laws and precedents to demonstrate that this procedure was unavoidable.

2. Proof of No Profit: Collect evidence showing that neither the major shareholders nor related parties derived any financial benefit from this process. This includes preparing accounting records, detailed stock valuation reports, and transaction histories.

3. Preparation of Supporting Documents: Collaborate with Korean tax professionals to systematically prepare materials to present to the National Tax Service (NTS). A thorough and well-organized explanation can help build trust and reduce the likelihood of disputes."

   
   

Hong scribbled notes furiously on his notepad. "Thank you for the detailed advice. I’ll start gathering the necessary documentation immediately. I may need further guidance as we move forward."

"Of course," Oh said, offering a reassuring smile. "Feel free to reach out at any point during the process. I’m here to help."

"Thank you, Mr. Oh," Hong said, standing and extending his hand. "I really appreciate your expertise on this matter."

Oh shook his hand firmly. "It’s my pleasure. Best of luck, and let me know how things progress."

As Hong stepped out of the office into the crisp morning air, the gravity of navigating Korea’s intricate tax system weighed on him. Yet, he felt a sense of reassurance knowing he had a seasoned expert like Mr. Oh by his side.