If a grandfather pays grandchild’s overseas study expenses, should he pay gift tax?
By Kim Sang-jun
In general, the following rules are well known: a gift tax shall be imposed on any property that a person has received as a gift from another person; and the maximum value of property that a person can receive from another person within a 10-year period without paying a gift tax amounts to: (a) 600 million won from a spouse; (b) 50 million won in total from parents and grandparents; and (c) 10 million won in total from relatives by blood or marriage.
However, people do not seem to be fully informed of the detailed stipulations of the Korean Inheritance and Gift Tax Act (“IGTA”) on the following rules: certain types of gifts from another person shall not be deemed as gifts subject to gift tax; and certain types of economic benefits, which do not look like gifts under commonsense, fall under the category of gifts subject to gift tax.
According to the IGTA, the following cases are exempt from gift tax: when the property is gifted from the state or a local government; socially recognized disaster relief goods, medical treatment expenses, living expenses, education fees and tuition for dependants’, scholarship, souvenirs, congratulatory money, condolence money and wedding supplies; and money and goods for the disadvantaged that have been donated through mass media organizations (as in the case of a fundraising telethon).
Specifically, in the case of education fees and tuition, when a father pays his child’s school fees, it is non-taxable. However, if a grandfather bears overseas study expenses for his grandchild, the amount concerned can be classified into property subjected to a gift tax because the child is not the grandfather’s dependant. We also note that, if a certain amount given to the child for his/her school fees or tuition exceeds a proper level to cover his/her expenses and the excess money is used for the child to make stock investments, that excess amount may be subject to the gift tax.
In addition to general types of gifted property, economic benefits on which the gift tax shall be imposed pursuant to the IGTA include profits earned: by purchasing the property at below the market price, or by transferring the property to another person at a higher than market price; by using another person’s real estate without payment; by borrowing money from a financial institution at a lower interest rate by offering another person’s real estate as security; by borrowing money from another person without consideration or at a lower than fair interest rate; by using another person’s property free of charge or at a price below the market value; by allowing another person to use his/her property in return for higher rent than the market value; by a large shareholder as a result of a merger between corporations in a special relationship; in the form of excessive dividends received by a person specially related to the largest shareholder of a corporation when the largest shareholder renounced a portion of those dividends; by a person specially related to the largest shareholder as stocks donated to or acquired by the person were listed within five years from the day of such donation or acquisition; by a shareholder of a corporation when the corporation increases or decreases its capital inequitably in the course of capital increase, capital reduction and investment in kind; by a specific shareholder by taking over, acquiring or transferring convertible bonds and bonds with warrants (“convertible bonds”) or by converting convertible bonds into stocks, or exchanging convertible bonds for stocks.
As explained, profits subject to gift tax include various types of transactions that fall outside gifts according to the commonsense of ordinary people. In particular, profits related to stocks arise from a transaction type that can be often seen while startups newly formed with innovative technology are raising funds from outside sources. Such startups are likely to carelessly review whether or not to pay gift tax, because it is imposed not on a corporation itself but on its shareholders.
In this connection, companies intending to engage in capital transactions, such as capital increase, capital reduction and issuance of convertible bonds, should examine thoroughly whether a gift tax will be imposed on their shareholders and should report gift tax reasonably to avoid unnecessary additional tax, if necessary. They should also consult with relevant professionals over taxation matters, in light of their complexity.
Kim Sang-jun is a certified public accountant and a member of the HMP Law Tech & Comms team, for which he reviews and researches tax and accounting issues.