[Jeondaegyu's 7 Attempts and 8 Trials] Flexibility of Tax Authorities

Jeon Daegyu, Chief Judge of Seoul Bankruptcy Court

There are many difficulties when undergoing rehabilitation procedures. Above all, the lack of operating funds is a problem. To proceed with rehabilitation, at least six months' worth of operating funds must be secured, but the procedure is usually applied for when the available funds are nearly exhausted. Once the rehabilitation process begins, business partners prefer cash transactions, and without operating funds, it is difficult to purchase materials and maintain the business. Although we have entered an era of zero interest rates and the capital market, centered on private equity funds, is thriving with abundant liquidity, it is still challenging for companies under rehabilitation to borrow money. Additionally, tax authorities unknowingly make things difficult for companies in rehabilitation.

Taxes are collected for public purposes to meet the financial needs of the state or local governments, so they are granted a superior status compared to other claims. Procedurally, if a taxpayer fails to pay taxes, the tax authorities have the right to enforce collection immediately through self-execution, including seizure. Substantively, they also have priority in compulsory liquidation procedures over other creditors. Due to these characteristics of taxes, special provisions are recognized in rehabilitation procedures compared to other claims, effectively guaranteeing the superior status of tax claims.

In rehabilitation procedures, tax claims are generally considered priority rehabilitation claims, requiring creditors to file claims and allowing for reductions. However, unlike other rehabilitation claims, if the rehabilitation plan stipulates a deferral of collection or suspension of property liquidation due to delinquent taxes for up to three years, the opinion of the authority with collection rights must be heard. If the deferral or suspension exceeds three years, or if the plan includes succession of tax liabilities, tax reductions, or other matters affecting rights, the consent of the authority with collection rights must be obtained.

Simply put, if you want to pay taxes in installments for more than three years or reduce even one won, you must obtain the consent of the tax authorities. As a result, in practice, rehabilitation plans are generally drafted to pay the full amount of taxes within three years. However, most companies entering rehabilitation have significant tax arrears. Drafting rehabilitation plans to repay tax claims in full within three years leads to a shortage of operating funds and makes it nearly impossible to repay other creditors, making it difficult to obtain their consent. This often results in the termination of the rehabilitation procedure. Tax authorities rarely agree to plans that extend payment beyond three years, let alone reductions. Until 2020, when I worked as a bankruptcy chief judge, I recall only about two instances where tax authorities consented.

Rehabilitation procedures aim to revive companies based on the sacrifices of creditors. While many creditors share the losses caused by the debtor's rehabilitation, it is problematic that tax claims, despite their public nature, do not share any losses. Even if reductions are difficult, shouldn't installment payments exceeding three years be somewhat agreed upon? If rehabilitation procedures are terminated and companies go bankrupt, important long-term tax sources disappear, causing losses to the state and local governments.

However, the situation is gradually changing. Due to the increased difficulties faced by companies amid the COVID-19 pandemic and government policy support for businesses, changes are being observed in rehabilitation procedures. The previously unyielding attitude of tax authorities has softened. While it is still rare to find cases where tax reductions are agreed upon, there seems to be considerable flexibility regarding installment payments. Recently, the Seoul Rehabilitation Court has seen tax authorities agree to installment payments over four years (2019ganhoehap100054), six years (2019ganhoehap100076), and even ten years (2020hoehap100018).

This proactive shift in the tax authorities' stance will greatly assist companies in distress to rehabilitate. By extending installment payments, companies can avoid additional charges or late payment penalties during that period and use the extended payment period funds for production activities or employee wages. I hope this approach by the tax authorities is not a temporary phenomenon caused by the COVID-19 crisis.
<전대규 Seoul Rehabilitation Court Chief Judge>