[Public Voices] Effects of Excluding Overseas Subsidiary Dividends from Corporate Tax

Professor Lee Kyung-geun, Seoul School of Integrated Sciences and Technologies

The tax reform plan announced by the government this year includes a system that excludes dividends received from overseas subsidiaries from the corporate tax base of domestic companies (the overseas subsidiary dividend exemption system). Currently, when a domestic company receives dividends from an overseas subsidiary, the dividends are included in the tax base and taxed, but a foreign tax credit system is allowed to prevent double taxation by deducting taxes paid overseas. The new exemption system will replace the existing system. This tax reform plan is a system adopted by most member countries of the Organisation for Economic Co-operation and Development (OECD). In particular, the United Kingdom and Japan, which had long applied the foreign tax credit system to dividends from overseas subsidiaries, switched to the exemption system in 2009, and the United States followed in 2017. What is the reason for promoting such a system change?

The most important reason is to enhance the global competitiveness of domestic companies operating overseas. Under the exemption system for dividends from overseas subsidiaries, international double taxation on dividends is completely eliminated. In contrast, under the foreign tax credit system, international double taxation is generally not fully eliminated due to limitations on the scope of tax credits and country-specific credit limits. Due to these issues, the industry has been requesting the government to introduce the exemption system for dividends from overseas subsidiaries for several years, but it had not been accepted until now. This year, the government plans to revise the tax law to improve corporate competitiveness.

Another important reason is to promote the remittance of retained earnings from overseas subsidiaries to the domestic parent company. From a corporate perspective, if an overseas subsidiary has to pay additional corporate tax when distributing dividends to the domestic parent company, it is more likely to keep the retained earnings overseas and have the subsidiary pay directly when needed rather than remitting the funds to Korea. However, if the exemption system is allowed for dividends paid to the domestic parent company, there will be no need to pay additional corporate tax, so overseas subsidiaries will frequently remit retained earnings to the domestic parent company. According to the Bank of Korea’s international balance of payments statistics, as of the end of 2021, the retained earnings of overseas direct investment companies are estimated to be about $90.2 billion (approximately 107 trillion KRW). If such a huge amount of funds freely flows into Korea for investment or use, it is expected to increase domestic production and consumption, thereby revitalizing the economy and helping stabilize the recently soaring exchange rate.

Applying the exemption system to dividends from overseas subsidiaries will also mean that multinational corporations with regional headquarters in Korea will not incur additional corporate tax costs when investing in and receiving dividends from affiliates in neighboring countries. As a result, the number of multinational corporations establishing regional headquarters in Korea is expected to increase, which will likely create high-quality jobs and improve the foreign investment environment in Korea.

Moreover, the exemption system for dividends from overseas subsidiaries is simpler than the foreign tax credit system, significantly reducing the complexity of corporate tax filings for taxpayers. Considering that Korea will soon have to introduce an international digital tax led by the OECD, the simplicity of the system is also a very important consideration.