[Leaking K-Alcohol Tax]④ Solo Jonggase... Calls for Gradual Reform

Only Korea, Chile, Colombia, and Mexico Among OECD Countries Use the Ad Valorem Tax System
Most Advanced Countries Have Adopted the Specific Tax System
Price Increase for Diluted Soju Inevitable... "Gradual Reform"

A whiskey specialty store in Tokyo, Japan.
Photo by Koo Eun-mo

The reason why shopping for alcoholic beverages has become an essential part of overseas travel for Koreans is due to the country's liquor tax system. Korea has adopted an ad valorem tax system since 1967. The ad valorem tax is a system that imposes taxes based on the product's ex-factory price as the tax base, so when product prices rise due to inflation or other factors, tax revenue automatically increases proportionally. From the government's perspective, this has the advantage of facilitating increased tax revenue. On the other hand, consumers face higher purchase costs, and producers bear increased production costs.

Because of this, there are criticisms that the ad valorem tax hinders the development of the domestic liquor industry. The ad valorem tax reduces incentives to produce premium distilled soju or whiskey. Producing high-quality products requires tangible and intangible resource inputs such as high-quality ingredients and long-term aging, which inevitably leads to higher ex-factory prices. However, under the ad valorem tax system, the increase in ex-factory price due to efforts to improve quality is reflected in the tax burden, leading to higher retail prices. Since expensive alcoholic beverages impose a heavy purchase burden, consumers tend to avoid them.

A representative from the distilled soju brand 'Hwayo' pointed out, "The current liquor tax system favors low-priced products and acts as an obstacle to quality enhancement." He added, "Hwayo uses 100% high-quality domestically produced rice as raw material, so its ex-factory price is high, but because it is subject to the ad valorem tax, it is taxed heavily, resulting in a retail price about 7 to 8 times higher than diluted soju." He explained, "As a result, domestic distilled soju including Hwayo holds less than 5% market share domestically, which leads to the judgment that these products have a weak domestic base, causing difficulties in the export process."

Also, Golden Blue, which promotes itself as K-whiskey, has a whiskey production plant in Gijang, Busan, but imports the raw whiskey from Scotland and bottles it in Australia before bringing it into Korea. Since imported liquor is taxed based on the customs clearance price, no tax is imposed on the importer's selling and administrative expenses, but for domestic manufacturers, tax is imposed on the factory ex-factory price, so selling and administrative expenses are also taxed.

Distilled soju 'Hwayo'

Among OECD member countries, only Korea and three others impose ad valorem tax

Calls to switch Korea's liquor tax system to a specific tax system have continued for years. The specific tax system imposes taxes based on the volume of alcohol, and switching to this system would abolish differential tax rates among types of liquor, resulting in equal tax burdens. Among the 38 OECD member countries, except for Korea, Chile, Mexico, and Colombia, all have adopted the specific tax system. This is because the ad valorem tax imposes taxes regardless of the alcohol content of liquor products, which is seen as causing social costs related to drinking.

Exterior view of a wine specialty store in Tokyo, Japan.
Photo by Koo Eun-mo

Korea also switched the tax system for beer and takju (unfiltered rice wine) to a specific tax system starting in 2020. This was in response to industry demands to improve the structural problem where taxes rise as ex-factory prices increase due to the use of high-quality raw materials. An industry official said, "Most OECD countries have adopted the specific tax system because it is considered the most effective way to reduce social costs caused by drinking," adding, "Higher alcohol content means the drink can increase social costs due to alcohol, so it is appropriate to impose taxes proportionally."

There have been attempts to amend the liquor tax law. In 2023, during the 21st National Assembly, then Democratic Party lawmaker Ko Yong-jin proposed a bill to introduce a specific tax system for distilled liquor. However, it was discarded due to the expiration of the 21st National Assembly's term, and no related bills have been proposed in the current 22nd National Assembly.

Soju price increase inevitable... obstacle to switching to specific tax system

Switching to a specific tax system involves the principle of 'high alcohol content, high tax rate,' meaning higher taxes are imposed on drinks with higher alcohol content. Because of this, taxes on premium liquors such as whiskey decrease, leading to price drops. Also, producers of traditional domestic distilled soju benefit from lower ex-factory prices, improving price competitiveness in domestic and international markets.

However, low-priced liquors such as diluted soju face increased tax burdens and inevitable price hikes. Soju is a representative alcoholic beverage enjoyed by the general public, making it a key item the government monitors for price stability. This is a major reason why switching to a specific tax system is hindered. According to the specific tax rates proposed in the previous liquor tax amendment bill, applying 1,563.26 KRW per liter to distilled liquor would reduce whiskey's tax burden from 63,651 KRW to 13,545 KRW, a 78.7% decrease, while diluted soju's tax would rise from 662 KRW to 864 KRW, a 30.5% increase.

Therefore, an alternative has been proposed to further subdivide tax categories by type of liquor so that the tax burden on diluted soju does not increase while other types can have reduced tax burdens. The idea is to maintain the current ad valorem tax for diluted soju, the popular mass-market liquor, and gradually switch to a specific tax system starting with distilled soju.

However, some believe it will not be easy to separate soju from other distilled liquors or to classify soju into diluted and distilled types for taxation. There have already been trade issues caused by tax burden differences among distilled liquors. In the late 1990s, Korea applied a 35% tax rate on soju and 100% on whiskey, which Western countries challenged at the World Trade Organization (WTO) as unfair. The WTO accepted the complaint and recommended Korea amend the liquor tax law to eliminate discrimination between soju and whiskey. This led to the uniform 72% tax rate on distilled liquors in 1999.

Therefore, voices are calling for a phased transition to a specific tax system, starting with fermented liquors such as yakju (medicinal rice wine), cheongju (refined rice wine), and fruit wine, followed by distilled liquors, after beer and takju. This is because the price variation within the same type of fermented liquor is relatively small compared to distilled liquors, making it easier to persuade opponents.

It is suggested as a practical approach to announce the transition schedule in advance so that the liquor industry and consumers have time to adapt to the specific tax system and gradually switch accordingly. Japan adopted a method of announcing the timetable for liquor tax reform in advance to avoid shocks to the industry from sudden changes and transitioning according to that schedule.

An industry official said, "Since the tax burden by liquor type has been familiar for decades, changing to a new system requires accepting some increase in tax burden for certain types and some decrease for high-priced imported products," emphasizing, "When establishing a master plan for mid- to long-term liquor tax reform to switch to a specific tax system, it is crucial to uphold the principle of high alcohol content and high tax rate above all."