Small firms suffer due to taxation on chaebols` internal trading

The National Tax Service sent a notice to more than 10,000 owners of companies, which raked in profit through internal trading among their firms; affiliates last year, and their relatives to inform that they are subject to transfer tax. Those who received the notice included the 10 largest companies, including Samsung, Hyundai Motor, SK and Hanwha, and a number of mid-size established enterprises, and small and medium-size firms. But controversy has flared up because companies that established vertical subsidiaries to rationalize their management, in a practice that has nothing to do with circumventive wealth inheritance or “web-like expansion of businesses” by conglomerates, also face the bombshell of hefty taxes.

Internal trading among affiliates is a tactic in which the parent company conducts business transactions with its subsidiary, in which the family of the parent company’s owner and his relatives hold majority stakes, and thus increase the subsidiary’s stock price. For instance, Hyundai Motor accorded a significant portion of business to Hyundai Glovis, a logistics company established by Hyundai Chairman Chung Mong-koo’s son Ui-seon, who is vice chairman of the automaker, while SK Group’s affiliates granted majority of computer system projects to SK C&C, their information technology affiliate. The government is imposing taxes on internal trading because this is often used by business owners to inherit managerial control to their children, or illicitly inherit wealth. Internal trading should be regulated not only because the practice in itself dampens corporate competiveness, but also runs counter to economic justice.

But the situation is quite different for mid-sized established firms and small and medium-size companies. Company A, a mid-size firm listed on the Kosdaq market, founded a subsidiary producing core parts and received parts supplies in a bid to enhance managerial efficiency. But the majority stakeholder in Company A has been levied 600 million won (530,000 U.S. dollars) in transfer tax. The problem is that the majority stakeholder in Company A has not inherited his subsidiary stockholding, and Company A has no other source of parts in Korea. If Company A is to avoid such tax, it should imports parts from Japan at prices three to four times higher. Company B established a parts supplier as a new investment initiative, and received supplies, and as a result, is poised to pay hefty tax as well. The company created a new subsidiary through technological innovation, but is facing bombshell transfer tax.

Imposing heavy inheritance tax to mid-sized established firms and small and medium-size companies does not comply with the purpose of the tax levied on internal trading practice. Unlike the expectation that crackdown of internal trading will increase business contracts outsourced from mid-size established firms and smaller companies, jobs are poised to decline instead, because mid-size established firms and smaller firms are taking over their own subsidiaries instead. The government should not decelerate the economy by blindly imposing tax on internal trading in a way that fails to reflect the situation facing companies.