South Korea Supreme Court judgment on Foreign Fund Permanent Establishment
Published: 21 November 2017
The Supreme Court of Korea has held that a foreign fund (fund) would not be found to have a permanent establishment (PE) in South Korea when a non-resident individual (executive) who is a limited partner in the general partner of the fund was appointed as a director of the general partner’s Korean subsidiary company (affiliate) which provides various services to the fund in respect of Korean companies in which the fund invested.
The case involved a private equity fund investing into Korean companies through a special purpose company established in Belgium. The Korea – Belgium Tax Treaty provides for capital gains exemption unless the capital gain was realised through a PE in South Korea. The Korean tax authority determined that the fund had a PE in Korea and assessed taxes on Korean sourced income. The tax authority argued that executives performed essential and significant duties through a fixed place of business in Korea (fixed place PE) in their capacities as directors of the affiliate.
Additionally, it was argued that a dependent agent type PE existed because the executives and / or the affiliate were dependent agents who habitually exercised authority to conclude contracts on behalf of the fund. The Supreme Court held that there was no fixed place PE since all significant decisions were made abroad, the executives were acting for the affiliate, not the fund, and the activities carried out by the affiliate were preparatory or auxiliary.
It also held that an agency PE did not exist because the activities performed by the executives were performed in their capacity as officers of the affiliate which was a separate legal person from the fund and there was no evidence that the executives habitually exercised authority to conclude contracts on behalf of the fund. The decision provides important guidelines for determining the existence of a Korean PE and thereby structuring Korean investments. However, the potential effects of provisions relating to PEs introduced into tax treaties as part of the outcome of BEPS Action 7 need to be considered.
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