[Jeondaegyu's 7 Trials and 8 Failures] Taxes Are Scarier Than Tigers

Jeon Daegyu, Chief Judge of Seoul Bankruptcy Court

It was when I had just finished serving as the head of the bankruptcy division at Changwon District Court and was working at Suwon District Court. One day, the CEO of a company undergoing rehabilitation proceedings at Changwon District Court called my office. From the other end of the line, the words kept breaking up as he said, "I... ba...nk...rup...tcy... ca...n... I... spe...ak... wi...th... yo...u?" I immediately recognized who it was. He was running a small to medium-sized business and tended to stutter severely when nervous or speaking with unfamiliar people.

The purpose of his call was this: after concluding the rehabilitation proceedings and running his business normally, he suddenly received a demand from the tax office to pay about 1 billion won in value-added tax (VAT), which put him in a difficult position. He wanted advice from me on what to do. Since he had always consulted me on legal issues during the rehabilitation process, it seemed he thought of me again this time. So, I told him to come to Suwon with the relevant documents. A few days later, he came to the Suwon District Court office carrying a lot of materials. The overall situation was as follows.

Anyone running a business generally pays 10% of their sales amount as VAT unless there are special circumstances. The problem is that VAT is paid based on the principle of definitive rights and obligations. For example, if Company A (Gap) sells on credit to Company B (Eul) for 10 billion won (most transactions are credit transactions), Company A must pay 1 billion won (sales tax amount) in VAT at the time of delivery (sale), even if it has not received any payment from Company B. On the other hand, Company B deducts 1 billion won (purchase tax amount) from the VAT it must pay. This is for the convenience of VAT payment. VAT is paid at the time of sale regardless of whether the payment for goods has actually been received. This is the principle of definitive rights and obligations. However, if Company B later goes bankrupt and fails to pay the sales amount, the government refunds the 1 billion won VAT to Company A. Conversely, the government collects 1 billion won VAT from Company B.

The visitor’s situation corresponded to that of Company B. In the rehabilitation process, the creditor’s (Company A’s) claim of 10 billion won was waived, and the rest was to be repaid. Since the creditor (Company A) did not recover the 10 billion won, the government (tax office) refunded 1 billion won to Company A. Subsequently, the government (tax office) notified the business operator (Company B) to pay 1 billion won in VAT. This was an unexpected situation in the rehabilitation process, so he could only be flustered. 1 billion won is not a small amount for a small to medium-sized business, and since taxes must be paid before disputing, the company was at risk of bankruptcy.

The tax law had become an obstacle to corporate rehabilitation. Does it make sense to demand payment of VAT arising from transactions several years ago just because the creditor’s claim was reduced in the rehabilitation process? The VAT refunded by the government to the creditor is a benefit and unrelated to the other party. Is it right to hold the other party responsible for it? Should businesspeople anticipate that they might have to reduce debts through rehabilitation proceedings when running their business? Haven’t they already fulfilled all their VAT payment obligations arising from those transactions? Many thoughts crossed my mind.

Since my time in Changwon, I was aware of the difficulties faced by companies entering rehabilitation due to VAT reassessments. Therefore, I had written a thesis stating that in such cases, the business operator need not pay VAT. After hearing the whole story, I handed him the thesis and advised him to submit it to the tax office and explain his situation. At that time, the tax office often reassessed VAT, but depending on the case, they sometimes refrained from doing so.

Suddenly, the old saying Gajeongmaeng-eoho (苛政猛於虎) came to mind. Just as harsh governance is more terrifying than a tiger, harsh taxation crushes the will of entrepreneurs to recover. Rehabilitation proceedings fundamentally require the sacrifice of creditors, including tax creditors. Although taxes are the financial foundation of the state and local governments, if the tax base disappears, it ultimately harms the state and the economy. It seems necessary to revise and interpret tax laws to provide companies undergoing rehabilitation with breathing space. I also think it might be time for the Supreme Court to reconsider the principle of definitive rights and obligations.

This content was produced with the assistance of AI translation services.