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KOREA's VAT Introduction

KOREA'S VAT REGIME -Success Factors and Policy Implications- April 2011 Ministry of Strategy and Finance. Contents. KOREA's VAT Introduction. VAT's contribution to KOREA's Economic Development. Major Factors behind Successful VAT regime. Policy Implications. Ⅰ . Korea's VAT Introduction.

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KOREA's VAT Introduction

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  1. KOREA'S VAT REGIME-Success Factors and Policy Implications-April 2011Ministry of Strategy and Finance

  2. Contents KOREA's VAT Introduction VAT's contribution to KOREA's Economic Development Major Factors behind Successful VAT regime Policy Implications

  3. Ⅰ. Korea's VAT Introduction

  4. Background Korea’s first half of the 20th century • 1910 ~ 1945 : under the colonial rule • 1950 ~ 1953 : the Korean War • 1961 : military coup • 1962 : 1st 5-year Economic Development Plan Complicated Indirect Tax System • the Korean Government started 1st 5-year Economic Development Plan in1962 • to mobilize fiscal revenue needed to finance the Economic Development Plan, several new tax items added and tax rates raised

  5. Korean Tax Regime before introducing VAT In 1971, the Korean government started to consider abolishing complicated indirect taxes in multiple tax rates and adopting the VAT regime to establish a simple and neutral tax system as well as secure financial resources stably • different tax rates among goods & services ⇒ distortion of relative prices • too many indirect taxes and rates ⇒ high compliance & administration cost

  6. It took 6 years to prepare to set up the VAT regime from considering VAT introduction in 1971 and its enactment in 1976 Consultation with Tax Experts of the IMF and the UN Consultation with academia, business, research institutions, media, financial institutions, lawyers Persuading the opponent of the VAT introduction 6-year Preparation Period Pros and Cons

  7. To establish VAT infra nation-wide campaign for issuing and receiving of receipts and use of cash register training tax officials taxpayer education : 3 rehearsals participated by all 830,000 taxpayers To ease the inflation worries set guideline price for 851 items of goods & services on-site inspection of the prices by 4,920 teams of gov’t officials ※ CPI increase rate (%) : ('74) 24.3, ('75) 25.3, ('76) 15.3, ('77) 10.1, ('78)14.5 To mitigate regressivity tax exemptions for necessities(food, public transportaion, books, medical & education service, etc) Special Consumption Tax on luxury goods(jewelry, passenger car, colour TV, audio devise, air conditioner, etc) Efforts to mitigate Adverse Effects

  8. Ⅱ.VAT's contribution to Korea's Economic Development • Major Source of Fiscal Revenue • Streamline the Indirect Tax System • Support Export and Investment • Reduce Tax Evasion

  9. Major Source of Fiscal Revenue Since its introduction in 1977, VAT has become a major source of government revenue • The Single Largest Tax Item(2010) • VAT revenue's ratio to GDP : 4.5%(2010)

  10. Streamline the Indirect Tax System 8 tax items & 55 tax rates → 2 tax items & 14 tax rates ⇒ reduced tax compliance & administration cost single tax rate for all taxable commodities and services ⇒ increased neutrality

  11. Support Export and Investment The VAT regime was in line with the economic development strategy in the 1960s and 70s : the export promotion and the gov't-led industrialization • zero rate to the export goods • input tax credit for the capital goods purchased VAT regime has been quite favorable to export and capital formation

  12. Reduce Tax Evasion Issue & submit tax invoice with which the tax authority can cross check the transaction⇒ Reduce Corporate tax & Income tax evasion, as well as VAT evasion ※ VRR(VAT Revenue Ratio) : 5th rank among 31 OECD countries(2005)* VRR = VAT revenue/[(consumption expenditures - VAT revenue)×standard VAT rate]

  13. Ⅲ. Major Factors behind Successful VAT Regime • Simple Rate Structure • Simple VAT Payment Scheme for small businesses • Cross-check system at every stage of transaction • Cooperation between MOSF & NTS • Training & Enlightenment

  14. Simple Rate Structure ① Relatively low rate of 10% • average VAT rate of OECD countries : 18%(Jan. 2010) • low tax rate leads to low temptation of tax evasion ② Single rate • easy to understand and calculate taxes payable • reduce tax payer's compliance costs and tax authority's administrative costs

  15. Exception to [output tax - input tax] payment scheme Sole proprietor with annual taxable turnover of KRW 12mil. or less exempt from book-keeping, issuing of tax invoice apply simple calculation method for VAT payable : VAT = turnover×2% (reason) to alleviate the resistance for newly introduced VAT from small businesses which lacks knowledge of tax law & bookkeeping ability (why KRW 12milion) 80% of total tax payer Problem : cut in the tax invoice flow ⇒ keep the rate of increase of the threshold lower than that of inflation rate Simple VAT Payment Scheme for small businesses

  16. ※ Change of threshold ※ The ratio of simplified VAT taxpayers to total taxpayers

  17. Cross-check system at every stage of transaction (B2B) mandatory issuance & receipt of tax invoices • heavy penalty on non-issuance or false tax invoice • to claim an input tax credit, a purchaser needs to receive the tax invoice from a supplier ⇒ cross check between a supplier & a purchaser (B2C) Incentives on credit cards & "cash receipt" • (consumer) allow a deduction for payments by credit cards or in cash with "cash receipts" from gross income • (supplier) allow a deduction for certain amount of sales by credit cards or in cash with “cash receipts” from output tax

  18. The National Tax Service (NTS) identifies any irrational tax law articles during the process of execution of laws proposes to MOSF for the amendment to such laws The Ministry of Strategy and Finance (MOSF) reflects NTS’s proposals into the revision procedure MOSF and NTS regular exchange of workforce Cooperation between MOSF & NTS

  19. Training Train tax officials at the National Tax Officials Training Institute Establish National Tax College (1980) Enlightenment Inform the public of new VAT regime via mass media including TV Give a presentation on the new regime to business associations Tax officials visit taxpayers to enlighten them about the purpose of the new VAT regime and how to comply with it Training & Enlightenment

  20. Ⅳ.Policy Implications

  21. Introduction stage Design a simple & convenient tax system ⇒ Mitigate tax resistance Prepare necessary infrastructures Cope with any potential problems Maintenance stage Improve the VAT regime in a steady manner to enhance taxpayer's convenience Commitment and responsibility of politicians & administrative officials Policy Implications

  22. Thank you!

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