[Exclusive] Owner Family’s Shares Double in 24 Billion Won Free Capital Increase... Dongwon: "Why Pay 3.5 Billion Won in Taxes?"

Stock Swap of Dongwon Dairy Food and Dongwon F&B Yields 27.7 Billion Won Profit
Bonus Issue by Dongwon Industries Further Strengthens Owner Family's Control
Court: "Share Transfer Gains Are Taxable When Distributed to Shareholders"
Supreme

It has been confirmed that Dongwon Industries is engaged in a legal dispute with the tax authorities over whether “dividend income tax” can be imposed on shares distributed free of charge (via a capital increase without consideration) to the owner family, using funds generated from an affiliate share swap. Both the first and second trial courts ruled against Dongwon Industries, and the case is now being reviewed by the Supreme Court. Given that “comprehensive stock swaps”—an increasingly common measure to resolve duplicate listings—are happening more frequently, there is significant interest in the Supreme Court’s forthcoming decision.

According to reporting by The Asia Business Daily on the 23rd, the Administrative Division 1-3 of the Seoul High Court in February rejected Dongwon Industries’ appeal and upheld the first trial’s ruling against the company in its lawsuit to cancel the dividend income tax imposed by Seocho Tax Office. Dongwon Industries did not accept the appellate court’s decision and appealed to the Supreme Court. As of the 20th, with the expiration of the period for summary dismissal, a full-scale review by the Supreme Court is now underway. Summary dismissal is a system whereby the Supreme Court, if it finds no issues with the lower court’s verdict, can dismiss an appeal without further review within four months of receiving it.

'Dongwon Family' Finalizes Group Governance Structure through 'Share Swap'

“Dongwon Enterprises,” the holding company of Dongwon Group, transferred its wholly-owned subsidiary “Dongwon Dairy Food” to the listed company “Dongwon F&B” in 2010 via a share swap. As a result of the share swap, Dongwon Enterprises’ stake in Dongwon F&B rose from 50.25% (1,574,890 shares) to 59.6% (2,299,863 shares). Dongwon F&B issued 724,973 new common shares and allocated them to Dongwon Enterprises, the largest shareholder of Dongwon Dairy Food.

During this process, a gain of more than 27.7 billion won was realized, which Dongwon Group retained as “capital surplus” in the company. Later, in 2015, Dongwon Enterprises carried out a free capital increase using about 24 billion won from its capital surplus, granting the owner family and shareholders a total of 6,377,000 free shares. At the time, Chairman Kim Jae-cheol (now Honorary Chairman) held a 24.5% stake in Dongwon Enterprises, Vice Chairman Kim Nam-jung (now Chairman) held 67.98%, with the remainder owned by relatives, the Dongwon Foundation for Youth Education, and Namdo Scholarship Foundation. This capital increase nearly doubled the number of shares held by Honorary Chairman Kim—from 1,302,000 to about 2,864,000 shares—and for Chairman Kim, from 3,612,000 to about 7,948,000 shares, while the shareholding ratios remained unchanged.

Subsequently, in November 2022, Dongwon Group merged Dongwon Enterprises into its former subsidiary “Dongwon Industries,” making Dongwon Industries the new holding company. In April 2024, to resolve the “dual listing” structure in which both Dongwon Industries and Dongwon F&B were listed simultaneously, Dongwon Industries carried out a comprehensive share swap to make Dongwon F&B its wholly owned subsidiary. Afterward, Dongwon F&B shareholders received Dongwon Industries shares, and Dongwon F&B was delisted, becoming Dongwon Industries’ unlisted, wholly owned subsidiary. In effect, this resolved the complex dual listing issue and unified the group under a single holding company structure.

Currently, with Honorary Chairman Kim succeeded by Chairman Kim, Dongwon Industries is led by the owner family, who hold roughly a 78% stake in the company. Chairman Kim himself holds 53.7%, making him the controlling shareholder and establishing a structure in which the major shareholder dominates the entire group.

Dongwon: “Why should we pay tax on a capital increase without consideration?” vs. Tax Authorities: “The free capital increase was funded by corporate surplus”

Dongwon Industries determined that the capital increase without consideration funded from capital surplus did not fall under the “deemed dividend” provision defined by the Income Tax Act, and therefore did not pay dividend income tax. A deemed dividend, according to tax law, refers to cases where retained earnings—representing earnings from a company’s operations—are distributed to shareholders or investors in non-cash forms but nonetheless confer a similar economic benefit as a cash dividend, and are thus taxed as dividends for the sake of fairness.

By contrast, the tax authorities judged that Dongwon Industries’ free capital increase was funded by company profits, and imposed a dividend income tax of more than 3.5 billion won. Dongwon Industries paid the tax, but, citing a difference in interpretation regarding deemed dividends, sought a judicial ruling. In court, Dongwon Industries argued: “Even if it is treated as surplus under commercial or accounting law, unless surplus under the tax code arises from a share swap, free shares issued through a capital increase funded from capital surplus are only an ‘unrealized gain’ and not subject to deemed dividend taxation.”

However, the court took a different view. The court found that just as it is natural to levy a dividend income tax when dividends are paid in cash, it is also equitable to tax dividends distributed as shares. Both the first and second instance courts concluded, “Whether the gain from the share transfer is retained in cash and then given directly to shareholders, or allocated to capital and distributed via a capital increase without consideration, they should be regarded as substantively identical except for the form.”

Attorney A, a former chief judge, remarked, “When cash is distributed as a dividend, those funds leave the company and are used by shareholders. But when the gain from share transfers is distributed as shares, the company’s actual cash remains within the company. Whether or not funds actually leave the company and are instead retained will likely be the key point at issue in the Supreme Court.”

Regarding this, a Dongwon Industries official commented, “This lawsuit arose from differences in interpretation regarding ‘deemed dividends.’ The aim was to bring attention to the issue given the differing interpretations, and since the substantive review will be conducted by the Supreme Court, we plan to carefully await the court’s final decision.”

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