“Introducing Future Response Fund Means Not Sharing Increased Tax Revenue with Local Governments”

Korea Institute of Local Finance report on local allocation tax overhaul
Trend estimates used as settlement cap... Limits reflection of increases in national tax revenue
No specific criteria set for support if local fiscal conditions worsen

The government is moving to introduce a Future Response Fund worth 162 trillion won in next year’s budget proposal and overhaul how local allocation tax grants are calculated and settled. This has prompted calls for discussion on the principles governing the distribution of funds between the central and local governments and on how to ensure the stability of local finances.

In a recent report titled “What Impact Will the Introduction of a Future Response Fund and the Overhaul of the Local Allocation Tax Have on Local Finances?”, the Korea Institute of Local Finance said, “The introduction of the Future Response Fund and the overhaul of the local allocation tax go beyond a simple adjustment to the formula. They concern intergovernmental fiscal relations and the question of how it is appropriate to share the benefits and burdens resulting from increases and decreases in tax revenue.”

Proposed overhaul of the local shared tax calculation method. Provided by the Korea Institute of Local Finance.

Last month, the government submitted to the National Assembly the “Bill on the Establishment and Operation of the Future Response Fund” to mitigate fluctuations in tax revenue caused by economic cycles and secure funding for future-oriented investment. The fund is intended to strengthen the stability and efficiency of national fiscal management and support the development of future growth drivers in areas including youth, artificial intelligence (AI), regional development, education, and talent.

An amendment to the Local Allocation Tax Act, submitted the same day, would retain the statutory rate of 19.24% of total domestic tax revenue while excluding additional and excess tax revenue transferred to the Future Response Fund from the basis for calculating local allocation tax grants. It would also introduce a new rule requiring the government to use revenue trend estimates, rather than actual amounts, when settling accounts if budgeted or finalized revenue exceeds those estimates. This differs from the current system, which reflects the difference between budgeted and finalized domestic tax revenue in the budget for the year after next.

The government has also established a basis for providing support through the Future Response Fund if local fiscal conditions worsen. However, the bill does not specify concrete criteria, such as how to determine whether local finances have deteriorated, when and how much support would be provided, or how funds would be distributed among local governments, raising questions about the measure’s effectiveness.

Ultimately, the proposed overhaul would set aside some additional and excess tax revenue in the Future Response Fund and use revenue trend estimates as a cap for settling accounts, thereby structurally limiting the extent to which increases in national tax revenue are reflected in local finances.

Lee Hyunjung, head of the Center for Current Issues Response at the Korea Institute of Local Finance, said, “This is an overhaul under which local governments share the burden of declining tax revenue but do not share in the increases. The issue goes beyond an adjustment to the formula and raises the question of whether the central government recognizes local governments as genuine fiscal actors.”

She stressed, “We need to consider how much of the burdens and benefits resulting from decreases and increases in tax revenue should be shared, and how to institutionalize this as a sustainable standard for allocating funds between the central and local governments. Since the proposal sets a cap that limits how much of an increase in revenue is reflected, it is also necessary to establish measures to cushion sharp cuts to local finances when revenue declines.”

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