# 3. Introduction of Tax Incentives for Electronically Traceable Payments (TIETP)

After the mandatory use of CRs proved to be a failure, tax authorities in Korea decided to develop other policy and administrative options to prevent underreporting. In the late 1980s, they began to focus on electronic payments, such as credit card payments, that enabled tax authorities to follow the retail sectors’ audit trails. In 1984, to encourage use of credit cards in retail service sectors, the Ministry of Finance introduced regulations<sup>16</sup> requiring large‐scale businesses (above W 10 billion in sales) to submit detailed lists of tax‐deductible business entertainment expenses to the NTS, with the exception of expenses paid using credit cards. In 1986, the NTS first requested credit card companies to submit taxpayers’ credit card transaction data, which was allowed under the Credit Card Business Law when requested by tax authorities for purposes of tax inquiries or investigations. The NTS thereafter began to use credit card transaction information to verify retail businesses’ tax returns (Jang 1997, 178). The effects of this approach were limited, however, since significant numbers of transactions were still paid with cash.

From the mid‐1990s, when personal income taxation in Korea shifted from use of government assessments to voluntary reporting using tax returns, cash transactions without receipts and underreporting became much more serious challenges to the Korean tax authorities. NTS would receive taxpayers’ voluntary tax returns without assessment if it did not have clear counterevidence to taxpayers’ assertions. NTS could no longer enforce income taxation on the basis of its own income‐to‐sales ratio criteria, as before. Korean tax authorities attempted to fill the gap between taxpayers’ voluntary reporting (underreporting) and NTS’s deficient tax information and evidence.

Against this backdrop, in 1994, the Ministry of Finance introduced a tax incentive for credit card use—0.5 percent of credit card sales credited to VAT payable for retail sellers dealing mainly in goods or services to consumers<sup>17</sup> —and it abolished the similar tax credit for issuing CR receipts. Subsequently, in 1996,<sup>18</sup> the ministry increased the tax credit rate from 0.5 percent to 1 percent (the ceiling of three million won was put in place beginning in 1999<sup>19</sup> ). As of January 1, 2000, the tax credit rate was increased to 2 percent, with a ceiling of five million won.<sup>20</sup> The policy direction slowly turned from CR receipts to credit card payments.

Allowing tax incentives to end‐consumers paying with credit cards was a contentious issue, however. In 1995, the Ministry of Finance started to review tax deductions for wage earners who

> 16. Article 44‐3, Corporate Income Tax Presidential Decree, effective as of October 5, 1985, and Article 106‐2, Personal Income Tax Presidential Decree, effective as of October 5, 1985.

> 17. Paragraph 1, Article 32‐2, VAT Law, effective as of January 1, 1994.

> 18. Paragraph 1, Article 32‐2, VAT Law, effective as of January 1, 1996.

> 19. Paragraph 1, Article 32‐2, VAT Law, effective as of January 1, 1999.

> 20. Paragraph 1, Article 32‐2, VAT Law, effective as of January 1, 2000.

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