YOON&YANG

On June 25, 2026, the Supreme Court of Korea, in a case concerning the income characterization of payments made under a software and services agreement between a foreign SaaS company and a Korean conglomerate, affirmed the lower court’s holding that—even where such payments include some consideration for software use—they constitute business income rather than royalty income if the essential nature of the agreement is the provision of services (appeal dismissed). Acting for the U.S. SaaS company, Yoon & Yang LLC reversed a first-instance loss to prevail in full on appeal, and has now secured a final, conclusive victory before the Supreme Court.

The decision offers important guidance on the income characterization of, and withholding practice for, cross-border payments arising under digital service, SaaS, and database-driven business models. In particular, it makes clear that the mere use of “license” or “license fee” terminology does not permit taxation as royalties where the substance of the transaction is the provision of services.

1. Background and Issues

2. Court’s Analysis

A. First-Instance Court Decision – In Favor of the Tax Authority

B. Appellate Court Decision – In Favor of the Plaintiff (Company A)

C. Supreme Court Decision – Appeal Dismissed; Final Victory for the Plaintiff

3. Implications for Tax Practice

1. Background and Issues

A U.S. SaaS company (“Company A”) entered into an Integration and Services Agreement with a Korean electronics manufacturer (“Company B”), under which Company A’s caller-identification, spam-blocking, and directory-search services (the “WP Services”) were integrated into the native applications of Company B’s smartphones for use by end users. For this purpose, Company A delivered a client program in object-code form (the “Client”) to Company B, and from 2016 to 2021 Company B paid a fixed annual fee (an annual “license fee” ).

Treating these payments as royalty income under the Korea–U.S. tax treaty, Company B withheld tax at the reduced rate of 15% . Company A took the position that the payments were business income of a foreign corporation with no permanent establishment in Korea and therefore not taxable in Korea, filed a refund claim and—after the claim was denied—brought an action to revoke the denial.

The issue was whether payments made by a Korean company to a foreign SaaS company for software and services should be characterized as (i) royalty income for the use of intangibles (know-how or copyright) or (ii) business income for the provision of services. Royalty income is subject to 15% withholding, whereas business income is not taxable in Korea absent a permanent establishment.

2. Court’s Analysis

A. First-Instance Court Decision – In Favor of the Tax Authority

The trial court dismissed the claim, relying on factors including that the agreement expressly characterized the payments as “License Fees”; that the software was not general-purpose software but was developed and adapted for Company B’s smartphones; that Company A continuously provided testing, modification, and maintenance; and that the technology was used domestically in the manufacture and provision of services even if the smartphones were partly produced overseas. On that basis, it treated the payments as royalty income for the use of Company A’s know-how and technology (Whitepages Technology).

B. Appellate Court Decision – In Favor of the Plaintiff (Company A)

The appellate court reached the opposite conclusion. It emphasized that Company B did not itself adopt or use Company A’s technology, but instead had Company A provide services to end users in order to sell smartphones featuring caller-ID and spam-blocking functions; that Company A was the party that actually operated the database servers and performed the caller-ID and spam-blocking; that the Client embedded in the smartphones was a general-purpose program, neither independently sold nor used, functioning merely as a user interface for accessing the services; that modifications made at Company B’s request were technical  changes for integration rather than the creation of new software; that, although Company A owned proprietary databases and know-how, it did not transfer them to Company B but performed the services itself; that installing the application was a technical step for service provision rather than commercial exploitation of copyright; and that the consideration was a fixed annual fee rather than a running royalty tied to production or sales. Taken as a whole, the court held the payments to be consideration for services—that is, business income.

The court added that, even if the payments included some element of consideration for the use of copyrighted material, because the essence of the agreement was the provision of services to end users and the use of the Client was merely a technical prerequisite, the entire consideration should be treated as payment for services; nor was there any basis to separately value the portion attributable to the Client.
 

C. Supreme Court Decision – Appeal Dismissed; Final Victory for the Plaintiff

On June 25, 2026, the Supreme Court (First Division; Justice Seo Kyung-hwan as the assigned justice) dismissed the tax authority’s appeal and affirmed the appellate decision. On appeal, the tax authority argued vigorously that the payments were royalties—pointing to Article 5.1 of the contract, which expressly labels them “License Fees”; to Company B’s express grant of a license and consequent “use” of intangibles; and to the Supreme Court en banc decision in Case No. 2021Du59908 on the meaning of “use.” The Supreme Court did not accept these arguments and upheld the lower court’s conclusion that the substance of the transaction was the provision of services. The taxpayer’s victory is now final and conclusive.

3. Implications for Tax Practice

The decision confirms, at the Supreme Court level, the principle that even in cross-border transactions involving software, payments are characterized as business income where their essential nature is the provision of services, and as royalty income only where they constitute consideration for the transfer or use of technology. It is particularly significant in making clear that the presence of “license” terminology is not decisive and that, where software serves merely as a means of accessing services, the substance-over-form principle precludes treating the payments as royalties.

More broadly, the case shows that, in agreements between foreign SaaS or platform companies and Korean counterparties, the contractual language, the method of determining consideration, and the scope of technology provided can materially change the income characterization and the resulting tax outcome. Korean companies that have routinely withheld tax as royalties on fixed fees paid for SaaS, subscription, or database-linked services should reassess that practice and carefully evaluate both the possibility of recovering previously paid tax through a refund claim and their go-forward withholding obligations.

The International Tax Strategy Center of Yoon & Yang LLC provides comprehensive professional services in areas such as international tax advisory and diagnostics, tax audit defense, tax appeals, tax litigation, and customs, in order to resolve complex international tax issues faced by companies amid a rapidly changing global business environment. The Center addresses sophisticated issues, including tax strategies and restructuring for multinational enterprises, advisory services for new investments, tax planning for business succession and inheritance and gift taxes, tax advisory services related to cryptocurrency and digital assets, the BEPS Project, Transfer Pricing, APA/MAP, and the global minimum tax (Pillar 2), and provides precise solutions in relation to outbound and inbound investments.