South Korea to Impose VAT on Real Money Transactions Starting July 1

While the US report is due in a little over a month, South Korea has decided to impose a Value Added Tax (VAT) on real money trading in virtual worlds starting in less than a week. Specifically, those who earn between 6 and 12 million won (about $6,500 US to $13,000 US) every half year will have the VAT applied by the middle man, and those earning over 12 million won every half year must apply for a business license and apply the tax themselves.

For those readers in countries that do not use the VAT system (such as the US), here is a quick primer on the concept. Basically, at each stage of production, the value added by the producer is taxed. It is an alternative to sales tax. Here is a simple example:

I make thingamabobs. A thingamabob takes $10 in raw materials, which I can sell to a maker of thingamajigs for $15. He can then sell the completed thingamajig at wholesale for $20. Thingamajigs retail for $25.

Under a 10% sales tax:
The consumer buys the item at retail for $25 and pays an additional $2.50 in sales tax.

Under a 10% VAT tax:

I pay $11.00 for the raw materials ($10 + $1 in VAT)
I charge $16.50 for the thingamabob ($11 + $5 profit + $0.50 in VAT on the profit)
Thingamajigs sell for $22 at wholesale ($16.50 + $5 profit + $0.50 in VAT on the profit)
Thingamajigs sell for $27.50 at retail ($22 + $5 profit + $0.50 in VAT on the profit)

Under both systems, the consumer pays $27.50, each level gets $5 profit, and the government gets its $2.50 in tax. It’s more or less a sales tax alternative with some notable criticisms, including complexity in computation and collection compared to a straight sales tax.

To summarize, Korea will be taxing the value added to virtual goods. This could be exceedingly complex, as I can only imagine the argument that will arise over whom is adding value at what stage. More importantly, it is not clear how this will interplay with license agreements that maintain ownership of virtual goods in the game developer.