Composition of Local Government Revenue

[Figure II-2] and <Appendix II-2> in the Appendix show the changes in the makeup of the general account revenue of local governments. Local autonomous governments in Korea can be classified into two types: local governments that deal with general administration, and autonomous educational authorities that handle local educational affairs. Revenue from local taxes reverts to the general account of local governments. Therefore, the review below of the composition of local government revenue focuses on this general account, followed by a review of expenditure from the account.⁵⁾

The revenue of the general account comprises local taxes, non-tax revenue, dependent sources, and municipal bonds. Dependent sources consist of a general grants (the local grant tax) and specific grants from the national treasury (central government subsidies). In addition to these two types of subsidy, a block grants (the local transfer fund) were provided to local governments from 1991 to 2004.

Local taxes made up 39.5% of the general account revenue in 1980 and the figure hovered between 36.3% and 39.7% until 1988, without ever reaching 40%. However, it then rose to 43.5% in 1989 and, over the following four years, increased to 46.5% in 1993. Local taxes as a percentage of general account revenue increased sharply because sources of local tax revenue expanded with the imposition of the tobacco tax and the aggregate land tax. In addition, cyclical effects in the real estate market added to the local tax revenue. This trend reversed and the ratio of local taxes declined to below 35% in many of the following

5) If no further explanation, local expenditure is hereinafter referred to as general accounting.

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years. In particular, in 1998 and 1999, the figure fell to below 35% amid the repercussions of the financial crisis, and plunged to 31.1% 10 years later in 2009 when the economy was struck by another financial crisis. It then rose to 37.1% in 2010 when the local consumption tax was introduced. However, the persistently sluggish real estate market dragged the figure down to 33.2%

in 2013.

Transfers or dependent sources (i.e., subsidies from the central government) accounted for 37.9% of the general account revenue in 1980, but fell to as low as 26.2% in 1993. The fall in the portion of transfers began to accelerate in 1988 when the ratio of local taxes increased sharply. Transfers as a share of total revenue were reduced further in 1991 and beyond as the local transfer fund was introduced, while the central government subsidies were scaled down.

The ratio of transfers began to rise with the expansion of the local transfer fund in 1994, and the upward trend has continued until recently.

[Figure II-2] Composition of General Account Revenues of Local Governments (1980~2013)

(Unit: %)

local tax non-tax

revenue local grant tax local transfer

fund Central govern

–ment subsidies local bonds Sources: the Ministry of the Interior, Yearbook of Local Public Finance for Each Year

Local Public Finance in Korea: the Size and Structures of Tax Revenue and Expenditure

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It is noteworthy that the ratio of transfers increased quickly after local autonomy was implemented, and the rise was driven by central government subsidies. Subsidies from the national treasury or central government subsidies accounted for 8.8% of the general account revenue in 1995, rising to 13.8%

10 years later in 2005. Then, it stood at 19% in 2013. The local transfer fund was abolished in the meantime, but most of the financial sources were integrated into the local grant tax.

When compared to the period prior to the introduction of local autonomy, central government subsidies comprised 16.8% of the general account revenue in 1980, but then decreased. In contrast, the share of local taxes increased as a result of a series of policy measures designed to expand the local tax base and to scale down some of the subsidies for local public finance ahead of the implementation of local autonomy. However, once the system was implemented, not much was added to the sum of local taxes collected, which are an independent source, or to the local grant tax, a transferred source for local governments.

However, central government subsidies, directly controlled by the central government, became a major tool to expand local public finances.

For the sake of local autonomy, it is not a step in the right direction that local public finances were expanded by central government subsidies. Central government subsidies will likely compromise the autonomy of local governments in terms of both tax revenue and expenditure. The same view was reflected in the changes in the composition of local public finances. As a result, the ratio of the local transfer tax and of central government subsidies increased. In 2005, the local transfer fund was abolished, and projects previously financed by the fund were funded by the local grant tax and central government subsidies, the combined amount of which was greater than the sum of the previous fund. The local grant tax represented 14.7% of the general account revenue in 2004, and rose to 20.1% in 2005, before remaining at around 20% until 2010.

Local tax revenue expanded further in 2010. Scholars and policymakers shared the growing concern that transfers that included mainly the local grant tax and central government subsidies continued to play a major role in the expansion of local public finances. Various alternatives, including a local consumption tax, were presented and discussed as ways to expand the source of local tax revenue. Under the local consumption tax introduced in 2010, 5%

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of the value-added tax revenue was to be transferred to the treasuries of local governments. As a result, the ratio of local taxes to total local government revenue increased from 31.1% in 2009 to 37.1% in 2010.