Successful Policy Attaches Wings to Angel Investors

(0816) Max Lee - [중소벤처기업부 보도자료]

Every startup has its own story, and is eager to share it with the world. Subsequent to the formulation of the story, the very first step of realization comes from seed money, namely, from the angels. It seems like the Korean government has attached wings to angel investors – numbers show that the recent income tax deduction policy for angel investors is quite effective.

The Ministry of SMEs and Startups (the “MSS”) announced that the year-end angel investment volume for 2016 was ₩212.6 billion ($186.2 million), setting a record high since the drastic fall in 2004 due to the burst of the dot-com bubble. The MSS further evaluated that the rise in investment was a fruit of the government’s efforts to revitalize venture investments.

Furthermore, the MSS affirmed that income tax deduction has proven to be by far the most effective method of investment inducement. Angel investments experienced a significant growth every time the government expanded the income tax deduction benefits for private investors.

The deduction rate started off with 20% for investments made to venture companies (벤처기업; not necessarily including tech-based startups) in 2012 with a 10% increase in the following year. A more detailed and effective expansion to the policy was made in 2014 and resulted in a 50% increase in investment amount (₩95.9 billion in 2014 compared to ₩61.6 billion in 2013). The key point of the 2014 amendment was a higher deduction rate of 50% for investment amounts up to ₩50 million ($44,000), where amounts beyond ₩50 million would get a 30% deduction. In addition, on top of venture companies, the target companies were expanded to include early stage tech startups (기술성 우수 창업초기기업). The focus of this policy shifted towards providing more aid to early stage companies and boosting angel investment.

This shift gained momentum and created another class within the deductible scale in 2015, subject to a full deduction for investment amounts up  to ₩15 million ($13,000; the 50% and 30% deduction rates still applied for the existing classes). In 2016, there was an addition of a third qualification category for target companies: any early stage company that had spent ₩30 million in R&D in the previous year would suffice as a target.

As a result, the policy brought about a drastic increase in (i) investment in early stage companies, and (ii) the number of small investments. The total number of investments made in companies that are less than three years of age experienced a 178% annual increase in 2016, which overshadows the 73.2% increase from 2015. The number of small investments (< ₩15 million) has increased more than 100% for the past two consecutive years.

There has been  many investors who made diversified small investments, further showing that the deduction indeed is an effective angel investment encouragement policy which maximizes the number of beneficiary startup companies. Seed funding is a crucial step for any company to start building a business out of its idea. An active angel investment market is vital to a healthy startup ecosystem where startups are not only dreaming, but living their dreams.

The MSS also acknowledged that the Angel Investment Matching Fund, where the fund of funds matches certain investments from qualified angel investors (1 to 2.5 times the investment amount), has made a major contribution to the growth in angel investment. Since 2012, the Matching Fund formed ₩192 billion ($169 million) until the first half of 2017, and invested ₩61.6 billion ($54.3 million) over 382 companies. It is noteworthy that 91 out of the 382 companies succeeded in raising subsequent financing from VCs.

Taking a deeper look, angel investments in 2016 consisted of ₩174.7 billion ($153 million) from private investments and ₩37.9 billion ($33.2 million) from private investment associations. Private investment is where an individual invests in a venture company or a tech startup in exchange for shares of the company. Private investment associations, on the other hand, can be more efficient for an individual as the association provides more advantages like expertise, economy of scale, and risk management.

Both private investments and private investment associations hit a record high in 2016. Private investment, which came from almost 4,000 investors, has been demonstrating a clear uptrend since 2010: the average growth rate for the past three years is 41.2%.

There are 273 private investment associations today with an aggregate fund of ₩137.8 billion ($121.4 million), ₩86.7 billion ($76.3 million) of which has been invested. Among the invested amount, ₩37.9 billion ($33.4 million) was invested solely in 2016.

What is even more encouraging is that these numbers aren’t final – it’s still growing. The Special Tax Treatment Control Act (조세특례제한법) allows investors to select from the three years following the year of investment for tax deduction purposes. In other words, the official aggregate angel investment amount for 2016 will be finalized at the end of 2019. The MSS expects the final number to be far beyond what is reported so far.

Of course, policy alone cannot be the sole reason accounting for the thriving investment. Korea’s startup ecosystem itself is more vibrant than ever. Large venture investments unaffected by the policy too have increased by a great volume. The good news is that the policy is on the right track, providing support to startups in need and contributing to the betterment of the economy. What else should we expect?

Max is an LL.M. Candidate at Georgetown University Law Center. He is interested in the social impacts made by startup companies, and longs to contribute to the betterment of emerging companies. Max can be reached at hankuhm.lee@techforkorea.com.

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