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What are the principal governmental and regulatory policies that govern the banking sector?
The Banking Act of the Republic of Korea stipulates that:
[T]he purpose of this Act is to contribute to the stability of financial markets and the development of the national economy by pursuing the sound operation of banks, enhancing the efficiency of fund brokerage functions, protecting depositors and maintaining order in credit.
Primary and secondary legislation
Summarise the primary statutes and regulations that govern the banking industry.
The following statutes governing the banking industry are:
- the Banking Act;
- the Electronic Financial Transactions Act;
- the Foreign Exchange Transactions Act;
- the Financial Investment Services and Capital Markets Act; and
- the Depositor Protection Act.
The Banking Act regulates granting banking licences, limiting the stockholding for bank stocks, the governance structure and scope of the business of the bank, the compliance requirements for management of the bank, supervision and examination of the bank, merger, winding up and dissolution of banks, domestic branches of foreign banks and administrative fines and penalties.
Electronic financial transactions are widespread in Korea, and the Electronic Financial Transactions Act stipulates the rights and obligations of parties to electronic financial transactions, permit issuance for engaging in the electronic financial business, the registration and supervision of electronic financial transactions, and ensuring security for electronic financial transactions.
The Foreign Exchange Transactions Act regulates foreign exchange transactions and governs the entities conducting foreign exchange transactions.
The Financial Investment Services and Capital Markets Act serves as the primary law governing financial investment in the Republic of Korea and applies to financial institutions including banks. The Financial Investment Services and Capital Markets Act regulates the financial investment businesses, issuance and distribution of securities, unfair trade practices and the mutual funds industry.
The Depositor Protection Act stipulates the deposit insurance system and the deposit protection scheme in case of insolvent financial institutions.
Besides the Banking Act, the Act on Structural Improvement of the Financial Industry, the Act on Corporate Governance of Financial Companies and the Financial Holding Company Act regulates the ‘governance structure and management’ of the bank.
The Act on the Structural Improvement of the Financial Industry (Financial Industry Structural Improvement Act) stipulates ways of dealing with insolvent financial institutions such as merger and conversion, liquidation and bankruptcy of financial institutions.
The Act on Corporate Governance of Financial Companies sets out the basic matters concerning the corporate governance of financial companies such as qualifications for financial company executives, the composition and operation of the board of directors and the internal control system.
The Financial Holding Company Act regulates the establishment of financial holding companies, restrictions on shareholding, business, operation, supervision and incorporation of subsidiaries.
Which regulatory authorities are primarily responsible for overseeing banks?
The banks’ regulatory oversight bodies are the Financial Services Commission (FSC) and the Financial Supervisory Service (FSS). The FSC deliberates and decides on important matters such as financial supervisory policies and licences for engaging in the financial business, and the FSS implements the decisions made by the FSC or conducts inspections of financial institutions.
Government deposit insurance
Describe the extent to which deposits are insured by the government. Describe the extent to which the government has taken an ownership interest in the banking sector and intends to maintain, increase or decrease that interest.
As required under the Depositor Protection Act, the Korea Deposit Insurance Corporation (KDIC) protects up to 50 million won per person, inclusive of the principal and interest, for each financial institution in case the financial institution is unable to pay deposits or interest because of its insolvency. A deposit amount in excess of 50 million won will not be insured.
The government has held shares in Woori Bank, one of the commercial banks, in addition to the specialised banks (Korea Development Bank, Industrial Bank of Korea, Korea Export and Import Bank, etc), but recently the government has been divesting its stakes in Woori Bank.
Transactions between affiliates
Which legal and regulatory limitations apply to transactions between a bank and its affiliates? What constitutes an ‘affiliate’ for this purpose? Briefly describe the range of permissible and prohibited activities for financial institutions and whether there have been any changes to how those activities are classified.
The Banking Act, the Act on Corporate Governance of Financial Companies and the Monopoly Regulation and the Fair Trade Act apply to banks and their affiliated companies. If a bank is a subsidiary of a financial holding company, the Financial Holding Company Act shall apply.
The Banking Act provides that the major shareholder of a bank and its related persons (including subsidiaries) are prohibited from the following acts (article 35-4 of the Banking Act):
- requiring banks to provide data or information that is not disclosed to the outside in order to exercise undue influence;
- engaging in unfair influence on the personnel or management of the bank by colluding with other shareholders subject to the provision of interests such as economic benefits;
- influencing the management of the bank, such as demanding premature recovery of credit for the purpose of hindering the business activities of a competitor;
- extending credit from a bank in excess of the credit limit provided under the Banking Act;
- extending credit from a bank by causing another bank to violate the cross-lending prohibition;
- extending credit from a bank by causing the bank to violate the prohibition on extending credit and providing capital to major shareholders;
- causing the bank to extend to the major shareholder the free transfer, sale and exchange of assets, and credit;
- causing the bank to own shares of the major shareholder exceeding the limit set by law; or
- demanding the bank to extend credit to its competitors under unfavourable credit conditions, such as interest rates and collateral, without justifiable reasons.
At this time, the related persons mean the major shareholder and his or her spouse, relatives by blood within six degrees, relatives by marriage within four degrees, and persons and corporations having a certain shareholding relationship.
What are the principal regulatory challenges facing the banking industry?
Bank supervision mainly focuses on regulations on safety and soundness and business conduct. According to the Financial Reform Key Tasks announced by the FSC on 12 January 2017, the FSC will focus on the reorganisation of the trust business system, the development of fintech, the enhancement of competitiveness of financial holding companies, and increase in the transparency and trustworthiness of accounting (see question 8 for details).
Are banks subject to consumer protection rules?
The Banking Act stipulates that banks may not require customers to deposit money, demand collateral or guarantees and harm unjustly the interests of consumers by using the banks’ superior position.
In particular, most of the banking transactions are done under entering into the standard terms and conditions, so consumers are protected by regulation of the standard terms and conditions of banks. In other words, if banks intend to establish or revise the standard terms conditions for financial transactions, banks are required to report such establishment or modification to the FSC in advance. If banks unreasonably limit or exclude the liability of the bank, if banks impose unduly harsh indemnification liability on consumers or limit the rights of consumers, or if banks may determine or amend the standard terms and conditions unilaterally without justifiable reason, the financial supervisory authority may deem such standard terms and conditions as unfair and recommend changes. In addition, banks must clearly display the terms of their products such as interest rate and other benefits and charges, such as savings accounts, when advertising their products in order not to cause any misunderstanding, and must establish and observe their internal control protocol to prevent any wrongdoings. These obligations are subject to supervision by the FSS.
As part of consumer protection, banks are required to conclude deposit insurance contracts with the KDIC under the Depositor Protection Act.
In what ways do you anticipate the legal and regulatory policy changing over the next few years?
As mentioned in question 6, the FSC announced the following measures for system improvements in relation to the key tasks for financial reform through its press release of 1 January 2017:
- with regard to the trust business, to enact the Trust Business Act, which deregulates the trust business with the aim that trusts function as a comprehensive wealth management service;
- the establishment of a comprehensive fintech support system to support fintech development, in the course of encouraging the financial regulation test bed, block chains and big data services.
- with regard to financial holding companies, to reduce the restrictions on business entrustment within financial groups and between subsidiaries, to allow customer information sharing and to encourage accountability and stable governance; and
- with regard to accounting, implementing comprehensive measures for the entire process of external audit from the appointment of auditors to supervision and sanctions to eliminate accounting fraud and financial wrongdoings.
In addition, the FSC is working to improve existing conservative financial regulatory practices, such as changing current regulations into ex post regulations, and to reduce administrative guidance and encourage the self-regulating culture for financial institutions.
Extent of oversight
How are banks supervised by their regulatory authorities? How often do these examinations occur and how extensive are they?
The bank supervision of the FSS is a compulsory authoritative surveillance that is conducted under the Banking Act and the regulations on financial institution inspection and sanctions in accordance with bank inspection manuals. The FSS conducts regular surveillance of banks’ risk levels and levels of control associated with management activities, and conducts periodic inspections of the banking business as a whole. The FSS also carries out inspections for particular sectors of banks if deemed necessary for enforcing the policy of bank supervision.
How do the regulatory authorities enforce banking laws and regulations?
If a violation of the Banking Act is detected, the FSC, in keeping with the severity of violation, will take appropriate measures such as:
- administrative sanctions (cancellation of the banking business, suspension of all or part of business, correction order, request or recommendation of disciplinary actions against directors, officers and employees, duty suspension, etc);
- imposition of administrative fines; and
- filing of criminal charges.
In addition to these sanctions, the FSC also uses non-mandatory or non-authoritative supervisory measures such as consultation, guidance and recommendations.
What are the most common enforcement issues and how have they been addressed by the regulators and the banks?
Bank supervision is mainly conducted from the point of view of entry and exit, soundness supervision, and management evaluation. Regarding the entry and exit of banks, regulatory restrictions on shareholdings of banks are mainly supervised. In terms of soundness, the soundness of business activities is primarily supervised, and in the area of the management evaluation, the adequacy of capital, the soundness of assets, the appropriateness of management, profitability, and risk management are primarily supervised. Banks are paying close attention to these supervisory items in management.
In what circumstances may banks be taken over by the government or regulatory authorities? How frequent is this in practice? How are the interests of the various stakeholders treated?
If the banking licence is revoked, the bank will be dissolved. The Banking Act provides that banking licence may be revoked if:
- the bank has obtained the licence for banking business by false or illegal means;
- the bank has violated a condition or term of the licence;
- the bank has carried on the business during the suspension period of its business;
- the bank failed to comply with the corrective order for violating the Banking Act;
- there is a great likelihood that investors and depositors’ interest may be severely harmed because the bank violated the Banking Act or any order or disposition issued under the Banking Act; and
- the bank constitutes a non-performing financial institution under the meaning of the Act on the Structural Improvement of the Financial Industry and meets other requirements stipulated by laws and regulations.
Accordingly, if the bank is dissolved, the court appoints the trustee at the request of the interested party or the FSC or on the authority of the court. The trustee collects on banks’ bonds by investigating the assets of the bank after reporting its appointment to the court, makes the payment for its debts to its creditors (the depositors are protected by the Depositor Protection Act) and, after the disposition of the assets, distributes the remaining assets to its remaining rights holders (shareholders). The same is true in the case of bankruptcy as a result of insolvency.
However, because a bank’s dissolution such as the foregoing causes serious damage to financial consumers, the FSC may, in accordance with the Act on the Structural Improvement of the Financial Industry, implement such appropriate corrective measures as appointing a manager, reducing its operating divisions, repurchasing or consolidating its outstanding stocks, merger or acquisition of such a bank by a third party and transfer of contracts. In addition, the FSC may designate another financial institution to recommend the merger with the non-performing financial institution, transfer of business or transfer of contract. The FSC may request the government for capital provision. In such case, it is possible to force reduction in the banks’ capital with or without compensation without a resolution of the general meeting of shareholders. The shareholders and creditors of the bank who are opposed to such a measure may submit their objections and may request payment on debts or stock purchase.
In 1997, the KDIC injected public funds into some banks such as Kwangju Bank, Kyungnam Bank and Woori Bank (then Hanbit Bank), which were insolvent at the time of provision of the International Monetary Fund bailout package.
What is the role of the bank’s management and directors in the case of a bank failure? Must banks have a resolution plan or similar document?
In case of dissolution of a bank as a result of revocation of its banking licence under the Banking Act, the court appoints the trustee, and therefore the officers prior to such decision may not participate in the dissolution procedure. However, if the FSC issued appropriate corrective actions to the insolvent financial institution to avoid dissolution under the Act on the Structural Improvement of the Financial Industry, the FSC may instruct the financial institution or its officers to recommend, request or order implementation of corrective actions or order submission of the plan for such actions, and the financial institution or its officers are required to comply with the foregoing. The FSC may order capital reduction for government bailout. If an officer of a bank fails to comply with such order, the FSC may also order the suspension from duty for such officer, appoint a replacement manager to perform the duties of the officer, or recommend dismissal of the officer at the shareholders’ meeting.
Are managers or directors personally liable in the case of a bank failure?
As long as the bank failure was not caused by misconduct by an officer or employee, officers and employees are not personally liable for a bank failure. However, if a bank failure occurs because of an unlawful act of an officer or employee, she or he may be held liable for civil indemnification liability to the bank’s shareholders or creditors or criminal liability (for example, breach of fiduciary duty, violation of the Banking Act, etc), and may be subject to dismissal, suspension from work, reduction of pay or other disciplinary actions.
Describe any resolution planning or similar exercises that banks are required to conduct.
When a bank is dissolved or goes bankrupt, obligations such as providing a rehabilitation plan are not required, other than proceeding with the liquidation procedure as prescribed under applicable laws (see question 12).
If the FSC determines sufficient factual grounds for bankruptcy of a financial institution, the FSC may apply for its bankruptcy, and the Director-General of the FSS or the Korea Deposit Insurance Corporation may propose to the FSC filing for bankruptcy of the financial institution. In such a case, the court should appoint a liquidator or bankruptcy trustee at the request of interested parties or of the FSC, or with the authority of the court, and the liquidator or bankruptcy trustee should conduct all relevant procedures as the court’s agent. Therefore, it seems that there is no specific obligation imposed on the bank in the course of its liquidation and dissolution procedure.
Describe the legal and regulatory capital adequacy requirements for banks. Must banks make contingent capital arrangements?
Under the Banking Act, banks are required to maintain capital of at least 100 billion won and local banks should maintain capital of at least 25 billion won.
In addition, according to Basel III, the BIS capital adequacy ratio should be maintained at 8 per cent or more, with the ratio of common stock of 4.5 per cent and the ratio of basic capital (Tier 1) to 6 per cent or more, as indicators of capital adequacy. Basel III’s Counter Cyclical Buffer system was introduced in Korea, and the FSC set the buffer rate at zero per cent in 2016 and maintained it at zero per cent for the first quarter of 2017. Furthermore, the leverage ratio of capital divided by total assets must be maintained at 3 per cent or more based on its base capital. The short-term liquidity coverage ratio must be more than 100 per cent (60 per cent or more for foreign bank branches).
Banks in Korea do not have obligations for contingent capital arrangements.
How are the capital adequacy guidelines enforced?
The Director-General of the FSS must monitor the soundness of the management by analysing management of the bank and evaluate the management practices of the bank through the examination of the bank and reflect the results in its supervision and inspection of the bank. The Director-General of the FSS may request the banks to submit a plan or agreement for improvement or conclude a management improvement agreement with the bank if it is deemed that there is a possibility the bank will be unable to meet the requirement of capital adequacy (see question 16) or that there are unsound business areas.
What happens in the event that a bank becomes undercapitalised?
The FSC can issue management improvement recommendations, management improvement demands, and management improvement orders when the capital adequacy indicators are insufficient or the management result evaluation grade is below a certain level. The minimum capital requirement is part of factors considered for issuance of a banking licence, and if the requirement is not met, the banking licence may be revoked or all business operations suspended.
What are the legal and regulatory processes in the event that a bank becomes insolvent?
If the bank is bankrupt, the banking licence will be cancelled, and the related procedure will be the same as the dissolution discussed for question 12.
Recent and future changes
Have capital adequacy guidelines changed, or are they expected to change in the near future?
Since the capital adequacy ratio has been changed in accordance with Basel III as described for question No. 16, it is necessary to meet the above criteria by 2019 in keeping with the timetable provided.
Ownership restrictions and implications
Describe the legal and regulatory limitations regarding the types of entities and individuals that may own a controlling interest in a bank. What constitutes ‘control’ for this purpose?
The Banking Act has the following restrictions regarding the acquisition of bank stocks.
Under the Banking Act, the same person who is not a non-financial principal (including a person and a person who has a special relationship with the person as determined under the statute) cannot own, in principle, shares exceeding 10 per cent of the total outstanding voting stock of the bank (15 per cent in the case of local banks; see the definition of a local bank below). However, the above requirement may be exempted with the approval of the FSC. In this case, an approval is necessary each time for exceeding 10 per cent (15 per cent for local banks), 25 per cent and 33 per cent.
A non-financial principal cannot hold more than 4 per cent of the total outstanding voting shares of the bank (15 per cent for local banks). However, if the person meets certain requirements on condition that he or she does not exercise voting rights, the person may acquire the shares of the bank up to a limit of 10 per cent with the approval of the FSC.
On the other hand, the Banking Act defines a major shareholder who is a bank management person as follows (article 2 (1) (10) of the Banking Act).
A person who falls under any one of:
- one stockholder of a bank where the same person including such stockholder holds more than 10/100 (15/100 in cases of a bank which does not operate nationwide (hereinafter referred to as ‘local bank’)) of the total number of voting stocks issued by the bank; or
- one stockholder of a bank where the same person, including such stockholder, holds more than 4/100 of the total number of outstanding voting stocks issued by the bank (excluding a local bank) and the same person is the largest stockholder of the bank or exercises de facto influence over the major managerial matters of the bank by appointing or dismissing its executives or by other methods, as prescribed by Presidential Decree.
As a result, the above-mentioned shareholder holding shares in excess of the limit will constitute the major shareholder. The FSC periodically examines the shareholders holding shares in excess of the limit to determine whether they meet the excess holding requirements and satisfy the conflict prevention measures and if there are signs of unlawful transactions between the major shareholders and the banks, the FSC may conduct frequent examination, which serves as a tool for supervising major shareholders.
Are there any restrictions on foreign ownership of banks?
The same share ownership restrictions apply to foreigners as discussed for question 21.
However, the Banking Act stipulates that ‘in the case of non-financial principal holding stocks within the shareholding limit for foreigners in accordance with the Foreign Investment Promotion Act’, the provisions on ‘the same person who is not a non-financial principal’ apply. Therefore, such foreigners who are non-financial principals are not subject to restrictions on non-financial principals.
Implications and responsibilities
What are the legal and regulatory implications for entities that control banks?
The Banking Act limits the credit banks may extend to its major shareholders and restricts the amount of equity securities issued by major shareholders, which may be acquired by banks. In addition, the Banking Act prohibits major shareholders from exercising any undue influence on banks. If the FSC deems that the management soundness of the bank may significantly deteriorate because of the unsound financial condition of the major shareholder, the FSC may request the bank or its major shareholder to submit documentations and may limit the bank’s extension of credit to its major shareholder.
What are the legal and regulatory duties and responsibilities of an entity or individual that controls a bank?
See question 5 for the obligations of major shareholders of a bank under Korean law.
The FSC may require a bank or its major shareholders to submit necessary data when it is found that the bank or its major shareholder is alleged to have violated the above obligations.
What are the implications for a controlling entity or individual in the event that a bank becomes insolvent?
If the bank insolvency was not caused by an unlawful act of a controlling entity or individual, there is no separate criminal or administrative penalty based on the insolvency alone.
Changes in control
Describe the regulatory approvals needed to acquire control of a bank. How is ‘control’ defined for this purpose?
Although the Banking Act does not require separate approval by the FSC as a requirement of becoming a major shareholder, the Banking Act, as discussed for question 21, does require the approval of the FSC for shareholders with shares in excess of the shareholding limit, which serves as a tool for supervision and regulation of major shareholders. Even when the major shareholder is suspected of exercising undue influence, an investigation of such a major shareholder may be undertaken. See question 21 for the definition of a major shareholder who is a person in bank management.
Are the regulatory authorities receptive to foreign acquirers? How is the regulatory process different for a foreign acquirer?
In the case of a foreign corporation or a foreigner, the Foreign Investment Promotion Act applies. Not much difference in the regulatory process for a foreign acquirer exists from those for domestic persons, except that a different stockholding limit applies to a foreign corporation that is a non-financial principal, and in the case of approval for shareholding in excess of the limit, factors discussed in question 28 are considered. The principle of equal treatment applies to foreign corporations in the regulatory process and enforcement by the authorities.
Factors considered by authorities
What factors are considered by the relevant regulatory authorities in an acquisition of control of a bank?
Before approving a shareholding exceeding the limit, the FSC considers the risk of:
- harming the soundness of the bank;
- the adequacy of the asset size and financial condition;
- the size of credit extended from the bank;
- the possibility of contributing to efficiency; and
- the soundness of the banking industry.
If the shareholder in excess of the limit is a foreigner, the following factors are additionally considered:
- it must be a company engaging in the financial business in a foreign country or a holding company of a foreign financial company;
- it must be suitable for international business activities in light of the total assets and business scale, and must have a good reputation internationally;
- there must be a confirmation from the financial supervisory body of the country in which the foreigner is a member that its operation has not been suspended for the past three years;
- the BIS capital adequacy ratio must be at least than 8/100 in each of the past three years;
- there must be no history of defaults related to commercial transactions such as financial transactions;
- it must be verified that it is suitable as the controlling shareholder of the bank and contributes to the soundness of the bank and the efficiency of the financial industry; and
- there must be no record of violation of domestic financial laws and regulations or related laws or involvement in insolvent financial institutions at certain levels.
Describe the required filings for an acquisition of control of a bank.
The same person must report to the FSC the matters necessary to confirm the status of the shareholding in the bank or the change in the shareholding ratio:
- where he or she holds stocks of a bank (excluding a local bank; hereafter in this paragraph the same shall apply) in excess of 4/100 of the total number of its issued voting stocks;
- where the same person falling under sub-paragraph 1 becomes the largest stockholder of the relevant bank;
- where the ratio of stockholding by the same person under sub-paragraph 1 changes by at least 1/100 of the total number of issued voting stocks of the relevant bank;
- in cases of a private equity fund holding stocks of a bank in excess of 4/100 of the total number of its issued voting stocks, when any change occurs in its partners; or
- in cases of a special purpose company holding stocks of a bank in excess of 4/100 of the total number of its issued voting stocks, when any change occurs in its shareholders or partners.
The report must contain the following:
- matters concerning the same person;
- in the case of a private equity fund participating in management, each of the following:
- shareholder or employee; and
- investment amounts of participating members with limited liability and members in management with unlimited liability of the private equity fund;
- matters relating to status and reasons for stock ownership or change;
- the purpose of the stockholding and matters relating to involvement in the bank’s management; and
- other details required by the FSC and publicly announced by the FSC as necessary to identify changes in stock holding status or change in the stock holding ratio.
Timeframe for approval
What is the typical time frame for regulatory approval for both a domestic and a foreign acquirer?
The FSC must process the application for approval within 60 days from the date of receipt of the approval application (for stock holdings in excess of the limit). However, the period prescribed and announced by the FSC, such as the period during which the application is amended to correct minor errors, is not included in the processing period.
Update and trends
Update and trends
Updates and trends
Korea has been tightening its anti-money laundering regulatory regime in response to the call for strengthening of the international anti-money laundering regime by international organisations such as the Financial Action Task Force (FATF) and overseas regulatory authorities that all countries and financial institutions have a high level of anti-money laundering system. In particular, in preparation for FATF on-site visits to Korea in 2019 for its mutual evaluation programme, Korean financial supervisory authorities have strengthened their anti-money laundering surveillance of financial institutions.
In this regard, the FSC has recently made a public announcement of the scheduled enactment of the amendment to the Enforcement Decree of the Act on the Reporting and Use of Certain Financial Transaction Information, which includes the deletion of provisions exempting the financial institutions from obligations of internal control and the establishment of new criteria for the imposition of fines. The FSS made changes to its organisational structure, such as the creation of an independent department for anti-money laundering, and expanded the scope of its anti-money laundering operation in its effort to revamp its anti-money laundering regulatory framework. Moreover, the FSC has determined the trading of cryptocurrencies as bearing a high risk of money laundering. Accordingly, the FSC made a public announcement on the ‘Guidelines to anti-money laundering in regards to cryptocurrencies’, which required financial companies to improve their monitoring of financial transactions related to cryptocurrencies and listed the primary types of transactions among cryptocurrency transactions to be carefully monitored for money laundering.
The EU General Data Protection Regulation (GDPR), Regulation (EU) No. 2016/679, enacted in May 2016, will become effective on 25 May 2018. Upon commencement of the enforcement, financial companies with EU subsidiaries or offices and companies that collect or handle the information of EU nationals will be subject to the GDPR. Korean financial companies with EU subsidiaries or offices have a keen interest in the GDPR-related banking regulations, making the GDPR a hot topic in the near future.