Stock Transfer Agreement Seller Protection in South Korea: Deferred Payment Strategies | Atlas Legal

1. Can I Transfer Stocks Before Receiving Full Payment?

The Simultaneous Performance Principle and Its Exceptions

In sales contracts, the seller’s obligation to transfer ownership and the buyer’s obligation to pay the purchase price are, unless otherwise agreed, in a simultaneous performance relationship. The Supreme Court of Korea has held that “in a sales contract, the seller’s obligation to transfer ownership and the buyer’s obligation to pay the purchase price, which have a reciprocal meaning, are in a simultaneous performance relationship unless otherwise agreed” (Supreme Court Decision 2017Da3222).

However, the parties may modify this principle by agreement. A structure where the seller transfers shares first and the buyer pays the balance later is legally valid. Nevertheless, in such cases, the seller is exposed to the risk of non-recovery of the purchase price, so adequate protective measures must be established in the contract.

Risks of Prior Performance Structure

The following risks may arise in a prior performance structure where the seller transfers shares first:

First, there is the risk that the buyer will not pay the balance. If the buyer faces financial difficulties or refuses to pay after the shares have already been transferred, the seller must claim the purchase price through litigation.

Second, there is the risk of buyer insolvency. Even if the seller obtains a favorable judgment, actual recovery may be difficult if the buyer has no assets.

Third, there is the complexity of share recovery. Even if the contract is rescinded, the procedure to recover shares that have already been registered in the buyer’s name is complicated. If the buyer does not cooperate, separate litigation may be necessary.

Fourth, there is the risk of company value depreciation. While the buyer manages the company, they may sell assets or leak technology, causing the company’s value to decline.

Atlas Legal’s Approach

In this matter, Atlas Legal designed multi-layered protective measures to minimize these risks. The contract was structured so that seven key safeguards—earnest money exclusion, joint and several guarantee, penalty clauses, delay damages, rescission rights, delegation of share register restoration authority, and damages clauses—work together organically.

2. Why Is Seller Protection Particularly Important?

Asymmetric Risk Structure

In contracts where shares are transferred before full payment, risks are concentrated on the seller. The buyer, having already secured the shares, faces relatively less pressure to pay the balance. Meanwhile, the seller must wait for the balance payment after having already handed over the shares as collateral.

This asymmetric structure can create moral hazard for the buyer. Even if the buyer intended to pay the balance at the time of contract execution, changes in circumstances may create incentives to delay or refuse payment.

Unique Characteristics of Stock Transfer

Unlike real estate, stock transfers do not have registration as a public notification method. For shares without stock certificates, transfer follows the method for assignment of nominative claims, making external notification of the transfer incomplete.

Additionally, shares are directly connected to corporate control. When the buyer acquires shares, they can exercise voting rights as a shareholder and, depending on their shareholding ratio, participate in management. In this process, they can make decisions affecting company value, creating risks different from simple monetary claims.

Limitations of Remedies

If the buyer fails to pay the balance, the seller’s remedies are limited. The seller can file a lawsuit claiming payment, but litigation takes time and money, and enforcement may be difficult even after winning.

Therefore, establishing adequate protective measures in the contract in advance is far more effective than seeking remedies after the fact. Atlas Legal considered this point and designed the contract from a preventive perspective.

3. Why Specify That the First Payment Is Not Earnest Money?

Article 565 of the Korean Civil Act on Earnest Money

Article 565 of the Korean Civil Act provides that “when one party to a sale delivers money or other things to the other party at the time of contract under the name of earnest money, security deposit, etc., unless otherwise agreed between the parties, until one party commences performance, the deliverer may rescind the sales contract by forfeiting the same, and the recipient may rescind by refunding double the amount.”

If this provision applies, the buyer can arbitrarily rescind the contract by forfeiting the first payment (earnest money). From the seller’s perspective, even after receiving KRW 500 million, if the buyer changes their mind, the contract may be rescinded, and the seller would recover the shares but could not claim the remaining KRW 500 million.

Effect of the Earnest Money Exclusion Clause

In this contract, we specified that “the first payment is a partial payment of the purchase price and not earnest money, and Article 565 of the Civil Act (earnest money) does not apply.”

The effects of this clause are as follows. First, the buyer cannot arbitrarily rescind the contract by forfeiting the first payment. Second, the seller maintains the right to claim the full balance. Third, if the contract is rescinded due to the buyer’s fault, the first payment is forfeited to the seller as a penalty.

Court Precedent Position

The Supreme Court has held that “whether the nature of earnest money is a cancellation fee or liquidated damages should be determined by comprehensively considering various circumstances such as the content of the contract, the motive and circumstances under which the contract was made, and the amount of earnest money” (Supreme Court Decision 90DaKa27068). Therefore, clearly excluding the application of earnest money provisions in the contract is effective for dispute prevention.

4. How Should Joint and Several Guarantee Clauses Be Structured?

Significance of Joint and Several Guarantee

A joint and several guarantee is where the guarantor assumes the debt jointly with the principal debtor, providing the most secure form of security for the creditor’s rights. Since joint and several guarantors have no right to demand that the creditor first pursue the principal debtor (beneficium excussionis) or search for the principal debtor’s assets (beneficium ordinis), the creditor can directly claim against the joint and several guarantor regardless of the principal debtor’s ability to pay.

Joint and Several Guarantee Clause in This Contract

In this contract, we required a joint and several guarantor to secure the buyer’s payment obligations. The key elements are as follows:

First, we specified the guarantee period as three years. According to Article 7 of the Special Act on the Protection of Guarantors, if there is no agreement on the guarantee period, it is deemed to be three years. We clarified this period to ensure the seller can exercise their rights within this timeframe.

Second, we specified the maximum amount of the guarantee obligation. Article 428-3 of the Civil Act requires that for continuing guarantees, the maximum amount of the guaranteed debt must be specified in writing. In this contract, we specified that “the maximum amount of the guarantee obligation is the principal amount of the buyer’s debt and the delay damages accrued during the guarantee period.”

Qualifications of the Joint and Several Guarantor

For a joint and several guarantee to be meaningful, the guarantor must have the ability to actually pay if the buyer fails to pay the balance. In this case, the individual who is the actual controller of the buyer corporation signed as the joint and several guarantor. This established a basis for recovering the claim from personal assets, circumventing the corporation’s limited liability.

5. What Is the Practical Significance of Delay Damages Clauses?

Legal Basis for Delay Damages

Delay damages for monetary obligations are calculated at the statutory interest rate or agreed interest rate under Article 397 of the Korean Civil Act. Following the 2019 Civil Act amendment, the statutory interest rate was reduced to 5% per annum, but the parties may agree on a higher rate.

Delay Damages Clause in This Contract

In this contract, we stipulated that “if the buyer delays payment of the second installment, the buyer shall pay delay damages to the seller calculated by multiplying the second installment by a rate of 3/1000 per day of delay.”

Converted to an annual rate, this equals approximately 109.5% (365 days × 0.3%), which is a high rate. This serves as a powerful pressure mechanism to encourage the buyer to pay the balance. However, excessive delay damages clauses may be void under the Act on the Regulation of Terms and Conditions if applicable, so such clauses should only be used in individually negotiated contracts.

Practical Functions of Delay Damages

High delay damages clauses serve the following practical functions. First, they pressure the buyer to comply with payment deadlines. Second, they substantially compensate the seller’s damages in case of payment delay. Third, they prevent opportunistic behavior where the buyer delays payment while using the funds elsewhere.

6. How Can Shares Be Recovered Upon Contract Rescission?

Unique Characteristics of Transferring Shares Without Stock Certificates

The transfer of shares for which no stock certificates have been issued follows the method for assignment of nominative claims (Supreme Court Decision 94Da36421). After six months from the company’s incorporation or the new share payment date, shares can be transferred by agreement between the parties alone, and third-party enforceability can be achieved through notice with a certified date.

Under this structure, if the contract is rescinded, the shares naturally revert to the seller. The Supreme Court has held that “if a stock transfer agreement for shares before stock certificate issuance is rescinded, the shares that had been transferred to the buyer naturally revert to the seller” (Supreme Court Decision 2022).

Share Recovery Clause in This Contract

In this contract, we included the following provisions for share recovery upon rescission:

First, the buyer’s notification obligation: “If the contract is rescinded, the buyer shall send a certified mail to the company notifying that ‘the contract has been rescinded’ and ‘requesting that the shares registered in the buyer’s name be re-registered in the seller’s name.'”

Second, delegation of authority: “The buyer delegates to the seller, through this contract, all authority necessary for the above notification and share register restoration.” Through this clause, even if the buyer does not cooperate, the seller can directly request share register restoration from the company.

Practical Significance of Authority Delegation

In practice, there are frequent cases where the buyer does not cooperate after contract rescission. If the seller retains direct notification authority, they can proceed with share register restoration without separate litigation, enabling swift restoration to the original state.

7. How Should Penalty Clauses Be Designed Effectively?

Distinction Between Liquidated Damages and Penalty Clauses

Penalty money is divided into liquidated damages and penalties. Liquidated damages allow recovery of the agreed amount regardless of actual damages when damages occur, while penalties are paid as a sanction for breach of obligation separate from damages compensation.

The Supreme Court has held that “whether a penalty money agreement is liquidated damages or a penalty should be determined by comprehensively considering the content of the contract, the circumstances of its conclusion, and the main purpose for which the parties agreed to the penalty money” (Supreme Court Decision 2015Da239324). An important difference is that courts can reduce liquidated damages (Article 398(2) of the Civil Act), but penalties generally cannot be reduced.

Penalty Clause in This Contract

In this contract, we stipulated that “if the contract is rescinded, the first payment made by the buyer to the seller shall be forfeited as a penalty.” Explicitly labeling this as a “penalty” was intended to exclude the possibility of it being interpreted as liquidated damages and reduced.

However, case law holds that “when a penalty is excessively severe compared to the creditor’s interest obtained through compulsion of the obligation, all or part of it may be void as contrary to public order and good morals” (Supreme Court Decision 2015Da239324). Therefore, in this case where the penalty amount is 50% of the transaction price (KRW 500 million/KRW 1 billion), questions of public order violation could be raised. However, considering the special circumstances of the seller transferring shares first and the risk of non-payment of the balance, this level is considered reasonable.

Coexistence of Penalty and Delay Damages

In this contract, along with the penalty (forfeiture of first payment), we stipulated that “delay damages must be paid from the day after the second payment due date until the date of contract rescission.” Since penalties are separate from damages compensation, both can coexist, thereby strengthening seller protection.

8. What About Damages for Company Value Depreciation After Rescission?

Risk of Company Value Depreciation

During the period when the buyer holds the shares but fails to pay the balance leading to contract rescission, the buyer can exercise voting rights as a shareholder and participate in management. In this process, asset sales, technology leaks, departure of key personnel, or loss of business partners may cause company value to decline.

Even if the contract is rescinded and the shares are recovered, if company value has declined, the seller suffers real damages. Clauses enabling recovery of such damages are necessary.

Damages Clause in This Contract

In this contract, we stipulated that “in case of contract rescission, if the company’s value or share value decreases or the company suffers damages due to asset sales, asset or technology leaks, changes in business relationships, or other activities by the buyer or officers/employees appointed by the buyer between share transfer and contract rescission, the buyer shall compensate the seller and the company for such damages.”

This clause imposes a company value preservation obligation on the buyer and clearly establishes damages liability for violations, serving to deter opportunistic behavior by the buyer.

Practice of Proving Damages

To claim damages compensation, the occurrence and amount of damages must be proven. Company value depreciation can be proven by comparing financial statements, asset lists, technical materials, and business relationship status at the time of contract execution and rescission. Therefore, it is advisable to clearly document the company’s current status at the time of contract execution.

9. What Is the Transfer Procedure for Shares Without Stock Certificates?

Legal Structure of Transferring Shares Without Stock Certificates

The transfer of shares for which no stock certificates have been issued follows the general principles for assignment of nominative claims. Transfer takes effect by agreement between the parties alone, and the transfer can be asserted against the company through the transferor’s notice to the company or the company’s consent (Article 450 of the Civil Act). To assert against third parties, notice or consent with a certified date is required.

Transfer Procedure Clause in This Contract

In this contract, we stipulated that “within three business days of receiving the first payment of KRW 500 million, the seller shall send certified mail attaching a copy of this contract, notifying the fact that the shares have been transferred, and requesting that the company register the shares in the buyer’s name.”

The reason for using certified mail is to secure a certified date. Through this, the buyer obtains enforceability against third parties. At the same time, it clarifies the timing of the seller’s performance of their notification obligation to prevent disputes.

Significance of Share Register Registration

Registration in the shareholder register is the enforceability requirement for the buyer to exercise shareholder rights against the company. Once registration is completed, the buyer can assert shareholder rights such as voting rights exercise and dividend receipt against the company.

10. FAQ

Atlas Legal provides legal services in corporate advisory, corporate disputes, and corporate crimes (fraud, breach of trust, embezzlement) from its office in Songdo, Incheon, South Korea. We recently successfully drafted a stock transfer agreement with a focus on seller protection where shares were transferred before full payment. We designed seven core protective measures including earnest money exclusion, joint and several guarantee, penalty clauses, delay damages, rescission rights, delegation of share register restoration authority, and damages clauses to systematically protect the seller’s rights. For professional advisory services on stock transfer agreements, shareholders’ agreements, M&A contracts, and other corporate transactions under South Korean law, please contact Atlas Legal.

※ The case presented in this article is based on an actual advisory matter, with client information protected. Legal judgments may vary depending on individual circumstances, so please consult with a professional attorney for specific matters.