2019 Japan tax reform outline

 
 
4 February 2019

Japan tax
newsletter
                                                           2019 Japan tax
Ernst & Young Tax Co.

                                                           reform outline

                                                      On 14 December 2018, the ruling party (a coalition comprised of the Liberal
 EY Global tax alert library
                                                      Democratic Party and Komeito) released the 2019 Tax Reform Outline (below
 Access both online and pdf versions of               “the outline”). This newsletter provides an overview and explanation of the
 all EY Global Tax Alerts.                            major amendments and revised provisions contained in the outline, which affect
 • Copy into your web browser:                        such matters as corporate taxation and international taxation.
 http://www.ey.com/GL/en/Services/Tax/                To accomplish the twin goals of the Abe Cabinet, i.e. converting the social
 International-Tax/Tax-alert-library%23date           security system into a reliable system for all ages which provides comfort to
                                                      all generations from the young to the elderly and ensuring the nation’s fiscal
Contents                                              health, the consumption tax rate will be raised to 10% in October 2019. In
                                                      order to smooth the fluctuations in demand that are expected to occur prior
• Corporate taxation............................2
                                                      to and following the rate hike, sufficient support will be provided in terms of
• International taxation........................8     both national budget and tax rules. Tax measures to stimulate automobile and
                                                      home purchases will be implemented. Furthermore, in order to secure a path
• Individual income taxation and
  asset taxation.................................20
                                                      for continuous growth amidst the aging of Japanese society, the “productivity
                                                      revolution” and “human resource development revolution” continue to be issues
• Tax administration/Other.................23         of the highest priority. R&D tax rules will be revised from the perspective of
                                                      encouraging innovative R&D. Various tax measures to assist small and medium-
                                                      sized enterprises (SMEs) will be implemented and simultaneously, new tax
                                                      payment deferment and exemption rules for inheritance tax and gift tax will be
                                                      established to promote business succession of sole proprietors. Furthermore,
                                                      transfer pricing taxation rules and earnings stripping rules will also be
                                                      significantly revised to match the international standards concerning taxation
                                                      agreed to in the OECD’s BEPS project and other forums.
                                                      Please note that the contents of this newsletter may be partially revised,
                                                      deleted or added in response to future Diet deliberations on the reform bill.
Corporate taxation
1. Revision of R&D tax rules
From the perspective of promoting active investment in R&D, R&D tax rules (special corporate tax credits available for
conducting experimental research, etc.) will be revised as follows.
(1) Gross-amount tax credits (tax credit rules pertaining to R&D expenses)
    (A) The maximum credit available to certain startups which conduct R&D (Note 1) will be increased to 40% (from the
        current 25%) of corporation tax of the applicable fiscal year.
    (B) High expense level tax credits will be abolished as a standalone measure but will be extended for 2 years after
        integrating it into the gross-amount tax credits as an additional measure which further increases the maximum
        credit enjoyed by entities with a high level of R&D expenses. The maximum credit will be 10% of corporation tax of
        the applicable fiscal year.
    (C) The credit rate curve (calculation formula for tax credit rates) for R&D expenses will be revised.
    (D) The applicable period of the special measure designating a maximum credit rate of 14% (c.f. the general rate of 10%)
        will be extended by 2 years.

                                                             R&D tax rules (maximum credit)
               Current rules                                                                                                         Post-reform
           A maximum of 40% of                                                                                                A maximum credit of 45%
              corporation tax                                                                                              (For startups, a maximum of 60%)
                                                     Abolishment of high
                                                   expense level tax credits
                                                       Extension of A’                                                                    (A’)
                                                                                                                          Additional increase of the maximum
                                                                                                       10% of            credit in cases where the ratio of R&D
                                 (A’)                                                              corporation tax
            (C)                                                                                                             expenses to sales exceeds 10%
                             Additional             (Elective rules)
       High expense                                                                                                          Temporary measure lasting 2 years
                           increase of the          (Temporary measure)
     level tax credits
                           maximum credit

                                                                                                       25% of
                                                                                                   corporation tax                       (A)
                                                                                                                                Gross-amount tax credits
                    (A)                                                       Increased to 40%
           Gross-amount tax credits                                             for startups

                                                                       Increased to 10%

                                                                                                       10% of
                                                        5% of                                                               (B) Open innovation tax credits
        (B) Open innovation tax credits                                                            corporation tax
                                                    corporation tax

    (Prepared based on “Key Points of the FY2019 Tax Reform on Economy and Industry,” published by the Ministry of Economy, Trade and Industry in December 2018
    (hereinafter, “METI materials”))

2   | Japan tax newsletter 4 February 2019
(2) Open innovation tax credits (tax credit rules pertaining
    to special R&D expenses)                                                    Even if an early stage startup has a cumulative deficit,
                                                                                if it posts a profit in any given fiscal year, it must pay
      Certain research consigned to private-sector companies
                                                                                taxes (e.g., in the case of companies with stated capital
      (including R&D startups (Note 2)) will be added to the
                                                                                exceeding JPY100 million). This year’s revision (i.e.
      list of eligible R&D expenses. The tax credit rate for
                                                                                the increase of the maximum tax credit from 25% of
      research consigned to R&D startups and joint research
                                                                                the applicable fiscal year’s corporation tax to 40% of
      conducted with R&D startups will be 25%, while the
                                                                                the same) will result in an increased amount of cash at
      tax credit rate for research consigned to private-sector
                                                                                hand remaining after such tax payments are made. This
      companies will be 20%. In addition, the maximum
                                                                                increase in cash at hand will act as a source of funds for
      credit will be increased to 10% (from the current 5%) of
                                                                                further R&D investment.
      corporation tax liability in the applicable fiscal year.
                                                                                Furthermore, the consignment of research to large
 Current rules                                      Credit rate                 enterprises, which was formerly ineligible for open
 Counterparty is a university or                                                innovation tax credits before the revision, will henceforth
                                                         30%
 special research institution etc.                                              be eligible for the open innovation tax credit.
 Counterparty falls under the
 category “Other” (private-sector                        20%                    Use of the open innovation tax credits, whose scope was
 companies etc.)                                                                significantly expanded during the FY2015 tax reforms,
 Research consigned to a large                                                  stood at JPY300 million in FY2014, but increased
                                                     Not eligible
 enterprise etc.                                                                to JPY3,900 million in FY2015 and to JPY 4,200
                                                                                million in FY2016 (Source: “Report of Results of the
                                                                                Survey Concerning Application of the Special Measures
                                                   Credit rate                  Concerning Taxation” published by the Ministry of
 Post-reform                                    (Current rules                  Finance (submitted to the Diet in February 2018)). As
                                                 Post-revision)                 the application criteria were relaxed in the FY2017
 Joint research with R&D startups                   20%      25%                reforms, and the FY2019 tax reforms will increase the
                                                                                maximum tax credit (5% to→ 10%), it is thought that the
 Research consigned to large
 enterprises etc. (Note 3)
                                                Not eligible     20%            importance of open innovation tax credits to companies
(Prepared based on METI materials)
                                                                                will continue to increase.

(Note 1) Companies established within the previous 10 years and which have
         NOLs which will be carried over into the next fiscal year (excluding
         subsidiaries of large enterprises etc.).
(Note 2) Eligible companies are startups that receive investments from
         venture funds that have been certified under the Industrial
         Competitiveness Enhancement Act or from national university
         corporations and national research and development agencies that
         meet certain requirements.
(Note 3) Limited to basic research, applied research and R&D for the
         purpose of utilizing intellectual property, and excludes the mere
         consignment of R&D operations.

                                                                                               Japan tax newsletter 4 February 2019 |         3
2. Enterprise tax rate                                           (Standard tax rates of the corporate enterprise tax and
                                                                 special corporate enterprise tax)
To correct the disparity in financial resources between
regions, a portion of the corporate enterprise tax under the                                                     Special  Post-reform
current rules will be revamped into a new measure named                                        Corporate        corporate  corporate
“special corporate enterprise tax (name tentative),” and                                     enterprise tax    enterprise enterprise
this special corporate enterprise tax paid to prefectures will                                                     tax      tax (b) +
                                                                                                                             special
temporarily be deposited into the national treasury and then                                 Pre-        Post-    Newly    corporate
reallocated to each prefecture in accordance with population                                reform      reform introduced enterprise
ratios and other factors.                                                                     (a)         (b)       (c)      tax (c)
(1) For fiscal years beginning on or after 1 October 2019,        Ordinary
    the standard tax rates of the income levy and revenue         companies with
                                                                  stated capital
    levy of corporate enterprise tax will be reduced, and         exceeding
    the special corporate enterprise tax will be introduced.                                 3.6%          1%       260% of (b)          3.6%
                                                                  JPY100 million
    The special corporate enterprise tax is a national tax        (income exceeding
    levied on taxpayers obliged to pay corporate enterprise       JPY8 million per
    tax, and the tax returns therefor must be filed with          annum)
    and paid to relevant prefectures alongside corporate          Ordinary
    enterprise taxes. In terms of standard tax rates, the sum     companies with
    of the post-revision income levy rates of the corporate       stated capital
                                                                  equal to or less
    enterprise tax and special corporate enterprise tax rates                                9.6%          7%       37% of (b)          9.59%
                                                                  than JPY100
    will be identical to the income levy rate of the corporate    million (income
    enterprise tax under the current rules.                       exceeding JPY8
                                                                  million per annum)
                                                                  Companies
                                                                  subject to taxation
                                                                                             1.3%          1%       30% of (b)           1.3%
                                                                  based on revenue
                                                                  amount

                                                                 (Prepared based on “FY2019 Local Tax Reforms (Draft),” published by the Ministry of
                                                                 Internal Affairs and Communications)

                                                                 (2) With regard to the tax rate limitations on the income
                                                                     levy for ordinary companies with stated capital
                                                                     exceeding JPY100 million (i.e. companies to which
                                                                     pro forma standard taxation based on companies’ size
                                                                     is applied), a measure will be established to raise said
                                                                     limits to 1.7 times the standard tax rate (currently 1.2
                                                                     times the standard tax rate).

4   | Japan tax newsletter 4 February 2019
3. Revision of qualification criteria for reorganization tax rules
(1) Downstream merger conducted after a parent company has converted a subsidiary into a wholly-owned subsidiary
      In the event a company which has become a wholly-owned subsidiary of another company through share exchanges or
      other methods is projected to conduct a downstream merger in which the wholly-owning parent company is treated as
      the acquired company, the determination of tax-qualifying criteria, such as the control relationship continuity criteria,
      shall be made using the relationship at the time immediately prior to said merger.

                                            Step 1                                                                    Step 2

              • Implementation of share exchange whereby wholly-owning parent        • Eligible for treatment as a tax-qualified reorganization even in cases
   Details      company P1 converts company S1 into a wholly-owned subsidiary          where a merger (downstream merger) is conducted through which
              • Company P1 converts company S1 into a wholly-owned subsidiary          company S1 becomes the surviving company

                                                                                                    [100% controlling relationship]
                             Company P1                                                                       Company P1                 Shareholders
                                                   Shareholders
  Diagram
                                                     Ceases to be a shareholder                                         Downstream merger
                                                     through the implementation
                             Company S1                                                                       Company S1
                                                     of share exchanges

(Prepared based on METI materials)

  For the situations depicted in the above diagrams, in cases wherein company S1 holds the licenses and approvals, etc.
  necessary to operate business, there is a large demand for “downstream mergers” which enable company S1 to be the
  surviving company. In the future, reorganizations such as these will be able to be conducted with ease without concern
  as to whether they are qualified or non-qualified from a tax perspective.

(2) Reorganizations using the shares of a wholly-owning parent company that indirectly owns shares
      With regard to tax-qualifying requirements relating to mergers, company splits and share exchanges, and the
      requirements regarding the deferral of capital gain recognition from the transfer of old shares, the shares (Note) of the
      company that indirectly owns all of the outstanding shares of the acquiring company will be added to the shares of the
      parent company of the acquiring company as qualified consideration in a triangular merger etc.

                                     Prior to the reorganization                                      After to the reorganization

              • As consideration for the absorption-type merger whereby company S2   • Company S2, which acquired company S3, remains as the surviving
   Details      acquires company S3, shares of company P1, which indirectly owns       company and company P2 becomes a new shareholder of company
                100% of the shares of company S2, are transferred to company P2        P1 alongside the general shareholders

                            General shareholders                                             General shareholders                Company P2

                                 Company P1                       Company P2                                    Company P1
  Diagram       Company                            Company
                P1 shares        Company S1        P1 shares                                                     Company S1

                                                 Absorption-
                                 Company S2      type merger      Company S3                                  New company S2

                        [100% controlling relationship]                                                [100% controlling relationship]

(Prepared based on METI materials)

                                                                                                      Japan tax newsletter 4 February 2019 |                    5
(Note) With regard to certain mergers conducted between companies                 (A) Wholly-owned subsidiaries of large enterprises
       within a corporate group, in the event that the shares of certain
                                                                                      (stated capital of JPY500 million or more)
       foreign companies indirectly owning all of the outstanding shares
       of the acquiring company (hereinafter, “specially-related foreign          (B) Companies whose outstanding shares or
       company”) are provided as consideration, the merger will not
       be considered to have met the tax-qualification requirements.                  investments are all owned by multiple large
       Furthermore, in the event that a merger in which shares of a                   enterprises within a 100% capital relationship group
       specially-related foreign company are provided as consideration
       is not deemed as a qualified merger, then the capital gains on old
                                                                             Due to the measure in (2) above, companies such as
       shares owned by shareholders at the time of the merger will be
       taxed.                                                                company S2 which were qualified for application of
                                                                             various tax incentives since they were deemed as SMEs
                                                                             under the Act on Special Measures Concerning Taxation
    In the event that company P1 in the above diagram is a
                                                                             despite the fact that they did not qualify as SMEs under
    listed company, there are cases where company P2, the
                                                                             the Corporation Tax Act, are expected to lose eligibility
    shareholder of company S3 (the non-surviving entity),
                                                                             for the application of various tax incentives.
    desires the acquisition of shares of company P1, which
    have higher liquidity (convertibility to cash). After the                      Company P
    revision, even if consideration for this triangular merger                  (stated capital of                               Act on Special
                                                                                  JPY500 mil.)                   Corporation
                                                                                                                                   Measures
    is paid through the provision of company P1 shares to                                                          Tax Act
                                                                                                                               Concerning Taxation
                                                                                             100%
    company P2, said merger will fulfill the qualification
                                                                                  Company S1
    requirements.                                                                                      Company
                                                                                (stated capital of                Non-SME           Non-SME
                                                                                  JPY100 mil.)           S1
                                                                                                                                  (Pre-revision)
                                                                                             100%
                                                                                                                                      SME
4. Revision of the scope of enterprises categorized as                                                 Company
                                                                                  Company S2                      Non-SME               ↓
   large enterprises                                                                                     S2
                                                                                (stated capital of                               (Post-revision)
                                                                                  JPY100 mil.)                                      Non-SME
(1) With regard to SMEs issuing shares that are partnership
    property of investment limited partnerships (referred                   (Prepared based on METI materials)
    to as “business succession funds”) in relation to
    certification of business restructuring investment plans                5. Revision of requirements in relation to deductible
    under the Small and Medium-sized Enterprises Business                      performance-linked compensation
    Enhancement Act, determination of whether an SME
                                                                            Requirements in relation to procedures for deductible
    is deemed to be a large enterprise (i.e. enterprises to
                                                                            directors’ performance-linked compensation paid by
    which SME tax rules such as the following cannot be
                                                                            companies will be revised as follows.
    applied: The SME investment tax incentive, special
    depreciation in the event specified SMEs acquire                        (1) [Revised] Procedures concerning decisions made by the
    management capability enhancement equipment, and                            compensation committee and compensation advisory
    SME business enhancement tax rules) will be conducted                       committee (hereinafter, “compensation committee(s)
    by excluding the shares owned by the Organization for                       etc.”)
    Small & Medium Enterprises and Regional Innovation
                                                                                  (A) The requirement that companies that have
    (categorized as a large enterprise) when it has invested
                                                                                      set up compensation committee(s) etc. not
    in said business succession fund.
                                                                                      employ executive directors as members of the
(2) With respect to the determination of “enterprises                                 compensation committee(s) etc. will be removed,
    categorized as large enterprises,” which are not                                  and a new requirement stipulating that executive
    considered as SMEs that are qualified for application of                          directors cannot participate in resolutions
    various special tax measures for SMEs provided for in                             concerning decisions concerning their own
    the Act on Special Measures Concerning Taxation, the                              performance-linked compensation will be added.
    following companies will be added to the scope of large
                                                                                  (B) New requirements will be added such that a
    enterprises.
                                                                                      majority of the members of compensation

6    | Japan tax newsletter 4 February 2019
committee(s) etc. must be independent outside             to specified investment trusts, the requirement limiting
         directors and that the approval of all independent        ownership to less than 50% of the outstanding shares
         outside directors who are members of said                 of or investments in other companies will be revised
         committee(s) etc. must be obtained concerning             so that “investments in other companies” includes
         decisions on performance-linked compensation.             investments in silent partnerships (Tokumei Kumiai or
                                                                   TK in Japanese).
(2) [Abolished] Procedures concerning decisions made by
    companies that have a board of corporate auditors          (3) Extension of applicable periods
    The following two procedures will be removed from the          (A) The applicable period of special measures for the
    scope of procedures which qualify as procedures to                 reduction of the corporation tax rate of SMEs (15%
    approve directors’ performance-linked compensation                 of income equal to or less than JPY8 million per
    that are deemed as deductible expenses:                            annum) will be extended by two years.
    (A) A decision made by the board of directors of a             (B) The applicable period of the SME investment tax
        company that has a board of corporate auditors                 incentive and SME business enhancement tax
        where appropriate documents have been submitted                rules and other measures will be extended by
        and approval has been obtained from the majority               two years upon the revision of certain application
        of the corporate auditors; and                                 requirements etc.
    (B) A decision made by the board of directors of a
        company that has an audit committee where
        approval has been obtained from the majority of
        audit committee members.
6. Other
(1) Introduction of special depreciation rules concerning
    disaster prevention and mitigation equipment for SMEs
    For SMEs that have received certification of their
    business continuity capability enhancement plans
    or collaborative business continuity capability
    enhancement plans (names tentative) under the Small
    and Medium-sized Enterprises Business Enhancement
    Act and that have acquired specified business continuity
    capability enhancement equipment (e.g. private electric
    generators, data backup systems and fire shutters)
    in relation to said business continuity capability
    enhancement plans or collaborative business continuity
    capability enhancement plans for said certification by
    31 March 2021, and which have used said equipment
    for said business purposes, a tax measure will be
    introduced to allow a special depreciation of 20% of the
    equipment acquisition price.
(2) Revision of requirements for special measures for
    taxation of investment companies investing in silent
    partnerships
    With regard to special measures pertaining to taxation
    of investment companies and special measures
    pertaining to taxation of trustee companies in relation

                                                                                Japan tax newsletter 4 February 2019 |        7
International taxation
Revision of earnings stripping rules                                                               Current rules                 Revision
The earnings stripping rules under the current taxation                                            Related party net interest
                                                                                                                                 Net interest expenses
                                                                                                                                 (including that paid to or
system are based on the same concept as that of Action 4                                           expenses only (interest
                                                                                 (A) Qualified                                   received from third parties;
of the Base Erosion and Profit Shifting (BEPS) Final Report.                                       included in the Japanese
                                                                                 interest                                        interest included in the
                                                                                                   taxable income of the
However, since there are discrepancies between the two                                             recipient is excluded)
                                                                                                                                 Japanese taxable income of
rules in terms of qualified interest categories, the definition                                                                  the recipient is excluded)
                                                                                                   Income before deduction
of adjusted income and the standard maximum deductible                                                                           Income before deduction
                                                                                                   of interest, taxes and
amount, revisions will be made to the current Japanese rules                                                                     of interest, taxes and
                                                                                                   depreciation/ amortization
                                                                                 (B) Adjusted                                    depreciation/ amortization
to match Action 4 of the BEPS Final Report while taking                          income
                                                                                                   expenses (EBITDA)
                                                                                                                                 expenses (EBITDA) (does not
into consideration its impact on normal economic activities                                        (includes non-taxable
                                                                                                                                 include non-taxable domestic
                                                                                                   domestic and foreign
(e.g. loans from domestic (i.e. Japanese; same hereinafter)                                        dividend income)
                                                                                                                                 and foreign dividend income)
banks).                                                                          (C) Standard
                                                                                 maximum
1. Overview of the rules                                                         deductible
                                                                                                                 50%                         20%
                                                                                 amount
An overview of the current earnings stripping rules is as
                                                                                                                                 • The amount of net
follows.
                                                   Maximum deductible                               • The amount of related        interest expenses is less
    Adjusted income (B)                                 amount                                        party net interest           than or equal to JPY20
                                                                                                      expenses is less than or     million
       Related party net         Adjusted income                                                      equal to JPY10 million     • The total amount of
                                                                                 Requirements
    interest expenses only              ×                 Deductible                                • The amount of interest       net interest expenses
                                     50% C
                                                                                 for exemption
              (A)                                                                                     expenses paid to related     of all domestic group
   *Interest included in the                                                                          parties is 50% or less       companies (share
 Japanese taxable income of                                                                           of the total amount of       ownership ratio in excess
  the recipient is excluded
                                                      Non-deductible (*)
                                                                                                      interest expenses            of 50%) is 20% or less of
                                                                                                                                   total adjusted income
             Other                                 * Non-deductible interest
    (Depreciation/amortization                       expenses from a given       (Prepared based on METI materials)
     and domestic and foreign                        year can be carried over
         dividend income)                            and deducted over the
                                                     subsequent 7 year period.
                                                                                 2. Qualified net interest expenses and non-qualified
    Taxable income in the                                                           interest expenses
    applicable fiscal year
      (income before taxes)
                                                    Enforcement: April 2013
                                                                                 Interest qualifying under the revised earnings stripping
                                                                                 rules will equal the amount remaining (hereinafter, “amount
An overview of the earnings stripping rules after the revision                   of qualified net interest expenses”) after deducting from
is as follows.                                                                   the total amount of qualified net interest expenses for the
                                                   Maximum deductible            applicable fiscal year (refers to the amount remaining after
    Adjusted income (B)                                 amount
                                                                                 deducting the “non-qualified interest expense amount”
    Net interest expenses
                                 Adjusted income                                 from the interest expense amount; same hereinafter), the
                                        ×                  Deductible
             (A)                     20% C
                                                                                 total amount of interest income calculated as corresponding
   *Interest included in the                                                     to the aforementioned qualified net interest expenses
 Japanese taxable income of
  the recipient is excluded                           Non-deductible (*)         (hereinafter, “total amount of deductible interest income”).
                                                                                 The aforementioned “non-qualified interest expense
             Other                                 * Non-deductible interest
                                                                                 amount” refers to the following amounts prescribed for each
          (depreciation)                             expenses from a given
                                                     year can be carried over    category of interest expenses also described below.
                                                     and deducted over the
    Taxable income in the                            subsequent 7 year period.
    applicable fiscal year
      (income before taxes)
                                                    Enforcement: April 2020

8      | Japan tax newsletter 4 February 2019
(1) The amount of interest expenses described below
    excluding interest expenses described under (2)              Under the current rules, interest expenses paid to
                                                                 foreign related parties are deemed as qualified net
    (A) The amount of interest expenses included in the
                                                                 interest expenses, but in Action 4 of the BEPS Final
        Japanese taxable income of the recipients of the
                                                                 Report, both domestic and foreign interest expenses,
        interest expenses
                                                                 regardless of whether they are paid to related parties
    (B) The amount of interest expenses paid to certain          or to unrelated parties, are deemed qualified interest
        public corporations                                      expenses. After the revision, qualified interest expenses
    (C) The amount of interest expenses pertaining to            will, in practice, be the amount of interest expenses paid
        bond future agreements where there is a clear            to foreign related parties and foreign unrelated parties
        correspondence between the borrowing and the             as a result of consideration given towards the impact on
        lending (excluding the amounts described under (A)       normal economic activities (e.g. loans from domestic
        and (B))                                                 banks). In other words, in comparison to conditions
                                                                 before the revision, there will be the addition of interest
(2) Specified bond interest (refers to interest expenses         expenses paid to foreign unrelated parties.
    paid to unrelated parties pertaining to bonds (excluding
    bonds whose acquirer(s) does/do not constitute
    the substantial majority) issued by said company;          3. Adjusted income
    hereinafter the same.)                                     In the calculation of adjusted income, both the amount
    Any of the following amounts per bond                      of non-qualified dividend income excluded from taxable
                                                               income and the amount of non-qualified dividends received
    (A) The amount of specified bond interest that is          from foreign subsidiaries excluded from taxable income
        withheld at source during payment or included in       will be excluded from the amounts added to the income of
        the domestic taxable income of the recipient of that   the applicable fiscal year, and non-deductible income tax
        specified bond interest, and the amount of specified   amounts that are deducted from corporation tax amounts
        bond interest paid to certain public corporations.     will be excluded from the amounts deducted from the
    (B) The amount prescribed below, depending on the          income of the applicable fiscal year. Furthermore, necessary
        category of the bond as defined below                  measures will be established for the calculation of adjusted
                                                               income of operators of silent partnership (Tokumei Kumiai or
         i. Bonds issued in Japan: Amount equivalent to        TK in Japanese) agreements.
            95% of the amount of specified bond interest
         ii. Bonds issued overseas: Amount equivalent to
                                                                 Under the current rules, the amount of non-qualified
             25% of the amount of specified bond interest
                                                                 dividend income excluded from taxable income and the
                                                                 amount of non-qualified dividends received from foreign
                                                                 subsidiaries excluded from taxable income are added
                                                                 to the income of the applicable fiscal year. However,
                                                                 these rules will be revised in order to realign them with
                                                                 recommendations provided in Action 4 of the BEPS Final
                                                                 Report, which is not to make adjustments for tax-exempt
                                                                 income.

                                                                                 Japan tax newsletter 4 February 2019 |        9
4. Standard maximum deductible amount
                                                                                 Under the current rules, a de minimis standard
In the event that qualified net interest expenses exceed 20%
                                                                                 exempting companies from application of the earning
of adjusted income in the applicable fiscal year (from the
                                                                                 stripping rules has been established for companies
current 50%), the amount equivalent to the amount in excess
                                                                                 whose qualified net interest expenses equal JPY10
of said limit will not be included in deductible expenses.
                                                                                 million or less. In addition, a standard has been
                                                                                 established for companies whose qualified interest
  The standard fixed ratio under current Japanese tax                            is equal to or less than 50% of interest expenses,
  rules is 50% which exceeds the best practice range for                         exempting such companies from application of the
  standard fixed ratios recommended in Action 4 of the                           earning stripping rules. These revisions will increase
  BEPS Final Report set between 10% to 30%. Therefore,                           the de minimis standard from JPY10 million to JPY20
  tax rules will be revised to lower said ratio to 20%.                          million. Furthermore, the standard for “companies
                                                                                 whose qualified interest is equal to or less than 50% of
5. Application exemption criteria                                                interest expenses” will be abolished and a new standard
                                                                                 for holding companies will be established as described in
The earning stripping rules will not be applied when any of                      (2) above.
the following criteria are met.
(1) The amount of qualified net interest expenses in the                       6. Amount of deductible excess interest
    applicable fiscal year is JPY20 million or less (from the
                                                                               (1) In the event that qualified net interest expense is less
    current JPY10 million or less)
                                                                                   than 20% of adjusted income of the applicable fiscal
(2) The ratio of the amount under (A) in the applicable fiscal                     year (from the current 50%, as mentioned in 4. above),
    year to the amount under (B) is 20% or less                                    and if there were any amounts which were treated as
    (A) The amount remaining after deducting the total                             non-deductible interest in any fiscal years beginning
        amount of qualified net interest income (refers to                         within the previous 7 years due to application of
        the amount remaining after deducting the total                             earnings stripping rules (hereinafter, “excess interest”),
        amount of qualified interest expenses from the                             then an amount equivalent to said excess interest can
        total amount of deductible interest income) of                             be included in deductible expenses not to exceed a limit
        a domestic company* from the total amount of                               which equals the difference between the qualified net
        qualified net interest expenses                                            interest expenses and 20% (from the current 50%) of
                                                                                   adjusted income.
    (B) The amount remaining after deducting the total
        amount of adjusted losses (refers to the amount                        (2) A revision will be made to allow application of (1)
        less than zero in the event that an amount less than                       above, even if the applicable amounts are indicated in
        zero is derived from the calculation of adjusted                           documents attached to amended tax returns or requests
        income) of a domestic company* from the total                              for correction.
        amount of adjusted income
     * Domestic companies refers to any company located in Japan and             There is no change to the rule that excess interest can
       other companies located in Japan that are related to said company         be carried over for 7 years.
       through ownership of more than 50% of outstanding shares (limited
       to companies whose start date and last date of a fiscal year both
       respectively equal the start date and last date of the fiscal year of
       said domestic company).

10 | Japan tax newsletter 4 February 2019
7. Application period
                                                                      The TPG provides that “the word ‘intangible’ is meant to
The above revisions (excluding 6. (2)) are applicable to              address something which is not a physical or a financial
corporation tax for fiscal years beginning on or after 1 April        asset, which is capable of being owned or controlled
2020. The above revision described in 6. (2) is applicable            for use in commercial activities and whose use or
to corporation tax whose submission deadlines for final tax           transfer would be compensated had it occurred in a
returns, etc. is on or after 1 April 2020.                            transaction between independent parties in comparable
Furthermore, although the aforementioned revisions                    circumstances.” In response, the reforms will clarify
are related to national taxation, the necessary local tax             the scope of intangible assets for tax purposes. These
(corporate inhabitant tax and corporate enterprise tax)               provisions are thought to define intangible assets under
measures will also be established in accordance with the              the transfer pricing tax rules.
treatment in national taxation concerning the revision of the
earning stripping rules.                                           2. Revision of methods for calculating arm’s length
                                                                      prices (TPMs)
  Although earning stripping rules will be revised to not          The discounted cash flow method (DCF method) will be
  include non-qualified domestic and foreign dividend              added to the methods allowed for the calculation of arm’s
  income (excluded from taxable income) in adjusted                length prices (hereinafter, “transfer pricing methods” or
  income, and the standard maximum deductible amount               “TPM”). The DCF method is recognized as an effective
  will be lowered from 50% to 20%, through revisions to            TPM for intangible asset transactions when comparable
  limit qualified interest, in practice, to interest expenses      transactions allowable under the TPG cannot be identified.
  paid to foreign parties and the introduction of the
  rule described in 5. (2) above, the new rules give due           Along with this revision, in the event companies do not
  consideration to the economic activities of Japanese             submit documents deemed necessary for calculating arm’s
  companies. On the other hand, this will require foreign          length prices, the DCF method will be added to TPMs that
  companies in Japan which have large amounts of loans             can be employed in the calculation of estimated taxation
  from overseas, companies employing structured finance            by National Tax Agency employees to calculate an amount
  products, and companies issuing bonds overseas to                deemed as the arm’s length price (based on information that
  exercise caution.                                                would have been available to them at the time the foreign
                                                                   related transactions were conducted).

Revision of transfer pricing tax rules                             TPMs proposed by the TPG and the necessity of referencing
                                                                   comparable transactions.
In view of the amendments made to the BEPS Report and
                                                                             1. Comparable uncontrolled price
the OECD Transfer Pricing Guidelines (hereinafter, “TPG”),                      method (CUP method)
                                                                                                                             TPMs that reference
                                                                                                                           comparable transactions
revisions will be made to the transfer pricing tax rules in                  2. Resale price method (RP
                                                                                method)
Japanese laws concerning methods for calculating arm’s
                                                                             3. Cost plus method (CP method)
length prices and transactions of certain hard-to-value                      4. Transactional net margin
                                                                                                                        Cannot be used when there are
                                                                                                                         no comparable transactions
intangible assets.                                                  TPM         method (TNMM)
                                                                             5. Transactional profit split
1. Clarification of the definition of intangible assets                         method
   subject to transfer pricing tax rules                                                                               Expansion of TPG concerning
                                                                             6 Other methods                           the DCF method during the
Intangible assets subject to transfer pricing tax rules are said                                                       BEPS Project
to be assets other than tangible assets and financial assets       Prepared based on “Ministry of Finance Explanatory Materials (Concerning International
(cash, deposits and securities) that are owned by companies,       Taxation) (2 of 2),” a document prepared for the 20th Tax Commission Meeting (7
                                                                   November 2018)
and for which consideration should be paid in the event they
are transferred or lent out in accordance with the terms
of ordinary transactions conducted between independent
business operators.

                                                                                            Japan tax newsletter 4 February 2019 | 11
The TPG recommends use of the DCF method as                        The definition of specified intangible assets is thought
  the TPM for intangible asset transactions and other                to be largely identical to the definition of “hard-to-value
  transactions. In practice, although there are cases                intangibles (HTVI)” described in the TPG. Although many
  wherein the DCF method is used to calculate transfer               countries (e.g. the UK, the Netherlands, Australia and
  prices of intangible assets, in Japan, legal treatment of          New Zealand) are thought to be in line with the TPG,
  the DCF method is unclear. Revisions will be made for              caution is necessary when conducting transactions
  this reason, but in the future, public announcements               with countries that have established their own rules
  providing clear guidance concerning the application of             concerning intangible asset transactions (e.g. the US
  the DCF method are desired.                                        and Germany). Public announcements providing clear
                                                                     guidance concerning specified intangible assets are
                                                                     desired.
3. Introduction of price adjustment measures pertaining
   to transactions involving hard-to-value intangibles
   (specified intangible asset transactions)                       (2) Application exemption criteria
With regard to transactions involving specified intangible              This price adjustment measure will not be applied in
assets (hereinafter, “specified intangible asset transactions”),        cases wherein National Tax Agency employees request
in the event that there is a difference between the forecasts           submission of documents described in (A) or (B)
used as a base for the calculation of arm’s length prices               below from a company and the company submits said
and the results, the District Director of the Tax Office will           documents within a fixed period following the request
be given the authority to make corrections by deeming                   date.
as the arm’s length price the amount calculated using the
                                                                        (A) Documents described below
most appropriate TPM for the specified intangible asset
transaction under review, after taking into consideration                     i. Documents that include details of forecasts used
the results of the specified intangible asset transaction                        as a base for the calculation of arm’s length
under review and the probability of the occurrence of the                        prices of specified intangible asset transactions
events that caused the difference. However, notwithstanding
                                                                              ii. Documents that provide evidence that the
the foregoing are cases where the difference between the
                                                                                  events that caused the difference between said
foregoing calculated amount and initial transaction price
                                                                                  forecasts and results were natural disasters or
does not exceed 20%.
                                                                                  other similar events and that it was extremely
(1) Specified intangible assets                                                   difficult to forecast its occurrence at the time
                                                                                  of transaction, or that the arm’s length price
    “Specified intangible asset” refers to an intangible asset
                                                                                  was calculated after appropriately taking into
    that meets all of the following requirements.
                                                                                  consideration the probability of the occurrence
    (A) Is unique and has significant value                                       of said events at the time of transaction
    (B) Revenue forecasts are used as a base for the                    (B) Documents that provide evidence that the
        calculation of its arm’s length price                               difference between the forecast revenue amount
    (C) Projections used as a base for the calculation of its               between the period lasting from the first day of
        arm’s length price are deemed to be uncertain                       the fiscal year that includes the first day when
                                                                            unrelated party revenue was generated through the
                                                                            use of a specified intangible asset until 5 years have
                                                                            passed from the first day of the first fiscal year and
                                                                            the actual revenue amount does not exceed 20%
                                                                   (Note)   If a company submits the documents described in (B) above, the
                                                                            price adjustment measure will not be applied to days subsequent to
                                                                            the submission date.

12 | Japan tax newsletter 4 February 2019
6. Application period
  Companies are required to prepare documents that
  include details of forecasts used in the calculation of        The above revisions are applicable to corporation tax for
  the arm’s length price at the time of transaction when         fiscal years beginning on or after 1 April 2020 and income
  conducting a specified intangible asset transaction.           tax for 2021 or after.
  Furthermore, in the event an unforeseeable event               Furthermore, although the aforementioned revisions
  occurs in fiscal years after the transaction and the actual    are related to national taxation, the necessary local tax
  revenue greatly deviates from the forecast revenue, the        (individual inhabitant tax, corporate inhabitant tax and
  company is required to prepare documents that include          corporate enterprise tax) measures will also be established
  analyses of the causes.                                        in accordance with the treatment in national taxation
                                                                 concerning the revisions of the transfer pricing tax rules.
4. Extension of the period for a correction decision
   relating to transfer pricing tax rules                        Revision of foreign subsidiary income inclusion
The periods for correction decisions and requests for the        taxation rules (CFC rules)
correction of corporation tax relating to transfer pricing tax   1. Shell companies
rules will be extended to seven years (from the current six
                                                                 The following foreign related companies will be excluded
years).
                                                                 from the scope of shell companies (or “paper companies” in
                                                                 Japanese).
  Caution is necessary not only for specified intangible
  asset transactions or when selecting the DCF method
  as a TPM, but also regarding the fact that the general           Even if companies are excluded from the scope of shell
  period for correction decisions etc. under transfer              companies as a result of qualifying as foreign related
  pricing tax rules will be extended by one year.                  companies under (1) to (3), there may be cases when
                                                                   they are classified as cash boxes. Furthermore, foreign
                                                                   related companies with an effective tax rate of less than
5. Establishment of the difference adjustment method               20% will be excluded from application of this revision.
With regard to adjustments of differences made in relation         In addition, it is necessary to heed future developments
to a TPM for referencing the profit margin of comparable           concerning whether there will be requirements to attach
transactions, when necessary adjustments cannot be made            documents to final tax returns to fulfill the exemption
due to the fact that assessing quantitative differences            requirements described below, as was required for
is extremely difficult, use of a method based on the               exemption under the former tax rules, or whether
interquartile method will be allowed for adjusting such            submission of documents will be required each time
differences.                                                       the tax authorities request documents that show that
                                                                   requirements are being met as is the case with the
  Public announcements providing clear guidance                    presumptive provisions under the current tax rules.
  concerning specific operation methods are desired,
  such as explanations of the type of situations deemed
  as cases “when necessary adjustments cannot be made
  due to the fact that assessing quantitative differences is
  extremely difficult.”

                                                                                  Japan tax newsletter 4 February 2019 | 13
(1) Certain foreign related companies which are holding                   (Note 1) The foregoing “specified subsidiary” refers to a foreign
                                                                                   company partially subject to CFC rules located in the
    companies
                                                                                   same country as the head office of the foreign related
    (A) A foreign related company whose main business                              company under review or other non-business operating
                                                                                   companies related to the business operating company
        is to own shares of subsidiaries and where more                            under review.
        than 95% of its assets are comprised of shares of                 (Note 2) The foregoing “business operating company” refers
        subsidiaries and certain cash and deposits and                             to a foreign related company that fulfills the economic
        where more than 95% of its income is comprised of                          activity criteria and the directors and employees of its
                                                                                   head office are engaged in carrying out all operations
        dividends from subsidiaries and certain interest on                        ordinarily deemed as necessary to appropriately
        deposits                                                                   execute its main business. The same applies in (2).
        (Note)   “Subsidiary” above refers to a foreign company located
                                                                          The types of shell companies thought to be
                 in the same country as the head office of the foreign
                 related company under review and of which 25% or         excluded from CFC rules (i.e. no longer deemed as
                 more shares are owned by said foreign related company.   shell companies) are as portrayed in figure 2.
        The types of shell companies thought to be
                                                                           Figure 2
        excluded from controlled foreign corporation
        (CFC) rules (i.e. will no longer be deemed as shell                                    Domestic company
        companies) are as portrayed in figure 1.                            Japan
                                                                          Country X
         Figure 1                                                                                Foreign related
                                Domestic company                                                    company

                     Japan
                    Country X                                               Foreign related company                Shell company
                                  Shell company                               (Business operating              (Non-business operating
                                                                                   company)                          company)
                                           25% or higher
                                                                                                               Foreign related company
                                    Subsidiary                                                               partially subject to CFC rules
                                                                                                                (Specified subsidiary)

    (B) A foreign related company whose main business is
        the ownership of shares of specified subsidiaries
        and which meets all required criteria including
        that its businesses are managed, controlled and
        operated by a “business operating company” that
        is located in the same country as the head office
        of said foreign related company, and said foreign
        related company fulfills functions indispensable
        for said business operating company to execute
        business in said country; furthermore, more than
        95% of said foreign related company’s assets are
        comprised of shares of specified subsidiaries and
        certain cash and deposits and more than 95% of
        its income is comprised of dividends from specified
        subsidiaries, certain consideration received from
        share transfers of specified subsidiaries and certain
        interest on deposits (referred to as a “non-business
        operating company” in (B))

14 | Japan tax newsletter 4 February 2019
(2) Certain foreign related companies relating to the
While a foreign related company that falls under (A) is          ownership of real estate
subject to application of the foreign subsidiary income
                                                                 (A) A foreign related company whose main business
inclusion taxation rules (CFC rules) under the current
                                                                     is to own certain real estate located in the same
tax system, dividends received from companies that
                                                                     country as that of its head office or shares
fulfill requirements such as share ownership ratios of
                                                                     of specified subsidiaries and which meets all
25% or more will not be included in the calculation of
                                                                     required criteria including that its businesses are
the applicable amount pertaining to said foreign related
                                                                     managed, controlled and operated by a business
company and as a result, income inclusion taxation (or
                                                                     operating company located in the same country,
unitary taxation) will not occur for said amount. It is
                                                                     and said foreign related company fulfills functions
thought that this measure was established after taking
                                                                     indispensable for said business operating company
into account the fact that income inclusion taxation does
                                                                     to execute business (limited to the real estate
not occur even under the current rules.
                                                                     business) in said country; furthermore, more than
Moreover, in the event a foreign related company that                95% of said foreign related company’s assets are
falls under (A) transfers its subsidiary shares, it will             comprised of said real estate, shares of specified
become difficult to fulfill the income requirements                  subsidiaries and certain cash and deposits and
therein. On the other hand, since income requirements                more than 95% of its income is comprised of income
under (B) include “certain consideration received from               earned from said real estate and from shares of
share transfers of specified subsidiaries,” it will become           specified subsidiaries, and certain interest on
easier for a foreign related company to fulfill said                 deposits (referred to as a “non-business operating
requirements. However, this category is subject to the               company” in (A))
following additional requirements in comparison to (A).               (Note)   The foregoing “specified subsidiaries” refers to other
                                                                               non-business operating companies related to the
(i) Main business is the ownership of shares of specified                      business operating company under review.
    subsidiaries (refer to Note 1 for requirements of a
                                                                      The types of shell companies thought to be
    specified subsidiary)
                                                                      excluded from controlled foreign corporation
(ii) Its businesses are managed and controlled by a                   (CFC) rules (i.e. will no longer be deemed as shell
     business operating company located in the same                   companies) are as portrayed in figure 3.
     country as its head office (refer to (Note 2) for
                                                                      Figure 3
     requirements of a business operating company)
                                                                                      Domestic company
(iii) Fulfills functions indispensable for said business
                                                                          Japan
      operating company to execute business
                                                                        Country X
With regard to (iii), it is necessary to heed future
developments since it is currently unclear what functions                              Shell company              Foreign related
                                                                                       (Non-business                 company
specifically are recognized by these rules (the same                                 operating company)         (Business operating
applies for (2) and (3)).                                                                                            company)
                                                                                        Shell company
                                                                                        (Non-business
                                                                                     operating company/
                                                                                     specified subsidiary)

                                                                                             Real
                                                                                            estate

                                                                                  Japan tax newsletter 4 February 2019 | 15
(B) A foreign related company whose main business           and said foreign related company fulfills functions
        is to own real estate located in the same country       indispensable for said business operating company to
        as that of its head office and actually used by         execute businesses to develop or establish resources,
        a business operating company located in the             such as petroleum or natural gas, or social capital in
        same country as the head office of said foreign         said country (referred to as “resource development
        related company and which meets all required            projects” in (3)); furthermore, more than 95% of said
        criteria including that its businesses are managed,     foreign related company’s assets are comprised of
        controlled and operated by said business operating      shares of specified subsidiaries, certain loans provided
        company; furthermore, said foreign related              to specified subsidiaries, said real estate and certain
        company fulfills functions indispensable for said       cash and deposits and more than 95% of its income is
        business operating company to execute business          comprised of income earned from shares of specified
        in said country and more than 95% of said foreign       subsidiaries, said loans and said real estate, and certain
        related company’s assets are comprised of said          interest on deposits
        real estate and certain cash and deposits and more      (Note 1) The foregoing “specified subsidiaries” refers to foreign
        than 95% of its income is comprised of income                    companies located in the same country as the head office of
        earned from said real estate and certain interest on             the foreign related company under review and of which 10%
                                                                         or more of shares are owned by said foreign related company,
        deposits.                                                        and they fulfill functions indispensable for the business
                                                                         operating company under review to carry out resource
                                                                         development projects in said country.
  It is thought that type (A) was established to cover
                                                                (Note 2) The foregoing “business operating company” refers to a
  foreign related companies engaged in the real estate                   foreign related company that fulfills the economic activity
  business owning real estate for the purpose of selling                 criteria and whose directors and employees of its head office
  or lending them to third parties, and type (B) to cover                are engaged in carrying out all operations ordinarily deemed
                                                                         as necessary to appropriately execute resource development
  foreign related companies that own real estate for its
                                                                         projects. In addition, it also includes other foreign companies
  own use such as an office building.                                    located in the same country as the head office of said foreign
                                                                         related party and where the directors and employees of said
  Moreover, if certain requirements are fulfilled, foreign               other foreign companies jointly engage in carrying out all of
  related companies whose main business is to own                        the foregoing operations.
  shares of specified subsidiaries (intermediary holding        The types of shell companies thought to be excluded
  companies; refer to the note for criteria concerning          from controlled foreign corporation (CFC) rules (i.e.
  specified subsidiaries) are also allowed under type (A),      will no longer be deemed as shell companies) are as
  while such ownership is not allowed under type (B), since     portrayed in figure 4.
  it is limited to foreign related companies whose main
                                                                Figure 4
  business is to own real estate.
                                                                  Domestic company
  Concerning type (B), it is thought that the requirements
  for matters other than real estate are roughly the same        Japan
  as those described in 1. (1) (B) above.                       Country X

                                                                                                          Foreign related
                                                                    Shell company      Shell company
                                                                                                             company
                                                                    (Non-business      (Non-business
(3) Certain foreign related companies relating to resource                                              (Business operating
                                                                  operating company) operating company)
                                                                                                             company)
    development and other projects
                                                                              10% or higher
    A foreign related company whose main business is the               Functions                 Provision of
    ownership of shares of specified subsidiaries, provision       indispensable for                funds
                                                                  executing resource
    of funds procured from unrelated parties to specified            development
    subsidiaries or ownership of real estate located in the       projects (specified
                                                                      subsidiary)
    same country as that of its head office, and which
    meets all required criteria including that its businesses
    are managed, controlled and operated by a business                   Resources

    operating company located in the same country
16 | Japan tax newsletter 4 February 2019
Foreign related companies whose main business is any of        Foreign related companies whose insurance premium
      the following and which meet certain requirements will         revenue from unrelated parties is minimal and amount
      be excluded from the scope of shell companies.                 of reinsurance premiums paid to unrelated parties is low
      (i) Owns shares of specified subsidiaries (foreign             have been added to the scope of cash boxes. These rules
          companies that fulfill functions indispensable for         are thought to have been developed to cover captive
          executing resource development projects; refer to          insurance companies.
          (Note 1))
      (ii) Provides funds procured from unrelated parties to       3. Effective tax rate (tax burden ratio) of application
           specified subsidiaries                                     exemption criteria

      (iii) Owns certain real estate located in the same country   (1) Income
            as that of the head office of the foreign related          The amount of income calculated based on provisions
            company under review                                       set forth by laws and regulations pertaining to foreign
      Moreover, “loans” have been added to the same asset              corporation tax of the country where the head office of
      requirements described in 1. (2)(A) and (B) above, while         the foreign related company under review is located will
      “income earned from loans” have likewise been added to           be prescribed to be the amount of income of the foreign
      the income requirements.                                         related company calculated by excluding provisions
                                                                       concerning consolidated tax payment and provisions
      In addition, under this measure, “other foreign
                                                                       concerning pass-through treatment from the foregoing
      companies located in the same country as the head
                                                                       provisions set forth by laws and regulations and then
      office of said foreign related party and where the
                                                                       adding adjustments to that amount for non-taxable
      directors and employees of said other foreign companies
                                                                       income.
      jointly engage in carrying out all of the foregoing
      operations” are added to the same “business operating        (2) Foreign corporation tax
      company” requirement described in 1. (1)(B) and (2)(A)           The amount of foreign corporation tax levied in the
      and (B) above.                                                   country where the head office of the foreign related
                                                                       company under review is located will be prescribed to
2. De facto cash boxes                                                 be the amount of foreign corporation tax calculated
Foreign related companies which meet all of the following              as the amount of foreign corporation tax levied on the
criteria will be included in the scope of de facto cash boxes.         amount of income of the foreign related party calculated
                                                                       by excluding provisions concerning consolidated tax
(i)     A foreign related company whose ratio of the total of          payment and provisions concerning pass-through
        certain insurance premium revenue (refers to “specified        treatment from the provisions set forth by laws
        insurance premium revenue” in (ii)) received from              and regulations pertaining to the foregoing foreign
        unrelated parties to total insurance premium revenue in        corporation tax.
        the applicable fiscal year is less than 10%
(ii) A foreign related company whose ratio of the total of
     certain reinsurance premiums paid to unrelated parties
     in relation to insurance premium revenue (excludes
     specified insurance premium revenue; the same applies
     for the term “insurance premium revenue” used in (ii))
     to total insurance premium revenue in the applicable
     fiscal year is less than 50%

                                                                                    Japan tax newsletter 4 February 2019 | 17
In the sections entitled “Examples of Application of US         It is thought that this revision will be made in order to
  Consolidated Tax Payment Rules” and “Examples of US             match the income amounts described in 3. (1) above.
  Subsidiaries Owning Shares of US LLCs Electing Pass-            Moreover, since this revision specifies “provisions
  through Taxation” in the “Tax Treatment of Foreign              concerning consolidated tax payment and provisions
  Subsidiary Income Inclusion Taxation Rules (CFC Rules           concerning pass-through treatment,” it is thought
  or Anti-Tax Haven Rules)” published by the Japan Tax            that the UK’s group relief measure and Germany’s tax
  Association in September 2014, it states that it is             grouping (“organschaft”) rules are not included in the
  appropriate to calculate effective tax rates based on           scope thereof (same concept applies in section 5.)
  calculations of standalone income and corresponding
  standalone corporation taxes based on the presumption
  that each company has paid taxes on a standalone basis.       5. Calculation of foreign tax credit

  The US federal corporation tax rate in 2014 exceeded          Out of the amount of foreign corporation tax deducted in
  30%, and thus US subsidiaries were generally not subject      cases wherein a domestic company will be subject to income
  to CFC rules when the foregoing concept was applied.          inclusion taxation, the amount of foreign corporation tax
  Therefore, detailed and accurate calculations were not        levied in the country where the head office of the foreign
  required at the time. However, since the US federal           related company under review is located will be prescribed
  corporation tax rate has been reduced to 21%, detailed        to be the amount of foreign corporation tax calculated
  and accurate calculations will be required due to the fact    as the amount of foreign corporation tax levied on the
  that there is large difference in tax treatments in cases     amount of income of the foreign related party calculated by
  wherein the effective tax rate is equal to or higher than     excluding provisions concerning consolidated tax payment
  30% as opposed to cases wherein it is less than 20%.          and provisions concerning pass-through treatment from the
  In the future, it will become necessary to heed future        provisions set forth by laws and regulations pertaining to the
  developments concerning details of calculation methods,       foregoing foreign corporation tax.
  including calculation methods of state taxes.
                                                                  It is thought that this revision will be made in order to
4. Amounts subject to application of entity-level income          match the foreign corporation tax amounts described in
   inclusion tax rules                                            3. (2) above.

The standard income amount in cases wherein amounts
subject to income inclusion are calculated using standards      6. Amounts subject to partial application of partial
set forth by local laws and regulations will be prescribed to      income inclusion tax rules
be the amount of income of the foreign related company          The amount after reducing the amount described in (ii) from
calculated by excluding provisions concerning consolidated      the amount described in (i) will be added to the amount of
tax payment and provisions concerning pass-through              specified income subject to partial income inclusion tax rules
treatment from provisions set forth by laws and regulations     in relation to foreign related companies partially subject
pertaining to corporate income tax of the country where the     to income inclusion rules (excluding companies deemed as
head office of the foreign related company is located and       foreign financial subsidiaries).
then adding adjustments to that amount for non-taxable
income.                                                         (i) The balance after deducting total reinsurance premiums
                                                                    paid from total insurance premiums received
                                                                (ii) The balance after deducting total reinsurance claims
                                                                     received from total insurance benefits paid

                                                                  These rules are thought to target captive insurance
                                                                  companies as in 2. above.

18 | Japan tax newsletter 4 February 2019
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