Corporate Taxation System in Japan

National Corporate IncomeTax Rate at a Glance

Corporate Income Tax Rate (%)30(a)
Capital Gains Tax Rate (%)30(a)
Branch Tax Rate (%)30(a)
Withholding Tax (%)
Dividends20(b)
Interest15/20
Royalties from Patents, Know-how, etc.20
Branch Remittance Tax0
Net Operating Losses (Years)
Carryback1(c)
Carryforward7

(a)Local income taxes are also imposed as stated below. The resulting effective corporate income tax rate for a corporation with capital of more than 100 million yen, is approximately 40%.

(b)Dividends paid on listed shares from April 1, 2003 through December 31, 2008 are generally subject to a 10% withholding tax (including local tax) if certain requirements are met. A 20% withholding tax rate will take effect on and after January 1, 2009. As a temporary measure, a reduced 10% tax rate (including local tax) will apply to dividends on listed shares up to 1 million JPY in 2009 and 2010.

(c)The loss carryback is temporarily suspended.

Local Income Tax Rate at a Glance

Local inhabitant tax

Income levy (%)5.19 to 6.21(d)

Per capita levy (thousand yen)70 to 3,800 (e)

Enterprise tax (%) (f)

Added value levy0.48(g)
Capital levy0.2(h)
Income levy7.2 to 10.08(i) (j)
(d)Income levy is calculated as apercentage (from 17.3% to 20.7%) of national corporate income tax due (the rate of which is generally 30%) of the corporation. The rate depends on the corporation’s capital and the amount of national income tax due.

(e)Per capita levy is imposed by prefecture and city where the office of the corporation is located. The levy depends on the corporation’s capital and capital surplus (for tax purposes) and number of employees.

(f)Since April 1, 2004, Business ScaleTaxation (Gaikei Hyojun Kazei) has been introduced, under which a corporation with capital of more than 100 million yen is subject not only to the traditional income levy but also to an added value levy and a capital levy.

(g)The tax base for the added value levy is salaries (remunerations), net interest payable, net rental fees payable and profit or loss of the taxable year. Some prefectures apply different rate up to 0.504%.

(h)The tax basis for thecapital levy is the total amount of capital and capital surplus (for tax purposes) of the corporation. Some prefectures apply different rate up to 0.21%.

(i)Under Business Scale Taxation, the rate of income levy is 7.2% (up to 7.56% for some prefectures). Corporations exempt from Business Scale Taxation are taxed at 9.6% (up to 10.08% for some prefectures).

(j)The current Enterprise tax rules will be amended and a new “Special local corporate tax”, which is a national tax, will be applied to financial years starting on or after October 1, 2008.

The rate of Enterprise Tax of Income Levy for a corporation which is subject to Business Scale Taxation will change from 7.2% to 2.9% and that for a corporation exempt from Business Scale Taxation will change from 9.6% to 5.3%.

Corporations subject to Business Scale Taxation will be subject to the “Special local corporate tax” at a tax rate of 148% on the Enterprise Tax of Income Levy. Corporations exempt from Business Scale Taxation will be subject to the “Special local corporate tax” at a tax rate of 81% on the Enterprise Tax of Income Levy. The government would redistribute these tax revenues back to the prefectures as a “Special local corporate transfer tax”. The introduction of these new taxes will not lead to an increase in the total tax burden of corporate taxpayers.

Outline of Japanese Corporate Tax System

Taxable Income
Japanese domestic companies are subject to tax on their worldwide income, but nonresident companies pay taxes only on Japanese-source income.

Capital Gain
Capital gains are not taxed separately. Such gains are treated as ordinary income to which normal tax rates apply. Transferor corporations in qualified reorganizations may defer the recognition of capital gains and losses arising in such transactions. Mergers, corporate spinoffs and contributions in kind are considered qualified reorganizations if they satisfy certain conditions.

Bonuses, Entertainment Expenses and Donations
Bonuses to directors are considered a distribution of income and are generally not deductible by the corporation. The deductibility of entertainment expenses incurred by a corporation is restricted according to the size (capitalization) of the corporation. Deductions of donations, except for those to national or local governments or similar organizations, are limited.

Transfer Pricing Rules
The transfer-pricing law stipulates that pricing between internationally affiliated entities should be determined at arm’s length. Entities are considered to be internationally affiliated entities if there is a direct or indirect relationship by having either 50% or more ownership or substantial control.

Tax Haven Rules
If a Japanese domestic company owns 5% or more of the issued shares of a tax-haven subsidiary of which more than 50% is owned directly or indirectly by Japanese domestic companies and Japanese resident individuals, the undistributed income of the subsidiary must be included in the Japanese parent company’s taxable income in proportion to the equity held. A foreign subsidiary is considered a tax-haven subsidiary if its head office is located in a country that does not impose income tax or if the company is subject to tax at an effective rate of 25% or less. If certain conditions are met, active business exemption can apply.

Thin Capitalization
Thin-capitalization rules limit the deduction for interest expense for companies with foreign related-party debt if the debt-to-equity ratio exceeds 3:1.

Foreign Tax Credit
A Japanese company may be entitled to claim a foreign tax credit against both Japanese national corporate tax and local inhabitant tax.

R&D Tax Credit
A corporation may claim a credit of 8% to 10% of total research and development expenses or 20% of the national corporate tax due, whichever is smaller. If the 8% to 10% creditable expenses exceed the 20% tax due, the excess amount can be carryforward to the following year. In addition to the current R&D tax credits, a new R&D tax credit is available with respect to R&D expenses for financial years starting in the period from April 1, 2008 to March 31, 2010, if certain conditions are met. The upper limit for the new R&D tax credit is 10% of the corporate income tax due of the financial year.

The Consolidated Tax Return System (CTRS)
CTRS applies to a domestic parent corporation and its 100% domestic subsidiaries. A consolidated group must elect the application of the CTRS, subject to the approval of the National Tax Agency (NTA). If a consolidated group wants to terminate its CTRS election, it must obtain the approval of the NTA.

Taxable Year
The tax year for a corporation is its fiscal year. A corporation must file a tax return within two months of the end of its fiscal year, paying the tax at that time.In general, one month extension is allowed by filing an application.

Other Significant Tax

Consumption Tax
Consumption tax is imposed on most of the domestic Japanese transactions (including transfers of goods or services) and at importation of goods. In general, financial transactions, capital transactions and certain specific transactions are tax exempt. The tax rate is 5%. A corporation is generally allowed to credit consumption tax paid against its consumption tax liability.

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Fixed Assets Tax
Lands, buildings and depreciable fixed assets are subject to fixed assets tax imposed by municipal tax authorities. The tax base is fair market value of the assets and the general tax rate is 1.4%. For lands and buildings, the fair market value is determined by the municipal tax authorities, which are revaluated once in every three years. For depreciablefixed assets, generally, the tax is imposed based on a report filed by the taxpayer, which includesinformation on the acquisition cost and depreciation of the assets.

Treaty Withholding Tax Rates at a Glance

For treaty countries, the rates reflect the lower of the treaty rate and the rate under domestic tax laws on outbound payments.

DividendsInterestRoyalties
%%%

Australia (a)151010
Austria10/201010
Bangladesh10/151010
Belgium10/151010
Brazil12.512.512.5/15/20
Bulgaria10/151010
Canada5/10/151010
China101010
Czechoslovakia 10/15100/10
Denmark10/151010
Egypt1515/2015
Finland10/151010
France0/5/101010
Germany10/151010
Hungary10100/10
India151020
Indonesia10/151010
Ireland10/151010
Israel5/151010
Italy10/151010
Korea5/151010
Luxembourg5/151010
Malaysia5/151010
Mexico0/5/1510/1510
Netherlands5/151010
New Zealand1515/2020
Norway5/151010
Pakistan (b)15/200/15/200
Philippines (c)10/2010/1515/20
Poland10100/10
Romania101010/15
Singapore5/151010
South Africa5/151010
Spain10/151010
Sri Lanka2015/200/10
Sweden0/5/151010
Switzerland10/151010
Thailand15/2010/2015
Turkey10/1510/1510
USSR 15100/10
United Kingdom 0/5/10100
United States0/5/10100
Vietnam101010

Zambia01010
Nontreaty countries2015/2020

(a)Although Japan and Australia have singed a new tax treaty, it has not yet come into effect as of March, 2008. If the tax treaty comesinto effect in 2008, the following withholding tax rates will be applied from January 1, 2009.

Dividends0/5/10/15

Interest10

Royalties5

(b)Although Japan and Pakistan have signed a new tax treaty, it has not yet come into effect as of March, 2008. If the tax treaty comesinto effect in 2008, the following withholding tax rates will be applied from January 1, 2009.

Dividends5/7.5/10

Interest10

Royalties10

(c)Although Japan and the Philippines have signed a new tax treaty, it has not yet come into effect as of March, 2008. If the tax treaty comesinto effect in 2008, the following withholding tax rates will be applied from January 1, 2009.

Dividends10/15

Interest10

Royalties10

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