2018 Japan tax reform outline

Transcription

1 22 January 2018 Japan tax newsletter Ernst & Young Tax Co Japan tax reform outline EY Global tax alert library Access both online and pdf versions of all EY Global Tax Alerts. Copy into your web browser: International-Tax/Tax-alert-library%23date Contents Corporate taxation...2 International taxation...8 Individual income taxation and asset taxation...14 Other amendments and revisions...16 Tax administration...17 Please reference the EY financial services alert dated 18 January 2018 and entitled 2018 Japan tax reform: Taxation related to financial businesses for details regarding major revisions specific to finance-related tax rules and financial institutions. On 14 December 2017, Japan s ruling party (a coalition comprised of the Liberal Democratic Party and Komeito) released the 2018 Tax Reform Outline (below the Outline ). This newsletter provides an overview and explanation of the major amendments and revised provisions contained in the outline, which affect such matters as corporate taxation and international taxation. The greatest issue currently facing the Abe Cabinet, which has engaged in initiatives to overcome deflation and revitalize the economy over the past five years, is ensuring a productivity revolution and human resources development revolution to overcome the aging of Japanese society. Amendment and revision of tax rules will occur in response to these challenges. In a continuation of the previous year, from the perspective of supporting work style reform in response to socioeconomic structural changes, revision of individual income taxation (revision of various income deductions) will occur. With respect to corporate taxation, from the perspective of promoting productivity-enhancing capital investment and lasting wage increases, tax measures for wage increases and productivity enhancement, as well as tax measures promoting capital investment, will be established. Business succession tax rules will be radically expanded to facilitate the maintenance and enhancement of productivity enabled by smooth generational transitions at small and medium enterprises. Furthermore, international taxation rules will also be revised to match international standards agreed to in the OECD s BEPS project. 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.

2 Corporate taxation Revision and expansion of tax credits for salary growth The tax credits given for increases in salary payments by employers (tax credits for salary growth) will be revised as follows. The applicable years are each fiscal year beginning within the period from 1 April 2018 to 31 March Revision of the eligibility criteria for large enterprises (other than small and medium enterprises) and increases in tax credits As shown below, in addition to a broad revision of the current eligibility criteria, increases in tax credits will also occur. Applicability criteria Large enterprises (1) Salary (2) Capital investment (3) Education and training Ratio of tax credits Maximum tax credit (*1) Ratio of increase in = average salary Current rule (FY2017) Ratio of salary increase (compared to base year) 5% Ratio of salary increase (year-over-year) 0% Ratio of increase in average salary (*1) 2% N/A N/A Upon satisfaction of all requirements in (1), 10% (2% additional measure) of salary increase (*4) 10% of corporation tax amount Reform proposal N/A Ratio of salary increase (year-over-year) 0% Ratio of increase in average salary (*1) 3% Capital investment ratio (*2) 90% Ratio of increase in education and training expenses (*3) 20% Upon satisfaction of the requirements in (1) and (2), 15% of salary increase (*4) Upon satisfaction of the requirements in (1), (2) and (3), 20% of salary increase (*4) 20% of corporation tax amount Average salary in the current fiscal period - Average salary in the previous fiscal period Average salary in the previous fiscal period The range of continuously employed persons forming the base for calculations will be revised such that it is a certain measure defined as employees to whom salary has been paid in each month of the entire period spanning from the previous fiscal period to the current fiscal period. (*2) Capital investment ratio = Domestic capital investment in the current fiscal period Amount of depreciation and amortization expenses in the current fiscal period Furthermore, the amount of depreciation and amortization expenses includes amounts accumulated as special depreciation reserves, with the exclusion of excess depreciation from the prior fiscal period. (*3) Ratio of increase in education = and training expenses Current fiscal period education and training expenses - Average of education and training expenses in the previous two fiscal periods Average of education and training expenses in the previous two fiscal periods Please note that education and training expenses refers to the following expenses intended to bequeath the skills or knowledge necessary for an employee s job duties to an employee, or to enhance such skills or knowledge. i. In case an entity engages in education and training (referring to education, practice, training, courses, or the like) independently, expenses such as fees for external speakers, usage fees for external facilities, etc. ii. Fees for contracting a third party to provide education or training iii. Fees required for participation in case an employee is sent to participate in education or training provided by a third party (*4) The salary increase is treated in comparison to a base year under the current rules; however, under the reform proposal, this will be revised to the year-over-year increase. 2. Tax credits for salary growth applied to business scale taxation In case the criteria listed above for both 1.(1) salary and 1.(2) capital investment are met, the salary increase will be deductible from the tax basis of the business scale taxation. 3. Revision of tax credits for salary growth at small and medium enterprises As shown below, the current eligibility criteria and tax credit amounts employed are revised. Furthermore, small and medium enterprises can choose to apply the following rules or the above-listed 1. tax credits for salary growth at large enterprises. 2 Japan tax newsletter 22 January 2018

3 Applicability criteria SMEs Current rule (FY2017) Reform proposal (1) Salary (2) Education and training (3) Certification Ratio of tax credits Maximum tax credit (*1) Ratio of the increase in education and training expenses Ratio of salary increase (compared to base year) 3% Ratio of salary increase (year-over-year) 0% Ratio of increase in average salary > 0% N/A N/A Upon satisfaction of all requirements in (1), 10% of salary increase (In the case that the ratio of increase in average salary is 2% or greater, 12% additional measure) = 20% of corporation tax amount N/A Ratio of salary increase (year-over-year) 0% Ratio of increase in average salary 1.5% Ratio of increase in education and training expenses (*1) 10% Have received a certain certification (*2) Upon satisfaction of all requirements in (1), 15% of salary increase As an additional measure, in addition to the above, in the case that the ratio is greater than or equal to 2.5% and the conditions of either (2) or (3) are met, 25% of salary increase 20% of corporation tax amount Current fiscal period education and training expenses - Previous fiscal period education and training expenses Previous fiscal period education and training expenses The ratio of education and training expenses in the eligibility criteria for small and medium enterprises is a comparison to the previous fiscal period, thereby differing from that for large enterprises. (*2) Have received a certain certification refers to certification of a management capability enhancement plan under the Small and Medium-sized Enterprises Business Enhancement Act, and that proof has been provided that the enhancement of management capability has been achieved in accordance with the management capability enhancement plan. In this reform plan (for large enterprises), a significant revision of eligibility criteria under the current laws will occur with the intention to incentivize not only salary increases but also the achievement of a sound balance between increases in capital investment and education and training; the contents will be such that when eligibility criteria are fulfilled, greater tax credits are recognized. Conversely, it is expected that it will become more difficult for industries having long capital investment cycles and entities which made large investments in recent fiscal years to fulfill the capital investment criteria. Therefore, for these measures to be applied, it would be favorable to consider this reform plan from the stage of capital investment budget calculation. Furthermore, because judgment regarding the criteria occurs via the three perspectives of salary, capital investment and education/training, the burden on accounting personnel is expected to increase significantly. To enable the performance of appropriate tax calculations for accounts settlement, advance preparation of systems and countermeasures would be favorable. Restrictions on the application of special taxation measures A measure will be established in which large enterprises (other than small and medium enterprises) meeting the following certain criteria during fiscal years beginning in the period from 1 April 2018 to 31 March 2021 will not be allowed to receive the application of tax credits under the R&D tax incentives, etc. Criteria for the application of eligibility restrictions Satisfies all of the following (1) Ratio of increase in average salary 0% (2) Capital investment ratio 10% (3) Amount of taxable income in the previous fiscal year < amount of taxable income in the present fiscal year Tax credits subject to eligibility restrictions R&D tax incentives New regional investment incentive Tax incentives for investment in the Connected industries (described later in this document) Japan tax newsletter 22 January

4 Furthermore, the relationship between the tax credits for salary growth and the restrictions on the application of special taxation measures are as shown in the figure below. Capital investment ratio (vs. depreciation expenses) 90% 10% Restrictions on the application of special taxation measures Taxable income increase (year-overyear) 0% 3% Tax incentives for investment in the Connected industries 3% tax credit Education and training 20% increase Tax credits for salary growth 15% tax credit Tax credits for salary growth 20% tax credit Tax incentives for investment in the Connected industries 5% tax credit Ratio of increase in average salary (year-overyear) With the revision of the tax incentives for salary growth, the reform rewards by increasing tax credits to large enterprises actively increasing wages and investing in equipment and facilities, while simultaneously punishing by eliminating eligibility for R&D incentives and other incentives for large enterprises which are more passive in raising wages or investing in equipment and facilities. While the criteria for capital investment ratio are considered comparatively easy to meet for entities projecting the application of large amounts of tax credits under the R&D tax incentives, there may be cases in which, depending on industry and timing, such entities may meet the conditions for restrictions on such application, and therefore the performance of advance simulations would be favorable. Tax incentives for investment in Connected industries Tax rules will be established such that, in case an entity engages in certain capital investment, such as for software, which contributes to the enhancement of productivity through data sharing both within an entity and with external parties or via advanced applications, that entity can enjoy measures for special depreciation or tax credits. The eligibility period for these tax rules will be, with the presumption of the establishment of the Act for Temporary Measures for the Realization of Productivity Enhancement (tentative title), the period lasting from the date of enforcement of the aforementioned Act to 31 March Eligibility Eligible Assets (Equipment making use of information sharing) Effect of tax rules (1) Receive certification of an innovative data use plan (tentative title) under the same law, acquire equipment making use of information-sharing according to the certified plan and within the eligibility period, and make use of that equipment in business. (2) Ratio of increase in average salary 3% (Please note the aforementioned measures for restrictions on the application of the Act on Special Taxation Measures.) Software and machines, devices or equipment acquired with that software, of which the total cost of acquisition is JPY50 million or greater. Furthermore, this does not include assets for use in R&D. Satisfies only the eligibility criteria of (1) Satisfies both the eligibility criteria of (1) and (2) Special depreciation: 30%, or tax credit: 3% (Maximum of 15% of corporation tax amount) Special depreciation: 30%, or tax credit: 5% (Maximum of 20% of corporation tax amount) To receive certification of a plan as an innovative data use plan, criteria for (1) the sharing and use of data internally and externally, (2) sufficient security measures and (3) enhancement of labor productivity and return on investment must be fulfilled. A concrete example in the manufacturing industry would be capital investment realizing productivity enhancements (such as increases in production volume, shortening of lead times or reductions in equipment failure rates) by such methods as integrating systems through the employment of IoT on the data of each manufacturing location and using AI to perform an analysis of equipment operating status data captured automatically and continuously. 4 Japan tax newsletter 22 January 2018

5 Revision of revenue recognition The following measures concerning the recognition of revenue for corporation tax purposes will be established. 1. Amount of revenue i. Clarification of the general treatment The amount to be included in taxable revenue as the amount of revenue related to the sale or transfer of assets or the provision of services (the sale of assets, etc.) will be clarified in the Corporation Tax laws/ regulations to be, in principle, the amount equivalent to the value of the sold or transferred assets at the time of delivery or the amount of consideration which should ordinarily be received for provided services. ii. The amount of consideration in the case of the possibility of bad debt or buybacks Even in the case of the possibility of bad debt or buybacks, the value at the time of delivery or amount of consideration which should ordinarily be received will be the values calculated as if such possibility did not exist. iii. Categorization of revenue amounts The recording of amounts of revenue related to the sale of assets, etc. in categories of substantial transactions will be allowed. iv. Deduction of discounts and rebates Deduction of discounts and rebates from revenue will be allowed in objectively estimated amounts. 2. Timing of revenue recognition i. Clarification of the general treatment Corporation Tax laws and regulations will be modified to clearly state that revenue relating to the sale of assets, etc. is to be, in principle, included in the amount of taxable revenue in the fiscal year to which the date of delivery of goods or provision of services belongs. ii. In the case of proximity to the time of an accounting recognition Corporation Tax laws and regulations will be modified to clearly state that, with respect to amounts of revenue related to the sale of assets, etc., in the case that such amounts are, in accordance with generally accepted accounting standards, recorded as amounts of revenue in a fiscal year to which a date in proximity of a date described above in 2.i belongs, then regardless of the treatment described above in 2.i, those amounts of revenue related to the sale of assets, etc. will, in principle, be included in the taxable revenue of that fiscal year. 3. Elimination of the rules for reserves for sales returns Rules for reserves for sales returns will be eliminated. Furthermore, for entities engaged in businesses eligible under current tax rules (publishing industry, etc.), a certain grace period lasting approximately three years will be established in addition to a subsequent transitional measure in which the limits will be decreased in stages over a period of approximately nine years. 4. Elimination of deferred payment basis relating to longterm installment sales With respect to sales of assets, etc. corresponding to long-term installment sales, the elective system under which revenue and expenses are calculated on a deferred payment basis will be eliminated. Furthermore, certain transitional measures will be established. Moreover, the current treatment of certain transactions (e.g. finance lease transactions, etc.) will continue. The Accounting Standards Board of Japan (ASBJ) is currently proposing new accounting standards relating to revenue recognition in response to the amendment of the International Financial Reporting Standards. These actions will, in light of these trends in accounting standards, clarify the treatment of revenue recognition under the Corporation Tax Act to consider increased administrative burdens and the predictability of tax treatments arising due to discord between revenue recognition periods and recorded amounts occurring in accounting and taxation. It would be favorable for entities adopting the new revenue recognition accounting standards to examine the practical effects on taxrelated work in light of this reform plan. It is thought that differences between accounting, corporate tax and consumption tax treatments will continue to occur even after the adoption of this reform plan, and that the details will be clarified in future laws, regulations and circulars. Japan tax newsletter 22 January

6 Facilitation of business reorganizations by acquisition of shares with company s own shares as consideration When an entity transfers shares it possesses (including equity) to the operator of a business which has received a certain certification in accordance with the Industrial Competitiveness Enhancement Act and in return receives that business operator s own shares as consideration, the recognition of capital gains arising from that transfer of shares will be deferred. This measure applies to actions made by a business operator which has received a certain certification in accordance with the Special Business Restructuring Plan (tentative title) during the period from the enactment date of the amended Industrial Competitiveness Enhancement Act through 31 March Deferral of capital gains arising from the transfer of Entity C shares (Example of own shares as consideration) Shareholder (Entity A) Acquired entity (Entity C) Entity B shares Entity C shares Acquisition Certified acquiring entity (Entity B) Created based on materials from Ministry of Economy, Trade and Industry entitled 2018 Tax Reform on Economy, Trade and Industry Under current tax rules, when an entity uses entity's own shares as consideration in a share aquisition to acquire the business of another entity, taxation is deferred in the case of a qualified share exchange (the acquisition of all shares of the acquired entity is required). However, in the case of ordinary share acquisition, taxation of capital gains (arising from the transfer of shares) occurs to the shareholder of the acquired entity which effected the acquisition. This reform plan, with the intention to further the selection and concentration of strategic fields and business portfolio transfers, with respect to exchanges of shares via TOB (treasury shares consideration) which have received a certain certification, will establish measures for the deferral of taxation of capital gains of the shareholders involved in the exchange. Revision of qualification requirements for reorganization taxation rules 1. Revision of qualification requirements for intra-group reorganizations prior to spin-offs In case reorganizations are implemented between entities having a 100% controlling relationship in advance of expected qualified share distributions (established in the 2017 tax reform), the requirements for the continuation of the 100% controlling relationship (one of the qualification requirements) will be determined using the relationship up to the time immediately prior to the qualified share distribution. Under this reform plan, it is thought that the qualification requirements will be fulfilled even in the case of the transfer of a spinoff business to a subsidiary through an absorption-type split performed in advance of a spinoff via share distribution. 2. Revision of secondary restructuring qualification requirements In case a transfer of employees or businesses between entities having a 100% controlling relationship is expected after an initial reorganization, those transfers will be treated as fulfilling the qualification requirement for employees and business continuation contained in the initial reorganization. 3. Other With regards to so-called non-consideration reorganization, a revision of the types of tax-qualified reorganization will occur in tandem with the clarification of tax treatment for non-qualified reorganization. 6 Japan tax newsletter 22 January 2018

7 Other 1. Establishment of incentives for investment in advanced energy savings and renewable energy i. Tax incentives for investment in advanced energy saving equipment (demand-side) Tax rules will be established allowing, in case designated business operators having received a certain certification acquire advanced energy saving equipment within the eligible period and utilize that equipment in a domestic business, the special depreciation of 30% of the acquisition cost of that equipment. (Small and medium enterprises may elect for a tax credit of 7% of the acquisition cost.) ii. Tax incentives for investment in renewable energy generating equipment (supply-side) Tax rules will be established allowing, in case renewable energy generating equipment is acquired and utilized in a domestic business, the special depreciation of 20% of the acquisition cost of that equipment. 2. Revision of tax rules for the strengthening of regional locations With regards to tax rules for the strengthening of regional locations established to promote the transfer of locations from Tokyo to regional areas, in addition to extending the eligibility deadline by two years, a revision to include previously ineligible transfers of headquarters from within the 23 special wards of Tokyo to the central Chubu area and central Kinki area as eligible transfers will be implemented. 3. Tax rules concerning the acquisition of assets for use in or as day care facilities initiated by entities Tax rules allowing, in case an entity acquires assets for use in or as day care facilities and utilizes those assets in a day care business, bonus depreciation at 12% (15% for buildings and structures) for a period of three years. 4. Extension of applicable periods i. The applicable period of non-deductible entertainment expense rules will be extended by two years. ii. The special applicable period of deduction of the acquisition costs of low-value depreciable assets by small and medium enterprises will be extended by two years. iii. The applicable period of measures for the nonapplicability of rules for refunds (arising due to losses carried back) to large enterprises (other than small and medium enterprises) will be extended by two years. iv. The applicable period of foreign investment loss reserve will be extended by two years, in addition to the lowering of the reserve accumulation rates utilized in calculations of reserve limits. Japan tax newsletter 22 January

8 International taxation Revision of regulations concerning permanent establishments The definition of permanent establishment (PE) occurring in domestic laws will be revised to match international standards (e.g. BEPS reports, revised OECD model tax treaty) such as measures against artificial avoidance. In addition, measures necessary for clarifying the applicability of tax treaties relating to PE to the regulations in domestic laws will be established. 1. Revision of the definition of PE i. Introduction of measures to prevent the artificial avoidance of PE status (1) With regards to agent PE, persons repeatedly concluding agreements relating to the business of a domestic non-resident or foreign entity (non-resident, etc.) or repeatedly fulfilling a major role for the conclusion of certain agreements will, when these agreements are agreements relating to the transfer of ownership of assets belonging to the non-resident, etc., be added to the scope of agent PE, and in addition, persons exclusively or principally acting on behalf of one or two or more persons to which they are closely related* will be excluded from the scope of independent agents. * Closely related persons refers to individuals or entities with which there is a relationship of control manifested as direct or indirect ownership of shares exceeding 50% or via other means. Amendments concerning the avoidance of PE status through the use of commissioner agreements not meeting the requirements of agent PE will be made. Agreements relating to the transfer of ownership of assets in this document refers to the following agreements. i. Agreements concluded in the name of an entity ii. Agreements relating to the sale of the goods of an entity iii. Agreements relating to services provided by an entity Furthermore, consideration must be given to the fact that persons acting exclusively or principally on behalf of a parent entity (e.g. a subsidiary) will be excluded from independent agency status, which is excluded from agent PE status. (2) Certain locations engaged in business used only for the purpose of engaging in storage, display, delivery and other specified activities will not be included in the scope of PE. However, the above is limited to those cases in which those activities have preparatory or auxiliary functions in relation to the performance of the business of non-residents, etc. * In case a non-resident, etc. having a specified location engaging in business and a closely related person engaging in business activities at that location, which meets certain requirements (limited to when the business activities fulfill a supplementary function that constitutes portion of a whole set of tasks) such as constituting the PE of such a person, the aforementioned treatment will not be applied to that specified location. 8 Japan tax newsletter 22 January 2018

9 Although locations engaging only in specific activities such as storage, display or delivery (warehouses, etc.) have been excluded from PE status, in the future, even such locations engaging only in specific activities will, when such activities are not of preparatory or auxiliary nature with respect to the performance of the business of a non-resident, etc., be subject to PE status. Furthermore, regulations involving the recognition of PE status through the combination of business activities divided between related parties (rules for the prevention of segmentation) will also be introduced. (3) With regards to the length requirements for construction PE, when an agreement is split such that construction periods last one year or less, and one of the principal purposes of the division of that agreement is to thereby not constitute a construction PE, judgment regarding the status thereof will be made by aggregating the periods into which the agreement was split (rules for the prevention of agreement splitting). ii. Regulations regarding adjustments when tax treaties contain a different definition of PE (1) In case a tax treaty concluded by Japan contains a definition of PE differing from that under domestic law, PE under the tax treaty will be treated as PE under domestic law for non-residents, etc. receiving the application of that tax treaty. The same will apply with regards to the mutual exemption law for income of foreign residents, etc. For example, although previously, in the case wherein the criteria for construction PE under a tax treaty was six months whereas the criteria under domestic law was one year, thereby causing a split in opinions to arise as to which criteria should be used for the judgment from the perspective of the preservation clause, this matter will be clarified such that in the future the judgment will be made using the definition of PE under the tax treaty (e.g. in the case above, the criteria of six months). (2) The scope of branch PE will be amended to include domestic branches, offices and other specified locations engaged in business. (3) Locations constituting construction PE will be limited to domestic locations engaged in construction. (4) In addition to the deletion of regulations relating to the definition of inventory storage agents and order acquisition agents, measures relating to agents of the same business operator will be abolished. 2. Other With regards to exceptions to taxation for foreign partners, the measures will be restructured such that income belonging to the PE (limited to certain income, relating to a business engaged in accordance with an investment partnership agreement, which belong to the PE) will not be subject to income tax and corporation tax. 3. Application period The aforementioned revisions are applicable to income tax for 2019 and thereafter, and to corporation tax for fiscal years beginning on or after 1 January Furthermore, although the aforementioned revisions are related to national taxation, the necessary local tax measures will also be established in accordance with the treatment in national taxation. The aforementioned revisions to local taxation are applicable to individual inhabitant tax for 2020 and thereafter, and to corporate inhabitant tax and enterprise tax for fiscal years beginning on or after 1 January These revisions are ultimately only revisions of domestic law, and because the application of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS (MLI; not yet in force) or a bilateral tax treaty will take priority over domestic law, it will be necessary to confirm these treaties and consider the possibility of PE status when engaging in practical matters. Furthermore, the contents of recently signed bilateral tax treaties and the MLI, match international standards (e.g. BEPS reports and revised OECD model tax treaty), as mentioned above. Japan tax newsletter 22 January

10 Revision of the Controlled Foreign Company rules (CFC rules) The following revisions regarding the Controlled Foreign Company rules (CFC rules) will occur. 1. Amounts subject to application of entity-level income inclusion tax rules (1) Deduction of capital gains from the transfer of certain shares from the applicable amount In case conditions 1 to 6 shown in figure 1 are fulfilled, profits arising due to the transfer of covered shares will be deducted from the calculation of the amount subject to application of the specified foreign related entity, etc. which made the transfer. [Figure 1] Criteria Details When a specified foreign related entity or covered foreign 1 related entity (note *1) (specified foreign related entity, etc.) In accordance with a basic policy relating to the integration of a foreign entity which became qualified as a foreign related 2 entity and a plan depicting the implementation method of a reorganization occurring in tandem with that integration 3 Within a certain period (notes *2 and *3) 4 Possesses covered shares (note *4) And transfers those shares to a domestic entity relating to such a specified foreign related entity, etc. or other foreign related 5 entity (excluding those entities qualifying as specified foreign related entities, etc.) And when criteria, such as the expectation of the dissolution of 6 the specified foreign related entity, etc. which made the transfer within two years from the date of the transfer, are met Profits arising due to the transfer of covered shares (*5) will be deducted from the calculation of the amount subject to application of the specified foreign related entity, etc. which made the transfer. (*1) Excludes specified foreign related entities and covered foreign related entities, whose shareholders are certain domestic entities. (*2) When the direct or indirect share ownership ratio relating to the specified foreign related entity, etc. held by resident shareholders exceeds 50%, defined as the fiscal years including the dates within the period, in general, from the date on which that threshold was exceeded (the date of occurrence of the specified relationship) to the date after which two years, inclusive, have elapsed. (Refer to figures 2 and 3 for specific examples.) (*3) With regards to each of the fiscal years of the specified foreign related entity, etc. beginning in the period from 1 April 2018 to 31 March 2020, defined as the fiscal years including the dates with the period defined as the period from the date of occurrence of the specified relationship to the date after which five years, inclusive, have elapsed. (Refer to figures 2 and 3 for specific examples.) (*4) Refers to shares of foreign related entities (excluding those qualifying as specified foreign related entities, etc.) owned on the date of occurrence of the specified relationship. (*5) Excludes profits arising due to the transfer of covered shares at the specified foreign related entity, etc. for reasons such as the merger of foreign related entity which issued the covered shares and the distribution of residual assets due to dissolution of foreign related entity. Specific examples are as shown below in (1) to (3). (1) Foreign entity A acquires foreign entity B group Domestic entity Foreign entity A Foreign entity D *2 Foreign entity B *1 Foreign entity C *2 *1 Specified foreign entity, etc. (e.g. paper company, etc.) *2 Foreign related entity other than a specified foreign entity, etc. (operating entity) (2) Foreign entity B, in accordance with PMI, transfers shares of foreign entity C to foreign entity D (transfers are also permitted to transfer shares to domestic entities) within a certain period (reference notes *2 and *3 above) Domestic entity Foreign entity A Foreign entity D *2 Foreign entity B *1 Foreign entity C *2 Capital gains Deducted from calculation of covered amount (3) Dissolution of foreign entity B is expected to occur within two years of the transfer listed in (2) above Domestic entity Foreign entity A Foreign entity D *2 Foreign entity B *1 Foreign entity C *2 10 Japan tax newsletter 22 January 2018

11 The application of a certain period in the cases in which the financial closing of a specified foreign related entity, etc. occurs in March or December are as follows. [Figure 2: Financial closing of the specified foreign related entity, etc. occurs in March] 1 April April April April April April April April April 2021 Principle *1 Acquisitions Transfer Transitional measures (1) *2 Acquisitions Transfer Transitional measures (2) *3 Acquisitions Transfer *1 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 1 April 2018 through 31 March 2019, that specified foreign related entity, etc. must transfer the covered shares during each fiscal year including the dates within the period from the date of occurrence of the specified relationship to the date after which two years, inclusive, have elapsed. *2 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 2 April 2013 through 1 April 2014, that specified foreign related entity, etc. must transfer covered shares during the fiscal year lasting from 1 April 2018 to 31 March *3 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 2 April 2014 through 31 March 2018, that specified foreign related entity, etc. must transfer covered shares during the fiscal year lasting from 1 April 2018 to 31 March 2019, or the fiscal year lasting from 1 April 2019 through 31 March [Figure 3: Financial closing of the specified foreign related entity, etc. occurs in December 1 January January January January January January January January January 2022 Principle *1 Acquisitions Transfer Transitional measures (1) *2 Acquisitions Transfer Transitional measures (2) *3 Acquisitions Transfer *1 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 1 January 2019 through 31 December 2019, that specified foreign related entity, etc. must transfer the covered shares during each fiscal year including the dates within the period from the date of occurrence of the specified relationship to the date after which two years, inclusive, have elapsed. *2 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 2 January 2014 through 1 January 2015, that specified foreign related entity, etc. must transfer covered shares during the fiscal year lasting from 1 January 2019 through 31 December *3 In case the specified foreign related entity, etc. is acquired (a specified relationship arises) in the period from 2 January 2015 through 31 December 2018, that specified foreign related entity, etc. must transfer covered shares during the fiscal year lasting from 1 January 2019 through 31 December 2019, or the fiscal year lasting from 1 January 2020 through 31 December With respect to foreign M&A by Japanese entities, in order to maximize synergy arising from the M&A, as part of PMI, it is important to engage in intra-group reorganization such as the dissolution of unnecessary paper companies; it is from this perspective that the taxation of profits arising from the transfer of shares occurring during the reorganization of paper companies was taken up for revision. (Source: Key Points of the FY2018 Tax Reform on Economy and Industry, published December 2017 by METI) As noted above in (*3), the recognition of the aforementioned application will occur even for past acquisitions; because there are limits regarding the transfer period, attention to these matters is necessary. Japan tax newsletter 22 January

12 (2) Tax burden ratio of foreign related entities located in countries without taxation The tax burden ratio (the effective tax rate) of a foreign related entity located in a country without taxation is treated as the ratio of the amount of tax to the amount of income in each fiscal year of the foreign related entity (the amount calculated by adding, to the amount of income based on accounts settlement, an adjustment equivalent to the calculation for foreign related entities located in countries with tax laws and regulations). In this case, when the foreign related entity has received dividends, the amount of dividends will be subtracted from the amount of income, and when there is no income or losses, the tax burden ratio of the foreign related entity will be treated as zero. In the FY2017 tax reform, measures were taken addressing the case in which a foreign subsidiary located in a country without taxation assumes a tax burden at a branch located in a third country. (Prior to the FY2017 tax reform, a foreign related entity having its headquarters located in a country without taxation was subject to income inclusion rules regardless of tax burden ratio; after the reform, the determination of whether the foreign related entity is subject to income inclusion rules is made using the tax burden ratio, regardless of whether or not the headquarters is located in a country without tax.) With the above, foreign related entities located in countries without taxation have become subject to the calculation of tax burden ratios. Current regulations require income in accordance with the laws and regulations of the country in which the headquarters are located in the calculation of tax burden ratios; however, because such laws and regulations do not exist in countries without taxation, this will be changed to an amount equaling the amount of income based on accounts settlement (the amount for accounting purposes) to which certain adjustments have been made, in response to such circumstances. When the foreign related entity has received dividends, the amount of dividends will be subtracted from the amount of income. 2. Double taxation adjustments In the case a domestic entity receives the application of income inclusion rules, an amount equivalent to the portions of that taxation the foreign related entity was subjected to (income tax, local corporation tax and corporate inhabitant tax (under current law: income tax, etc. )) which corresponds to the income subject to income inclusion rules will be creditable from the amount of corporation tax and local corporation tax (under current law: corporation tax ) of the domestic entity. Furthermore, equivalent amendments will be made to local taxation such that, in the case a domestic corporation receives the application of income inclusion rules, with respect to the amount equivalent to the portions of that taxation the foreign related entity was subjected to (income tax, etc. local corporation tax and corporate inhabitant tax) which correspond to the income subject to income inclusion rules, the amount which exceeds the amount creditable from the amount of corporation tax and local corporation tax of the domestic entity will be creditable from corporation inhabitants tax. 3. Other (1) With respect to interest related to cash loans provided to related parties which are not subject to partial income inclusion, individuals will be excluded from the scope of such related parties. (2) Certain measures regarding foreign financial subsidiaries will be established. Please reference EY financial services alert dated 18 January 2018 and entitled 2018 Japan tax reform: Taxation related to financial businesses 4. Formulation of related rules With regards to related rules such as foreign subsidiary income inclusion tax rules relating to residents, in line with the revision stated above, necessary measures will be established. 12 Japan tax newsletter 22 January 2018

13 5. Application period The aforementioned reforms are applicable to the fiscal years of foreign related entities beginning on or after 1 April Furthermore, although the aforementioned revisions are related to national taxation, for local taxation as well, in addition to the double taxation adjustments described in 2 above, the necessary local tax measures will also be established in accordance with the national tax treatment. The reform of local taxation will also be applicable to the fiscal years of foreign related entities beginning on or after 1 April Other 1. Amendment of double taxation adjustments relating to the profit dividends of specific purpose companies. Double taxation adjustments relating to the profit dividends of TMKs will undergo amendment. Furthermore, the same is true of double taxation adjustments relating to the dividends of investment corporations. 2. Formulation of domestic laws relating to the implementation of the MLI (1) With regards to the taxation of capital gains of real estate related entities relating to non-resident or foreign entities, the judgment period for covered shares will be revised such that the period is any time within the 365 days preceding the date of the transfer of shares. (2) The necessary measures, such as the formulation of procedures, will be established such that in case the benefits of a tax treaty with regards to the income belonging to a PE located in a third country are limited, those benefits may be received from the commissioner of the NTA. Japan tax newsletter 22 January

14 Individual income taxation and asset taxation Revision of individual income tax (income deduction) 1. Revision of the employment income deduction The amount of the deduction will be decreased by JPY100,000. The amount of income from salary, etc. to which the maximum employment income deduction applies is set at JPY8,500,000, and the maximum deduction is reduced to JPY1,950,000. Employment income deductions as a result of this revision are as follows. Amount of income from salary JPY1,625,000 or less Exceeding JPY1,625,000 and equal to or less than JPY1,800,000 Exceeding JPY1,800,000 and equal to or less than JPY3,600,000 Exceeding JPY3,600,000 and equal to or less than JPY6,600,000 Exceeding JPY6,600,000 and equal to or less than JPY8,500,000 Exceeding JPY8,500,000 Employment income deduction JPY550,000 Amount of salary x 40% - JPY100,000 Amount of salary x 30% + JPY80,000 Amount of salary x 20% + JPY440,000 Amount of salary x 10% + JPY1,100,000 JPY1,950,000 Furthermore, for persons having dependent relatives of age 22 or younger, or dependent relatives eligible for special exemptions for persons with disabilities in the same household, consideration is made such that they will not face increased tax burdens. 2. Revision of the public pension deductionn The amount of the deduction will be decreased by JPY100,000. A maximum deduction amount (JPY1,955,000) will be established for cases in which public pension income exceeds JPY10,000,000. Furthermore, for cases in which income other than public pension income exceeds JPY10,000,000, the deduction amount will be decreased by JPY100,000, while in case it exceeds JPY20,000,000, the deduction amount will be decreased by JPY200, Revision of the basic deduction The deduction will be increased by JPY100,000. Individuals with total income exceeding JPY24,000,000 will see the deduction amount diminished in accordance with the amount of total income, while individuals with total employment income exceeding JPY25,000,000 will not be able to apply the basic deduction. 4. Application period The aforementioned amendments will be applied to income tax of 2020 and after. According to the Family Income and Expenditure Survey, employees average amount of work-related expenses were JPY252,000, climbing only to JPY398,000 even at the top 5% of household incomes; the employment income deduction under the current law (JPY650,000 to JPY2,200,000) was identified as being at levels greatly exceeding actual work-related expenses. This reform aims to decrease differences in income tax burden arising from working styles and support work style reform." Furthermore, even after this revision of the employment income deduction, 96% of employees will not incur an increased burden. Conversely, there may be substantial effects on those high salary income households comprised of unmarried individuals or persons without children. Increased tax burdens by salary income are as follows. Annual income Up to JPY8,500,000 JPY9,000,000 JPY9,500,000 JPY10,000,000 JPY15,000,000 JPY30,000,000 Increased tax burden None JPY15,000 JPY30,000 JPY45,000 JPY65,000 JPY310,000 * The case in which annual income is JPY30,000,000 includes consideration of the revision of the basic deduction in 3. Revision of business succession taxation To promote succession in small and medium enterprises, a radical expansion of business succession taxation rules will occur via the relaxation of various requirements as a special measure lasting for a period of ten years. With regards to tax payment grace periods for gift tax and inheritance tax relating to the transfer of unlisted shares, the following special rules concerning cases in which, on 1 April 2018 or within a period of five years after that date, a succession plan fulfilling certain requirements is drafted and business succession arising through gift or inheritance is performed, will be established. 14 Japan tax newsletter 22 January 2018

15 i. Restrictions on shares eligible for grace of tax payment (2/3 of total stocks issued with voting rights) will be abolished, and the grace of tax payment ratio of 80% under the current law will be increased to 100%. As a result, the rules will be such that tax payment burdens do not arise at the time of a gift or inheritance. ii. Even in the case that an employment security requirement under current law is not fulfilled, in certain circumstances, a deadline regarding tax payment grace periods will not be fixed. iii. The scope of eligibility for tax payment grace periods will be expanded to gifts to and inheritances by two or three successors. iv. Tax reduction rules exempting the difference in valuation in case shares depreciate will be established. Inheritance tax relating to inherited unlisted shares Eligibility for grace of tax payment Employment security requirement Tax calculation method Current rules With regards to 2/3 of unlisted shares, a grace of tax payment of 80% of inheritance tax Only the principal shareholder Maintenance of an average of 80% employment is required for five years after succession Calculated using share value at the time of succession Reform proposals With regards to all unlisted shares, a grace of tax payment of 100% of inheritance tax A maximum of three successors will be eligible for a grace of tax payment Even in case such cannot be secured, a deadline regarding grace of tax payment will not be fixed Exemption of the difference in case share value decreases The aforementioned reform will be applied to gift tax and inheritance tax relating to assets acquired due to gifts, etc. during the period between 1 January 2018 and 31 December Adjustment of gift and inheritance taxation 1. Revision of gift and inheritance taxation relating to general incorporated associations Regulations regarding gift tax and inheritance tax relating to general incorporated associations will be clarified from the perspective of preventing tax avoidance via the transfer of financial assets to general incorporated associations or general incorporated foundations. Tax avoidance, performed in such ways as a parent establishing a general incorporated association, transferring assets to that association and alternating directorship to a child thereby transferring controlling rights to assets to that child without undergoing taxation in the form of inheritance tax, will be prevented. Furthermore, with regards to specified general incorporated associations meeting certain conditions, such as a majority of executives being relatives at the time a succession begins, upon the death of such executives, that specified general incorporated association will be deemed to have had assets bequeathed and incur taxation in the form of inheritance tax. 2. Revision of special measures for small-size housing land With regards to special measures for the calculation of taxable value for inheritance tax purposes in relation to small-size housing land, from the perspective of preventing misuse departing from the original intention, the scope of persons eligible for special measures regarding special residential housing relating to persons not residing in owned housing will be revised. In general, these will be applied in regards to inheritance tax relating to assets acquired due to inheritance or bequeathing occurring on or after 1 April Revision of tax payment obligation relating to inheritance and gifts made by a foreign person after their departure from Japan From the perspective of accepting and further promoting the long term stay of highly skilled foreign professionals, and to the exclusion of cases in which a gift is made after the temporary move of an address to a foreign country, in general, with regards to inheritances and gifts made after the departure of a foreign person from Japan, foreign assets will not be subject to taxation in the form of inheritance tax, etc. Reduction of fixed asset taxes relating to the equipment of small and medium enterprises With regards to certain machines or devices acquired by small or medium enterprises (limited to items listed on an approved plan for the introduction of advanced equipment) which fulfill requirements such as providing the enhancement of productivity by an average of 1% or greater per annum compared to previous models, three-year temporary measures providing for, via municipal regulations, the possibility of the reduction of fixed asset tax from 50% to zero will be introduced. Japan tax newsletter 22 January