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Business and Taxation

Guide to

Japan

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Preface

This guide was prepared in 2013 by Nagamine & Mishima, a Praxity participant firm located in Japan. Nagamine & Mishima

Level 4, Sanno Park Tower Nagata-cho, Chiyoda-ku, Tokyo 100-6104 Japan

E MAIL: info@nagamine-mishima.com TEL (81) 3-3581-1975 FAX (81) 3- 5512-9893

© Praxity 2013 This guide is intended as a general guide only and should not be acted upon without further advice.

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Contents Page

1. General information 5

1.1 Opportunities and possible obstacles for foreign investors 1.2 Area and population 1.3 Government and law 1.4 Economic situation 1.5 Banking and finance 1.6 Basis of legal code

1.7 Currency 2. Regulation of foreign investment 7 3. Government incentives 8

3.1 Subsidy programme for projects promoting Asian site location 3.2 Designated international strategic areas 3.3 Tax incentive for Asian headquarters and R&D Centres 3.4 Further information and consultation

4. Business organisations available to foreigners 9 4.1 Types of companies 4.1.1 Kabushiki Kaisha (K.K.) 4.2 Branches of foreign companies 4.3 Partnerships 4.4 Sole proprietorships 5. Setting up and running business organisations 12 5.1 Forming a company 5.2 Costs of formation 5.3 Capital 5.4 Transfers 5.5 General shareholder meetings 5.6 Board of Directors 5.7 Registration of incorporation 5.8 Reporting requirements 5.9 Auditing requirements 6. Corporate taxes and social charges 16

6.1 Corporation Income Tax (CIT) 6.1.1 Revenue

6.2 Receivables and payables denominated in foreign currencies 6.3 Interest income, dividend income and royalty income 6.4 Deductions

6.4.1 Deductible expenses 6.4.2 Depreciation 6.4.3 Entertainment expenses and donation expenses

6.5 Director remunerations 6.6 Interest expenses and royalty expenses 6.7 Reserves

6.7.1 Reserves under Corporate Tax Law

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6.7.2 Reserves for bad debts 6.7.3 Reserve for sales returns

6.8 Tax credits 6.9 Tax calculation

6.9.1 Net losses 6.10 Deadlines for corporate tax payments and filing returns 6.11 Consolidated tax return system 6.12 Social Security contributions

7. Personal taxation 25 7.1 Resident status and scope of taxable income 7.2 Taxable income classifications

7.2.1 Employment income 7.2.2 Capital gains 7.2.3 Real estate property gains 7.2.4 Interest income 7.2.5 Dividend income 7.2.6 Tax-exempt income 7.2.7 Deductions

7.3 Calculating individual income tax 7.3.1 Tax credits for resident taxpayers 7.3.2 Local income taxes

7.4 Gift tax 7.5 Inheritance tax 7.6 Integration of inheritance tax and gift tax

8. Double taxation agreements 34 8.1 Double taxation agreements 8.2 Double taxation relief

9. Sales and indirect tax 35 9.1 Consumption tax

10. Portfolio investment for foreigners 36 10.1 Cash investments 10.2 Investments in Japanese stocks and bonds 10.3 Investment in Japanese real estate

11. Trusts 37 11.1 General introduction to trusts 11.2 Trusts issuing beneficiary securities 11.3 No beneficiary trust 11.4 Trust allowing continual change of beneficiary

12. Practical information 39 12.1 Transport

12.2 Language 12.3 Time relative to Greenwich Mean Times (GMT) 12.4 Business hours 12.5 Public holidays

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1. General information 1.1 Opportunities and possible obstacles for foreign investors

Foreign investors engaged in business activities in Japan must comply with the laws of Japan, as their local counterparts should.

The Foreign Exchange and Foreign Trade Control Law, which is based on the principal of fair trade, aims to provide the minimum level of regulation and adjustments to support smooth international transactions. This law provides the main regulations with regard to foreign transactions. Pursuant to this law, foreign investors investing in certain industries are required to file a notification/report with the Ministry of Finance as well as the ministry that has jurisdiction over the specific industry.

Foreign investors are free to invest in Japan except for certain items such as weapons, which are under strict control of the Export and Import Transaction Law.

As a result of the global recession from the latter half of 2008, Japanese inward direct investment in 2010 decreased for the second consecutive year and recorded a net outflow of 1.4 billion yen. On a gross basis, inflow of capital increased by 59.4% to 59.4 billion yen, the third highest level on record, but was outpaced by outflow of capital resulting mainly from the withdrawal of investments in the financial sector. 1.2 Area and population Japan is located in the northern part of the Asia Pacific area. It comprises four major islands and the total area of the country is 377,873 square kilometres. The population is over 127 million. Approximately 10.1% live in Tokyo. Tokyo is the centre for political, economic and financial activities. 1.3 Government and law Japan is a constitutional monarchy with a republican system. The Emperor is the Head of the State, representing a symbol of Japan, with no substantial powers over politics. The seat of government is in Tokyo. The Parliament, known as the Diet, comprises two elected houses - the House of Representatives (Lower House) and the House of Councillors (Upper House). The House of Representatives, comprising 480 members, are elected for a four-year term. The House of Councillors has 242 members, which are elected for a six-year term, with half of them elected every three years.

The Prime Minster is elected by the Diet, as the head of the executive branch. The Prime Minster appoints the cabinet members, of which at least half should be from the members of the Diet.

All of the judicial powers are vested in the Supreme Court and other inferior courts. All courts on all levels are a part of a single system under the administration of the Supreme Court. In 2009, the lay judge system was introduced in Japan requiring citizen participation in certain criminal trials.

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1.4 Economic situation The Japanese economy was showing signs of recovery from the financial crisis in 2008 when the Great East Japan Earthquake struck in March 2011. Consumer spending and production continues to suffer in the aftermath of the earthquake and tsunami, triggering the IMF to lower its GDP forecast for Japan from 1.4% to minus 0.7% in 2011. Reconstruction spending is expected to boost the economy in 2012, but structural problems such as long-standing deflation, a rapidly aging and shrinking population and ballooning public debt must be tackled for a sustainable recovery.

Japan's economy is now in a moderate recovery course, which is anticipated to continue. Whether asset deflation stops, and to what extent structural reforms produce short-term pains, are the determinants for judging the strength and pace of this economic recovery.

In fiscal year 2010, the real GDP growth rate turned positive at 2.3% after two years of negative growth; the average real GDP growth rate for fiscal 2000 to 2010 was 0.6%.

According to the IMF ‘World Economic Outlook’, Japan’s GDP of $5,459 billion dollars, accounts for approximately 8.7% of the world’s GDP, the third largest following the United States and China in 2010. Japan’s GDP per capita ranks 16th in the world.

1.5 Banking and finance

The banking system plays a significant role in Japan, since a large part of Japan’s massive personal financial assets are channelled through banks to fund corporate/industrial investment. Banking is deemed to be more important in Japan compared with other industrialised nations because corporations have traditionally depended more on banking rather than on bond issues. However, the shift from this traditional banking system has accelerated in recent years; large firms especially are taking advantage of various financing tools in the capital markets.

The Bank of Japan is the central bank. It issues currency (Japanese yen), acts as a final lender, and serves as the bank for Japan’s Government. The Bank of Japan implements monetary policy, including the discount rate decision-making, open market operations, and changes in reserve requirements. Large firms especially are taking up various financing tools available in the capital markets.

1.6 Basis of legal code

The legal code in Japan is entirely written. 1.7 Currency The Japanese yen, represented by ¥ or the International Standards Organization (ISO) currency code JPY, is the official currency of Japan. It is the third most traded currency in the foreign exchange market after the United States dollar and the Euro. The JPY is also widely used as a reserve currency.

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2. Regulation of foreign investment Traditionally, Japan has had many laws and regulations in many different industries to protect domestic corporations. However, as a result of widespread deregulation, many of these laws and regulations have been abolished in order to further promote foreign investments. For example, in a recent case, reforms were enacted in 2009 to lower the firewall between securities business and banking/insurance.

With a view to facilitate foreign direct investment, new legislation allowing ‘triangular mergers’ with foreign entities was introduced in May 2007. In the new merger scheme, a foreign company acquires a target Japanese corporation by merging the target company into the foreign acquirer’s existing Japanese subsidiary. The foreign company is allowed to use its own shares as consideration of the triangular merger.

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3. Government incentives The Japanese government explicitly promotes inward foreign investment as a means to revitalise the country’s economy. The following are a selection of the many promotional policies adopted by the Japanese government. 3.1 Subsidy programme for projects promoting Asian site location

The purpose of this subsidy programme is to encourage foreign firms to establish high-value added business operations in Japan, for example Asian headquarters and R&D sites. Selected companies may be granted up to JPY 1 billion of qualifying costs. JETRO (see section 3.4) is the secretariat for this programme.

3.2 Designated international strategic areas

Companies with blue-form tax return filing status engaged in specified businesses in the ’Designated International Strategic Area’ may be eligible for either

(i) a special depreciation (or tax credit) for certain capital expenditures up until March 31, 2014 or

(ii) 20% income exclusion for five years from the date (up until March 31, 2014) they are designated as qualifying companies.

3.3 Tax incentive for Asian headquarters and R&D Centres

Foreign-affiliated companies filing blue-form tax returns that are engaged in headquarter operations or R&D activities in Japan are entitled to claim 20% income exclusion for five years. This applies from the date (up until March 31, 2014) they are designated as qualifying companies. Companies claiming 20% income exclusion under this programme are not allowed to claim normal R&D tax credit and the tax benefit described in section 3.2 (i).

3.4 Further information and consultation

Japan External Trade Organization (JETRO), an organisation established under the Japan External Trade Organization Law, provides information through its publications, newsletters and websites on Japanese legal affairs, systems and investment environments.

Website: http://www.jetro.go.jp

JETRO locates advisors to provide individual consulting services in Japan and overseas.

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4. Business organisations available to foreigners

The main legal forms of business organisations that foreign investors may establish when in-stalling themselves in Japan with any degree of permanence are:

Companies o Gomei Kaisha (similar to a general partnership) o Goshi Kaisha (similar to a limited partnership) o Godo Kaisha (similar to the U.S. concept of a limited liability company) o Kabushiki Kaisha (K.K.) the predominant form of company in Japan, which

officially translates as a limited liability business corporation Branches of foreign companies Partnership

o Tokumei Kumiai (silent partnership) o Nin-I Kumiai (more similar to a conventional US or UK partnership)

Sole proprietorships.

4.1 Types of companies

Legal business entities are divided into four types under Japan’s Commercial Code:

Gomei Kaisha Goshi Kaisha Godo Kaisha Limited liability companies - Kabushiki Kaisha (K.K.)

The first two types of legal entities form the company by contract with some or all of its mem-bers accepting unlimited liability of the company. This means a Gomei Kaisha and Goshi Kaisha is a rare option for foreigners. However, with a Godo Kaisha each of the partners is a limited part-ner, only liable for the amount they invest, which means creditors can only count on receiving the amount of capital paid into the company. When entering the Japanese market, foreign investors mostly opt to establish a Kabushiki Kaisha (K.K.), which is a limited liability company. 4.1.1 Kabushiki Kaisha (K.K.)

The minimum capital system was effectively abolished in 2006, which now means that a Kabushiki Kaisha can be established with as little as 1 yen in capital investment. If the total price of the shares to be issued upon incorporation is 500 million yen or more, a securities notice must be filed with the Financial Service Agency under the Financial Instruments and Exchange Act. A non-resident or foreign corporation may become a shareholder. Liability of shareholders is limited to each person’s respective contribution of capital.

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If the K.K. appoints a Board of Directors, at least one representative director should have his/her address in Japan. If the K.K. does not appoint a Board of Directors, all directors should have their address in Japan, as they all have legal rights to represent the company. There is no discrimination with regard to nationality. A corporation can choose any period not exceeding one year as its fiscal year. Most companies in Japan opt for their fiscal year to start from 1st April.

4.2 Branches of foreign companies

Establishment of a branch is classified as a direct domestic investment under the Foreign Exchange Law. The Company Act requires a branch to submit an application for the proposed business location to the registry office of the Legal Affairs Bureau within three weeks. Upon registration, the branch may commence conducting business. The manager of the branch does not necessarily need to be company officer. However, this person is regarded to have the authority to perform any act relating to the business of the branch. At least one manager should be a Japan resident. The tax rates for both a Japanese company and a branch of a foreign company are the same. The withholding income tax of 20% (except when a double tax treaty is applicable) is imposed on the dividends paid by a Japanese subsidiary to its parent company abroad. No withholding income tax is levied on the remittance of after-tax income from a branch to its head office abroad. 4.3 Partnerships

There is no specific law in Japan, which governs the treatment of partnerships. Although certain Japanese law allows for associations, such as fishery associations or agricultural associations, these types of organisations are not compatible to the partnership form. The Japanese organisations that most closely resemble partnerships are either Tokumei Kumiai (T.K.) or Nini Kumiai (N.K.). A T.K. is established under the Company Act and a N.K. under the Civil Code. A T.K. comprises an operator and one or more silent investors. The silent investors and the operator can be either individuals or corporations. The legal liabilities of silent investors are generally limited to the amount of their investments. A N.K. is similar in many respects to a general partnership. A T.K. and a N.K. are treated as conduits rather than separate taxable entities. Each participant in a Kumiai is taxed on his/her share of the income. The calculation of income or loss, which is taxable to each participant of a N.K., is dependent on the accounting methods selected by each participant. A foreign corporation, which is a participant in a N.K., will be treated as being engaged in business in Japan. If the activities of a N.K. are limited to joint research and development, the foreign corporation is not regarded as having a fixed place of business (Permanent Establishment) in Japan and is not subject to Japanese corporation income taxes. If a foreign corporation is treated as having a permanent establishment in Japan, the foreign corporation is required to report the income and the shared profit is subject to Japanese corporate income taxes.

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A foreign corporation, which is a participant in a T.K., may not necessarily be regarded as being engaged in business in Japan unless it has a permanent establishment in Japan. Irrespective to the existence of a permanent establishment in Japan, income distributed from a T.K., which had less than 10 silent partners, used to be subject to Japanese national corporation tax (exceptional treatment may be applied under certain tax treaties). In this case, there was no provision for paying withholding income tax on income from the T.K. However, as if 1 April 2002 the distribution has been subject to withholding tax, even if the number of the investors is less than ten. The withholding tax is the final tax and the investor is not expected to file tax returns. 4.4 Sole proprietorships When sole proprietorships establish their business, they should notify the tax office of the sole proprietorship within one month of establishment. Sole proprietorship does not have the status of a legal entity and the entrepreneur is personally liable for all commitments, including tax liabilities and debts, arising from the business.

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5. Setting up and running business organisations

5.1 Forming a Company

At least one promoter should be assigned to incorporate a company. There is no restriction as to the qualification of a promoter, but the promoter must affix his/her signature to the Articles of Incorporation and subscribe to at least one share. A legal person or a foreigner may also become a promoter. There are two methods to incorporate a Company, Hokki-setsuritsu and Boshu-setsuritsu. Hokki-setsuritsu (incorporation without offering). The promoter/promoters must

subscribe to and pay in full for all shares issued upon incorporation, at the issue price, and elect directors and auditor(s). The directors and auditor(s) are obliged to investigate the process of incorporation before Registration of Incorporation is applied.

Boshu-setsuritsu (incorporation with offering). The promoter/promoters subscribe to a

certain amount of shares. The remaining shares are issued to the public or limited members. After all subscribers make all of the payments, the promoters convene an establishment meeting confirming subscription and payments for all shares by the directors and auditor(s). Application is then made for Registration of Incorporation.

Whether the incorporation is preceded either by Hokki-setsuritsu or Boshu-setsuritsu, the following matters must be considered: Under Japan’s Company Act, you cannot register the same corporate name to the same

address. This means you do NOT need to check for similar corporate names or the same corporate name with the same business activities within the same area, such as city, village or ward. However, under the Unfair Competition Prevention Act, you cannot register the same corporate name if another company has already registered under that name. This check should be done through the Legal Affairs Bureau.

Confirmation as to whether prior notification is required under the Foreign Exchange Law, if necessary.

Confirmation regarding the necessity of obtaining governmental approval or authorisation for certain types of business.

After checking or confirming the above matters, the Articles of Incorporation are prepared. A public notary must notarise the Articles of Incorporation. Upon notarisation, shares are subscribed to promoters and other persons corresponding to the subscription method. Upon receipt of subscription money, directors and statutory auditors are elected and the incorporation will be registered with the Legal Affairs Bureau.

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5.2 Costs of formation

Following costs are required for the incorporation of a K.K.:

Revenue stamp: 40,000 yen Notarisation fee: 50,000 yen Registration tax: Rate of 7/1,000 of the paid-in-capital, with a

minimum of 150,000 yen Bank commission, which handles the subscription payments: Rate of 2.5/1,000 of the paid-in capital.

A lawyer, a CPA or a judicial scrivener handles the above procedures. The fees for these professionals depend upon individual requirements, such as whether all the documents need to be translated into English. 5.3 Capital

For public companies, as least one quarter of the authorised capital should be issued upon the incorporation. The amount of authorised capital must be provided for in the Articles of Incorporation. When the total amount of the shares issued upon incorporation is 500 million yen or more, a notice must be filed with the Financial Service agency. For private companies, no capital rules apply. 5.4 Transfers Cash contribution is required in principle. However, the promoter can contribute assets other than cash, such as securities, property and similar as the contribution. In this instance, the examiner appointed by the Court must investigate the substance of the asset. This process takes a lot of time and effort and is therefore usually avoided. An investigation is unnecessary whereby: The amounts are less than one-tenth of the capital and less than 5million yen The assets to be contributed are securities listed on the stock exchange, or property

certified by a lawyer, CPA, tax accountant and audit corporation, with the price evaluated by a real estate appraiser.

5.5 General shareholder meetings

For Boshu-setsuritsu (incorporation with offering), an establishment of subscribers’ meeting is held and the Articles of Incorporation are approved and the election of directors and statutory auditors is made. For Hokki-setsuritsu (incorporation without offering), the promoters elect directors and statutory auditors.

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5.6 Board of Directors The elected directors hold a meeting for the Board of Directors. The meeting, held in the head office, appoints a representative director(s). 5.7 Registration of incorporation Upon completion of the following steps, the representative director should file an ‘application for registration of incorporation of the company’ with the Legal Affairs Bureau. A professional, such as a lawyer, assumes the following tasks on behalf of the organisation: Notarisation of the Articles of Incorporation Full payments of subscription, and Appointment of a Board of Directors.

5.8 Reporting requirements The following application or notification forms should be filed with these governmental agencies and will vary depending on the type of Company and whether it employs workers. A CPA or a Tax Attorney will usually undertake preparing and filing these forms on behalf of the organisation. National Taxation Office: Notification of Incorporation of a Company Notification of establishment of an office paying salaries Application for a blue return form (optional) and Other notification forms, for example method of evaluation of inventory.

It is strongly recommended that these forms be filed immediately after the registration, as the Company may not be able to utilise the tax merits available if they are filed after the due date. Local Taxation Office:

Notification of Incorporation of a Company. Labor Standards Inspection Office and Public Employment Security Office: When employing workers, the Company should file the following forms: Notification of applicable business Notification of establishment of a company and others.

Social Insurance Office: When employing workers, notification of establishment of office and other relevant

documents.

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5.9 Auditing requirements There are two laws in Japan that govern auditing requirements by an independent CPA.

The Financial Instruments and Exchange Act requires corporations that offer its securities to the public on the Tokyo and other stock exchanges in Japan, in addition to over-the counter exchanges such as JASDAQ, to be audited by a CPA.

The Company Act requires corporations with capital stock of 500 million yen or more than 20 billion yen in total liabilities to be audited by an independent CPA.

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6. Corporate taxes and social charges 6.1 Corporation Income Tax (CIT) Corporation Income Tax (CIT) is assessed on the income of corporations. CIT is calculated in the same manner for both subsidiaries (domestic corporations, including KK and GK) and branch offices (foreign corporations). 6.1.1 Revenue Corporate income The fiscal year for CIT purposes is the one provided for in the Articles of Incorporation. The fiscal year should not exceed twelve months. Corporate income should follow the accounting principles generally accepted in Japan, or ‘Principles of Corporate Accounting.’ As a general rule, the corporate income is determined on an accrual basis. For example, sales income is derived when inventory is dispatched or when the buyer receives the goods. There should be consistency in the accounting standard applied. Income from certain kinds of sales should be booked in particular ways. For example: Sales of consigned goods – sales are booked when goods are actually sold by a

consignee to buyer Subscription sales – sales are booked as goods are actually transferred to subscribers Instalment sales – sales may be booked on the due date of each payment.

Taxable income Taxable income for CIT purposes is determined based on the corporate income stated in the income statement after taking into account necessary reconciling items. These reconciling items are divided into groups of: Permanent difference items, such as entertainment expenses Temporary difference items, such as retirement allowances.

Accounting for income tax is required for listed corporations by Japanese accounting rules. The tax treatment is almost the same as that of the accounting treatment. However, it’s important to note that there are several areas where the treatments differ because of the different purposes of taxable income and accounting profits. The tax treatment is designed to ensure equalisation among the taxpayers and accurate accounting treatment for computation of appropriating dividends. Valuation method for inventory and securities There are two methods for valuing inventories - the cost method and the lower of cost or market method. The cost methods include individual method, first-in-first-out method, weighted average

method, moving average method and the latest purchase cost method. Each

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corporation is free to choose any of the inventory valuation methods. Under the latest purchase cost method, all inventories at the end of the accounting period are evaluated using the invoice value of the latest purchase prior to the end of the fiscal year, regardless of differences in time between the purchases of the individual inventory.

The acquisition cost of purchased inventory includes:

o the purchase cost o incidental expenses incurred related to the purchase, such as freight charges o expenses directly required for the inventory to be sold.

The acquisition cost of manufactured inventory includes:

o the cost of raw materials o labour cost and overhead expenses o expenses directly required for the inventory to be sold.

Securities are divided into three types: Trading securities, which exclude business-controlling stocks (where the stock owned is

20% or more of the total stock issued). Trading means the company is involved in frequent buying and selling of securities, such as Securities Corporation. Trading securities are valued by fair value quoted by the stock exchanges at the end of the fiscal year. Either gain or loss between fair value and face value comprises taxable gain or loss. The differences in amounts are added back to its face value at the next fiscal year.

Held-to-maturity securities, which include the debt securities purchased by a company with the intent and ability to hold securities until their maturity, and business-controlling stocks.

Other securities, for example equity and debt securities, which do not fall into either of the above categories.

Held-to-maturity securities and other securities are valued by face value at the end of the fiscal year. 6.2 Receivables and payables denominated in foreign currencies Receivables and payables denominated in foreign currencies (FOREX receivables and payables) as at the end of the fiscal year should be translated into yen by applying the translation methods stipulated by Japan’s tax regulations. In addition to any foreign exchange gains and losses realised in connection with the settlements of FOREX receivables and payables during a fiscal year, gains and losses resulting from the translation of the FOREX receivables and payables into yen using the translation methods at the end of the fiscal year constitute taxable income and losses for the fiscal year. The legal translation methods applied in Japan are: Short-term FOREX receivables and payables:

1. Translation method using the exchange rate at the time of accrual, or

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2. Translation method using the exchange rate prevailing at the end of the fiscal year concerned.

Long-term FOREX receivables and payables: 1. Translation method using the exchange rate at the time of accrual, or 2. Translation method using the exchange rate prevailing at the end of the fiscal

year concerned. If the selected method is not reported to the tax office, it is deemed that the end of the fiscal year method is selected for short-term FOREX, and the accrual method is selected for long-term FOREX. If forward foreign contracts are concluded for short-term FOREX receivables and payables, the translation of FOREX receivables and payables into yen at the end of the fiscal year should be made using the exchange rate stated in the forward foreign exchange contract rather than the exchange rate at the end of the fiscal year. If forward foreign contracts are concluded for long-term FOREX receivables and payables, they should be translated into yen at the end of the fiscal year by using the contract rate. However, the difference between the yen amounts using the rate at the time of accrual and the contract rate should be deferred and amortised over the period until the settlement of the receivables and payables. Income and expenses denominated in foreign currencies should be booked using the exchange rate as of the day the transactions were booked. However, the following exchange rate may be applied if used consistently: The average exchange rate of the previous week or previous month The exchange rate on the final day of the previous week or the final day of the previous

month The exchange rate on the first day of the current week or the first day of the current

month. 6.3 Interest income, dividend income and royalty income Inter-company loans should bear interest at a reasonable rate. If the loan bears no interest or interest at a lower rate than the market rate, the tax authorities treat the difference from the market rate as a ‘donation’ of economic benefit if sufficient reasons are not given for the below market rate loans. Dividends received by a Japanese corporation from foreign corporations are included within taxable income. However, dividends received from Japanese corporations are excluded from taxable income, providing the recipient corporation owns at least 25% of the shares in the dividend-paying Japanese corporation. If the recipient corporation owns less than 25% of the shares in the Japanese corporation, 50% of dividend income received can be excluded from taxable income.

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Dividends from a Japanese corporation are subject to 20% withholding income tax at source. The income tax withheld is considered to constitute a prepayment of the CIT liability for a recipient Japanese corporation and the withholding income tax is credited against the CIT liability of the Japanese corporation. 6.4 Deductions 6.4.1 Deductible expenses In general, all costs, expenses and losses incurred during a fiscal year are tax deductible. There are, in principle, no territorial limitations or specific limitations on deductions for such payments to affiliates if the payments are applied using arm’s length basis, unless otherwise stipulated in the tax laws. Certain types of periodical expenses, such as interest expense or annual insurance premiums may be deductible on a cash basis, if applied consistently. A variety of tax privileges are available to a corporation which elects to use the blue form tax return, including taxable losses that can be carried forward. Depreciation for both tangible and intangible fixed assets (except for land, right to use land and a work of art) are tax deductible. Amortisation of deferred charges is also deductible. 6.4.2 Depreciation Depreciation of tangible fixed assets such as buildings, building fixtures, structures, ships, tools, furniture, fixtures, cars, machinery and equipment are tax deductible to the extent allowable under the tax law. In addition, amortisation of intangible assets such as patent rights, rights to trademarks, utility model rights, design rights, etc. are also deductible. Tangible fixed assets may be depreciated under either the straight-line method or declining-balance method, except for the building, which must apply the straight-line method. A corporation is required to report the selected method to the tax office. Intangible fixed assets are depreciable using the straight-line method. If the taxpayer has not properly reported an election to use a particular depreciation method for tangible fixed assets, the declining-balance method will apply. Useful lives for tangible fixed assets and the annual depreciation rates for both the straight-line and the declining-balance methods are prescribed by the ministerial ordinance. Useful lives for intangible fixed assets are also prescribed by the ordinance. Land, right to land and a work of art are not depreciable. The statutory useful life of used tangible fixed assets may be the usable period of the used asset. The annual depreciation of tangible fixed assets using the straight-line method is calculated by applying the applicable straight-line statutory depreciation rate to the acquisition value. The annual depreciation using the declining-balance method is calculated by applying the applicable declining-balance depreciation rate to the net book value of the tangible fixed assets as of the beginning of the fiscal year. In the year of acquisition, depreciation of fixed assets should be determined by the number of months the assets are used for business purposes in the fiscal year. For tax purposes, the maximum accumulated depreciation of tangible fixed assets is limited to

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95% of the acquisition cost minus 1 yen. The residual value is tax deductible at the time of disposal. Under the Special Taxation Measures Law, special accelerated depreciation is allowable for certain specified fixed assets. Goodwill is deductible over five years by applying the straight-line method. The acquisition costs of fixed assets with a useful life of less than one year or acquisition cost of less than 100 thousand yen per unit are deductible for tax purposes if charged to expense at the time of acquisition. Also, between 1 April 2006 and 31 March 2012, certain small or medium-sized corporations have been able to deduct the acquisition cost as expenses as a lump sum with a limit of 3 million yen for depreciable assets worth less than 300 thousand yen at purchase. 6.4.3 Entertainment expenses and donation expenses The Japanese government has strictly limited the tax deductibility of entertainment expenses. Expenditure categorised as donations, welfare expenses, publication expenses and salary are not regarded as entertainment expenses. A corporation with paid-in capital of more than 100 million yen may not deduct any entertainment expenses. Certain corporations with paid-in capital of 100 million yen or less may deduct up to 5.4 million yen in entertainment expenses. The paid-in capital of a Japanese branch of a foreign corporation for this purpose is calculated as the paid-in capital of the foreign corporation multiplied by the ratio of the total assets of the Japanese branch over the total assets of the foreign corporation. Contributions made by a corporation to public welfare organisations, corporations or other organisations that do not directly benefit the business of the said corporation are considered ‘donations’ for tax purposes. The tax deductibility of donations is generally limited to the sum of 1.25% of taxable income (before deductions of donations) plus 0.125% of paid-in capital and capital surplus of the said corporation. Also, write-off collectible receivables and interest in excess of arm’s length transactions paid to related corporations in Japan are also considered ‘donations’ for tax purposes. 6.5 Director remunerations With regard to remunerations of Company Directors, there are restrictions on tax deductibility. According to the Corporation Tax Law, board members of a corporation are regarded as directors and are classified into two groups: Directors without an employee status or Directors with an employee status, and are taxed on compensation earned as a director

and as an employee.

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A person appointed as a branch representative of a foreign corporation in Japan is normally regarded as an employee, rather than a director, unless he/she is a board member of the foreign corporation. Director remuneration is tax deductible if it is one of three types of remuneration, such as fixed amount periodical compensation. In addition, it is tax deductible unless it is in excess of the amount that the tax authorities consider to being reasonable. If the amount of the director’s remuneration is provided for in the Articles of Incorporation or authorised by the resolution at the general shareholder’s meeting, any amount within this authorisation is not deductible. However, the bonus to a director with an employee status may be deductible if the bonus is paid at the same time as other employees. The deductible amount is limited to the amount of the bonus paid to an employee with the same capacity. Generally, any economic benefits given to directors are regarded as either salary or bonus. Economic benefits include: Transfers of assets to directors on advantageous terms Free provision of company houses to directors Interest-free loans to directors The assumption of liabilities on behalf of directors.

Fixed amounts of economic benefits paid on a monthly basis are fully deductible unless they are deemed excessive. 6.6 Interest expenses and royalty expenses Interest expense is tax deductible on an accrual basis unless the corporation adopts a cash basis method of accounting. If, however, interest is paid to affiliated corporations at an excessive rate, the excess portion is treated as a ‘donation’, which is not deductible beyond certain limits. If interest is paid to overseas affiliates at an excessive rate, under the transfer pricing rules the excess is not tax deductible. If a corporation’s debt/equity ratio is excessively high, an interest payment to a foreign related corporation that corresponds to the excess portion of the debt will be disallowed as a deduction. 6.7 Reserves 6.7.1 Reserves under Corporate Tax Law Both domestic corporations and Japanese branches of foreign corporations may claim tax deductible reserves provided for in the Corporate Tax Law to the extent of the allowable limitation if the reserves are charged to income in the accounting books. 6.7.2 Reserves for bad debts The provision for bad debts is based upon the amount of accounts receivable, notes receivable, and loans outstanding at the end of the fiscal year. The maximum tax-deductible provision for bad debts is calculated by applying the total of:

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1. The 50% ceiling of the receivables from a debtor who has been suspended from

clearing house transactions or who has claims to the legal proceedings in conformity with the bankruptcy laws (100% of the receivables from a debtor who receives the judgement of court for legal proceedings that conforms with bankruptcy laws, or the amount whereby the possibility of collection is slight)

2. Receivables, with the exception of at the end of the fiscal year times actual average percentage of bad debt losses during three years. For certain corporations whose paid-in capital does not exceed 100 million yen, the statutory rate can be chosen in lieu of the actual average percentage.

6.7.3 Reserve for sales returns A corporation may deduct reserve for sales returns, providing the corporation sells the merchandise using an unconditional repurchase agreement. It applies to: Publishers or wholesalers of books or magazines Manufacturers or wholesalers of pharmaceutical Manufacturers or wholesalers of ready- made clothes, cosmetics, and audio disks/tapes,

providing the corporation sells the merchandise. The amount of tax deductible is equal to the account receivable at the end of the fiscal year (or the gross sales during the last two months of the fiscal year) times an average of the returned sales ratio during the previous two years and the gross profit ratio. The reserve must be restored to taxable income in the following fiscal year. 6.8 Tax credits Corporation tax is calculated by applying the tax rates to net taxable income. Since the income tax withheld from interest and dividends received are deductible from corporation tax, the recipient corporation may credit such withholding income tax against the corporation’s tax liability. Income tax withheld from dividends paid to a Japanese branch of a foreign corporation may not be credited against the corporation’s tax liability. In order to avoid double taxation, foreign income taxes imposed on foreign source income of a domestic corporation may be claimed as a foreign tax credit for corporation and inhabitants tax purposes. The credit is limited generally to the amount of Japanese corporation taxes attributable to the foreign source income. Dividends received from a foreign subsidiary by a Japanese corporation are exempt from corporation taxes in Japan providing certain conditions are met. Exempt amounts are 95% of the dividends. Foreign withholding taxes assessed on the dividends are neither deducted as expenses nor credited against Japanese corporation taxes of the parent company. The indirect foreign tax credit system has been abolished. 6.9 Tax calculation

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The taxable income for corporation tax purposes is determined based on the net income stated in the income statement after taking into account applicable reconciling items. Corporation tax is calculated by applying the corporation tax rate of 30% to the taxable income. Certain tax credits are credited against the computed corporation tax. Local inhabitant tax, i.e. prefecture inhabitant tax and municipal inhabitant tax, is based on the corporation tax liability and the equalisation per capita tax. The per capita tax is determined using the paid-in capital (including capital surplus) and the number of employees. The tax, based on the corporation tax liability, is calculated by applying prefecture tax rates and municipal tax rates to the amount of the corporation tax (after investment tax credit but before other credits). These are allocated to each prefecture and municipality based on the number of employees and when branches are located over multiple prefectures and municipalities. In addition, corporations are subject to prefecture enterprise tax. Net taxable income for enterprise tax purposes is not necessarily the same as that for corporation tax purposes. For example, foreign sourced net business income earned through a fixed place of business abroad is excluded from taxable income for enterprise tax purposes. The tax rate of enterprise tax depends on the amount of taxable income allocated to each prefecture and is determined by each prefecture. Also, corporations with capital of 100 million yen or more is subject to business scale taxation on the basis of the total amount of added value, its capital amount and taxable income. A corporation with capital of less than 100 million yen is subject to enterprise tax based on its taxable income only. Determining the capital amount is always made at the end of each fiscal year. 6.9.1 Net losses If the income for a given fiscal year shows a net loss, the net loss may, at the option of the corporation, be carried back to the preceding year or carried forward for seven years. The loss can be carried over in cases when a corporation has filed a blue form tax return for the fiscal year in which the loss was incurred and has continued to file tax returns, either blue form or not, for subsequent fiscal years. If a corporation filing a blue form tax return incurs losses in a given fiscal year and has paid corporation tax in the immediately preceding year, such corporation is entitled to a refund of prior year’s taxes by filing a claim for refund. The loss carry-back provision applies only to certain small and medium sized corporations whose paid-in capital is 100 million yen or less. 6.10 Deadlines for corporate tax payments and filing returns A corporation whose fiscal year is longer than six months should file an interim tax return at the end of the first six months of the fiscal year. The amount of corporation tax to be reported in an interim return is chosen by the corporation from two methods:

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1. The calculation on the basis of the tax for the preceding year. It is not necessary to file an interim tax return if the amount computed is 100,000 yen or less.

2. The computation on the basis of a provisional settlement for the first six-month period of the present year. If the amount computed is less than the tax for the preceding year, an interim tax return is not allowed.

A final return must be filed within two months from the fiscal year end. If settlement of accounts is not completed within two months due to the audit schedule or for other unavoidable reasons, this two-month deadline may be extended to a maximum of three months, subject to prior approval from the tax authority. Extension to file, however, does not extend payment of taxes due. Accordingly, interest tax will be imposed on corporation tax that is not paid within the original two-month deadline. 6.11 Consolidated tax return system A consolidated taxation system enables the Corporation Tax to be charged on the integrated amount of profit and loss of a group of corporations. The scope of corporations is a domestic parent company and its 100% domestic subsidiaries. Application of the tax system is optional and subject to approval from the Director General of the National Tax Agency (NTA). Once approved, an election to utilise the tax system can only be rescinded with prior approval from the Director General of the NTA. 6.12 Social Security contributions Social security insurance contributions in Japan include: Employee Health Insurance Nursing Care Insurance (those aged 40 or more must contribute to this plan) Child Allowance Contributions Employee Pension Insurance Worker Accident Compensation Insurance Employment Insurance.

Except for Child Allowance Contributions and Worker Accident Compensation Insurance, both the employer and the employee must absorb the premium for the insurances. Employers are required to withhold the employee’s portion from wages paid to the employee. The employer only absorbs worker Accident Compensation Insurance. The premium rate of these insurances depends on the employees’ total annual wage.

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7. Personal taxation 7.1 Resident status and scope of taxable income An individual’s tax status (non-resident, non-permanent resident or permanent resident) governs the types of income that are subject to national income tax and local inhabitant tax, as well as the deductions and tax rates applied. A non-resident taxpayer is defined as an individual who does not have his/her domicile in Japan and an individual who does not have a place of abode in Japan for more than one year. These individuals are subject to Japanese income tax on income sourced in Japan, regardless of where they have been paid. However, most tax treaties provide for an exemption from Japanese tax on employment income if a non-resident taxpayer is present in Japan for 183 days or less during a calendar year, providing certain other conditions are met. A non-resident taxpayer is not subject to local inhabitant tax on his or her income. An expatriate resident taxpayer, who has no Japanese nationality and has lived in Japan for 60 months or less in the past 10 years, is classified as a non-permanent resident taxpayer. These individuals are subject to Japanese income taxes on income sourced in Japan plus any portion of non-Japan sourced income that is paid in and/or remitted to Japan. The expatriate resident taxpayer becomes a permanent resident after the 60 months of residency in Japan. A permanent resident taxpayer is subject to Japanese income taxes on his or her worldwide income. 7.2 Taxable income classifications Taxable income of a resident taxpayer is divided into three classes:

1. Aggregate income - made up of employment income, capital gains, interest income, dividend income, rental income from real property, business income, occasional income, and miscellaneous income

2. Retirement income 3. Forestry income.

7.2.1 Employment income Employment income includes base salary, wages and bonuses, plus any allowances and taxes borne by an employer. If an employer provides a staff member with any kind of economic benefits, they are generally treated as employment income. Where accommodation is provided to directors and/or employees, a portion of the cost is taxable to the individual. The taxable portion for a director of a corporation is 50% (or 35% if the accommodation is partly used for business meetings) of the actual rent. The taxable portion for an employee is about 10% of the actual rent. A housing allowance paid in cash is fully taxable to

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both employees and directors. A reasonable amount of moving expenses and costs of annual leave to the expatriate’s (or spouse’s) home country, including those for his family members, borne by the expatriate’s employing company, is regarded as non-taxable income. Employment income relating to services performed in Japan is regarded as Japan-sourced employment income, regardless of the location or currency the income is paid in. Allocation of employment income on the basis of number of days in Japan against total number of days covered by the employment income is generally acceptable in determining the employment income relating to services performed in Japan. Compensation paid to non-residents is subject to 20% withholding income tax, which is satisfied through withholding if paid in Japan, unless exempted by a relevant tax treaty. Professional fees earned by lawyers, etc., net of certain expenses, are considered business income. Withholding income tax is required for certain types of services (accountant, lawyer, etc.) and is subject to the graduated tax rates if the recipient is a resident or has a permanent establishment in Japan. Retirement income is taxed separately without aggregation with other classes of income. The taxable amount of retirement income is 50% of the balance of the gross retirement payment after a statutory deduction. 7.2.2 Capital gains Except for the capital gains derived from the sale, exchange or transfer of real property and Company shares, which are subject to special tax treatments under the Special Taxation Measures Law, a short-term capital gain realised from the sale, exchange or transfer of assets is aggregated with other sources of income after deduction of the necessary expenses and a statutory special deduction of a maximum of 500,000 yen. If the transferred assets have been owned for more than five years, the gain is regarded as a long-term capital gain, and the taxable amount is reduced to 50% of the net capital gain. Special taxation measures that apply to capital gains derived from the transfer of real property, such as land, rights to land, buildings, and structures, are covered in section 7.2.3. A resident individual or a non-resident individual who has his/her office in Japan is subject to tax on net taxable gains derived from the disposal of equity securities (stocks, convertible bonds, warrants). The gains are subject to separate national taxation at the flat rate of 15%. For a resident individual, a 5% flat rate local inhabitants' tax is also levied. From 2003 until 2013, the capital gains on sales of listed shares through a security firm are subject to 7% national tax and 3% local inhabitants’ tax. A taxpayer may also opt for separate taxation for capital gains derived from the sale of listed securities through a stock exchange. In this instance, the net taxable gain is the net of total gains and losses derived from the disposition of assets during the year. 7.2.3 Real estate property gains Gains from the transfer of real estate property such as land, rights to land and buildings are not aggregated with other sources of income but subject to separate taxation under the Special

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Taxation Measurement Law. Gains from the transfer of real property, which has been held for five years or less (as of 1 January the year the property is transferred), is defined as short-term capital gains. When determining the capital gain when transferring real estate, the following can be deducted: Acquisition costs Expenses incurred during the transfer Interest incurred for the acquisition Real property acquisition tax Capital expenditures for improvement Repairs incurred that are directly connected to the sale Compensation for tenant moving expenses Other necessary cost and expenses.

Various special deductions are provided for as tax deductions in accordance with the use of the property, the purpose of sale, etc. For example: If the real estate property is sold for the purpose of residential housing, a special

deduction of 30 million yen is allowed for net capital gains, regardless of whether it’s long-term or short-term capital gains.

Net long-term capital gains are subject to national income tax at 15% and inhabitant tax at 5%.

For residential housing, the special reduced rate of national income tax at 10% and inhabitant tax at 4% is applied for the first 60 million yen of the net gain, and national income tax at 15% and inhabitant tax at 5% for the rest of the net gain.

Short-term capital gains are taxed at the higher rate of 30% national tax and 9% inhabitant tax.

7.2.4 Interest income Interest income earned on bank deposits, public and corporate bonds are not aggregated with other sources of income but are subject to a flat withholding tax rate of 20% (comprising national withholding tax at 15% and local inhabitants' tax at 5%). The withholding tax rate applicable to Japan sourced interest income paid to a non-resident taxpayer is 15%, unless a reduced treaty rate applies. While a loan interest earned by a resident individual is excluded from interest income and is included within miscellaneous income, loan interest received by a non-resident individual is subject to 20% withholding tax unless otherwise provided for in an applicable tax treaty. Interest on public or corporate debentures issued in foreign countries is subject to separate taxation of a flat withholding tax rate of 20% (comprising national withholding tax at 15% and local inhabitants' withholding tax at 5%). If foreign income tax is deducted from such interest at the source of payment, such foreign income tax may be credited against Japanese withholding tax.

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7.2.5 Dividend income As a general rule, dividend income of a resident taxpayer is aggregated with other sources of income and subject to income taxes at graduated rates. Dividends from Japanese corporations to resident taxpayers are subject to 20% withholding tax that can be credited against the taxpayer's national income tax liability. Until 31 December 2013, a special withholding tax rate of 7% national tax and 3% inhabitants’ tax is applied to dividends from listed shares. 7.2.6 Tax-exempt income Under the Income Tax Law and the Special Taxation Measures Law, certain types of income are exempt from individual income taxes. Tax-exempt income includes: Insurance payments, other than those for business assets Commuting allowance paid by an employer, up to limits provided for in the tax

regulations Allowance/s that a resident taxpayer working abroad receives in addition to the ordinary

remuneration that he/she would receive in Japan Employment income earned by foreign government employees for their services (a

diplomat of a foreign government is exempt from Japanese income taxes on his/her entire income)

Tuition fees and education funds paid for employees, providing that the education is needed for the employer's business.

7.2.7 Deductions A resident taxpayer is entitled to an earned income deduction from gross employment income, depending on the amount of gross employment income. A resident taxpayer can also qualify for, among others, a basic deduction, a spouse exemption, and a dependant's exemption. For these deductions, a non-resident taxpayer is only allowed the basic deduction. A spouse exemption of 380,000 yen is allowable for a registered spouse. The exemption is provided per dependent. The deduction is determined as of 31 December for the year in question. Social insurance premiums (welfare pension and health insurance premiums) paid by a

taxpayer are fully deductible. Life and earthquake insurance premiums are deductible up to 50,000 yen, respectively. A 270,000-yen deduction is allowed for working students if his/her income does not

exceed certain amounts, depending on the type of income. Contributions in excess of 2,000 yen to designated organisations may be deducted.

Designated organisations include governments, municipal corporations, corporations engaged in research of natural science, academic research workers, schools, school foundations and social welfare foundations. Certain political donations are also treated as designated donations.

A taxpayer and his/her family's medical expenses in excess of 100,000 yen or 5% of taxable income, whichever is less, is deductible up to a maximum of 2 million yen. Medical expenses include the expenses for treatments as an outpatient, hospital charges, medical equipment costs, certain health improvements, and doctor's fees.

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Casualty losses are deductible as a miscellaneous loss or they may be subject to a tax relief in accordance with special provisions relating to tax reduction and postponement of collection for disaster victims. The deductible amount of the miscellaneous loss is the portion of the remaining loss, which exceeds 10% of total taxable income. 7.3 Calculating individual income tax Generally, net taxable income of a resident taxpayer, which is subject to a graduated tax rate, is aggregate income (excluding retirement income and forestry income, which are subject to separate taxation) less the statutory deductions. However, certain capital gains are taxed separately under the Special Taxation Measures Law. If a non-resident taxpayer has business income through a fixed place of business in Japan, real estate rental income or a taxable capital gains, his/her net taxable income is the total of such net income (after the deduction of related expenses) less the statutory basic deduction of 380,000 yen. Other income, such as employment income, interest, dividends, royalties, etc., is subject to income tax at a flat rate of 20% (15% for certain interest income) of the gross amount. A reduced tax treaty rate is often applicable to interest, dividends, and/or royalty income. The national income tax rates in aggregate taxation range from 5% to 40%. The local inhabitant tax is set at 10%. Non-resident taxpayers are not subject to local inhabitant tax on their income, even if their income is sourced in Japan. 7.3.1 Tax credits for resident taxpayers A resident taxpayer is entitled to tax credits against income tax liabilities in the following cases: A tax credit is available for dividends received from Japanese corporations to the extent

of 10% of the dividends. A reduced 5% tax credit applies to the portion of any dividend income equivalent to aggregate taxable income in excess of 10 million yen. However, the tax credit on dividend income is not applicable if the taxpayer selects the separate taxation for the dividends or if the dividends were 100,000 yen or less and have not been reported as income in the tax return under other provisions of the tax law.

The dividend tax credit is also available for inhabitant tax purposes at the rate of 2.8% for the dividend income. If the aggregate taxable income is more than 10 million yen, 1.4% applies to the portion of dividend income equivalent to aggregate taxable income in excess of 10 million yen.

A resident taxpayer is entitled to a special tax credit against national income tax if a

resident taxpayer acquired a new or used residential house with funds borrowed from financial institutions, providing that the loan meets certain conditions. This tax credit is calculated based on a designated formula with a maximum of 500,000 yen or 200,000 yen per year for 10 years beginning from the year of acquisition. To qualify:

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o the total income of the taxpayer must be 30 million yen or less o the term of the loan must be longer than 10 years and o the residence must have a floor space of 50㎡ or more.

Foreign income taxes paid by a resident taxpayer may be credited against Japanese

income taxes (both national income tax and local inhabitant tax). The limit of this tax credit for national income tax purposes is the product of the foreign sourced income subject to Japanese tax and the average income tax rate (effective tax rate) of the taxpayer for the year. Foreign tax credits for inhabitant tax purposes are allowable only to the extent that such foreign income taxes are not used as a credit against the taxpayer's national income tax. The tax credit is further limited to 30% (comprising inhabitant tax 12% and municipal inhabitant tax 18%) of the amount of the credit limit allowable for national income tax purposes. Any unused limitation for foreign tax credit purposes or foreign income taxes paid in excess of the limitation may be carried forward up to three years.

A foreign tax credit is not available for to non-resident taxpayers.

7.3.2 Local income taxes Inhabitant tax comprises tax on income and per capita equalisation tax and is assessed by both prefecture and municipalities (Tokyo metropolis and special wards in the case of Tokyo). Each municipality is responsible for the administration of these taxes. Local inhabitant tax on income is levied on income of a resident taxpayer. A non-resident taxpayer is not subject to inhabitant tax on income. Inhabitant tax is assessed on the income of an individual if the individual is a residential taxpayer as of 1 January in the next year. This means that income from the year during which the taxpayer leaves Japan permanently (technically becoming a non-resident taxpayer) is not subject to inhabitant tax on income. In addition to tax on income, local governments assess another form of inhabitant tax. This is known as per capita equalisation tax. The amount paid depends on the city where the taxpayer resides or has his/her office or other business places, regardless of the amount of income. Inhabitant tax on income is assessed on income from the previous year. It includes dividend income that is applied as a separate taxation. Certain capital gains and retirement income are separately subject to inhabitant tax. Inhabitant tax on income is levied at the rate of 6% by each municipality (or special ward in Tokyo) and 4% in each prefecture (or Tokyo metropolis). The per capita equalization tax is 3,000 yen in each municipality and 1,000 yen in each prefecture. Enterprise tax In addition to national income tax and local inhabitant tax, prefecture governments levy enterprise tax on income from certain businesses. A special income deduction (i.e., proprietor deduction) of 2.9 million yen is allowable for enterprise tax purposes.

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Enterprise tax is deductible from taxable business income for the year in which it is paid. The tax rates range from 3% to 5%, depending on the kind of business. The rate is applied to the individual's net business income after the special income tax deduction of 2.9 million yen. A non-resident individual conducting business through a permanent establishment in Japan is also subject to enterprise tax on the business income attributable to the permanent establishment. 7.4 Gift tax A national gift tax is imposed on a person who acquires property by gift from individuals. The donor remains jointly responsible for the tax payment. If a donee is a Japanese national or he/she has a domicile in Japan (except for cases where both the person who acquires properties and the person who gifts them have never been domiciled in Japan within five years before the time of the gift), all property acquired by gift during a year regardless of location of the property is subject to gift tax. If the donee does not have a Japanese domicile when property is acquired by gift, only property located within Japan is subject to gift tax. Subject to gift taxes are: Tangible, intangible, real property and personal property, unless specifically exempt

under the tax law Property transferred at a significantly lower price, discharged debts, insurance payments

for which premiums were paid by a person other than the beneficiary, and a change of holder of subscription rights

Property title transfer between a parent and a child or a husband and a wife, free of charge.

Gift tax is imposed on the total property acquired by gift during a calendar year, valued in accordance with the tax law and taxed at graduated rates. These range from 10% to 50%, after deducting an annual exclusion of 1.1 million yen. If a recipient receives funds as a gift from a lineal ascendant and uses these to acquire residential property, gift tax may be exempt subject to meeting specific conditions. If a residential property is acquired by gift from the spouse after 20 years of marriage, an additional 20 million yen may be excluded from the taxable base. This special deduction is available only once during a lifetime, although it is allowable separately from a special tax credit entitled to a spouse at a time of inheritance. A donee that has a domicile in Japan is entitled to claim a foreign tax credit for similar taxes imposed on property located outside Japan.

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7.5 Inheritance tax An heir, who at the time of the decedent's death, was domiciled in Japan or is of Japanese nationality (except for persons and/or decedent that has not domiciled in Japan within the last five years before the decedent's death) is subject to Japanese inheritance tax on the entire assets inherited. Property subject to inheritance tax includes: Tangible, intangible, real or personal property, unless specifically exempt under tax law. Life insurance proceeds, whereby premiums were borne by the decedent and severance

payments paid by an employer to heirs after the death of a decedent, are deemed as the property of the decedent. However, certain statutory deductions for this type of life insurance and severance payments are available.

Property gifted during the three-year period prior to inheritance tax being calculated is included in the taxable property. However, gift tax previously paid, if any, may be credited against the inheritance tax liability.

The statutory basic deduction is currently the sum of 50 million yen (basic deduction plus 10 million yen multiplied by the number of statutory heirs). In addition, the liability and/or expenses for a funeral borne by heirs or individual beneficiaries may be deductible from the value of the decedent’s property. Inheritance tax is calculated by:

1. First allocating the net taxable property (which is after deduction of the liability, funeral expenses and statutory basic deduction) to the statutory heirs in accordance with the statutory inheritance proportions and then applying graduated tax rates. These rates range from 10% to 50% on the net taxable property, according to each statutory heir.

2. The aggregate amount of inheritance tax calculated for each statutory heir is then allocated to each heir or beneficiary, who each receive his/her proportional value of the net property (after deducting tax liabilities and funeral expenses). A special reduction in tax liability is available for a spouse, statutory heirs less than 20 years of age and/or persons with a registered disability.

3. All heirs, other than a spouse, a parent or a child of the decedent, are liable for 20% of the tax allocated.

7.6 Integration of inheritance tax and gift tax The integration system of the inheritance and gift tax is applied to gifts: From parents (donor) aged 65 and over Statutory heir (taxpayer or donee) aged 20 and over.

The taxpayer pays gift tax on donated properties when gifts are received. Subsequently, when the taxpayer inherits property from the same donor, the taxpayer pays the inheritance tax,

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deducting the previously paid gift tax from the total tax sum calculated on the gifts and inheritance property. Refunds are provided if the calculated amount is negative. There is a threshold for the prepayment of gift tax when calculating inheritance tax at the time of inheritance.

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8. Double taxation agreements 8.1 Double taxation agreements

Japan has concluded bilateral tax treaties with 59 worldwide countries. The treaties serve primarily to avoid double taxation and prevent tax evasion in connection with cross border transactions. The tax treaty provisions take precedence over the domestic tax laws. However, no additional tax in excess of the domestic tax law will be levied by virtue of the double tax treaty. For example, if the tax treaty provides that withholding tax on royalties should not exceed 25%, the Japanese withholding tax rate on royalties should not exceed 20%, which is provided under the Japanese domestic tax law. Tax treaties provide generally for tax exemptions and/or tax reductions on certain types of income, particularly for reduced withholding tax rates on income not effectively connected with a permanent establishment in treaty countries (interest, dividend, royalties). The tax treaties concluded by Japan generally follow the model treaty of OECD. There are provisions for ‘tax sparing credit’ in order to provide tax incentives that encourage economic development and investments. Japan has such treaties in place with Bangladesh, Brazil, Republic of China, the Philippines, Zambia, Sri Lanka, Thailand, etc. Under the Japanese tax law, a company incorporated in accordance with Japanese laws is defined as a domestic corporation (a Japanese resident corporation). The location of management control is not taken into account when determining residence for Japanese tax purposes. However, a corporation of a contracting state is, in many instances, regarded as a resident of the country where the corporation is managed and controlled. 8.2 Double taxation relief A Japanese corporation is entitled, within limits, to a credit against Japanese corporation tax and inhabitants tax liabilities for foreign income taxes paid. Foreign income taxes that are eligible for the tax credit may include deemed paid taxes (tax sparing credit). A foreign tax credit is not available for enterprise tax purposes. Foreign income taxes that qualify for the tax credit include foreign taxes that are imposed on net income of a corporation or on gross revenue in lieu of a tax on net income. For example, withholding tax on dividends, interest and royalties. Not eligible for credit are sales taxes and penalties, foreign taxes in excess of a 50% tax rate, or withholding taxes on interest income that exceeds set levels. Japanese resident individuals are also entitled to a foreign tax credit. The excess portion of foreign income taxes paid over the credit limits may be carried forward or carried back for up to three years.

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9. Sales and indirect taxes 9.2 Consumption tax Unlike individual taxes in which particular products and services are subject to taxation, Japan’s consumption tax is categorised as an indirect tax whereby almost every domestic transaction and every transaction for the import of foreign goods is subject to taxation at the rate of 4%. The exceptions are financial transactions, capital transactions, medical services, welfare services and education services. Combined with the effective local consumption tax rate of 1%, the total effective consumption tax rate applied is 5%. Like Value Added Tax applied in many worldwide countries, Japan’s consumption tax is added to the price of products sold and services provided by an enterprise and ultimately passed on to consumers. Consumption tax is also designed to eliminate multiple taxations at each stage of manufacture and distribution by allowing for the credit of consumption tax on purchases against sales. Calculating consumption tax – the different methods available Tax-exempt enterprises: An enterprise whose taxable sales amount to no more than 10

million yen for the base period is a tax-exempt enterprise, unless the enterprise elects to be a taxable enterprise. For an individual enterprise, the year applied is two years prior to the current year. For a corporation, the fiscal year is two fiscal years prior to the current fiscal year.

Simplified tax system: An enterprise whose taxable sales amount to no more than 50

million yen for the base period can opt to apply the simplified tax system. This means the tax liability is calculated using the taxable sales amount only.

Purchase tax credit calculated from accounting records: Consumption tax paid by a

taxpayer as a component of purchase cost, which may be credited against the tax component of sales by the taxpayer, may be calculated from sales records and invoices.

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10. Portfolio investment for foreigners 10.1 Cash investments Interest on savings deposited to banks and financial institutions located in Japan is treated as Japanese-sourced income. This means any interest earned is subject to withholding at the source that completes the payment of taxes. The Japanese domestic tax rate is generally 15% for foreign investors (non-residents). However, reduced tax rates are available under many of the tax treaties that Japan currently has with worldwide countries. 10.2 Investments in Japanese stocks and bonds Dividends and interest from Japanese securities received by a foreign portfolio investor are generally subject to Japanese withholding taxation at the rate of 20% (for listed stocks the tax rate is 7% until 31 December 2013, 15% thereafter) and 15% respectively. If a tax treaty is in place between Japan and the foreign investor's country of residence, the reduced tax rate stipulated in the treaty (if any) applies. In order to attract overseas investment into the domestic bond market, an income tax exemption regime for foreigners investing in book-entry Japanese government bonds (JGBs) was introduced within the 1999 Tax Reform. The scope of this was later expanded to book-entry municipal bonds (2007) and book-entry corporate bonds (2010). The corporate bond tax exemption currently is a temporary statute that applies to interest on bonds that are issued on or before 31 March 2013. 10.3 Investment in Japanese real estate There are basically no legal restrictions that prevent foreigners acquiring real estate property in Japan. However, the foreign investor must report the transaction to the Ministry of Finance via the Bank of Japan within 20 days from the acquisition, except under certain conditions. Foreign investors selling real property situated in Japan are subject to 10% withholding tax. This can be credited against the non-resident taxpayers' income tax liability in Japan. Capital gains from the disposal of land or buildings are taxed separately from ordinary income and tax rates differ depending on the holding period of the property. For non-residents, the tax rate is 30% for short-term gains (holding period of five years or less) and 15% for long-term gains (holding period of more than five years).

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11. Trusts 11.1 General introduction to trusts As of 2007, Japan’s tax system introduced reforms relating to trusts, implementing the Trust Law Reform with regard to: Trusts issuing beneficiary securities (see 11.2) No beneficiary trusts (see 11.3) Trusts allowing continual change of beneficiary (see 11.4).

The rationale for introducing these reforms was to implement measures that would address tax avoidance when using a trust structure. Corporation tax is imposed on a trustee with regards to a trust entrusted by a company as settlor if one of the following conditions is met: Where ‘all or primary part of the business’ is entrusted and more than half of the

beneficial certificates are to be transferred to its shareholders Where the term trust created by declaration is more than 20 years (excluding trusts

where the useful life of primary depreciable assets entrusted is more than 20 years) Where a special related person owns the beneficiary certificates of a trust created by

declaration, such as a company subsidiary, and the distribution ratio of profits or losses is variable.

Trust beneficiaries are responsible for implementing the trust rules in relation to trust losses. For merger or division of a Proviso Trust, this being one form of investment trust whereby no title of property other than a beneficial certificate of the new trust can be transferred, realisation of the profit or loss on the beneficial certificate of the original trust can be carried forward to a later date. With regard to the taxable residence of a trust, the 2007 Tax Reform provides that a trust entrusted at a domestic office in Japan is taxed as a domestic company and a trust entrusted at a foreign office is taxed as a foreign company. What’s more, the 2007 Tax Reform provides clarification about specific definitions, notably: Joint operation trusts When a trust beneficiary should be treated as having an interest in a trust asset and The scope of grantor subject to trust rules.

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11.2 Trusts issuing beneficiary securities Revenue and expenditure attributable to the trust assets of a specified trust issuing beneficiary securities are not taxed at the trustee level. However, the distribution of profit received by a beneficiary is subject to individual income tax or corporation tax. A trust that meets, among others, the following conditions is recognised as a ‘specified trust issuing beneficiary securities’: The trustee is a corporation that has obtained approval from the director of a tax office Undistributed profit of the trust is 2.5% of the total amount of the trust principal, or less Computation period of the trust is not over one year.

For this type of trust, corporation tax is imposed on a trustee's income arising from trust assets that are separate from the income arising from his or her own assets. Profit distributions received by an individual beneficiary are subject to individual (personal) income tax. This profit is taxed as dividend income and the income arising from the transfer of such beneficiary securities are subject to individual income tax as capital gains on stock. Beneficiary securities in this type of trust are subject to stamp duty tax. 11.3 No beneficiary trust For ‘no beneficiary trusts’, corporation tax is imposed on a trustee's income arising from the trust assets. This is separate to income arising from its own assets. In addition, when a ‘no beneficiary trust’ is created, the settlor is subject to taxation on the deemed transfer or donation and the trustee is subject to taxation on the donated gain against the amount equivalent to the trust asset. 11.4 Trust allowing continual change of beneficiary Under this type of trust, the beneficiaries at the time of creation and thereafter are deemed to acquire a beneficiary certificate from the settlor or the preceding beneficiary, as appropriate, and are subject to inheritance tax.

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12. Practical information 12.1 Transport

Japan has an efficient public transportation network, especially within metropolitan areas and between the large cities. Japan's most important international airport is Tokyo's Narita Airport, followed by Osaka's Kansai Airport and Nagoya's Central Japan Airport. Japan's fourth largest international airport is Fukuoka Airport, which links the city with several Asian destinations. Many other Japanese airports have a small number of international flights, mainly to Korea and China. 12.2 Language

Japanese is the official language. English is not widely spoken or understood within the business community, with the exception of foreign capital corporations. 12.3 Time relative to Greenwich Mean Time (GMT) Japan does not apply summer daylight saving time. The country is nine hours ahead of GMT between November and March and eight hours ahead between April and October. 12.4 Business hours Business in Japan is normally conducted between 9:00 am and 5:00 pm, Monday to Friday. 12.5 Public holidays

The official public holidays observed by most businesses and government offices in Japan in-clude:

New Year's Day 1 January Coming of Age Day Second Monday of January National Foundation Day 11 February Spring Equinox Day Around 21 March Showa Day 29 April Constitution Memorial Day 3 May Greenery Day 4 May Children's Day 5 May Ocean Day Third Monday of July Respect for the Aged Day Third Monday of September Autumn Equinox Day Around 23 September Health and Sports Day Second Monday of October Culture Day 3 November Labour Thanksgiving Day 23 November

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Emperor's Birthday 23 December *When a National Holiday falls on a Sunday, the next working day becomes a public holiday instead. Additionally, if a single day falls between two national holidays, that day also becomes a holiday. Many shops and offices are closed between 30 December and 3 January.