Japanese tax law does not use the term “tax haven.”The terms used in the provisions are “foreign related companies” and “If the tax burden ratio Those are the Article titles.

There is no provision prohibiting the establishment of a company in a low-tax country as such. The provisions examinewho controls the company and how much tax it actually bears.It is.

Terms Used in the Provisions

Article 66-6(2)(i) of the Act on Special Measures Concerning Taxation defines a “foreign related company.”

(i)foreign related companiesThe following foreign corporations: foreign corporation is what the term means.

(a)resident and domestic corporations, together with specially related Non-resident... and foreign corporations listed in (b) (referred to in (a) as “resident shareholders and similar persons”), where any of the following ratios relating to a foreign corporationexceeding fifty percent,that foreign corporation is covered.

The following subitems (1)–(3) list ownership percentages for shares and similar interests, voting rights, and rights to distributions.Direct and indirect holdings are combined for the assessment.

The rule is not limited to ownership exceeding 50%.Subitem (b) of the same item also covers “a foreign corporation that has, with a resident or domestic corporation,the circumstances of the de facto control relationship,a de facto control relationship.” A company can therefore be a foreign related company even without equity ownership.

The same paragraph further divides foreign related companies intospecified foreign subsidiary company(item (ii)),applicable foreign affiliated company(item (iii)),partially targeted foreign affiliated companyand other categories (item (vi)).

Whose Income Includes the Company's Income? The 10% Threshold

Whether a company is a foreign related company and whose income must include its income are determined underseparate tests.Article 66-6(1)(i) refers to “a domestic corporation where any of the following ratios relating to its foreign related companyat least ten percent:meets the prescribed threshold.”

Over 50% is the company-level test; at least 10% is the shareholder-level test.These are easily confused.

Tax Burden Ratio: Two Thresholds

Article 66-6(7) of the Act on Special Measures Concerning Taxation provides exceptions to income inclusionshall not applyThese circumstances are as follows.

(i)specified foreign subsidiary companyfor each fiscal year of a specified foreign related company, where itsIf the tax burden ratio(the ratio of tax imposed on the foreign related company's income for each fiscal year to that income, calculated as prescribed by Cabinet Order) isis at least twenty-seven percent.That is the exemption condition.

(ii)applicable foreign affiliated companyand where the tax burden ratio of a covered foreign related company for each fiscal year isat least twenty percent.That is the exemption condition.

The applicable threshold differs depending on the category into which the company falls.

Falling outside these two categories does not end the analysis.Paragraphs (8) and (10) of the same articlepartially targeted foreign affiliated companyprovide for inclusion of only passive income, such as dividends, interest, and royalties, for partially covered foreign related companies (paragraph (2)(vi)). The exclusions in paragraph (12) apply if any of the following conditions are met: (1) a tax burden ratio of at least 20%; (2) the relevant partially applicable amount the amount subject to application. and similar amounts areJPY 20 million or less;or (3) the proportion of income is5% or less.Meeting any one of these conditions qualifies.

A Critical Point: The Tax Burden Ratio Is Not Determined by the Country's Name

The tax burden ratio is calculated usingthe company's actual results for each fiscal year.As the provision states, it is a ratio “calculated as prescribed by Cabinet Order” (Article 39-17-2 of the Special Measures Order). Cases involving no income or a loss are separately addressed in paragraph (2)(v) of that article.

Even a company in a country with a statutory rate above 20% can have a tax burden ratio below 20% for a particular fiscal year because of incentives or differences in deductible expenses.Assuming that a company is safe because its country is not a tax haven is inconsistent with the structure of the provisions.

There is, however, an exception. Paragraph (2)(ii)(d) coversa country or region designated by the Minister of Finance as providing markedly insufficient cooperation in the exchange of tax information.A foreign related company headquartered in such a country or region is a specified foreign related company on that basis alone.

An Attachment Requirement Arises Even If No Income Is Attributed

Paragraph 14 of the same Article.

A domestic corporation listed in any item of paragraph (1) must, for each fiscal year of the following foreign related companies associated with that domestic corporation, attachbalance sheets, profit and loss statements, and other documents prescribed by Ministry of Finance Orderto its final tax return for each fiscal year that includesthe date on which four months have elapsedfrom the day following the end of each such fiscal year.

The requirement covers companies whose tax burden ratio isless than 20%that are partially subject foreign related companies (excluding certain companies) or subject foreign related companies, and specified foreign related companies whose ratio isless than 27%.

Even if no income is subject to attribution, the document attachment obligation arises separately.This obligation, too, is addressed to the domestic corporations listed in paragraph (1).

Points that require care in practice

• Whose Interests Are Aggregated for the More-Than-50% Test?The scope of specially related non-residents and the method of calculating indirect ownership percentages are prescribed by Cabinet Order.
• Can a Company Be Covered Even Without an Ownership Interest?There is a concept of de facto control (paragraph (2), item (i)(b)).
• How Is the Tax Burden Ratio Calculated?Both the numerator and denominator are determined as prescribed by Cabinet Order.
• What Distinguishes a Specified Foreign Related Company from a Subject Foreign Related Company?The requirements in paragraph (2), items (ii) and (iii), must be examined.
• Is an Operating Company with Genuine Substance Exempt from Attribution?Even if it meets the requirements in paragraph (2), item (iii)(a)–(c), commonly called the The economic activity tests:, partial CFC inclusion. remains applicable.
• What If an Individual Owns an Overseas Company?A similar system applies to residents.
• What Happens If You Receive a Dividend After the Company's Income Has Been Attributed?There are provisions to adjust for double taxation.

Your available options differ before and after establishing an overseas company.Consult us while planning its establishment.

Legal basis

• Article 66-6 of the Act on Special Measures Concerning Taxation (special taxation of domestic corporations on income of foreign related companies; the Article has no heading)
• Article 66-7 of the Act on Special Measures Concerning Taxation (credits and related relief for foreign taxes on attributed income; the Article has no heading)
• Article 40-4 of the Act on Special Measures Concerning Taxation (special taxation of residents on income of foreign related companies; the Article has no heading)
• Article 66-8 of the Act on Special Measures Concerning Taxation (adjustments for dividends and similar distributions received after attribution; the Article has no heading)
• Article 39-17-2 of the Order for Enforcement of the Act on Special Measures Concerning Taxation (Calculation of Foreign Related Companies' Tax Burden Ratios)
• Article 23-2 of the Corporation Tax Act (exclusion from gross income of dividends and similar distributions received from foreign subsidiaries)

An individual determination requires examination of ownership relationships and actual results for each fiscal year.