The same income may be taxed both abroad and in Japan. The foreign tax credit adjusts this double taxationby subtracting foreign tax from Japanese tax.

It is not a deduction from taxable income or a business expense deduction, buta credit against the tax itself. However, the credit is not unlimited.

Where a foreign tax credit is claimed, the foreign tax is not deductible as a business expense or corporate expense (Article 46 of the Income Tax Act and Article 41 of the Corporation Tax Act).The Credit and Expense Deduction Cannot Be Used Simultaneously.

Statutory definition

residentFor the former, Article 95, paragraph (1), of the Income Tax Act applies;Domestic corporationfor the latter, Article 69, paragraph (1), of the Corporation Tax Act applies.

Where a resident becomes liable during a year to pay foreign income tax (a tax equivalent to income tax imposed under foreign law and prescribed by Cabinet Order …), … an amount calculated as prescribed by Cabinet Order as corresponding to foreign-source income arising that year … (referred to in this Article asDeduction limit) is the limit up to which the amount of foreign income tax (referred to in this Article ascreditable foreign income tax) is credited against income tax for that year.

Article 69, paragraph (1), of the Corporation Tax Act follows the same structure, using the terms foreign corporation“tax” and “creditable foreign corporate tax.”

Overview

The Credit Limit Is the Portion of Japanese Tax Corresponding to Foreign-Source Income.The System Does Not Refund More Than the Japanese Tax Liability.

The First Point to Check: Some Foreign Taxes Are Not Creditable

The statuteexcludes。

certain amounts from creditable taxes. The parenthetical provision in Article 69, paragraph (1), of the Corporation Tax Act excludes foreign corporate tax prescribed by Cabinet Order as representingan excessively high tax burdenon that income, and foreign corporate tax on income from transactions prescribed by Cabinet Order asnot ordinarily undertakenby a domestic corporation, among other amounts.

The parenthetical provision in Article 95, paragraph (1), of the Income Tax Act also contains exclusions, butits wording differs from the Corporation Tax Act.Do Not Treat the Individual and Corporate Provisions as Interchangeable.

Foreign Tax Paid Is Not Necessarily Creditable in Full.That is the first point to check.

Filing requirements apply

Article 95, paragraph (10), of the Income Tax Act requires the final return, amended return, or correction claim to have attached a document specifying the credit claimed and its calculation, evidence that foreign income tax was imposed, and other prescribed documents,as a condition of applicationThat is the consequence.

Article 69, paragraph (25), of the Corporation Tax Act similarly requires an attached calculation schedule andretentionof evidentiary documents.

Without the Documents, the Credit Is Generally Unavailable.Article 69, paragraph (28), of the Corporation Tax Act addresses cases where the tax office director recognizes unavoidable circumstances for failure to retain documents.

Both Articles also provide that the creditunless the district director of the tax office finds special circumstances,is limited to the amount stated in the schedule.

Carryforwards Have an Additional Requirement.Article 95, paragraph (11), of the Income Tax Act and Article 69, paragraph (26), of the Corporation Tax Act require, for each year or fiscal year from the earliest year to which the carried-forward credit limit or related amounts relate,the tax returns or equivalent for every subsequent yearto have attached documents stating each year's credit limit and creditable foreign income or corporate tax payable,with those attachments presentand the prescribed documents also attached to the return or equivalent for the year in which carryforward relief is claimed.If the Chain of Attachments Is Broken in an Intervening Year, the Carryforward Cannot Be Used.

Points that require care in practice

• Does Every Foreign Withholding Tax Qualify as Foreign Income or Corporate Tax?The definition is limited to taxes prescribed by Cabinet Order.
• tax treaty What Happens to Withholding Above a Treaty Maximum Rate UnderThe relationship between the treaty and domestic law must be checked.
• How Are Years with Unused Credit Capacity Linked to Years with Insufficient Capacity?The statute provides a three-year carryforward.
• How Is Foreign-Source Income Calculated?The provision refers to an amount prescribed by Cabinet Order.
• How Are Dividends from Foreign Subsidiaries Treated?A separate system applies under Article 23-2 of the Corporation Tax Act.
• What Happens If the Foreign Tax Is Later Reduced?Article 95, paragraph (9), of the Income Tax Act addresses this.

Before Calculation, Foreign Tax Credit Eligibility Depends on Whether the Tax Qualifies and the Documents Are Available.Consult us when starting overseas transactions, including on how to obtain the necessary documents.

Legal basis

• Article 95 of the Income Tax Act (Foreign Tax Credit)
• Article 222 of the Order for Enforcement of the Income Tax Act (Calculation of the Credit Limit)
• Article 69 of the Corporation Tax Act (Foreign Tax Credit)
• Article 142 of the Order for Enforcement of the Corporation Tax Act (Calculation of the Credit Limit)
• Article 23-2 of the Corporation Tax Act (exclusion from gross income of dividends and similar distributions received from foreign subsidiaries)
• Double taxation relief provisions of the relevant tax treaties

An individual determination requires review of transaction details and documents.