Non-resident sells shares in a Japanese company, is the gain taxable in Japan?Generally not taxable, but taxable in the cases listed in the legislationis the structure of the rules.

These are the first provisions to check when selling your company shares after moving overseas or transferring shares to an overseas investor.

Which Provisions Should You Read?

For income from share transfers, the question is whether it falls under Article 161, paragraph (1),item (iii),of the Income Tax Act as income arising from the transfer of assets situated in Japan that isspecified by Cabinet Order,.

The relevant Cabinet Order is Article 281 of the Order for Enforcement of the Income Tax Act. Paragraph (1) lists eight items; share transfers fall primarily withinitem (iv)anditem (v)It is.

Item (iv): Share Transfers Resembling a Business Transfer

(iv) The following income from transfers of shares … issued by domestic corporations …

(a) Income fromaccumulatingshares or similar interests of the same class in a domestic corporation and, using the position of ownership, transferring them to that corporation or its specially related persons, or through the mediation of those persons or persons acting at their request

(b) Income from a transfer of shares or similar interests in a domestic corporation by a non-resident who is one of itsspecially related shareholders or equivalent persons.

Paragraph (6) limits the scope of sub-item (b) through two requirements.

Both Requirements Must Be Met.This is commonly called a share transfer resembling a business transfer.

However, paragraph (7) containsa deeming provision. For split-type company splits, share distributions, returns of capital, and similar events, if the percentage specified in the provision is at least 5%, paragraph (6) applies as though a transfer satisfying item (ii) above had occurred.Item (ii) May Be Satisfied Even Without an Ordinary Sale.

Item (v): Shares in Real Estate-Related Corporations

(v) Income from transfers of shares … in a corporation (limited toa real estate-related corporation)

Paragraph (8) defines this term.

For purposes of paragraph (1), item (v),a real estate-related corporationmeans a corporation in which, at any time fromthe day 365 days before the share transferuntil immediately before that transfer,at any time, the aggregate value of the assets listed below represents“fifty percent or more.”of the total value of its assets.

The listed assets are land and similar property in Japan (item (i)), shares in corporations whose ratio of such land and property is at least 50% (item (ii)), and shares in corporations holding those shares (items (iii) and (iv)).Items (iii) and (iv) contain a parenthetical restriction requiring that the corporation itself also hold Japanese land and similar property and these shares representing at least 50% of its total asset value.

Items (iii) and (iv) refer to each other, meaning thatas long as each tier meets the 50% test, the rule can apply regardless of how many tiers the ownership chain contains.

Paragraph (9) narrows the covered transfers by requiring that, on the reference date (December 31 of the preceding year), the specially related shareholders' aggregate holding bemore than 5% for listed shares and similar interests, or more than 2% otherwiseandandand that the transferor be one of those specially related shareholders or equivalent persons. Shares or interests held by the corporation itself are excluded from the issued shares or interests used as the denominator.

This captures a sale of shares in a company that owns land, rather than a sale of the land itself.

What to Check First

Note the Wording “At Any Time from 365 Days Before.”The Test Is Not Limited to the Moment Immediately Before Transfer.

There is alsoEverything Above Concerns Domestic Law.The allocation of taxing rights over share transfer gains under tax treaty differs by treaty. Even if domestic law treats the income as falling under item (iii), where the treaty contains different provisions concerning domestic source income, Article 162, paragraph (1), of the Income Tax Act provides that,to the extent of those differing provisions,the treaty rules apply.

No conclusion can be reached until the relevant country and the treaty's share transfer provisions have been examined.

Points that require care in practice

• Whose Holdings Are Aggregated for the 25%, 5%, and 2% Tests?The scope of specially related shareholders and equivalent persons is separately defined in paragraph (4) for item (iv)(b) and paragraph (10) for item (v). Additional parenthetical restrictions apply to holdings through partnerships or funds.
• At What Time and Using What Values Is the 50% Test for a Real Estate-Related Corporation Measured?The meaning of total asset value becomes relevant.
• Can You Avoid Japanese Tax by Selling After Relocating?These provisions, Exit tax, and the treaty must all be considered together.
• What About Transferring Your Company Shares to an Overseas Holding Company Before Selling?The scope of both item (iv)(b) and item (v) must be considered.
• Does the Buyer Have a Withholding Obligation?Share transfer consideration falls under a different item from Article 161, paragraph (1), item (v), of the Income Tax Act, which concerns consideration for land and similar property.
• Where Should the Tax Return Be Filed?Tax Agent The notification concerning

A Share Transfer Cannot Be Undone Once Completed.Consult us while considering a sale after moving overseas or a transfer to an overseas investor.

Legal basis

• Article 161, paragraph (1), item (iii), of the Income Tax Act (Income Arising from Transfers of Assets Situated in Japan)
• Article 281 of the Order for Enforcement of the Income Tax Act (Income Arising from Transfers of Assets Situated in Japan)
• Income Tax Act, Article 164 (Methods of Taxation of Nonresidents)
• Article 162 of the Income Tax Act (Domestic-Source Income Where a Tax Treaty Contains Different Provisions)
• Article 60-2 of the Income Tax Act (Special Provisions for Capital Gains, etc., in the Case of Departure from Japan)
• Capital gains provisions of the relevant tax treaties

An individual determination requires examination of share ownership and asset composition.