JAPAN Trends and Developments Contributed by: Yutaka Shimoo, Anderson Mōri & Tomotsune
Scope of income included If the CFC Rules apply, all or part of the income of the CFC is generally included in the Japanese taxpayer’s income in proportion to the taxpayer’s ownership or control ratio (eg, the ratio of shares held to total issued shares). As an exception, where the effective tax rate of the CFC is less than 20% (or less than 27% in the case of a shell company), specific exemption or inclusion rules may apply under the regime. Furthermore, if a CFC (other than a shell corporation) satisfies all of the requirements below, then (as a gen - eral rule) only “passive income” (such as dividends and interest) is included, rather than the CFC’s full income: Business requirement The principal business of the CFC is not primarily any of the following – • holding shares (excluding certain supervisory or management-type activities); • licensing or otherwise exploiting intellectual prop - erty; or • leasing ships or aircraft. Substance (physical presence) requirement The CFC has the physical presence (personnel, office and other facilities) necessary to conduct its principal business in the jurisdiction where its head office is located. Management and control requirement The CFC actually manages, controls and operates its business in the jurisdiction where its head office is located. Non-related party requirement or jurisdiction requirement Either – • the CFC mainly engages in transactions with non-related parties (in the case of certain speci - fied business types such as leasing, banking, trust, financial instruments, insurance, water transport, air transport, or aircraft leasing); or
Recent Trends in Japan’s Controlled Foreign Company Rules Japan’s Controlled Foreign Company Rules (the “CFC Rules” or “CFCR”) require that certain Japanese tax residents (both individuals and corporations, col - lectively “Japanese Residents”) include in their own taxable income all or part of the income of a foreign corporation they control, particularly where that for - eign corporation is located in a low-tax jurisdiction (ie, where the effective tax rate is low). Since their introduction in 1978, the CFC Rules have been one of the most significant topics in Japanese tax practice. In particular, following the 2019 tax reform, which substantially revised the CFC regime, the rules have become more complex and have led to an increase in disputes between the Japanese tax authorities and taxpayers. Outline of the CFC Rules As a general principle, the CFC Rules may apply where: • a foreign corporation is “controlled” by Japanese Residents (including, but not limited to, a taxpayer who is a Japanese Resident); and • the taxpayer holds at least 10% of the issued shares or voting rights of that controlled foreign company (CFC), or otherwise has de facto control over the CFC. Whether a foreign corporation is treated as a CFC is determined based on one or more of the following criteria: • the majority of the issued shares or equity interests are held, directly or indirectly, by Japanese Resi - dents; • the majority of the voting rights are held, directly or indirectly, by Japanese Residents; or • Japanese Residents have de facto control over the foreign corporation, taking into account not only rights to residual assets and any contracts or agreements governing the disposition of those assets, but also other equivalent circumstances.
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