Policy Proposals Business Law Proposal for Fiscal 2019 Tax Reform
This proposal has been prepared with a primary view to creating "Society 5.0" by accelerating tax, regulatory, and other reforms, inspiring innovation throughout society, and raising productivity.
2. Implementation of taxation measures aimed at fully realizing Society 5.0
Japan should aim to reduce the effective corporate tax rate to around 25% in a manner that substantively alleviates the tax burden, in the light of the reduction of that rate implemented in the United States, France, and other major developed countries.
In addition, the research and development tax credit incentives need to be drastically improved from the perspective of facilitating innovation further. Specifically, we propose the following:
Regarding the total expenditure-based tax credit system whereby a certain percentage of total research expenses can be deducted from corporate taxes, the maximum deduction allowed should be raised from the current 25% to 30% of corporate taxes.
Other necessary revisions include the relaxation of the requirements for the tax credits for research and development that focuses on open innovation and the development of new services.
3. Consumption tax rate hike, and automotive and housing taxes
The consumption tax rate hike from 8% to 10% that is scheduled for October 1, 2019, must be implemented as planned. At the same time, sufficient taxation and budget measures should be taken with respect to support for purchasing automobiles and homes to curb demand fluctuations. With regard to automobiles in particular, given uncertainty over how the trade issues will play out, substantial reduction should be made to the taxes on both the acquisition and holding of automobiles.
4. International taxation
(1) Controlled foreign company rules
The reduction of the U.S. federal corporate tax rate from 35% to 21% leads to the risk that the income of the U.S.-based limited liability companies (LLC) and other subsidiaries of a Japanese corporation may be attributed to that corporation for taxation purposes under Japan's controlled foreign company (CFC) rules. If this risk materializes, double taxation by the United States and Japan may increase, resulting in heavier tax and administrative burdens.
To prevent this from happening, we urge the Japanese government to consider the lowering of its CFC rule exemption threshold to around 25%. If lowering the threshold is difficult, then the government should introduce criteria to determine the application of the CFC rules, treating a pass-through entity (such as an LLC) and its members as a single entity. With respect to tax consolidation, too, consideration needs to be given to a mechanism whereby a consolidated group as a whole can be assessed as a single entity.
(2) Interest limitation rule
The introduction of interest limitation rules as recommended in the OECD's final report on base erosion and profit shifting (BEPS) could have a significant impact on Japanese corporations, especially those actively expanding business overseas or having substantial debt following mergers and acquisitions. Deduction limitations should, therefore, be imposed solely on interest paid to foreign related parties. Furthermore, tax-exempt dividends should not be excluded from EBITDA. We also consider it inadvisable to introduce the group ratio rule as it is difficult to accurately measure the amount of interest on a country-by-country basis.
(3) The commensurate with income standard
The commensurate with income standard for the transfer of hard-to-value intangibles should not be introduced in haste as it may lead to taxation using hindsight. In the event that the introduction of the standard cannot be avoided, clear criteria for applying the standard must be established, with the effort being made to render the standard applicable to extremely limited situations. At the very least, cases to which the transactional net margin method and other conventional transfer pricing methods have been consistently applied in practice should never be subject to taxation based on this standard. We also request that statute of limitation of correction be maintained.
(4) Transfer pricing documentation
A framework should be considered whereby inquiries into an entity's country-by-country reports (CbCR) and master file will be directed to the tax administration of the country of domicile of the parent company, which will also act as a single contact point in handling communication with tax administrations in other jurisdictions. In that regard, we hope for the progress of the International Compliance Assurance Programme launched by the OECD's Forum on Tax Administration. We also request that master and local files be reexamined in the course of CbCR review toward 2020, with the aim of standardizing the content of these files among all countries.
(5) Digital economy
If a change were to be made to international taxation rules, there could be an impact not only on highly digitalized businesses but also on all corporations doing business internationally.
At present, we cannot express an opinion with certainty regarding the relationship between "data and user participation", and value creation. However, even if "data and user participation" justifies nexus, careful discussion needs to be separately made about profit allocation, taking into account consistency with the current transfer pricing regime and rules on the attribution of profits to PEs.
It makes some sense to point out that a broad discussion is needed not only about how to handle highly digitalized businesses but also about international taxation as a whole. However, we are concerned that such discussion may result in taxation based on unclear definitions or inconsistent with the economic reality; or may readily lead to an international discussion on the enhancement of source country taxation, taking advantage of a debate on digital economy.
In any case, no country or region should unilaterally impose taxes. We expect that the OECD and the G20 will multilaterally solve this issue.
(6) Tax treaties
We request that the Japanese government publish guidance (synthesized text) to clarify how the individual provisions of tax treaties it has concluded with other countries will be amended by the provisions of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS. The government is also called on to spread that initiative to other signatories to said multilateral convention. Additionally, we expect that the OECD will properly monitor how individual countries are working toward the international harmonization of interpretation and enforcement regarding the scope of, and attribution of profits to, PEs.
In order to resolve tax disputes, we consider it crucial for tax treaties to include provisions stipulating corresponding adjustments and arbitration. We also hope that the revised Japan-U.S. tax treaty will be swiftly ratified by U.S. Congress.