Financial Services Tax Reform

by Nick Walters

More of the same, please

Many articles analysing taxation of the financial services industry in Japan look at the challenges many foreign operators face: a high tax rate for corporations and individuals; lack of a clear beneficial funds regime (such as that in Hong Kong and Singapore) to encourage fund investors and managers; and an inspection regime that some perceive as being too strict, bureaucratic and time-consuming.

Recent tax reforms, however, have seen the government take a number of steps to improve the situation, which should be recognised and encouraged.

In the 2008 tax reform, the risk of independent agents — such as brokers and lawyers — creating a taxable presence of a foreign investor through their activities in Japan was removed by a legislative change that brought the domestic law in line with many of the treaties Japan has entered into with foreign countries. This was followed by a consultation process culminating in the Financial Services Agency’s publishing guidance documents for the application of the new rules for fund managers.

The tax reform in 2009 saw further exemptions for some overseas fund investors, with the exemption of certain overseas partners being deemed to have a taxable presence in Japan, or being subject to tax on certain gains they realise on the disposal of shares in Japanese firms. Some say these rules are too limited in their application; in particular they do nothing to reduce the tax exposure of fund managers. However, it is undeniable that the new rules allow fund managers to have greater certainty about their investors’ tax position when marketing Japanese investments to potential fund investors.

With the 2010 tax reform, meanwhile, we saw two steps that should encourage the financial services industry. The first is clearly the exemption for foreign investors from Japanese tax on corporate bonds issued by Japanese firms. This brings Japanese enterprises in line with their overseas competitors, many of which already enjoy a similar exemption, and with Japanese government and municipal bonds that have been eligible for such an exemption for some time.

The second step is the open, consultative process that led up to the announcement of the 2010 tax reform proposals. This was a welcome development, and one that suggests a movement towards a tax reform process in which the voice of industry participants will be increasingly heard.

So, while I am not suggesting that recent tax reforms are quite up there with “better sanitation, medicine, education, irrigation, public health, roads, a freshwater system, baths and public order”, there are clearly many encouraging signs of changes to the tax regime in Japan that provide a number of opportunities for players in the financial markets to efficiently manage their tax exposure. These represent opportunities for the financial services industry to increase its activities in a tax-efficient manner, opportunities that we should take advantage of to encourage future tax reforms.

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