This post is the first in a series looking at how the return of funds to shareholders is treated for Japanese tax purposes. Funds can be returned to a company’s shareholders through dividends, deemed dividends, share-buy backs, return of surplus on a liquidation and other transactions (below ‘Shareholder Distributions’).
In order to understand how Shareholder Distributions are taxed it first helps to understand the Japanese company law that defines and regulates them. The ‘Statement of Movements in Shareholders Capital’ gives an analysis of different components of shareholder funds for a Japanese company – for example showing whether Capital or Surplus – and the reduction in these components in turn determine to what extent a Shareholder Distribution is a return of capital or distribution for Japanese corporate law purposes. For Japanese tax purposes a separate tax attribute, Tax Based Retained Profits, determines whether a Shareholder Distribution is taxed as a return of capital or as a dividend. The corporate law position is important for tax planning purposes in that any Shareholder Distribution has to comply with criteria of the corporate law, for example dividends have to be paid out of the Amount of Distributable Surplus. However the corporate law position will not determine directly the Japanese tax treatment of a Shareholder Distribution.
Statement of Movements in Shareholders Capital
Here is an English translation of the disclosures required for the Statement of Movements in Shareholders Capital (the ‘Statement’). Disclosure is governed by the Japanese Financial Accounting Standards Board (JFASB) and the related regulations in Japanese can be found here. There is also an IASF convergence disclosure draft relating to disclosures required for shareholders’ funds.
Please follow the links below for more details on the terms shown in the statement.
- Core Capital – an amount that can only be returned to shareholders after procedures to protect shareholders
- Legal Reserves
- Capital Surplus and Capital Reserve – capital surplus cannot exceed Core Capital
- Profit Surplus and Profit Reserve
- Appropriation of Own Shares or Extinguishment of Own Shares
- Dividends out of Surplus
Relationship with the Japanese Corporate Law
The Japanese Corporate Law defines the above terms and regulates movements between the different accounts that make up the overall capital structure of the company. English translations of Japanese Corporate Law can be found here and here. The diagram linked here summarizes some of the definitions and regulations relating to movements between these accounts and relating to when a Japanese company can repurchase is own shares. Hold the cursor over the boxes to see an English translation of the article referred to.
A few important corporate law points are as follows:
- When a company issues shares, the increase in capital is the value of the assets (normally cash) contributed as consideration by the shareholders, not the face value of the shares.
- On an issue of shares the company can allocate the increase between Core Capital and Capital Surplus. However the amount allocated to Capital Surplus cannot exceed the amount allocated to Core Capital.
- On making a Dividend out of Surplus, one tenth of the amount must be allocated to a Legal Reserve (i.e. the Profit Reserve)
- a shareholders meeting can approve a Dividend out of Surplus whenever such a meeting is held provided the company has an Amount of Distributable Surplus. A Board of Directors can declare an Interim Dividend once a year provided allowed by the company’s articles and other required procedures are followed.
The following posts will address how the Amount of Distributable Surplus is calculated.