As noted in this post on Tax Based Capital, the Japanese tax system includes concepts similar to “outside basis” and “earnings and profits” found in the US tax code. In the Japanese tax system Tax Based Retained Profits (in Japanese 利益積立金) are conceptually similar to US earnings and profits, although the detailed rules in the Japan tax system are of course very different.
However like the US, the underlying intent of the Japanese rules is to tax the return on a shareholders investment appropriately as either income or capital gain or loss. The distinction may be very important for tax purposes given a company may be able to apply the Japanese Dividends Received Deduction to a receipt of Tax Based Retained Profits but would treat a capital gain or loss as either taxable or deductible at the full Japanese corporate tax rate.
This post lists up items that are included in Tax Based Retained Profits. The amount can also be calculated from Schedule 5 of a Japanese tax return.
Calculation of Tax Based Retained Profits
Below is a listing of items that either increase or decrease the balance of Tax Based Retained Profits. Some of these items are technical, so please refer to related posts or links where indicated.
Items increasing Tax Based Retained Profits
- Net income reported for tax purposes each year
- Amounts qualifying for the Dividends Received Deduction
- Dividends received from foreign companies that qualify for dividend exclusion
- Repaid taxes not included in taxable revenue
- Amount of brought forward tax loss included as a deductible
- Gain received at the time of establishment of a Medical Care Company
- Amount of Tax Based Retained Profits carried over on a Tax Qualified Merger
- Amount of Tax Based Retained Profits carried over on a Tax Qualified Bunkatsu Style Corporate Split
- Special deduction related to new mining expenses
- Special deductions against revenue or business income allowed under the special taxation measures law (STML 65 no 2 – 65 no 5)
- Special deduction allowed to fishing associations against retained profits (STML 61)
- Where a Specified Foreign Subsidiary under the Japanese THCML has distributed income, the amount specified as taxable included in deductible income
- Other items specified as included in Tax Based Retained Profits
Items reducing Tax Based Retained Profits
- Amount of loss for each year
- Corporation tax expected to be paid (excluding interest on repayment of excess taxes and interest and penalties)
- Local prefectural taxes or city taxes expected to be paid
- Dividends out of Profit or Dividends out of Surplus (including interim dividends and excluding deemed dividends)
- Excess amounts exchanged in a Non Tax Qualified Bunkatsu Style Corporate Split
- On a Capital Repayment, the amount paid in excess of the Capital Repayment itself.
- On a purchase of own shares, the amount paid in excess of the Capital Repayment
- The amount of Tax Based Retained Profits carried over into the Corporate Split Successor Company on a Tax Qualified Bunkatsu Style Corporate Split
- Other items regulated as reducing Tax Based Retained Profits
Points on Tax Based Retained Profits
Some other important points to note about Tax Based Retained Profits are as follows:
- In principle if a transaction does not qualify as a Capital Transaction (changing the amount of Tax Based Capital) then it will be treated as increasing or decreasing Tax Based Retained Profits.
- As a tax concept, Tax Based Retained Profits has no direct relation to retained earnings reported on a companys balance sheet for accounting purposes.
- Any amounts disallowed for tax purposes (e.g. excess depreciation recorded for accounting purposes) are still included in Tax Based Retained Profits – i.e. these would have been added back in the tax return and and increased net income reported for tax purposes.