Impairment losses on shares in a subsidiary

Japanese judicial decisions

This case concerns a Japanese company which claimed a deductible impairment loss on shares in a recently acquired US subsidiary which it had re-capitalized.  The facts of the case reflect what is probably a relatively common commercial situation.



The taxpayer and plaintiff in this case were a manufacturer and distributor of musical instruments. Eleven months after acquiring shares in a US subsidiary (the ‘Company’) and injecting additional capital the Japanese parent claimed a tax deductible loss on its investment in the Company’s shares.

The responsible tax office asserted that because, given the company had been recapitalized post acquisition, it was not appropriate to recognize the “…clear deterioration in state of the assets….” of the Company required to claim impairment for Japanese tax purposes.  The taxpayer asserted that troubles with the management of the company were not a short term phenomenon but, owing to overstocking in inventory, were a long term, structural problem hence recovery in the state of the assets of the Company could not be foreseen.


The taxpayer’s claim was unsuccessful.  The decision noted a number of additional relevant facts:

It was noted that some held the view that an assessment of whether the state of the assets of the company had deteriorated should be made only by reference to relevant [financial reporting] amounts.  However, the state of the assets and the financial position of the company was foreseen when it was first acquired.  When the first post acquisition injection was made the probability of a second injection was also recognized.  To the extent that a long term view is taken and also looking at the overall picture, the position of the company was expected to improve.

Where capital was injected to correct a position such as the Company being technically insolvent [with liabilities being greater than assets] then, other than cases where such a development was unforeseen or new circumstances had arisen that could not have been predicted, it would not be appropriate to conclude that the Company’s assets had clearly declined in value and hence that a tax deductible impairment would be allowed.


The implication of the above decision for a Japanese taxpayer is that it is too simplistic to simply rely on a subsidiary’s accounts when determining whether or not the “…clear deterioration in value of the assets…“ required for tax deductible impairment has occurred.  Rather a holistic position should be taken, looking at future plans and potential recovery of the company and whether new circumstances that might indicate that assets had been impaired had arisen.

In the context of M&A or corporate recovery the case also illustrates that taking tax deductible impairment on investment in a newly acquired company may not be a straightforward matter, especially when funds are being reinvested in the company by the buyer.  An unstated presumption is that an acquirer or corporate sponsor can recognize future value in the company.  Without both evidence around the financial position of the company as well as evidence around a facts or economic circumstances that meant the assumptions about future value were wrong then claiming a tax deduction for impairment of the investment may be difficult.


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