Under the Japanese withholding tax system the Payor of Japanese source income on which withholding tax applies has an obligation to withhold the tax concerned and pay it over to the tax authorities. A Payor who withholds insufficient tax may be liable to penalties and interest in respect of the underpayment. Procedures also exist to repay the Payor for certain taxes incorrectly over-withheld.
This article reviews the sanctions applied to under payments of withholding tax and procedures that are applied to correct withholding tax errors. Please also refer to this article that includes a definition of relevant terms and explanation of the legal framework concerned. Further information about the scope and rates of Japanese withholding tax can be found here.
Procedure for withholding tax payment
The Payor of income on which Japanese withholding tax (‘WHT’) applies is obliged to deduct the WHT when making a payment on which it is imposed and remit the payment to the Japanese tax authorities by the tenth day of the month following the month in which the payment was made (or one month after that date if the payment was made overseas, for example through a foreign branch of a Japanese company).
Withholding tax is not deducted or insufficient withholding tax is deducted
The obligation to collect the correct amounts of Japanese WHT is imposed on the Payor of the income. Where the tax authorities become aware, usually through audit, that WHT has been underpaid the authorities will issue a WHT Collection Notice (納税通知) to the Payor prior to payment coming due.
The Japanese tax authorities usually conduct withholding tax audits separately from corporation tax audits. Accordingly, corporate tax auditors will not tend to focus specifically on identifying withholding tax issues but it is common, during the course of an audit, for them review documentation that may reveal withholding tax problems, such as details of interest paid to overseas related parties of the taxpayer under audit. If they identify WHT deficiencies they will normally seek to recover any WHT underpaid.
In contrast it is more rare, although not unknown, for the specialist withholding tax auditors to identify issues outside of their own specialist withholding tax area. These auditors will, however, first focus on the correctness of imposition of WHT across all sources of income, with employee salaries, interest, royalties and payments of rent being common areas of review. For a large organization responding to the audit may require extensive co-ordination across the human resources, finance and other operational groups.
Where the Payor has received a WHT Collection Notice he is required to remit the tax concerned to the tax authorities by the time limit stated in the notice.
Where the WHT deficiency has been identified further to an audit a 10 per cent penalty of the amount of tax under-withheld will, except in the rarest of circumstances, be applied.
Where a WHT deficiency is voluntarily identified and corrected by the Payor prior to their become aware that an audit will commence, penalties would normally be imposed at 5 per cent of the amount of the WHT under-withheld.
Interest charges are not normally imposed where withholding taxes are paid prior to the due date of payment arising with the issue of the WHT Collection Notice.
Given that the obligation to withhold taxes is an obligation of the Payor and not the Payee, the Payor has no right of recovery from the Payee of interest or penalties. Furthermore the tax authorities only have a right of recovery for the WHT tax concerned against the Payor, and not against the Payee.
The Payor may correct an underpayment of WHT by either adjusting the amount of tax withheld from future payments made to the same Payee or by requesting repayment from the Payee, such request ultimately being enforceable in the Japanese courts.
The Payee in able to claim as a tax credit the amount of WHT that should have been deducted by the Payor on its tax return (where the Payor is obliged to file a a tax return) regardless of whether or not the Payor had, at the time of credit, correctly remitted the WHT to the tax authorities.
Given the above rules a Payee should be alert to identify payments of income that are made withhout the deduction of WHT, but on which WHT should have been imposed, and alert the Payor accordingly.
Where the Payee does not identify such under-withholding on a timely basis he is at risk of facing a demand for the WHT from the Payor at a much later date (perhaps as the result of a withholding tax audit of the Payor) and then facing practical difficulties with the re-filing of a tax return to claim an appropriate credit for the WHT if he did not so claim a credit originally.
Repayments of over-withheld taxes
Where the Payor has over-withheld WHT, the overpayment (in Japanese the ‘過誤納金’ and below the WHT Overpayment) can be refunded to the Payor on the making of an appropriate application to the tax authorities.
Tax Instruction 181-223 – 6 outlines three circumstances where a WHT Overpayment can arise, and by implication refund will be made in these circumstances. Such refund would, of course, normally be made following a review by the authorities of the precise facts and circumstances that gave rise to the WHT Overpayment claim.
The circumstances specified in the Tax Instruction are as follows:
- The Payor has made an error in calculating the amount of WHT due giving rise to a WHT Overpayment.
- The Payor has made an error paying the underlying income on which WHT applies and the WHT Overpayment has arisen on the repayment of the income concerned.
- The amount of the underlying income on which WHT was due was contingent and hence, owing to a repayment of the income concerned (reflecting the relevant contingencies) a WHT Overpayment has arisen.
Given that all of the above are potentially quite common commercial circumstances, their being addressed in the Tax Instruction is certainly helpful.
Relationship between the Payor, Payee and the authorities in relation to a WHT Overpayment.
Where a WHT Overpayment has arisen the Payor is entitled to repayment from the tax authorities as explained above.
A Payee who has suffered from a WHT Overpayment however has no claim against the tax authorities for its recovery, but instead may treat the amount over-withheld as the failure to pay a debt due (in Japanese a ‘債務不履行’ or ‘saimu fu rikou’) and hence may commence procedures to recover the debt concerned.