Japanese CFCs – “Non Related Person Standard Business”

March 16, 2010  |  Japanese CFC

Japanese jizou like figures

Introduction

The Japanese tax haven countermeasures rules (‘THCML’ similar to US Subpart F and UK CFC rules) can exempt certain companies (Specified Foreign Companies or ‘SFS’s) whose foreign undistributed reserves would otherwise be subject to Current Taxation from such Current Taxation if the main business of the SFS meets certain criteria.

For certain specified businesses carried out by an SFS, in order for the business to be so excluded, more than 50% of its activity has to be with unrelated persons.  Article 39-17(2) of the Special Taxation Measures Law Enforcement Order defines how this activity is measured. This post translates the definition of the criteria for the different business concerned and comments on how the definition may be applied in practice.

Note that for a foreign subsidiary to be treated as an SFS, or possibly excluded from being an SFS, then other criteria apply around ownership, tax rate and activities. Please click on the tags or related links posts to see further discussion of this area.

Heading

The below notes that for the specified businesses when the circumstances described apply then the rules in Article 66-6-4(1) will apply to allow the SFSs carrying out those businesses to be exempted from Current Taxation provided other relevant criteria are met.

2  法第六十六条の六第四項第一号 に規定する政令で定める場合は、同項 に規定する特定外国子会社等の各事業年度において行う主たる事業が次の各号に掲げる事業のいずれに該当するかに応じ当該各号に定める場合とする。

Click on the link below for the business concerned:

Wholesale business

Summary translation: Wholesale business – when (i) transactions with persons other than related persons make up more then 50% of the share of the total “Amount Dealt With on Sale”, being the amount of revenue earned for the financial year concerned through the sale of inventory (in the case where, for the financial year concerned, commission is received for acting as an agent in purchases or sales of inventory assets or for inter-mediating purchases or sales of assets, then the amount of the purchase and sales transactions that were the basis for such commissions received should be included); and (ii) when transactions with persons other than related persons make up more then 50% of the share of the total “Inventory Purchase Amount”, being the acquisition price of inventory during the financial year concerned (in the case where for the financial year concerned commission is received for acting as agent in purchases or sales of inventory assets or for inter-mediating purchases or sales of assets, then the amount of the purchase and sales transactions that were the basis for the commission received should be included).

Comments: Wholesale businesses have to meet the “non related person” standard in relation to both the revenue from sales of inventory and the cost of purchases of inventory. This makes it difficult for a foreign subsidiary of a Japanese company acting purely as a distributor for its parent to meet this standard give that the it would probably purchase the vast majority of its inventory from its parent. Similarly a manufacturing subsdiary who purchases goods locally and then processes and on sells components or similar to its parent may have trouble qualifying.

一  卸売業 当該各事業年度の棚卸資産の販売に係る収入金額(当該各事業年度において棚卸資産の売買の代理又は媒介に関し受け取る手数料がある場合には、その手数料を受け取る基因となつた売買の取引金額を含む。以下この号において「販売取扱金額」という。)の合計額のうちに関連者(当該特定外国子会社等に係る法第四十条の四第一項 各号、第六十六条の六第一項各号、第六十八条の九十第一項各号及び前項各号に掲げる者をいう。以下この項及び次項において同じ。)以外の者との間の取引に係る販売取扱金額の合計額の占める割合が百分の五十を超える場合又は当該各事業年度において取得した棚卸資産の取得価額(当該各事業年度において棚卸資産の売買の代理又は媒介に関し受け取る手数料がある場合には、その手数料を受け取る基因となつた売買の取引金額を含む。以下この号において「仕入取扱金額」という。)の合計額のうちに関連者以外の者との間の取引に係る仕入取扱金額の合計額の占める割合が百分の五十を超える場合
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Banking business

Summary translation: Banking business – when (i) for the financial year concerned out of the total amount of interest received, more than 50% is received from unrelated parties and (ii) when for the financial year concerned out of the total amount of interest paid more than 50% is paid to unrelated parties.

Comments: The Japanese term used in the above test is 受入利息 “interest received” and 支払利息 “interest paid”. While this is a natural measure to use for a banking business it does ignore the fact that foreign banking subsidiaries of Japanese banks may receive income other than interest such as comissions, gains or losses on sales of marketable securities traded on its own account etc. Comments on the application of this test given these omissions are welcome.

二  銀行業 当該各事業年度の受入利息の合計額のうちに当該受入利息で関連者以外の者から受けるものの合計額の占める割合が百分の五十を超える場合又は当該各事業年度の支払利息の合計額のうちに当該支払利息で関連者以外の者に対して支払うものの合計額の占める割合が百分の五十を超える場合
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Trust business

Summary translation: Trust business – where for the financial year concerned out of the total amount of trust fees received more than fifty percent is received from persons other than related persons.

三  信託業 当該各事業年度の信託報酬の合計額のうちに当該信託報酬で関連者以外の者から受けるものの合計額の占める割合が百分の五十を超える場合
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Securities business

Summary translation: Business Transacting in Financial Products – when for the financial year concerned out of the total amount of comissions received (including profits arising from the purchase and sale of marketable securities) more than half of the commission received has come from persons other than related persons.

Comments: The Japanese term for the business – 金融商品取引業, translated here as a ‘Business Transacting in Financial Products’, seems broader than the term ‘Securities Business’ and may imply reference to the businesses covered by the Japanese ‘Financial Products Transactions Law’. The editor has a couple of points about the definition:

  • Gains (and presumably losses) from trading in marketable securities are included in the definition of “comissions received” for the purposes of the test. However the Japanese definition of marketable securities may not be broad enough to include many financial transactions that a foreign securities company may typically be involved in on its own account. For example, mark to market gains or losses on derivatives or physical commodities may not be included in gains or losses from marketable securities but would very often be items of income earned by foreign securities companies running a derivatives or commodities business.
  • It is not unusual in a global trading context for traders in one location to book transactions with unrelated parties in the accounts of another related party entity in a jurisdiction different from the SFS (perhaps one that runs a globally traded book) and then be rewarded by transfer pricing. Such transfer pricing adjustments may be treated as comission income from a related party when included in the calculation and thus making it difficult to exempt the SFS from Current Taxation, even though the underlying economic activity may mainly be occuring in the country of incorporation of the SFS. This is unfortunate in that the intention of the legislation would have been to give relief to an SFS that did have real economic activity the jurisdiction in which the SFS was incorporated.

四  金融商品取引業 当該各事業年度の受入手数料(有価証券の売買による利益を含む。)の合計額のうちに当該受入手数料で関連者以外の者から受けるものの合計額の占める割合が百分の五十を超える場合
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Insurance business

Summary translation:Insurance business – for the insurance premium income for the financial year concerned, insurance premium income received from unrelated parties (when such insurance premium income is reinsurance commissions, limited to re-insurance premiums related to insurance of assets held by unrelated parties or where responsibility for compensation for losses of unrelated parties) is more than 50% of the total insurance premium income.

Comments:This condition seems to prevent Japanese companies exempting captive insurance companies from the THCML and also prevent reinsurance in relation to risks held by related parties being “back to backed” through unrelated companies to a foreign subsidiary that was trying to avoid the application of the THCML.

五  保険業 当該各事業年度の収入保険料の合計額のうちに当該収入保険料で関連者以外の者から収入するもの(当該収入保険料が再保険に係るものである場合には、関連者以外の者が有する資産又は関連者以外の者が負う損害賠償責任を保険の目的とする保険に係る収入保険料に限る。)の合計額の占める割合が百分の五十を超える場合
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Air and marine transport

Summary translation: Air and marine transport – when out of the total amount of revenues from the loan or fees for passage of marine vessels or aircraft, more than 50% of such revenue is from persons other than related persons.

六  水運業又は航空運送業 当該各事業年度の船舶の運航及び貸付け又は航空機の運航及び貸付けによる収入金額の合計額のうちに当該収入金額で関連者以外の者から収入するものの合計額の占める割合が百分の五十を超える場合
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Deeming of intermediated transactions as being transactions with related parties

The following passage below notes that when transactions are made with a related person but are carried out indirectly through the intermediation of an unrelated person (“関連者以外の者…を介在させて間接的に行われている場合”) then unless “appropriate reasons” are recognised for such intermediation the transactions are deemed as being made with the related person for the purposes of the above test. The Japanese term for “appropriate reasons” – “相当の理由” is as vague as the English translation suggests.

3  前項に規定する特定外国子会社等と当該特定外国子会社等に係る関連者との間の取引が、当該特定外国子会社等に係る関連者以外の者(以下この項において「非関連者」という。)を介在させて間接的に行われている場合には、当該非関連者を介在させることについて相当の理由があると認められる場合を除き、当該特定外国子会社等と当該非関連者との間の取引は、当該特定外国子会社等と当該関連者との間において直接行われたものとみなして、前項各号の規定を適用する。

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