Remitting Funds into Japan Has Tax Implications and May Result in a Tax Authority Enquiry

by Masami Imokawa, KPMG, Tokyo
(KPMG in Japan is a KPMG International member firm)

The random auditing of the personal tax affairs of foreign nationals living and working in Japan has started to increase in the last year.¹ The rise in individual audits is related to the frequency of large remittances from overseas into Japan made by foreign residents who have been keen to invest in the country. The audits have led to some taxpayers subsequently having to pay additional Japanese tax assessed, including penalties and interest, as a result of the remittances.

This article looks at changes in the structure of the audit activities, the tax rules regarding the remittance of funds into Japan by individuals, and their potential implications.

Background to the Audit of Foreign Nationals²

Generally, Japan's National Tax Agency (NTA) performs two types of individual tax audits for foreign nationals. The first is conducted by the Tokyo Regional Taxation Bureau (TRTB) and focuses on the application of and compliance with tax laws at the employer's premises. The second is conducted by corporate tax auditors of the regional tax offices and examines whether the appropriate reporting of taxable compensation and withholding tax have been administered in accordance with statutory requirements. Historically, it has been rare for foreign nationals to be contacted directly by the tax authorities, although it has been known to happen.

Recent Trends in Audit Activity

The tax authorities have recently restructured their audit activities so that they are able to review the tax affairs of foreign nationals. Previously, individual tax audits for foreign nationals were conducted by the TRTB via the employer. This task has now been partially transferred to regional tax offices that are auditing individuals directly. Various events may trigger an audit, and the size of a remittance or unusual financial transactions are two such events. The increase of remittances into Japan has given rise to increased audit activity targeting individuals as a consequence³.

Basis of Individual Taxation in Japan

There are two main types of taxpayers for Japanese tax purposes:

• Residents — individuals who have addresses in Japan and will live in Japan for more than one year, and
• Nonresidents — individuals who have lived in Japan for less than one year.

Residents are further classified as:

• Non-permanent Residents (NPRs) — individuals who do not possess Japanese citizenship and have had a residence/domicile in Japan for more than a year but less than five years in the last 10 years, and
• Permanent residents (PRs) — individuals who either possess Japanese citizenship or do not have Japanese citizenship but have resided in Japan for more than five years in the last 10 years.

NPRs are taxed on the greater of Japanese source income or the amount paid in and/or remitted to Japan. Japanese tax law allows NPRs to exclude from Japanese taxation that part of their compensation paid outside Japan which is related to work performed during workdays outside Japan. The benefits for overseas workdays is, however, reduced or lost entirely when such NPRs remit funds into Japan in excess of their Japanese sourced income for that year. The compensation relating to work days in Japan is considered Japanese source income and subject to tax.

However, PRs are taxed on their worldwide income while resident in Japan regardless of the source (this includes overseas investment income) and are not allowed a deduction for overseas business days. Remittances, therefore, may cause issues for NPRs, and also for PRs with respect to their worldwide income.

Due to the reduced scope of taxation available for NPRs compared to PRs, it has been common for many employers and tax advisors to structure an assignee's Japanese assignment length and payroll in such a way to benefit from the NPR status. When successfully managed, this has the potential to result in significant tax savings to the employer or employee (e.g., if not tax equalized).

Remittances into Japan

In recent years, the low lending rates available in Japan have encouraged many foreign residents to remit funds into Japan to purchase property either for investment or personal use. This is often undertaken without considering the implications of such large remittances on their Japanese tax affairs.

Remitting large amounts of funds has also exposed the potential non-compliance of certain PRs who have previously not properly or fully reported their worldwide incomes in Japan. This, in turn, has led to additional tax, interest, and penalties being assessed on such income for these individuals.

The following section looks at instances where remittances could trigger an individual tax audit.

Reporting Remittances: Procedure, Investigations, and Consequences of Non-compliance

If funds over Yen 2,000,000 (approximately US$19,000), are transferred into or out of Japan, the financial institution in Japan undertaking the transaction must file a report, detailing the transfer, with the tax authorities (new legislation will reduce the amount requiring a report to Yen 1,000,000 as of April 1, 2009). If funds over Yen 30,000,000 (approximately US$282,000) are transferred, the taxpayer is required to provide details of the transaction to the Ministry of Finance through the bank from which the remittance is made within 10 days of the remittance.

If a remittance of over Yen 30,000,000 is made by a method other than through a bank, it must be reported to the Minister of Finance through the Bank of Japan by the 20th day of the following calendar month. The banks routinely pass on remittance information to regional tax authorities.

It is our experience that, based on the information filed, the taxing authorities in Japan are increasing their review of remittances. Consequently, we are seeing more taxpayers receiving enquiries as to the source of money that has been remitted to Japan. Previously, the language barriers had made the tax authorities hesitant in approaching individuals, but our experience is that this seems no longer to be the case.

It is worth noting that if an individual is paid outside Japan by his or her employer, Japanese income tax is not required to be withheld from his or her compensation. The individual is required to settle his or her tax bill via estimated tax payments and with the filing of the tax return. Individuals who receive their compensation outside Japan, will usually need to remit funds into Japan in order to pay their taxes.

As a consequence, the result of an enquiry may simply be that the funds remitted were from employment income that has already been subject to Japanese income tax. However, the aim is clearly to determine whether amounts being remitted to Japan are from other sources not declared on an individual's tax return. An enquiry from the taxing authorities will require the individual to provide detailed information concerning the nature of the funds remitted as well as provide bank statements and compensation details. Ultimately, if the investigation brings to light income that has not been reported, then penalties and interest will be charged. The penalty imposed can be between 5 percent and 15 percent of the tax due and interest on underpayment of tax is currently 4.7 percent per annum.

Conclusion

Individuals with NPR status should monitor the amounts and nature of their remittances into Japan. Where possible, they should seek advice before remitting substantial amounts into Japan. PRs who are unsure if they have applied the Japanese tax rules correctly when reporting their worldwide income, may have potential exposure to enquiries when remitting funds into Japan.

If it is necessary to remit substantial amounts of money, individuals should be ready to show evidence of the source of the remittances to help reduce enquiries by the tax authorities. Should taxpayers receive an enquiry from the tax authorities, it is advisable that they:

• Contact their tax adviser, and
• Be prepared to cooperate fully.

Footnotes:

1 The points raised in this article concerning audit and remittance activities in Japan are based upon the first-hand knowledge and experiences of the IES practice in KPMG Tax Corporation, part of the KPMG International member firm in Japan.

2 For further information on this topic, see a prior article by B. Mischler, "Preparing for a Japanese Tax Audit of International Executives," The Expatriate Administrator, Issue 99-1. For additional information on this topic, see the following issues of KPMG LLP's Flash International Executive Alert publication: 2000-28 (2 March 2000) and 1999-68 (19 November 1999).

3 See footnote 1.

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY KPMG TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.