Withholding Tax and Tax Return Rules for Foreign Executives in Japan
Yoshio YamaguchiThis is the fourth part of the series. Below are links to the previous three parts:
- Japan Tax Rules for Foreign Business Visitors deals with Person A's short-term business trip to Japan on behalf of Company A.
- Withholding Tax for Foreigners Working at a Japanese Branch discusses Person A's short-term assignment to a Japanese branch of Company A.
- Tax Withholding and Filing for Foreign Workers in Japan focuses on Person A's assignment to a Japanese subsidiary as an employee.
This article will examine whether withholding tax is applicable and whether a tax return is required when a foreign individual (Person A) is dispatched to Japan by a foreign company (Company A).
This part will focus on a case where Person A, a foreign director at Company A, serves in this capacity at a Japanese subsidiary. This concerns directors of foreign-affiliated companies.
The tax treatment differs between foreign directors and foreign employees.
Foreign Director Person A's Residency Status
When a foreign director is dispatched from a parent company overseas to serve at a subsidiary in Japan, there are two possibilities: the individual may become a Japanese resident or remain a non-resident.
For instance, if Person A works at the Japanese subsidiary but continues to primarily work at the parent company overseas, only visiting Japan for board meetings, Person A would likely remain a non-resident because he does not establish a principal residence in Japan.
On the other hand, if Person A establishes a permanent residence or lives in Japan for more than a year, he would be considered a resident (non-permanent resident).
1.1 Non-Resident: When the Japanese Subsidiary Pays Compensation
1.1.1 Tax Scope for Payments by Japanese Subsidiaries to Non-Residents
Person A's salary may be paid partly by the Japanese subsidiary and partly by the overseas parent company. We will first focus on the portion paid by the Japanese subsidiary.
Since Person A is a non-resident, only income considered domestic source income is taxable in Japan. Therefore, if the salary paid by the Japanese subsidiary qualifies as domestic source income, Person A must pay Japanese income tax. The treatment of income for tax purposes differs between employees and directors.
As a general rule, for non-residents, the portion of the salary attributable to work performed in Japan is considered domestic source income (Income Tax Law Article 161, Paragraph 1, Clause 12). The portion related to work performed abroad is considered foreign source income and is not subject to Japanese income tax. When both domestic and overseas work periods exist, the salary is apportioned between the two periods to determine the amount of domestic source income.
However, an exception applies if the non-resident is paid as a director of a Japanese corporation. In this case, the portion of the salary related to work abroad is also treated as domestic source income. It is subject to Japanese taxation (Income Tax Law Article 161, Paragraph 1, Clause 12 (i), Income Tax Law Enforcement Order Article 285, Paragraph 1).
As Person A receives compensation as a director of the Japanese subsidiary, both the portion related to work performed in Japan and the portion related to work performed abroad are considered domestic source income and are subject to Japanese tax.
1.1.2 Withholding Tax Requirements for Non-Resident Payments by Japanese Subsidiaries
The Japanese subsidiary must withhold tax on the domestic source income it pays to non-residents at a rate of 20.42% (Income Tax Law Article 212, Paragraph 1).
1.1.3 Tax Filing Requirements for Non-Residents Paid by Japanese Subsidiaries
Non-resident directors are generally not required to file a tax return because the tax is fully settled through withholding tax (Income Tax Law Article 172, Paragraph 1).
Non-resident directors are generally not required to file a tax return because the tax is fully settled through withholding tax (Income Tax Law Article 172, Paragraph 1).
1.1.4 Exemption for Short-Term Stays: Non-Resident Payments by Japanese Subsidiaries
The short-term stay exemption applies only to individuals employed by foreign companies who work in Japan for a limited period and receive the salary paid by the foreign employer. Therefore, the short-term stay exemption does not apply to Person A's salary from the Japanese subsidiary.
1.2 Non-Resident: When the Overseas Parent Company Pays Compensation
1.2.1 Taxation Scope for Non-Resident Payments by Overseas Companies
As a general rule, for non-residents, only the portion of the salary attributable to work performed in Japan is considered domestic source income and subject to Japanese taxation. However, an exception applies if the non-resident serves as a director of a Japanese corporation. In that case, the portion of the salary related to work performed abroad is also considered domestic source income and is subject to Japanese tax.
But what happens when the overseas parent company pays compensation to Person A? Since the compensation from the overseas parent company is based on Person A's employment contract with that company and not on his role as a director of the Japanese subsidiary, only the portion of the salary attributable to domestic work is considered domestic source income and is subject to Japanese tax.
1.2.2 Withholding Tax Requirements for Non-Resident Payments by Overseas Companies
The overseas parent company is not required to withhold tax on the portion of Person A's salary related to work performed in Japan because it is paid by a foreign entity (Income Tax Law Article 212, Paragraphs 1 and 2). It would also be impractical to impose a withholding tax on overseas compensation.
The portion of the salary related to work performed abroad is considered foreign source income and is not subject to Japanese taxation.
1.2.3 Tax Filing Requirements for Non-Resident Payments by Overseas Companies
Person A is required to file a tax return in Japan for the portion of his salary related to work performed in Japan that has not been subject to withholding tax. The filing deadline is March 15 of the following year, and the applicable tax rate is 20.42% (Income Tax Law Article 172, Paragraph 1). However, if Person A qualifies for the short-term stay exemption, he will be exempt from Japanese tax.
1.2.4 Exemptions for Non-Resident Payments by Overseas Companies on Short-Term Stays
The short-term stay exemption applies to individuals employed by foreign companies and working in Japan for a limited period, provided the foreign employer pays the salary. Therefore, Person A's salary from the overseas parent company may be eligible for the short-term stay exemption, subject to specific procedural requirements.
2.1 Non-Permanent Resident – Payment by Japanese Subsidiary
2.1.1 Tax Scope for Resident (Non-Permanent) Payments by Japanese Subsidiary
2.1.2 Withholding Tax Requirements for Non-Permanent Residents Paid by Japanese Subsidiaries
Salary income received by Person A, a resident (non-permanent resident) from a Japanese subsidiary, is considered domestic-sourced income and is therefore subject to withholding tax (Article 183, Paragraph 1 of the Income Tax Act).
2.1.3 Tax Return Requirement for Resident (Non-Permanent) Payments by Japanese Subsidiary
In principle, residents are required to file tax returns. However, in the case of residents with employment income who have had withholding tax and year-end tax adjustments carried out by the payer, and in certain cases such as where the salary is 20 million yen or less, it is not necessary to file a final tax return (Income Tax Act, Articles 120 and 121, Paragraph 1). Since Person A is a director, his salary may exceed 20 million yen, so he must file a tax return.
2.1.4 Short-Term Stay Exemption for Resident (Non-Permanent) Payments by Japanese Subsidiary
The short-term resident exemption exempts non-residents who come to Japan from taxation in Japan, the source country of the income. Since we assume that Person A is a resident, the short-term resident exemption does not apply in this case.
2.2 Residents – Payment by Overseas Parent Company
