Tax Withholding and Filing for Foreign Workers in Japan

Continuing from previous discussions, this is the third part of a series that explores the withholding tax and tax filing requirements when a foreign company (Company A) dispatches a foreign employee (Person A) to Japan.

• Part 1 covered the case where Person A, employed by a foreign corporation (Company A), came to Japan on a short business trip.
• Part 2 examined the case where Person A worked for a branch of a foreign corporation (Company A) in Japan during a short-term business trip.
• In this third part, we will examine a scenario in which Person A, employed by the foreign corporation (Company A), works as an employee at a subsidiary (i.e., a foreign-owned company) in Japan.

The critical difference between the second and third parts is that, in the second part, the destination was a branch in Japan, while in the third part, it is a Japanese subsidiary. A branch is considered part of Company A, whereas a Japanese subsidiary is treated as a separate legal entity from Company A.

This article assumes there is no permanent establishment for non-residents.

Residency Status of Foreign Employee Person A

Let's examine two scenarios for Person A's residency status: when he remains a non-resident and when he becomes a resident. A resident is defined as someone who has a domicile in Japan or has had a place of residence for more than one year (Income Tax Act, Article 2, Paragraph 1, Item 3). Anyone not fitting this definition is classified as a non-resident.

Based on the following cases, we will examine the scope of taxation, whether withholding tax is required, the necessity of tax filing, and the application of tax treaties:

•  1(1): Person A, while remaining a non-resident, receives a salary paid by the domestic subsidiary.
•  1(2): Person A, while remaining a non-resident, receives a salary paid by the overseas parent company.
•  2(1) : Person A becomes a resident (non-permanent resident), and the domestic subsidiary pays his salary.
•  2(2): Person A becomes a resident (non-permanent resident), and the overseas parent company pays his salary.

1(1): Non-Resident Person A Receives Salary Paid by the Domestic Subsidiary

Taxable Scope for Non-Residents Receiving Salary from Domestic Subsidiaries

In Japan, non-residents with domestic-sourced income are subject to income tax (Income Tax Act, Article 161). There is no tax on foreign-sourced income.

For salary income, the portion related to work performed in Japan is considered domestic-sourced income and is taxed in Japan, while the portion related to work performed overseas is considered foreign-sourced income and is not taxed in Japan.

1.(1).a Withholding Tax Requirement for Non-Residents Paid by Domestic Subsidiaries

When a non-resident (Person A) receives salary payments in Japan, the payer (subsidiary) is required to withhold tax (Income Tax Act, Article 212, Paragraph 1). The withholding tax rate is 20.42% (Income Tax Act, Article 213, and Special Reconstruction Income Tax).

1.(1).b Tax Filing Requirement for Non-Residents Paid by Domestic Subsidiaries

No tax filing is required if withholding tax is deducted from a non-resident's income (Income Tax Act, Article 172, Paragraph 1).

1.(1).c Application of Tax Treaties and Short-Term Resident Exemption for Non-Residents Paid by Domestic Subsidiaries

If a tax treaty exists between Person A's country of residence and Japan, the short-term resident exemption may apply, potentially exempting him from Japanese taxation under certain conditions.

The short-term resident exemption applies when an individual employed by a company in a foreign country works in Japan for a relatively short period and receives a salary from that foreign employer. Generally, the requirements are as follows:

1. The individual's stay in Japan does not exceed 183 days.
2. The individual's salary is paid by an employer who is not a resident of Japan.
3. The salary is not borne by a permanent establishment (e.g., a branch) of the employer in Japan.

In this case, Person A's stay in Japan is less than 183 days, but since his salary is paid by a Japanese resident employer (the Japanese subsidiary), the second condition is not met, and the short-term resident exemption does not apply.

1(2): Non-Resident Person A Receives Salary Paid by the Overseas Parent Company

Taxable Scope for Non-Residents Paid by Overseas Parent Companies

Non-residents are subject to tax only on their domestic-sourced income. For salary income, the portion related to work performed in Japan is considered domestic-sourced income, and the portion related to work performed overseas is foreign-sourced income. It does not matter whether the overseas parent company or the Japanese subsidiary pays the salary.

1.(2).a Withholding Tax Requirement for Non-Residents Paid by Overseas Parent Companies

As a general rule, when a salary is paid to a non-resident abroad, the payer is not obligated to withhold tax (Income Tax Act, Article 212, Paragraph 1). However, if the payer has a business office in Japan, the salary payment is treated as made in Japan, and the payer is obligated to withhold tax.

1.(2).b Tax Filing Requirement for Non-Residents Paid by Overseas Parent Companies

If no withholding tax is deducted, a non-resident must file a tax return in Japan by March 15 of the following year. If the non-resident will no longer reside in Japan before March 15, they must file the return before leaving Japan. The applicable tax rate is 20.42% (Income Tax Act, Article 172, Paragraph 1).

1.(2).c Application of Short-Term Resident Exemption for Non-Residents Paid by Overseas Companies

Unlike the case where the Japanese subsidiary bears the salary, Person A's salary being paid by the overseas parent company satisfies the second condition for the short-term resident exemption. Therefore, the exemption may apply.

2(1): Resident Person A Receives Salary Paid by the Japanese Subsidiary

Taxable Scope for Residents (Non-Permanent Residents) Paid by Domestic Subsidiaries

2.(1).a Withholding Tax Requirement for Residents Paid byDomestic Subsidiaries

Residents, including Person A, are subject to monthly withholding on domestic and overseas salary portions (Income Tax Act, Article 183, Paragraph 1).

2.(1).b Tax Filing Requirement for Residents Paid by Domestic Subsidiaries

Residents are generally required to file a tax return (Income Tax Act, Article 120, Paragraph 1). However, if withholding tax and year-end adjustments have been made, and the annual salary is less than **20 million yen**, no tax filing is necessary (Income Tax Act, Article 121, Paragraph 1). Most salaried employees are subject to withholding and year-end adjustments and are not required to file a return. For more details, refer to this National Tax Agency page.

2.(1).c Application of Tax Treaties and Short-Term Resident Exemption

The short-term resident exemption applies only to non-residents, so it is not available for Person A once he becomes a resident.

2.(2): Resident Person A Receives Salary Paid by the Overseas Parent Company

Taxation Scope for Residents Paid by Overseas Parent Company

2.(2).Withholding Tax Requirements for Payments from Overseas Parent Companies to Residents

For payments of salary to residents, if the payment is made domestically, the payer is required to withhold tax (Article 183, Paragraph 1 of the Income Tax Act). However, if the payment is made overseas, there is no obligation to withhold tax.

For the portion of the salary paid by the overseas parent company that corresponds to the period of domestic employment, since the payment is made overseas, there is no withholding tax obligation. Additionally, the portion that corresponds to the period of overseas employment is considered foreign-sourced income and is not subject to taxation in Japan, so withholding tax is not required.

2.(2).b Filing Tax Returns for Payments from Overseas Parent Companies to Residents

Regarding the salary paid by the overseas parent company for the portion corresponding to Person A’s period of domestic employment, since no withholding tax has been deducted, Person A must file a tax return (Article 120, Paragraph 1 of the same law).

For the portion of the salary paid by the overseas parent company corresponding to Person A’s period of overseas employment, it is not subject to taxation in Japan, and therefore, a tax return is not required. However, if the funds are remitted to Japan, they may become subject to taxation, and filing a tax return would likely be necessary.

2.(2).c Year-End Adjustments for Payments from Overseas Parent Companies to Residents 

The domestic subsidiary is responsible for conducting year-end adjustments. The domestic subsidiary is believed not to include the salary paid by Parent Company A in the year-end adjustment. This is because the employer makes year-end adjustments on salaries paid by Article 190 of the Income Tax Act. Generally, these adjustments are conducted by the salary payer who has received a submitted declaration of dependent deductions.

2.(2).d Application of the Short-Term Resident Exemption

The short-term resident exemption applies to non-residents who are staying in Japan for a short period. In this case, since Person A is considered a resident of Japan, it is believed that the short-term resident exemption does not apply.

Conclusion

The withholding tax and tax filing requirements for foreign employees dispatched to Japan by foreign-owned companies depend on the employee’s residency status and the entity paying the salary.

Non-residents are taxed only on income related to work performed in Japan, with withholding requirements varying based on whether the payer is a domestic subsidiary or an overseas parent company.

Residents, including non-permanent residents, are taxed more broadly, with the tax scope extending to both domestic and foreign-sourced income, depending on remittance.

Understanding these distinctions is crucial for ensuring compliance with Japanese tax regulations and taking advantage of potential exemptions under applicable tax treaties.