4. Public Bond Taxation

4.
Public Bond Taxation
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4.1.
Domestic Corporations
The income tax and the prefecture inhabitants tax are levied on interest paid to corporations
except for interest on bonds held by non-taxable corporations and registered bonds held by the
financial institutions designated by Cabinet Order (the income tax: withholding at source, the
prefecture inhabitants tax: special collection). Such taxation is made mainly due to technical
issue on taxation. Corporate taxpayers will be differentiated from individual taxpayers at the
time of interest payment and the withholding tax and the prefecture inhabitants tax on the
interest that the corporation paid can be deducted from the national corporation tax and the
prefecture inhabitants tax per capita.
4.2.
Domestic Non-taxable Corporations
Interest on public bonds that are held by non-taxable corporations specified in the Income Tax
Law to be paid on and after April 1, 1988 is not taxable in proportion to the actual holding
period. Gains from original issue discount on discount bonds are subject, upon issuance, to
withholding of income tax at source. Therefore, the withholding income tax is added on to
the purchase price. This is because non-taxable treatment upon issuance is technically
difficult. To provide relief, a refund of income tax can be claimed at maturity.
Non-taxable corporations specified in the Income Tax Law
< Prefectures, Municipalities, Special Wards, Associations under Local Public Entities,
Official Duty Bureaus
< Public Corporations (Japan Highway Public Corp., Housing and urban Development Corp.,
Japan National Oil Corp. etc.)
< Public Loan Corporations (Government Housing Loan Corp., Japan Finance Corp. for
Municipal Enterprises, Medium and Small Enterprise Finance Corp.)
< Corporate juridical persons, Foundations, Chamber of Commerce and Industry, Social
Welfare Corporations, School Corporations, Religious Corporations
< Bar Association, Federation of Japan Tax Accountants, Japan Scholarship Foundation,
Japan External Trade Organization (JETRO), Japan Broadcasting Corp. (NHK)
< Health insurance cooperatives, Fishing Boat Insurance Cooperatives, Agricultural
Cooperative Association and its Federation, Mutual Aid Society of Government Officials,
Mutual Aid Society of Private School Personnel, Mutual Aid Corporation for Medium and
Small Enterprise Retirement Allowance, Credit Guarantee Association
Interest on the investment of the Financial Liberalization Fund is not taxable as it is managed
by the Government.
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4.3.
Non-Domestic Corporation
4.3.1. Outline of Taxation Policy for Non-Residents and Foreign Corporations
(1) Japanese Tax System and Measures for the Avoidance of Double Taxation
Tax system of each country has been developed based on historical, political and economic
background of the respective countries. If each country tries to exercise its own taxation
right exclusively and universally, an inevitable international double taxation issue will arise.
Such double taxation should generally be avoided in view of taxation principles.
For this reason, many countries differentiate the taxation on residents and domestic
corporations from the taxation on others, execute taxation rights in separate ways and
establish provisions for the avoidance of double taxation.
The Income Tax Law and the Corporate Tax Law of Japan defines its scope of taxation on
non-residents and foreign corporations narrower than that on residents and domestic
corporations. They confine the taxable income to the income from domestic sources.
Confining the taxable income to the income from domestic sources alone cannot completely
avoid international double taxation. Deduction for foreign taxes or Exemption for income
from sources outside of Japan need to be provided in order to avoid double taxation.
In Japan, deduction for foreign taxes is adopted as a measure to avoid double taxation.
(2) Classification of Taxpayers, Scope of Taxable Income and Taxation Method
¬ Classification of Taxpayers, Scope of Taxable Income and Taxation Method
Classification of taxpayers, scope of taxable income and taxation method defined by the
Income Tax Law of Japan are as follows.
Scope of Taxable Income
Domestic
corporation
Following income from sources within Japan –
interest, dividends, distribution of gains of
securities investment trust, remuneration or
fees and prizes
Foreign corporation
Specific income from sources within Japan
Associations or
foundations without
juridical personality
Same as domestic corporation or foreign
corporation
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Taxation
Method
Withholding
at source
Withholding
at sources
Withholding
at source
- Classification of Taxpayers
The Income Tax Law classifies taxpayers into 4 categories: residents, non-residents,
domestic corporations and foreign corporations. Non-juridical organizations (associations
or foundations without juridical personality) are regarded as a corporation. Each category
is defined as follows:
a) Resident
An individual who has a domicile, or has had a residence for one year or more in Japan.
A resident taxpayer who has no intention of living permanently in Japan and has had
domicile or residence in Japan for not more than five years is defined as a nonpermanent resident and has separate scope of taxable income from an ordinary resident.
b) Non-resident
An individual who has no domiciles, and has had residence in Japan for less than one
year.
c) Domestic Corporation
A Corporation, which has its head or main office located in Japan.
d) Foreign Corporation
A Corporation, which does not have its head office nor main office in Japan.
® Taxation Method
Both assessment tax scheme and withholding tax scheme are adopted as a taxation
method in the Income Tax Law. Similar to a resident, the assessment tax scheme (after
withholding income tax from specific income) is applied to a non-resident who has a
permanent establishment in Japan. In other cases, “separate withholding income tax”
method that completes taxation by withholding tax only is applied.
A similar procedure is defined for foreign corporations in the Income Tax Law and the
Corporation Tax Law.
(3) Outline of Withholding Tax and Assessment Tax on Income paid to Non-residents and
Foreign Corporations
Non-residents and foreign corporations who have income from sources within Japan have
an obligation to pay the income tax on such domestic-source income. Taxation method is
different according to the residential status whether or not the individual or the corporation
has a base for business (permanent establishment) such as a branch office within Japan. The
scope of taxable income and the taxation method are classified into 4 categories as shown in
the table below, according to the type of permanent establishment: (i) branch or factory (ii)
construction site for more than one year (iii) agent (iv) other type than the above three.
Note that this table just outlines general taxation relationships, and some tax treaties have
different provisions.
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Outline of Taxation on Foreign Corporations
Interest
etc.
Corporations with a permanent
establishment located in Japan
Corporations with a
Corporations engaging
place for conducting in a construction work
business
lasting for more than
one year or having an
agent for concluding a
contract
Taxable
Separate Withholding
Taxation
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Corporations
without a
permanent
establishment
located in Japan
Separate
Withholding
Taxation
Withholding
Tax Rate
15%
4.3.2. Domestic Income Subject to Withholding Tax and Withholding Tax Amount
(1) Withholding Tax Based on the Income
¬ Outline of Domestic Income Subject to Withholding at Source
When the income tax or the corporation tax are levied on the income paid to non-residents
or foreign corporations in Japan, whether they have a base for business (permanent
establishment) in Japan or not makes the scope of taxation different. However, regardless
there is a base for business or not, the income tax is withheld at source from the income
listed in the following table.
The following income among interest income
a) Interest on JGBs, Municipal Bonds and Bonds issued by domestic corporations
b) Interest on deposits with a bank located in Japan and on postal savings
c) Distribution of profits of joint operation trusts and public bond investment trusts
managed by a trustee in Japan
- Transfer of Withheld Income Tax
Those who pay domestic-source income that is subject to withholding tax must withhold
tax at source from the payment and transfer the tax to a tax office. If an income payer
who has a domicile or a residence in Japan paid domestic-source income abroad, such
income payment is regarded as done in Japan, and income tax must be withheld.
(2) Withholding Tax Based on the Special Taxation Measures Law
¬ Withholding Tax on Profit from Redemption
a) Outline of Withholding Tax
Issuers of discounted bonds must collect income tax from an individual or a corporation
who purchased by withholding tax at source upon issuance. The tax withheld must be
calculated as follows and be transferred to a tax office with “Form for Computation of
Income Tax Amount Withheld at Source from Profit from Redemption” by the 10th day
of the following month of the issuance.
(Notional Amount – Issuance Amount) * 18%
The income that is withheld and transferred to a tax office based on the above provision
is regarded as an income tax on the profit from redemption collected from the purchaser
of the discount bond (the person who holds the bond at the maturity in case that the
purchaser has sold the bond prior to the maturity) at the maturity. If non-resident
individual gains profit from redemption, the taxation on the profit will be levied
through the withholding tax only, regardless the individual has a permanent
establishment in Japan.
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b) Scope of Discount Bonds Subject to Withholding Tax
The following discount public bonds are subject to withholding tax at source upon
issuance
< JGBs except for foreign currency–denominated JGBs
< Bonds issued by long-term credit banks based on the provisions of the Long-term
Credit Bank Law: IBJ Bank Debentures, Nippon Credit Bank Debentures, and Longterm Credit Bank Debentures
< Bonds specified by Article 17-2, paragraph 1 of the Law concerning Merger and
Conversion of Financial Institutions: Bank of Tokyo-Mitsubishi Bank Debentures
< Bonds issued by the Federation of Credit Association based on the provisions of
Article 54-2, paragraph 1 of the Credit Association Law: Zenshinren Bank Debentures
< Bonds issued by the Trans-Tokyo Bay Highway Corporation, approved based on the
provisions of the Special Measures Law concerning Construction of Trans-Tokyo Bay
Highway
< Bonds issued by the Organization for Promoting Urban Development, approved based
on the provisions of the Special Measures Law concerning Promotion of Urban
Development
c) Special Concession for Taxation on Profit from Redemption of Specific Discount
Bonds
Treasury Bills or Financial Bills that fulfill all the following conditions are exempt from
the withholding tax on the profit from redemption: (i) issued on or after April 1, 1999,
(ii) term from issuance to maturity is less than one year, and (iii) Registered in a lump
upon issuance with other TBs and FBs of the same terms and conditions.
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4.3.3. Special Concessions under Tax Treaties (Tax Conventions)
Some special concessions (reduction of or exemption from withholding income tax on
domestic-source income) are granted to residents in a foreign country, which has concluded a
tax treaty (convention) with Japan, if they are nonresidents in Japan. To apply for reduction
of or exemption from withholding income tax under the tax treaties, nonresidents must submit
specific application forms to a tax office through the payer of the domestic-source income.
(1) Reduction of Withholding Tax Rate
Japanese withholding tax rate levied on interest, dividends, and royalties on patents etc.
might be reduced under tax treaties.
(2) Special Concession concerning Source of Income
Japanese income tax will be withheld from the specific income, according to the scope of
income source provided by tax treaties (in the case that the treaty has such provisions).
4.3.4. Required Procedure to Qualify for Special Concession under Tax Treaties
(1) Application Form for Income Tax Convention
To claim the relief from Japanese income tax under the provisions of the Income Tax
Convention, the recipient of domestic-source income subject to withholding tax must
submit an “Application Form for Income Tax Convention” through the payer of income to
the director of tax office for the place where the payer resides, by the day before the
payment of the income is made.
Unless the application form is submitted, the income tax will be withheld at the rate
provided by the domestic law.
(2) Claim for Refund of Withholding Tax
¬ Application Form for Refund of Withholding Tax in accordance with the Income Tax
Convention
Submission of an “Application Form for Income Tax Convention” described (1) above is
to claim the relief from Japanese income tax under the provisions of the Income Tax
Convention. In the following case, the amount that the income tax withheld based on the
domestic law exceeds the income tax relieved under the provisions of the Income Tax
Convention will be refunded by submitting an “Application Form for Refund of
Withholding Tax in accordance with the Income Tax Convention” as well as an
“Application Form for Income Tax Convention”
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“In the case that, under the condition that the provisions of the tax treaty is effective
retroactively, the recipient of domestic-source income that is paid on or after the day
when the application of the tax treaty started and before the day when the tax treaty
started to be effective claims for refund of the income tax withheld at source that should
be relieved under the provisions of the Income Tax Convention.”
- Application Form for Refund of Withholding Tax on Profit from Redemption of
Discount Bonds in accordance with the Income Tax Convention
The profit from redemption of discount bonds are subject to the income tax withheld upon
issuance at the rate of at 18% (16% for some bonds) under the provisions of the domestic
law. If relieved from Japanese income tax under the provisions of the Income Tax
Convention, the difference will be refunded. Such adjustment is to be made by refunding
the amount that the income tax withheld based on the domestic law exceeds the income
tax relieved under the provisions of the Income Tax Convention upon the submission of
an “Application Form for Refund of Withholding Tax on Profit from Redemption of
Discount Bonds in accordance with the Income Tax Convention”.
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4.3.5. Scope of Domestic Income Subject to Withholding Tax
(1) Interest etc.
In the case that a nonresident receives interest etc. on public bonds or deposits within Japan,
the payer of interest is supposed to withhold income tax at the payment of interest,
regardless the recipient has a permanent establishment in Japan, and regardless the interest
etc. is attributed to the recipient’s business activities in Japan.
¬ Treatment under the Domestic Law
a) Scope of Interest etc.
Among interest subject to withholding tax are Japanese Government Bonds, Municipal
Bonds and bonds issued by domestic corporations. “Bonds issued by domestic
corporations” include registered bonds which have no physical security.
b) Treatment of Profit from Redemption of Discount Bonds
Profit from redemption of discount bonds is not included in “Interest etc.” described
above as it is defined as “income from the investment in or possession of domestic
assets”. Some profits from redemption are required to separately withhold income tax
at the rate of 18% (or 16% in some cases) under the provisions of the Special Taxation
Measures Law
- Treatment under the Tax Treaties
a) Source of Income
Most of the bilateral tax treaties that Japan concluded provide that both source country
and the residence country hold taxation rights.
b) Scope of Interest etc.
While the Income Tax Law of Japan distinguishes interest on public bonds or deposits
and distribution of profits of joint operation trusts and public bond investment trusts
from interest on loans, many of tax treaties include that interest etc. in the same
category.
c) Treatment of Profit from Redemption of Discount Bonds
Treatment of profit from redemption of discount bonds is different by country as
follows:
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Countries which treat profit from
redemption as interest
Ireland, the United Kingdom, Israel, Italy,
India, Indonesia, Canada, Singapore, Sweden,
Thailand, China, Denmark, Turkey, Norway,
Hungary, Bangladesh, the Philippines, France,
Bulgaria, Vietnam, Poland, South Africa,
Mexico, Luxembourg, Romania, Russia
USA, Egypt, Australia, Austria, Sri Lanka,
Korea, New Zealand, Pakistan, Brazil,
Malaysia
The Netherlands, Switzerland, Spain,
Germany, Finland, Belgium
Treated as Income without explicit
provision (provisions of Japanese
domestic law is applied)
Treated as Income without explicit
provision and taxed in residence
countries (exempted in Japan.)
Taxation by the category above on discount bonds subject to withholding tax under the
provisions of Japanese domestic law is made as follows:
*1 Countries which treat profit from redemption as interest
After withholding income tax at 18% (16% in some cases) upon issuance, the amount that
exceeds the marginal tax rate under the provisions of tax treaties will be refunded after
following the necessary procedures.
*2 Applying the provisions of Japanese domestic law
18% (16% in some cases) of income tax needs to be withheld upon issuance. The profit
from redemption is regarded as income from the investment in or possession of assets (#1
income) here.
*3 Treated as Income without explicit provision and taxed in residence countries (exempted
in Japan)
After withholding income tax at 18% (16% in some cases) upon issuance, the full amount
withheld will be refunded after following the same procedures as *1 to effectively exempt
from income tax.
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4.3.6. Tax Rate Determined under Tax Treaties
Country
Australia
Austria
Belgiukm
Canada
China
Finland
France
Germany
India
Indonesia
Ireland
Israel
Italy
Korea
Malaysia
Mexico
Netherlands
New Zealand
Norway
Russia
Singapore
South Africa
Spain
Sri Lanka
Switzerland
Thailand
United Kingdom
USA
Marginal Tax Rate
on Interest
10%
10%
10%
10%
10%
10%
10%
10%
15%
10%
10%
10%
10%
12%
10%
15%
10%
No provision
10%
10%
10%
10%
10%
10%
25%
10%
10%
Remarks
Include profit from redemption of discount bonds
Include profit from redemption of discount bonds
Specific interest is exempt from taxation
Interest on public bonds is exempt from taxation
Include profit from redemption of discount bonds, 10% on interest paid to banks
Include profit from redemption of discount bonds
Include profit from redemption of discount bonds
Include profit from redemption of discount bonds
Include profit from redemption of discount bonds
Limited to specific income
Include profit from redemption of discount bonds
Include profit from redemption of discount bonds,
Specific interest is exempt from taxation
Interest paid to banks is exempt from taxation
Include profit from redemption of discount bonds, 10% on interest paid to banks
Include profit from redemption of discount bonds
Based on the Tax Treaties that Japan has concluded and is effective as of June 1, 1999.
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4.3.7. Summary
In selling domestic bonds (GGBs, Municipals, Special Bonds, Corporate Bonds etc.) to
overseas investors, the tax rate levied on the interest will be those described in 4.3.6. if a tax
treaty has been concluded with that country and the assessment is made before the interest is
paid.
Samurai Bonds and Euro Bonds have slightly different story. Yen-denominated Samurai
Bonds are issued by overseas issuers and Euro Yen Bonds are traded in Euro Market. These
bonds will be exempt from Japanese income tax if they are traded among overseas investors
or sold from domestic sellers to overseas investors. However, if domestic investors buy those
bonds from overseas sellers, income tax will be levied in Japan according to the time period
that those bonds were held outside of Japan. In trading Samurai Bonds among domestic
investors, taxation will be the same as that on domestic yen bonds. In trading Euro Yen
Bonds, even designated financial institutions will be taxed unless they are designated for
principal and coupon payment.
As described in 1.2.4., in the Japanese bond market, taxable bonds will trade cheap to its nontaxable counterparts by more than the tax amount itself. One should note that bonds that has
once been sold to overseas will trade very cheap in the domestic market except that the
transaction is made on coupon dates.
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