By Gavin Blair for EURObiZ Japan

Lifestyle Aug. 26, 2015 - 05:59AM JST ( 38 )

TOKYO —

At the nexus of life’s two certainties lies the somewhat less-than-joyous topic of inheritance tax. Recent reforms to Japan’s inheritance tax laws have significant implications for foreign residents, even those assigned to the country for relatively short stretches of time. The rules mean that someone passing away while residing in Japan could leave behind a large inheritance tax liability, even if the recipient and the assets are located overseas. Similarly, receiving an inheritance while assigned to the country can result in tax liability, regardless of the location of the decedent or assets.

The fact that the new Japanese inheritance tax rates scale as high as 55% has set off alarm bells among many foreign residents, though there are significant deductions and exemptions applicable. However, the levels of some exemptions have been cut severely. With liability beginning in many cases as soon as people step off the plane, understanding the rules is vital.

“One of the myths among foreigners in Japan is that inheritance tax only becomes an issue after you’ve been here five years: that’s unfortunately not true,” explains Hans-Peter Musahl, chairman of the EBC Tax Committee. “It’s imposed from the very first day a foreigner enters Japan with the intention to stay here for at least one year, and is thus considered to have a residence, or jusho.”

A jusho is defined as a person’s principle place of residence, based on employment, location of immediate family, duration of stay, location of assets and other factors.

“The Japanese inheritance tax [sozoku zei] is applied to the recipient, or heir, not the estate of the decedent, as is the case in some countries,” notes Musahl, who is also partner at the Tokyo offices of Ernst & Young Shinnihon Tax (E&Y).

The tax can still be payable by people who have never set foot in Japan, points out Marcus Wong, partner at PwC in Tokyo.

“Until April 2013, the law only looked at where the recipient’s jusho was. If you had a situation where a foreigner [in Japan] passed away and had adult children in the UK, and passed on UK assets, the recipient wouldn’t have been liable for Japanese inheritance tax,” says Wong. “The April 2013 law changed all that, so that they look at the jusho of the recipient and the decedent. That caused a lot of concern, especially among senior executives here, many of whom have adult children in the home country; that was kind of a game changer.”

Japanese inheritance tax rates begin at 10% for amounts up to ¥10 million, ending up at the top rate of 55% for those fortunate enough to be heir to a fortune of more than ¥600 million. It is worth noting that for foreign assets, the weaker yen means that currently those thresholds are reached by smaller amounts of dollars, pounds or euros.

“Fifty-five percent is the top rate and that does get the most attention, but depending on your circumstances, that is not always applicable. If it is passed to your spouse, it could be not taxable at all, or there’s a 50% spousal credit,” says Wong, who notes that liabilities such as mortgages are also deducted.

On the other hand, the exemptions on inheritance tax were cut significantly from January this year, points out Musahl.

“Families who inherited up to ¥100 million, maybe including a modest house outside the central Tokyo area, greatly benefited from the basic exemptions of ¥50 million, plus ¥10 million for each heir.  For a wife and two children, that had added up to ¥80 million, which really helped many families, as it excluded, or significantly lowered, the tax exposure of most people,” says Musahl. “But the basic exemption has been reduced to the first ¥30 million, plus ¥6 million for each heir. So now it’s only ¥48 million for a surviving family of a spouse and two children.”

One tax planning measure available in some countries is giving money or assets to children over an extended period to avoid saddling them with a large inheritance tax bill on the death of their parents. Japan has plugged that loophole with its gift tax, which has an annual exemption of only ¥1.1 million.

“The top tax rate is also 55%, but you hit that at ¥30 million, whereas you don’t hit that until ¥600 million for inheritance tax,” says PwC’s Wong, who notes that, like the inheritance tax, the recipient is liable.

Investing in Japanese property is one way to reduce inheritance tax liability, with land values usually assessed conservatively enough to deliver a 20% to 30% benefit. In addition, inheritance tax exemptions of 80% on land of up to 200m2 with a primary home on it, and 50% for rental properties, are available. If a large amount of money is available to be put into such an arrangement, it can be further leveraged with a mortgage-secured bank loan that will allow for purchase of a more expensive property, delivering bigger exemptions.

“This is one of the reasons so many people invested in debt-financed properties during the bubble economy [late 1980s],” says Musahl.

A simpler and lower-risk measure that is being employed by expatriates is taking out life insurance, therefore, “hedging their family against the risk of being liable for Japanese inheritance tax during the time they are posted to Japan,” according to Musahl.

The assumption of some foreign residents has been that assets held overseas would be largely below the radar of Japanese tax authorities. While that may have been a somewhat risky strategy in the past, it looks set to become downright foolhardy with the automatic sharing of financial information between countries that is being phased in over the next few years. From this year’s tax returns in March, it also became an offence for Japanese nationals and foreigners who have lived here for five of the last 10 years not to declare overseas assets exceeding ¥50 million.

One bright note in this sea of gloom is that, although Japan doesn’t have many international estate tax treaties, assets are not subject to double taxation because Japan gives credit for tax paid in a foreign country.

“However, if the rate is higher in Japan, the difference will become due here,” adds Musahl.