For foreigners and foreign companies doing business in Japan, understanding the Consumption Tax (Value-Added Tax, VAT) is crucial. The consumption tax is widely applied to goods and services provided within Japan, having a significant impact on business operations. This article outlines the essential aspects of Japan’s consumption tax system and highlights key considerations for foreign companies starting a business in Japan.

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1. Basics of Consumption Tax

Japan’s consumption tax rate is currently set at a standard rate of 10%. This tax is added to the sales price of goods and services and is ultimately borne by the consumer. Businesses are responsible for collecting the tax from consumers and paying it to the government. The tax applies to all businesses operating in Japan. However, certain goods and services are subject to a reduced tax rate of 8%. This rate primarily applies to food, beverages (excluding alcoholic beverages), and subscriptions to newspapers. Basic Mechanism:

• Businesses add consumption tax to the price of the goods and services they sell.
• Transactions subject to consumption tax include sales of goods, provision of services, and imports within Japan.
• Businesses pay the government the consumption tax collected from consumers, after deducting any consumption tax paid on purchases and expenses (known as input tax credit).

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2. Taxable and Exempt Businesses

Under Japan’s consumption tax system, businesses that do not meet certain revenue thresholds are classified as exempt businesses, meaning they are not required to pay consumption tax. Exempt Business Criteria:

• Businesses with annual sales of ¥10 million or less in the reference period (generally two fiscal years prior) are exempt from paying consumption tax.
• Newly established companies may also qualify as exempt businesses for the first two years after incorporation.

Even exempt businesses can still charge and collect consumption tax. Since they are not required to remit this tax to the government, the collected amount becomes additional profit. However, with the introduction of the invoice system in 2023, exempt businesses may be at a disadvantage, as their business partners cannot claim input tax credits unless they work with registered taxable businesses.

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3. The Invoice System

Starting in October 2023, Japan introduced a new Qualified Invoice System (commonly referred to as the invoice system). This system requires businesses to issue qualified invoices when billing clients for consumption tax. These invoices allow the recipient to apply input tax credits based on the consumption tax paid. Key Points of the Invoice System:

• Only taxable businesses can issue qualified invoices.
• Business partners must keep these invoices to apply input tax credits.
• Exempt businesses cannot issue qualified invoices, meaning their business partners will not be able to claim input tax credits, potentially placing exempt businesses at a competitive disadvantage.

This system could affect business relationships, so foreign companies need to consider whether to register as a taxable business to meet the requirements of their partners.

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4. Application of Consumption Tax to Foreign Companies

When foreign companies conduct business in Japan, the goods and services provided domestically are generally subject to consumption tax. For example, selling products or offering services within Japan will typically be subject to the tax. Imports are also subject to consumption tax, payable upon entry into Japan. Conversely, export transactions are generally zero-rated (tax-exempt at a 0% rate), meaning goods exported from Japan do not incur consumption tax. Key Points for Foreign Companies:

• When selling goods in Japan, businesses must add consumption tax to the sales price and remit the collected amount to the government.
• For imported goods sold in Japan, businesses pay consumption tax upon import and collect it later from consumers.
• For exports, consumption tax does not apply, and businesses can still benefit from input tax credits on related purchases.

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5. Filing and Paying Consumption Tax

Japan operates on an annual filing system for consumption tax, with a typical tax period spanning one fiscal year. After the tax period ends, businesses must file a consumption tax return with the tax office and pay any taxes owed. Newly established companies may have shorter tax periods in their first or second years, requiring mid-year filings and payments based on prior consumption tax amounts. Steps for Filing Consumption Tax:

1. Calculate the amount of consumption tax on sales.
2. Subtract the amount of consumption tax paid on purchases (input tax credits).
3. The difference is the amount of consumption tax to be paid. If input tax credits exceed the tax on sales, the business may receive a refund.

The deadline for filing and payment is two months after the end of the tax period, and returns must be submitted to the tax office.

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6. Important Considerations for Consumption Tax

Foreigners and foreign companies doing business in Japan should keep the following points in mind:

• Scope of the Consumption Tax: Consumption tax applies to domestic transactions, but export transactions are exempt (0% tax rate).
• Compliance with the Invoice System: To maintain strong business relationships, consider registering as a taxable business to issue qualified invoices.
• Choosing Exempt Status: Depending on revenue size, businesses may initially qualify as exempt. However, long-term planning should account for compliance with the invoice system.
• Filing and Payment: Ensure that accounting systems are properly set up to manage timely filing and payment of consumption tax.

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Conclusion

Understanding Japan’s consumption tax and managing it correctly is essential for the stability and success of foreign businesses operating in Japan. Given the complexities of the tax system, consulting tax professionals or accountants is recommended. With the introduction of the invoice system, consumption tax compliance has become more stringent, so adapting to the latest regulations is key to smooth business operations.