January 2008
by Edwin Whatley, Baker & McKenzie, Tokyo
and Shinichi Kobayashi, Baker & McKenzie, Tokyo
The Japanese tax treatment of foreign life insurance policies has recently undergone a change that had been anticipated for some time.
Until recently, receipts under life policies issued by foreign insurers on the lives of Japanese residents were characterized as “occasional income” pursuant to the Inheritance Tax Basic Circular (i.e, an interpretation or guideline issued by the Japanese tax authorities, rather than a statute or declaration). The significance of characterization as “occasional income” is that only 50% of the received amount was subject to income tax (at a maximum tax rate of 50% (the aggregate of 40% national income tax and 10% local inhabitants tax)).
This contrasted with the treatment of a “domestic” life policy, which was treated as an inherited asset and therefore subject to the national inheritance tax (the maximum rate being 50%) in its entirety.
Because of this dichotomy, the use of foreign life policies had been a popular inheritance tax planning tool in Japan.
The Japanese tax authorities have long been keen to prevent this form of tax planning. Indeed, steps are now being taken to treat foreign policies as “taxable inherited assets”, in which case receipts from foreign life policies are to be treated in the same way as receipts from domestic life policies.
Authoritative commentary on recently released draft tax legislation for 2007 indicates that receipts from foreign policies arising from an inheritance event occurring on or after April 1, 2007 will be treated in the same way as receipts from domestic policies. This means that, where a Japanese resident beneficiary becomes entitled to a payment under a foreign life policy on or after April 1, 2007, all of the moneys received will be subject to Japanese inheritance tax.
It is unclear at this stage whether this change will take the form of an amendment to the Inheritance Tax Law, a revision to the Inheritance Tax Basic Circular, or the issuance of a new Enforcement Order.