Man trading stocks on his laptop. Photo by Jason Briscoe on Unsplash.

Non-permanent Residents: Understanding Japan’s Tax Rules on Foreign Stock Gains

Yoshio Yamaguchi

Are foreigners living in Japan subject to taxation when they earn income from selling stocks? Even though they are considered foreigners, their status under Japanese tax law could range from non-residents to non-permanent and permanent residents.

This article will focus on non-permanent residents, who are likely to constitute the majority. A non-permanent resident is defined as a person who has resided in Japan or has had a place of residence in Japan for more than one year, is not a Japanese national, and has resided in Japan for five years or less within the past ten years (Income Tax Act, Article 2, Paragraph 1, Item 4).

The income of a non-permanent resident that is subject to taxation in Japan is as follows (Income Tax Act, Article 7, Paragraph 1, Item 2):

  1. Income other than foreign-sourced income
  2. Foreign-sourced income that is either paid in Japan or remitted from abroad

In other words, if the income from the sale of stocks qualifies as foreign-sourced income, non-permanent residents are not subject to taxation in Japan unless the income is paid domestically or remitted to Japan. However, it will be taxed in Japan if it does not qualify as foreign-sourced income.

Definition of Capital Gains from Stock Sales as Foreign-Sourced Income

Income from the sale of stocks that qualifies as foreign-sourced income is enumerated explicitly in the Income Tax Act. The sales of stocks that qualify as foreign-sourced income include the following:

  1. Certain stock sales conducted in foreign financial markets (Income Tax Act, Article 7, Paragraph 1, Item 2, and Enforcement Order of the Income Tax Act, Article 17, Paragraph 1)
  2. Stocks issued by foreign corporations, where the seller holds a certain percentage of the corporation's outstanding shares, and where the income from the sale is subject to foreign income tax in the country where the corporation's headquarters is located (Enforcement Order of the Income Tax Act, Article 225-4, Paragraph 1, Item 4)
  3. Shares of foreign real estate-related corporations (Item 5)
  4. Shares of corporations owning or managing golf courses located abroad under certain conditions (Item 6)
  5. Rights to use golf courses or other facilities located abroad (Item 7)

Details of Stock Sales in Foreign Financial Markets

In this article, we will examine the first category in detail: certain stock sales conducted in foreign financial markets. This is one of the most complex categories. 

  • The stocks involved can include those issued by Japanese and foreign companies (Income Tax Act, Article 17, Paragraph 1, parenthetical note).
  • The term "sales of stocks conducted in foreign financial markets" includes the following:
    • Sales conducted on a foreign financial market
    • Sales executed through a foreign financial instruments business operator
    • Stocks held in an account with a foreign branch of a foreign financial product provider, etc.
  • Whether or not the income from stock sales qualifies as foreign-sourced income depends on when the stocks were acquired and the individual's residence status at the time of acquisition.

Definition of Foreign Financial Instruments Business Operators

"Foreign Financial Instruments Business Operators" refers not only to foreign securities companies (foreign entities) but also includes foreign branches of Japanese securities companies (domestic entities).

The activities covered by this designation are limited to those conducted outside of Japan. Therefore, it is important to note that any transfer made through a foreign branch of a Japanese securities company or a domestic branch of a foreign financial instruments business operator is considered as income derived from business activities conducted within Japan. As such, this income is not classified as foreign-source income and is subject to taxation in Japan. (Explanation of the 2017 Tax Reform by the Ministry of Finance).

Tax Treatment Based on the Timing of Acquisition

Note: Even if the income qualifies as foreign-sourced, it will be subject to taxation if paid domestically or remitted abroad.

The following table is a visual representation created by the author based on the Income Tax Act, Article 17, Paragraph 1, its supplementary provisions (as of March 31, 2017), and the Basic Circular on Income Tax, Paragraph 7-1.

How to Read the Table and Conclusion

(a) If the stocks were acquired before the individual became a non-permanent resident: If the stocks were acquired before the individual moved to Japan (before they became a non-permanent resident, while they were still a non-resident), the income from their sale will be treated as foreign-sourced income. It will not be subject to taxation in Japan, regardless of how long ago the stocks were acquired.

(b) If the stocks were acquired while the individual was a non-permanent resident, and more than 10 years have passed since the acquisition: Even if the stocks were acquired after the individual became a non-permanent resident, the income from their sale will be considered foreign-sourced income and exempt from taxation in Japan if more than 10 years have passed since the acquisition.

(c) If the stocks were acquired while the individual was a non-permanent resident, within 10 years of the sale, before March 31, 2017, The income will qualify as foreign-sourced income.

(d) When a non-permanent resident sells stocks in a foreign financial market, the income will be taxed in Japan if the stocks were acquired while the individual was a non-permanent resident if acquired on or after April 1, 2017, and within 10 years of the sale.

This regulation is highly complex.

Conclusion

Understanding the tax implications for Japan's non-permanent residents, especially capital gains from stock transfers, can be complex. The distinction between foreign-sourced and domestic-sourced income is critical in determining tax liability.

For non-permanent residents, it is essential to recognize how factors such as the timing of stock acquisition and the location of the financial transaction affect their tax obligations in Japan. By being informed about these nuances, non-permanent residents can better manage their tax responsibilities and make more informed financial decisions while living in Japan.

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