Tax Controversy 2023 Comparisons

As a procedural legal matter, a tax controversy will arise when and if:

• a formal tax assessment has been issued upon a taxpayer; and
• the taxpayer initiates the procedure to dispute the assessment, as discussed below.

However, because a formal tax assessment is made only if the difference of views between the taxpayer and the tax authority was not resolved during the preceding tax audit, a tax controversy would begin at the tax audit.

Every type of Japanese tax may give rise to tax controversies. However, in practice, a significant majority of controversies involve income tax. Among income taxes, for sophisticated corporate taxpayers, corporation tax (ie, national corporate income tax) and withholding tax are the major ones. Also, for high net worth individuals, individual income tax, as well as inheritance and gift taxes, are major sources of tax controversies. Tax controversies relating to consumption tax – ie, VAT – and fixed property tax are also common. While rare, transactional taxes such as stamp duty and liquor tax may also be litigated.

As to the value, there is no threshold for taxpayers to dispute a tax assessment. Sometimes, aggravated and upset individual taxpayers will dispute even if the amount of tax at stake is very small. However, sophisticated corporate taxpayers will generally weigh the benefit of disputing against the associated time and costs, so it is not common for such sophisticated corporate taxpayers to dispute the tax assessment if the amount of tax at stake is small. The only exception may be an assessment of a heavy penalty tax (along with the principal tax at hand) because the imposition of a heavy penalty tax means that the taxpayer committed fabrication or concealment of facts, generally viewed among the public as indicating an attitude of non-compliance on the part of the taxpayer. So, especially when the taxpayer is a well-known corporate, conscious of its public reputation, it sometimes disputes the assessment of a heavy penalty tax no matter the amount of tax at stake.

Because a tax controversy arises when there is a difference of views in tax audits, it logically follows that this difference of views would not occur if the taxpayer had confirmed the view of the tax authority in advance with respect to the tax treatment of a particular transaction. This can formally be made by seeking a written formal advance ruling with the tax authority; however, because this formal procedure usually takes three to six months in practice, this is not very popular. Instead, many taxpayers use an informal confirmation with the tax authority on a verbal basis that is much easier to obtain than a written formal advance ruling and, solely as a practical matter, the effect would not be significantly different from a written formal advance ruling; ie, even a verbal confirmation is well reviewed and respected within the tax authority, in practice.

It should be noted that even if the taxpayer secures a written formal advance ruling or a verbal informal confirmation, a tax controversy in the tax audit (and then in the administrative and judicial procedures) could still arise if the tax authority finds that the facts as represented by the taxpayer at the time of the ruling or confirmation turned out to be inaccurate or misleading.

Also, in the transfer pricing area, an advance pricing arrangement (APA) is commonly used to avoid future tax controversy relating to an arm’s-length price for a controlled transaction.

To date, Japan has implemented the following Base Erosion and Profit Shifting (BEPS) Actions of the OECD by amending its domestic tax law or tax treaties.

• Action 1 – Japan has amended the consumption tax law to impose taxes upon digital or electronic service transactions conducted by foreign enterprises having no base in Japan.
• Action 2 – Japan has amended the corporation tax law so that Japan’s foreign dividend exemption system does not apply to dividends deductible under the local tax law of the jurisdiction where a foreign subsidiary is located (eg, Brazil) to prevent a D/NI (deduction/non-inclusion) outcome.
• Action 3 – Japan has overhauled its controlled foreign corporation (CFC) regime by amending the income tax law and the corporation tax law through the 2017 annual tax reform, in line with BEPS Action 3, to focus more on the substance of the business conducted by the CFC.
• Action 4 – Japan has tightened the earnings stripping rules, in response to BEPS Action 4, by including interest payable to third parties (unless the interest is taxed in Japan at the recipient level) and lowering the threshold rate from 50% to 20%.
• Action 5 – in response to BEPS Action 5, Japan has implemented measures to ensure the spontaneous exchange of information on tax rulings.
• Action 6 – Japan has incorporated in its tax treaties, particularly with advanced countries (such as the USA, the UK, the Netherlands, Switzerland and Germany), various anti-abuse measures suggested by BEPS Action 6, such as the limitation on benefits (LOB), the principal purpose test (PPT) and the beneficial owner concept.
• Action 7 – Japan has amended the definition of a permanent establishment in income tax law and corporation tax law in response to BEPS Action 7, to define more properly an agent permanent establishment to prevent avoidance of an agent permanent establishment through artificial measures.
• Actions 8–10 – Japan has incorporated the so-called commensurate-with-income standard and the discounted cash flow (DCF) method to value so-called hard-to-value intangibles, by amending its transfer pricing regulations, in line with BEPS Actions 8–10.
• Action 13 – Japan has amended its transfer pricing documentation rules to introduce the master file, country-by-country reporting and the local file, in line with BEPS Action 13.
• Action 15 – Japan has signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (MLI), which took effect on 1 January 2019; as of 15 March 2023, the MLI is applicable to the double tax treaties of Japan with 38 countries, including Australia, Canada, France, Germany, India, Indonesia, Ireland, South Korea, Luxembourg, the Netherlands, Singapore and the UK.

As these BEPS measures are still relatively new, at present, this firm has not seen a meaningful increase or decrease in tax controversies. However, as these measures generate new issues of interpretation, it is expected that tax controversies will increase in the future. See also 10.6 New Procedures for New Developments Under Pillar One and Two.

Under the Japanese legal system, even if a taxpayer disputes a tax assessment, in principle, it must first pay the assessed tax. The only exception is a transfer pricing assessment, where the taxpayer will apply for a mutual agreement procedure (MAP). In that case, upon request, the taxpayer may be given a grace period for payment until the resolution of the case via the MAP. However, the taxpayer must provide collateral to secure the payment of the assessed tax.

When a tax return is filed, but the tax authority finds an under-reported tax as a result of the tax audit, a reassessment (kohsei) will be made. When a tax return is not filed at the outset, and the tax authority finds any amount of tax due, a determination (kettei) will be made. As for withholding tax, a notice of collection (nozei kokuchi) will be made. As for taxes that do not require a filing of a tax return (other than withholding tax), an assessment determination (fuka kettei) will be made. Another kind of administrative disposition is a tax assessment to reject the taxpayer’s request for a downward adjustment of the tax amount from that reported in the originally filed tax return. However, the required procedures to dispute these assessments are substantially the same.

There is no formal rule under Japanese tax law to determine whether and when a tax audit should be made. It is entirely at the discretion of the tax authority. However, in practice, many corporate taxpayers are audited every three to five years, and certain very large corporates are audited every one to two years. It should be noted that the tax authority has launched a “corporate governance in tax‟ programme for certain very large corporates, whereby certain highly compliant taxpayers will receive the benefit of a prolonged (by one year or more) audit cycle. On the other hand, the tax authority has recently launched a programme to monitor high net worth individuals. If the tax authority determines that the individual in question needs close scrutiny, a tax audit may be launched, particularly with regard to individual income tax and inheritance and gift taxes.

There is no formal rule under Japanese tax law that would limit the duration of tax audits. In practice, it varies; some are finished in a few days, whereas, in the case of huge corporates, the audit may last for a few months. Moreover, transfer pricing audits can last for one or two years, depending upon the circumstances.

The Japanese tax law has a statute of limitation of generally five years from the original statutory due date of the return filing (which will be extended to seven years when the issue involves fabrication or concealment of facts). In general, this statute of the limitation period is not suspended or interrupted by a tax audit, and thus, its expiry will prevent a tax audit. As an exception, however, the statute of the limitation period will be extended where a taxpayer is not co-operative in a tax audit, and tax authorities request another jurisdiction for the exchange of information for that reason.

In practice, in most cases, tax audits are conducted at the premises of the taxpayer. Because of COVID-19, tax authorities refrained from commencing new tax audits for a while, but they resumed in October 2020, and tax audits are generally conducted in the same manner as before (eg, at the premises of the taxpayer).

The accounting books and records and the minutes of the board of directors, and other corporate documents will be examined first. If the taxpayer prepares the accounting books and records in paper form, the paper form will be reviewed, and if the taxpayer prepares them electronically, then the electronic data will be examined. Moreover, in recent practice, external and internal email communications of the taxpayer are frequently examined, where evidence favourable to the tax authority can often be found.

In September 2022, the National Tax Agency launched a trial project to conduct tax audits on certain large corporations remotely, using telecommunications measures (eg, through web conferencing), with the consent of such corporations.

This varies depending upon the type of tax to be examined. For example, in the case of a corporation tax audit, major issues include:

• timing differences of income recognition and cost deduction;
• tax-free reorganisations;
• deductibility of officers’ remunerations;
• whether the deducted payments are non-deductible donations; and
• various international tax regimes (CFC, transfer pricing, etc).

Due to the increasing prevalence of information exchange, in some audits, particularly those of high net worth individuals, the tax authority will have gained, in advance, extensive information on the foreign bank accounts of the taxpayer, which presumably were brought to the tax authority by way of the common reporting standard. In addition, there appear to be:

• an increasing number of tax audit cases where the tax auditors say that the tax authority will request information regarding the relevant foreign jurisdiction by way of information exchange under the tax treaty; and
• more tax controversy cases where the Japanese government submits as evidence the results of a tax audit conducted by a foreign tax authority pursuant to a request from the Japanese tax authority.

If the taxpayer expects that the issue being audited may develop into a tax controversy, it is essential to manage the submissions to the tax authority properly, particularly the external and internal email communications of the taxpayer mentioned in 2.3 Location and Procedure of Tax Audits. For example, a situation should be avoided where email communications critically adverse to the position of the taxpayer are inadvertently placed in the hands of the tax authority. Under Japanese tax law, while the tax authority cannot physically force the taxpayer to submit the requested information and documents, it can do so somewhat indirectly via the enforcement of criminal penalties if the taxpayer refuses to submit the requested information and documents where they are obliged to do so under law. Under the controlling Supreme Court decision, a taxpayer is obliged to respond to the information and document request of the tax authority, so long as:

• there is an objective necessity to examine the requested information and document in light of the issue being examined;
• that necessity outweighs the privacy of the taxpayer; and
• the discretion of the tax auditor to make such a request is considered reasonable.

Taxpayers may want to argue that, for example, and where feasible, there is little need to examine the requested email communications in light of the issue being examined so that it may lawfully avoid the submission.

Because no alternative dispute resolution (ADR) mechanism is available for tax purposes in Japan and no settlement is allowed in administrative or judicial tax litigation, in practice, at the stage of the tax audit, the taxpayer and the tax authority often cut a deal to settle the issue effectively. In other words, the tax audit is practically the only stage where an effective settlement can be made. Accordingly, the taxpayer is expected to form a decision, at the tax audit, on whether to try to settle; if not, the taxpayer must continue the tax litigation process, devoting substantial time and expense to it until the final decision or until the taxpayer gives up.

A formal notice of tax assessment will be served upon a taxpayer once:

• the tax audit has been concluded;
• the taxpayer has made it clear that it will not file an amended tax return reflecting the position of the tax authority voluntarily; and
• the tax authority’s internal approval procedures for issuing the tax assessment have been completed.

As a legal matter, the tax assessment takes effect once served upon the taxpayer and will continue to be effective unless cancelled by the ensuing tax controversy procedure.

Request for Reconsideration Before the National Tax Tribunal

For the taxpayer’s claim to be heard before the courts, an administrative procedure is mandatory. Within three months of receipt of the formal notice of tax assessment, the taxpayer must file a Request for Reconsideration with the National Tax Tribunal, which is an administrative but quasi-judicial body to review taxpayers’ claims. Then, in principle, if the taxpayer’s Request for Reconsideration is dismissed by the formal decision of the National Tax Tribunal, the taxpayer can, within six months of the receipt of the decision, initiate a lawsuit to request cancellation of the subject tax assessment with the competent District Court. Alternatively, before filing a Request for Reconsideration with the National Tax Tribunal, where appropriate, the taxpayer may elect to take the additional step of filing a Request for Reinvestigation with the director of the competent Regional Taxation Bureau; however, this Request for Reinvestigation is, for reasons of cost as opposed to benefit, not very often used in practice. No filing fees are required for a Request for Reconsideration or a Request for Reinvestigation.

The National Tax Tribunal will review the taxpayer’s Request for Reconsideration by designating a panel of three administrative judges. The administrative judges include attorneys and tax accountants who used to be in private practice, as well as incumbent officials of the tax authority. As in court litigation, the taxpayer and the tax authority will submit and exchange their respective arguments and evidence. Once the panel determines that the review is complete, the National Tax Tribunal will render a decision, dismissing or entirely or partially admitting the taxpayer’s Request for Reconsideration. The entire process will generally take one year.

One of the most important functions of the Request for Reconsideration process from the taxpayer’s viewpoint is to gather documentary evidence submitted by the tax authority in anticipation of future judicial tax litigation. Upon request, the National Tax Tribunal will allow the taxpayer to take copies of the documentary evidence submitted by the tax authority. This process is indispensable for preparing for future judicial tax litigation to assess how strong the taxpayer’s and the tax authority’s arguments are in light of this documentary evidence.

As mentioned in 3.1 Administrative Claim Phase, within three months of receipt of the formal notice of tax assessment, the taxpayer must file either a Request for Reconsideration with the National Tax Tribunal or a Request for Reinvestigation with the director of the competent Regional Taxation Bureau. This deadline is absolutely mandatory save for exceptional cases, and not complying with the deadline ensures that the claim will be dismissed without consideration of its merits or an opportunity for a further administrative or judicial appeal.

If the taxpayer’s Request for Reconsideration is entirely or partially dismissed by the decision of the National Tax Tribunal, the taxpayer may, within six months of the receipt of the decision, initiate a lawsuit to request cancellation of the subject tax assessment with the competent District Court. This deadline is mandatory, save for exceptional cases. Furthermore, even before the decision of the National Tax Tribunal is rendered, the taxpayer can initiate a lawsuit so long as three months have passed since the filing of the Request for Reconsideration, thereby effectively bypassing the procedure at the National Tax Tribunal. Such bypassing is often used in practice, where the nature of the issue indicates that it may be difficult to obtain a favourable decision from an administrative body like the National Tax Tribunal.

Unlike judicial tax litigation discussed below, if the taxpayer prevails at the National Tax Tribunal, the tax authority cannot appeal, and the decision in favour of the taxpayer will be final. No settlement is available at the National Tax Tribunal.

Judicial tax litigation will be initiated by the taxpayer, as petitioner, by filing a complaint against the Japanese government as a respondent by the deadline discussed in 3.2 Deadline for Administrative Claims. The complaint will identify the subject tax assessment to be cancelled and the reasons for the cancellation and accompany supporting exhibits as documentary evidence. The taxpayer needs to pay court filing fees (eg, if the amount of tax to be cancelled and refunded is JPY100 million, the court filing fees will be around JPY320,000). Once the court has reviewed and approved the formalities of the complaint, it will be served upon the respondent.

In Japan, there is no special judicial court for tax litigation, which, in the first instance, is heard by general District Courts along with other general civil and criminal cases. However, in large cities such as Tokyo and Osaka, there are special divisions for handling administrative law matters and tax litigation will be assigned to one of these administrative law divisions. The administrative law divisions are not specific to tax matters but address other administrative issues such as immigration and social security, but the judges within the administrative law divisions are generally more familiar with technical tax matters than other general civil divisions. In the case of the Tokyo District Court, there are four administrative law divisions – ie, the 2nd, 3rd, 38th and 51st civil divisions. The taxpayer is not allowed to cherry-pick the division to which its case is assigned, and the assignment will be made at random, pursuant to the predetermined rules within the District Court. In practice, the presiding judge of the administrative law division, generally with 25 to 35 years of experience as a professional judge, mainly in administrative law, is regarded as an “elite‟ within the Japanese judicial branch. The panel consists of three judges, including the presiding judge and two associate judges, each of whom is a professional judge (ie, not from the private sector).

The first hearing session will generally be held within a few months from filing the complaint. By that time, the respondent should have submitted an answer to the complaint; however, due to the time constraints, it is common for the answer not to contain substantive arguments regarding the issues raised in the case. Then, the petitioner and the respondent will exchange briefs and evidence to establish their respective positions and rebut the other party’s position. In doing so, the court will, as appropriate, instruct each party to elaborate on a particular point or points that the court considers important. At the District Court level, in most cases, the exchange of briefs will occur four to six times and the hearing sessions will be held accordingly. In some complicated cases, the exchange may be made ten times or more. In practice, the interval between each hearing session is generally two to three months, during which the party with the initiative will prepare its brief.

After these exchanges, if the court considers that the review is complete and if each party has no intention to submit further arguments, the hearing session will be concluded. Then, a court decision will be rendered in a few months. Judicial tax litigation is always concluded by a court decision, and no settlement is available.

The entire procedure at the District Court level up to the decision will generally take 12–30 months.

In judicial tax litigation, most evidence is documentary, and a witness is rarely called upon, either by the petitioner or by the respondent. This is partly because there is not often a dispute over a finding of “bare‟ facts (eg, whether someone signed the document). The key issues in judicial tax litigation are the interpretation of tax law as well as how the court should view or characterise the proven facts. From the petitioner’s perspective, key documentary evidence should be submitted during the early stages of the litigation – ie, with the complaint or the petitioner’s first brief, with a view to persuading the court at the outset of the litigation.

The general rule is that the Japanese government or the respondent will owe the burden of proof to establish that the amount of the assessed tax in the subject tax assessment is correct. However, with respect to a few items, such as the existence and amount of deductible expenses, the taxpayer or the petitioner will owe the burden of proof. In addition, setting aside ordinary reassessments (kohsei) or determinations (kettei), if the subject tax assessment is the one rejecting the taxpayer’s request for a downward adjustment of the tax amount from that as reported in the originally filed tax return, then the taxpayer will owe the burden of proof to establish that such adjusted tax amount as asserted by the taxpayer is correct.

As discussed in 4.3 Relevance of Evidence in Judicial Tax Litigation, from the petitioner’s perspective, key documentary evidence should be submitted during the early stages of the litigation – ie, with the complaint or the petitioner’s first brief – with a view to persuading the court at the outset of the litigation. As the litigation progresses, where the petitioner thinks that the counter-argument of the respondent is not clear, it often requests clarification of that counter-argument through the court and will accordingly rebut such argument.

It often happens that some facts that the petitioner asserts (eg, courses of negotiation and planning of the subject transaction) cannot be supported or established by available documentary evidence. In such cases, it is very common in practice that the petitioner will submit as evidence a written statement describing the relevant facts authored and signed by a person involved in and responsible for that matter instead of calling them as a witness. In other words, it is very common in practice to “substitute‟ witnesses with such written statements. The court will generally prefer this approach, as it is more time-efficient and easy to understand for the judges, as such written statements are usually first drafted by the petitioner’s counsel, bearing in mind the logical and chronological order of the facts as well as the implication of the facts upon the issue of the case.

Also, as to the matter of interpretation of tax law, it is recent common practice that the petitioner, or in some cases the respondent, will submit an expert opinion of a tax law academic to support their interpretation of the issues involved in the case. Petitioners will generally select highly regarded tax academics in the given field of tax law.

The Supreme Court, the highest court of Japan, has expressly recognised that the Commentary to the OECD Model Tax Convention can be a supplementary measure in interpreting tax treaties. However, in their decisions, it is not very common for Japanese courts to refer to foreign jurisprudence or doctrine formed in a foreign jurisdiction.

If the decision of the District Court entirely or partially dismisses the petitioner’s claim, the petitioner is entitled to appeal up to the competent High Court (eg, the Tokyo High Court has the corresponding jurisdiction over the Tokyo District Court). The appeal period is two weeks from receipt of the official copy of the decision (which is mandatory save for exceptional cases); by that deadline, the petitioner must submit a statement of appeal. Then, within 50 days of submitting the statement of appeal, the petitioner must submit the reasons describing the substantive arguments for the appeal. At the High Court level, there is no restriction on the causes; ie, the High Court is still a trial court and its role is not limited to legal review. The court filing fees for the appeal are one and a half times the amount at the District Court level. If the petitioner prevails at the District Court, the Japanese government or the respondent is also entitled to appeal; it is very common for the Japanese government or the respondent to appeal if it has lost in the District Court.

Some appeal cases will be concluded at the first hearing session – ie, only with one session. Some will be reviewed by a few or several ensuing hearing sessions. The entire procedure at the High Court level up to the decision will generally take from six to 18 months.

Unlike the District Court, as mentioned in 4.1 Initiation of Judicial Tax Litigation, High Court Judges are generally not specialists in tax or administrative law, but tax cases are heard in the general civil divisions along with general civil matters such as contract and tort. The panel consists of three judges, including the presiding judge and two associate judges; in High Courts, even associate judges generally have more than ten years of experience. In practice, it is a challenge for the counsel to persuade such judges in complicated and technical tax matters.

If the decision of the High Court entirely or partially dismisses the petitioner’s appeal, the petitioner is entitled, under certain limited circumstances, to appeal up to the Supreme Court within two weeks from receipt of the official copy of the decision (which time limit is mandatory save for exceptional cases); by that deadline, the petitioner must submit an application for a writ of certiorari. Then, within 50 days of the receipt of notice from the Supreme Court (which time limit is again mandatory save for exceptional cases), the petitioner must submit the reasons for the application for a writ of certiorari, describing the substantive arguments for the appeal. In the context of tax litigation, practically, the appeal is limited to, or a writ of certiorari is only granted, where the issue at hand involves an important question of law. As such, the reasons for applying for a writ of certiorari have to persuade the Supreme Court that that important questions of law indeed exist.

If the Supreme Court decides that this condition is not met, it will dismiss the appeal without considering the merits. On the other hand, if the Supreme Court decides otherwise, it will accept the appeal, grant a writ of certiorari, and enter into a substantive review. This review is technically made solely within the Supreme Court, and neither party is required to submit arguments or evidence unless and until requested to do so by the Supreme Court; however, in practice, the parties will voluntarily do so in an attempt to do their best. As a result of the substantive review, the Supreme Court will render a decision, either dismissing the appeal, reversing the High Court decision and deciding on its own, or reversing the High Court decision and remanding the case to the lower courts. Except for the case of remand, the decision of the Supreme Court will be final.

The entire procedure before the Supreme Court up to the final result will generally take from six months to several years.

See 5.1 System for Appealing Judicial Tax Litigation.

No ADR mechanism is available for tax purposes in Japan.

No ADR mechanism is available for tax purposes in Japan.

No ADR mechanism is available for tax purposes in Japan.

A written formal advance ruling is available under somewhat narrow circumstances and subject to certain conditions – eg, publication of the ruling in an anonymised form. A written formal advance ruling is not technically legally binding, but it is considered that, under the general principles of good faith and estoppel, the tax authorities are not allowed to issue a tax assessment that is inconsistent with the issued advance ruling, as long as the relevant information provided to the tax authorities in the ruling process remains accurate. For transfer pricing matters, advance pricing agreements (APAs) are commonly used measures to ensure certainty. See also 1.3 Avoidance of Tax Controversies.

No ADR mechanism is available for tax purposes in Japan.

No ADR mechanism is available for tax purposes in Japan.

Procedures for tax assessment and criminal tax cases are separate from each other, and thus, the former procedure would not automatically initiate the latter. A criminal case would normally be initiated when the criminal investigation division of the tax authorities becomes aware of any potential tax crime. Judicial precedents, however, allow the taxation division of the tax authorities to share the information acquired through a tax audit with the criminal investigation division of the tax authorities unless the tax audit was conducted for criminal investigation. Thus, where information is so shared, it can lead to scrutiny by the criminal investigation division. 

Generally speaking, in practice, a criminal case would be initiated only where the taxpayer wilfully conducted fabrication or concealment of facts or numbers or wilfully failed to submit tax returns. Application of a general anti-avoidance rule (GAAR) or a specific anti-avoidance rule (SAAR), or tax assessments arising from a difference of views between the taxpayer and the tax authority, are generally for tax assessment purposes only and would not develop into a criminal case in practice. In our experience, it is very rare that tax controversy cases of sophisticated corporate taxpayers develop into criminal cases.

The procedures for tax assessment and criminal tax cases are separate and independent from each other, and there is no legal requirement that one procedure must be suspended while the other procedure is pending. Similarly, once the criminal tax case is initiated, the taxpayer may be indicted and tried in a criminal court, even if they voluntarily admit the position of the tax authority, file an amended tax return and pay the assessed tax in full together with penalties. However, such voluntary admittance and payment of the assessed tax, if made before indictment, can be taken into account when the prosecutor decides whether to indict a particular case based on the malicious nature of such a case. 

A criminal tax case would be initiated when the criminal investigation division of the tax authorities has become aware of any potential tax crime – eg, the fact or suspicion that the taxpayer wilfully conducted fabrication or concealment of facts or numbers or wilfully failed to submit tax returns.

The criminal investigation division of the tax authorities first conducts its investigation, and if it considers that evidence sufficient for the prosecutor’s consideration has been collected, it makes a criminal accusation with the prosecutor. The prosecutor will then conduct its investigation, and if they consider that evidence sufficient for indictment has been collected, they indict in court.

The general criminal division of the court will review the criminal tax case, but large District Courts such as Tokyo and Osaka have a specialised criminal tax division. In contrast, the legality of the tax assessment will be reviewed by the general civil division of the court (see 4.1 Initiation of Judicial Tax Litigation).

Upfront payment of the tax assessment could be taken into account by the judge as a mitigating factor in determining the amount of a fine or the period of imprisonment, but this is within the discretion of the judges, and there is no legal system that requires a reduction in potential fines or the period of imprisonment in the corresponding criminal case.

Under a recently introduced bargaining system for criminal proceedings, which applies to certain specified economic or financial crimes (including tax crimes), a prosecutor and a taxpayer can enter into an agreement under which the prosecutor agrees not to institute or to withdraw the indictment of the taxpayer on the condition that the taxpayer provides testimony or evidence for, or otherwise co-operates with, the prosecutor’s investigation of a certain crime of another person (but not the taxpayer themselves). This system became effective in June 2018, and to the author’s knowledge, it has not been applied in criminal tax cases.

There is only one route to appeal against the decision of the District Court – ie, first to the High Court and then to the Supreme Court. Both the taxpayer (if convicted) and the prosecutor (if the taxpayer was acquitted or the amount of fines or the period of imprisonment sentenced at the preceding instance were considered insufficient from the prosecutor’s perspective) can appeal to the higher court. The prosecutor’s appeal is permitted as not contravening the constitutional principle of prohibition against double jeopardy.

Under Japanese tax law, the SAAR, transfer pricing rules and anti-avoidance rules are for tax assessment purposes only. Tax assessment under these rules, therefore, would not generally give rise to criminal tax cases unless the taxpayer also committed tax evasion or another tax crime (eg, the taxpayer wilfully conducted fabrication or concealment of facts or numbers or wilfully failed to submit tax returns). At this stage, Japanese tax law has no GAAR that could apply without any particular restriction on the scope.

In transfer pricing cases, where economic double taxation arises as a result of a tax assessment, it is common to use MAP if available under the applicable double tax treaty, to avoid such economic double taxation.

In non-transfer pricing cases, if the taxpayer considers that it has received taxation in contravention of the applicable double tax treaty (eg, the existence of a permeant establishment (PE) in Japan, the amount of profits attributable to a PE, withholding tax in contravention of the treaty) in Japan or the counterparty jurisdiction, that taxpayer can also rely on the MAP. In practice, however, economic double taxation as a result of tax assessment often arises without regard to the double tax treaty, in which case, the taxpayer’s sole remedy would be to initiate domestic litigation.

According to the MAP statistics published by the OECD as part of the implementation of BEPS Action 14, Japan had 106 pending mutual agreement procedure cases (excluding those for APAs) as of the end of 2021, of which 82 cases (approximately 77%) are on transfer pricing-related matters.

Where a MAP is not available at the outset or does not effectively solve economic double taxation, the taxpayer can still initiate domestic litigation to solve economic double taxation.

There does not yet seem to have been any particular impact of the measures adopted under the MLI in this domain because the arbitration process provided in the MLI has not become available yet (see 10.1 Application of Part VI of the Multilateral Instrument (MLI) to Covered Tax Agreements (CTAs)).

While the definitions of GAAR and SAAR would vary depending on the commentators, Japanese tax law has no GAAR that could be applied without any particular restriction on the scope. There are:

• a few targeted anti-avoidance rules (TAAR) applicable to certain situations in rather general terms (eg, closely held corporations and corporate reorganisations); and
• other more specific SAARs, including the CFC rules that apply in cross-border situations.

The validity of the CFC rules has been challenged in the past, and the Supreme Court held that taxation under the CFC rules does not contravene the applicable double tax treaty.

While the PPT and amendment to the preamble of double tax treaties, both as introduced by the MLI, should help tax authorities combat BEPS in cross-border situations in one way or another, the scope/impact of the PPT and amendment to the preamble remain ambiguous. Therefore, where the tax authorities deny taxpayers’ positions relying on these measures, it is expected that taxpayers would initiate the dispute procedure under the available dispute resolution measures. If the matter is litigated in court, the court would be required to assess the scope/impact of these measures, taking into account, for example, the relevant OECD materials.

Generally speaking, taxpayers often prefer to challenge transfer pricing adjustments via a MAP under the existing double tax treaties mechanism since, in many cases, a resulting agreement between the competent tax authorities would allow the taxpayer to avoid economic double taxation. Where a solution through a MAP is not available (including where the negotiation under the mutual agreement procedure was not successful), taxpayers would challenge the adjustment by the domestic tax controversy procedure. See also 8.1 Mechanisms to Deal With Double Taxation.

Bilateral APAs are a common mechanism to avoid or mitigate the risks of future tax assessment on transfer pricing matters. Unilateral APAs are also used, for example, where the potential tax risks are considered rather small, or bilateral APAs are not available in relation to particular jurisdictions. Information on unilateral APAs would be exchanged with relevant jurisdictions under the framework for spontaneous exchange of information in accordance with BEPS Action 5.

As to the main stages of APA procedures, a taxpayer would, after conducting a preliminary economic analysis of the transaction in question, normally have preliminary consultations with the tax authorities to discuss the possibility of an APA and the agreed approach for economic analysis. Based on such a preliminary consultation, the taxpayer would conduct a detailed economic analysis and prepare an application for an APA. After the application is filed with the tax authorities, the application will be first reviewed by the tax authorities of Japan and then, where relevant, a MAP between the competent authorities of Japan and the other applicable jurisdiction(s) would commence.

In a cross-border context, withholding tax has historically been a major source of litigation. During the past several years, CFC and transfer pricing matters have generated a considerable volume of litigation. There has also been litigation involving corporate reorganisations with cross-border elements. In contrast, there are only a few cases under which the existence of a PE was litigated in court. These trends equally apply to additional or new litigation.

In order to mitigate the risk of litigation, it would be advisable to seek advice from tax advisers at the planning stage and structure transactions in a manner less susceptible to challenges by the tax authorities. For transfer pricing matters, the use of APAs is a common approach among Japanese taxpayers. See also 1.3 Avoidance of Tax Controversies and 6.4 Avoiding Disputes by Means of Binding Advance Information and Ruling Requests.

This issue is not relevant because Japan is not an EU member state.

This issue is not relevant because Japan is not an EU member state.

This issue is not relevant because Japan is not an EU member state.

This issue is not relevant because Japan is not an EU member state.

Approximately 30 of Japan’s double tax treaties provide for mandatory binding arbitration, and among these treaties, competent authority agreements to implement the arbitration process have been signed with eight jurisdictions as of 1 April 2023.

Japan also elected to apply part VI of the MLI to the relevant CTAs, and thus, a set of arbitration provisions will be introduced into the relevant CTAs, if treaty partners also make the same election. As of 1 April 2023, no competent authority agreement has been signed to implement the arbitration process provided in the MLI, and thus, the arbitration process provided in the MLI has not become available yet.

The general treaty policy of Japan is to submit any types of matters to arbitration, as long as they relate to taxation, not in accordance with the provisions of the relevant double tax treaties. 

Japan generally followed this policy under the MLI and will submit any types of matters to arbitration, with the following two minor exceptions:

• cases to determine the residency of a person other than an individual where such person would otherwise be treated as a dual-resident (this exclusion is already provided for in the Explanatory Statement to the MLI, and as such, this reservation was made only for clarification purposes); and
• matters which the treaty partner has excluded from the scope of arbitration (this reservation is to make the scope of arbitration reciprocal with the treaty partner).

Under the MLI, Japan has opted for the independent opinion procedure. While no official explanation was provided for this choice, it seems consistent with Japan′s existing competent authority agreements, which generally do not adopt baseball arbitration, as mentioned below. 

The existing competent authority agreements to implement an arbitration process do not provide for a specific mode of arbitration, except for:

• the double tax treaty with the USA, for which baseball arbitration is adopted as the sole mode for arbitration; and
• the double tax treaty with the UK, for which baseball arbitration is provided as an optional mode for arbitration.

As mentioned in 10.1 Application of Part VI of the Multilateral Instrument (MLI) to Covered Tax Agreements (CTAs), Japan is proactively adopting OECD-based mandatory binding arbitration in its double tax treaties through either bilateral treaty negotiation or the MLI. As a non-EU member state, the EU Directive on Arbitration does not apply to Japan.

As of 1 April 2023, there is no publicly available information on whether mandatory binding arbitration introduced into double tax treaties has already been used in Japan. As a non-EU member state, EU legal instruments do not apply to Japan.

Both Pillars One and Two will likely take effect in Japan. In particular, the Japanese Parliament approved the legislation to implement the Pillar Two proposal on 28 March 2023, and Japan’s income inclusion rule applies for fiscal years commencing on or after 1 April 2024.

Both Pillars envisage consistent application of the same substantive tax rules across jurisdictions in an unprecedented manner, and this would likely generate uncertainties and controversies – eg, where jurisdictions take a different interpretation of the same rule or have different views on the same set of facts. While it may be premature to judge the effectiveness of the instruments to mitigate controversies and tax certainty procedures, it is possible that they are not sufficient.

Under the existing competent authority agreements to implement an arbitration process, no information on arbitration decisions will be published unless both jurisdictions and the relevant taxpayers agree in writing. With respect to the arbitration process provided in the MLI, while no competent authority agreements have been signed, it is expected that Japan will adopt a similar approach therein.

As of 1 April 2023, there is no publicly available information on whether mandatory binding arbitration has already been used in Japan (see 10.5 Existing Use of Recent International and EU Legal Instruments).

With respect to the choice of dispute resolution measures under double tax treaties (other than arbitration) and domestic rules, see 8.1 Mechanisms to Deal With Double Taxation.

As mentioned in 10.5 Existing Use of Recent International and EU Legal Instruments, there is no publicly available information on whether mandatory binding arbitration has already been used in Japan. However, it seems reasonable to believe that taxpayers will be allowed to hire independent professionals for the arbitration process. Where the matter is complex, the government may also want to retain independent professionals to achieve the best possible outcome from its point of view.

In administrative litigation procedures, there will be no costs/fees that a taxpayer has to pay to the tax authorities or the National Tax Tribunal, aside from fees for making copies of evidence submitted by the tax authorities or collected by the National Tax Tribunal. See 3.1 Administrative Claim Phase.

In judicial litigation procedures, a taxpayer has to pay court filing fees by way of revenue stamps when filing its complaint with the District Court. The amount of such fees will be calculated in accordance with certain formulae prescribed in the law. For example, where the amount in dispute is JPY100 million, the amount of such fees is JPY320,000.

In the second and third instances (ie, hearing on appeal and hearing on final appeal), the appealing party has to pay the court filing fees when filing its appeal. The amount of such fees at each instance equals the amount of such fees at the first instance multiplied by one and a half or two, respectively.

Where a taxpayer ultimately prevails, it can demand that the Japanese government pay the court filing fees back to the taxpayer, but not the attorneys’ fees.

Even if the court decides that the tax assessment is illegal and invalid, the taxpayer is generally not entitled to indemnity under Japanese tax law. Where a taxpayer suffered damage that was unlawfully inflicted by a public officer intentionally or by negligence, the taxpayer can request indemnity under the State Redress Act. Generally speaking, such an indemnity requirement is rather strict, and taxpayers can receive it only in very limited circumstances.

No ADR mechanism is available for tax purposes in Japan.

According to the latest statistics published by the National Tax Agency (the NTA Statistics), the total number of tax court cases pending at the end of the fiscal year (FY) 2021 (1 April 2021 to 31 March 2022) is 185. The breakdown by instance is 137 cases at the first instance, 30 cases at the hearing on appeal and 18 cases at the hearing on final appeal.

Information on the amount of tax in dispute is not publicly available.

According to the NTA Statistics, the total number of cases that commenced in FY 2021 was 189. The breakdown by the types of taxes involved is 42 cases on corporate income tax, 59 cases on income tax (including withholding tax), 25 cases on VAT, 17 cases on property tax and 46 cases on other tax or tax-related matters.

The total number of cases that closed in FY 2021 was 199. The breakdown by the types of taxes involved is 35 cases on corporate income tax, 85 cases on income tax (including withholding tax), 18 cases on VAT, 22 cases on property tax and 39 cases on other tax or tax-related matters.

Information on the amount of tax in dispute is not publicly available.

According to the NTA Statistics, taxpayers prevailed in 13 cases (7% of the total of 199 cases that closed in FY 2021). To be more precise, taxpayers fully prevailed in seven cases and partially in seven cases. While this percentage of taxpayer success in tax litigations may appear to be rather low, the denominator seems to include cases that had slim chances of success at the outset. In the author’s view, sophisticated corporate taxpayers, which commence tax litigation after receiving merits advice from experienced tax attorneys, tend to have higher chances of success.

The importance of taking appropriate actions at each stage of a transaction cannot be emphasised enough.

At the planning stage, well-advised tax planning (including using formal or informal advance rulings or APAs, where available and appropriate) would reduce the future risks of challenges by the tax authorities. See also 1.3 Avoidance of Tax Controversies and 6.4 Avoiding Disputes by Means of Binding Advance Information and Ruling Requests.

At the stage of tax audit, while the tax authorities sometimes stick to their interpretation of tax laws, making an argument based on facts and evidence at an early stage can often prevent the tax authorities from issuing a tax assessment. At the same time, flexibility on the side of the taxpayer may be needed to try to settle the case effectively when the taxpayer’s position is not very robust, in light of the time and costs that may be required for future tax litigation proceedings. See also 2.6 Strategic Points for Consideration During Tax Audits.

At the stage of litigation, effective presentation of complicated tax matters in an easy-to-understand manner, supported by facts and evidence, will increase the chance of success. See also 4.3 Relevance of Evidence in Judicial Tax Litigation and 4.5 Strategic Options in Judicial Tax Litigation.