1. Basic Overview of the Exit Tax System

The Exit Tax System was introduced to prevent tax evasion by individuals moving to countries with no or low capital gains tax by taxing capital gains on shares and other financial assets. This system considers that certain financial assets held by individuals meeting specific conditions are deemed to have been transferred at the time they move out of Japan, and income tax is imposed. For the exit tax (gift) system, which targets gifts to non-residents, this column will omit a detailed explanation and focus primarily on taxation at the time of departure. The exit tax applies when both of the following two conditions are met:

1. Holding a significant amount of assets: The individual holds target assets (described later) totaling JPY 100 million or more at market value at the time of departure from Japan.
2. Long-term resident in Japan: As a general rule, the individual has resided in Japan for a cumulative period exceeding 5 years within the 10 years prior to departure.

If an individual meeting the above conditions moves overseas, they will be taxed as if they sold the target assets at market value at the time of departure.

The financial assets subject to this tax are as follows:

• Securities such as stocks and investment trusts
• Unsettled positions related to margin trading
• Unsettled positions related to derivative transactions

The determination is made based on whether the total appraised value of these assets is JPY 100 million or more at the time of departure. Cash itself and real estate in Japan or overseas are not included in these target assets.

This system also offers a deferral system for the tax itself. If the eligible individual completes certain procedures, it is possible to defer the payment of the assessed income tax for up to 10 years after departure (initially 5 years + an additional 5 years with a prescribed extension application).
 

2. What Constitutes Capital Gains at the Time of Departure?

Capital gains income refers to income generated when assets such as real estate or shares are transferred (sold), i.e., profits from sale. Normally, capital gains income is finalized only when an asset is actually sold, and at that point, it becomes subject to income tax.

"Capital gains income at the time of departure" refers to income that is deemed to have arisen when a resident meeting certain conditions moves out of Japan (becomes a non-resident), as if the financial assets they hold at that time were sold. In other words, even assets that have not actually been sold are subject to taxation on their potential capital gains (unrealized gains) at the time of departure.
 

3. Relationship Between Personal Income Tax and Capital Gains Income in Japan

Under Japan's income tax system, an individual's income is classified into various types, each with different taxation methods. Capital gains income is one such type; for example, if a profit (capital gain) is generated from selling shares or investment trusts, that profit is subject to tax as capital gains income.

Capital gains on financial products like listed shares, etc., are generally taxed at a rate of approximately 20% (15.315% income tax and special reconstruction income tax, 5% local inhabitant tax). Capital gains from these financial assets are subject to separate self-assessment taxation, separate from other income such as salary income.

In this regard, profits obtained by a Japanese resident from selling overseas assets are, in principle, subject to taxation in Japan, unless the resident falls under the category of a non-permanent resident. This means that for individuals who have resided in Japan for a long time, profits from selling overseas shares can usually be subject to Japanese income tax. Conversely, if listed shares, etc., are sold after an individual has left Japan and become a non-resident, the capital gains are usually outside the scope of Japanese taxation.

Due to this difference, in the past, tax avoidance occurred where individuals moved to low-tax countries just before selling assets accumulated in Japan to avoid Japanese capital gains tax.
 

4. Key Risks for Foreign Executives

The exit tax applies regardless of Japanese nationality. Therefore, even foreign national officers may be subject to taxation if they meet the aforementioned requirements (holding assets with a market value of JPY 100 million or more and residing for more than 5 years). However, in practice, there are special treatments for foreign national expatriates. Under Japanese tax law, periods of stay in Japan under certain residence statuses (visas) can be excluded from the "residing for more than 5 years within 10 years" determination.

It is important to note that the exclusion may not apply depending on the type of residence status. Therefore, even foreign national officers face the risk of exit tax depending on their actual period of stay in Japan. The most significant risk is the situation where "one assumes they are exempt from taxation but are actually subject to it."

5. Required Documents and Procedures for Tax Filing

If there is a possibility of being subject to the exit tax, appropriate tax procedures must be followed before and after leaving Japan.

First, upon departure, a notification of a tax agent is usually submitted to the tax office. Next, a final tax return for the year of departure is filed, declaring the unrealized gains at the time of departure. The final tax return must include the unrealized gains of the target assets and, in principle, must be submitted by March 15 of the following year.

To utilize the aforementioned tax deferral system, the final tax return must state the intention to apply for deferral, and collateral equivalent to the deferred tax amount must be provided by the filing deadline. If tax deferral is granted, the payment of income tax on the unrealized gains of the target assets is temporarily withheld and deferred for 5 years (up to a maximum of 10 years with an extension application) as long as annual asset status reports (continuing application forms) are continuously submitted. If the individual returns to Japan and continues to hold the assets during the tax deferral period, the taxation can be canceled through prescribed procedures.
 

6. Tax Case Examples and Countermeasures Regarding Capital Gains Income

Let's consider actual hypothetical cases and discuss issues related to the exit tax system and countermeasures.
 

[Case: Foreign National CFO Moving Overseas]
In cases where a foreign national CFO moves overseas while holding high-value financial assets such as shares in Japan, a capital gains tax of approximately 20% will be imposed on unrealized gains at the time of departure. Even if they move to a country with no capital gains tax, like Singapore, they will still need to pay tax in Japan.

As countermeasures, options include selling some assets before departure to keep the asset valuation below JPY 100 million, or utilizing the tax deferral system to postpone tax payment until their return.

However, if the destination country taxes capital gains, there is a risk of double taxation. Therefore, it is important to plan with the tax system of the destination country in mind, such as realizing a certain amount of unrealized gains while still in Japan (paying tax in Japan).
 

7. Prior Preparation is Key: Points for Risk Avoidance

To minimize risks related to the exit tax, advance preparation and planning are crucial.

Here are key points for foreign national officers to manage risks in practice:

• Consult a specialist early to understand your asset situation: If the possibility of overseas transfer or departure due to the end of your term arises, consult an international tax specialist as early as possible to confirm the appraisal value of your target assets and whether you will be subject to taxation. Early consultation is key to risk reduction, especially if you hold significant financial assets such as stocks.
• Confirm residence status and history of stay: Check your history of stay in Japan (residence period) and the type of your residence status to understand if you might fall under the residency requirements for the exit tax. For foreign national expatriates, confirm with a tax specialist whether your period of stay under your residence status is excluded from the residency period determination.
• Appointment of a tax agent and preparation of documents: Before departing, complete the notification for a tax agent and prepare the necessary documents for filing your final tax return. Especially if you have assets subject to the exit tax, gather in advance the materials for calculating their acquisition cost and market value (such as purchase contracts, securities company transaction reports, and market price appraisal statements). Sufficient preparation is needed to avoid situations where accurate filing cannot be done due to insufficient documents just before departure.

8. Conclusion

The exit tax system is an important tax consideration that can arise when taking assets from Japan overseas. This article has broadly explained everything from the system's overview to its impact on foreign national officers, specific procedures and points of caution, and even hypothetical cases and countermeasures. Although the number of individuals subject to this system is limited, its application can result in a significant tax burden, and risks such as unreported income due to insufficient preparation can be substantial.

Since the tax field is highly specialized, actively seeking advice from internal and external experts is effective. For globally active foreign national officers, asset management and tax compliance spanning Japanese and international tax systems are crucial challenges. We hope this article can assist such individuals in making appropriate plans and controlling tax risks when departing from Japan.

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