2023 Tax Reform Proposals
How changes to gift tax rules and audits may impact you
On December 16, 2022, the Government of Japan released its 2023 tax reform proposals. The amendments contain changes to the rules related to gifts and inheritance tax. The proposals have been promulgated into law and entered into force on April 1. Here is an overview of the changes.
Seven Year Lookback for Gifts
Currently, gifts bestowed within three years of the giver’s death are added back to the estate of the deceased for Japan inheritance tax (IHT) purposes. The value of the assets is reduced by any gift tax paid at the time the gift was received, and this amount is then subject to IHT along with the other assets of the deceased.
To offset this, one aspect of long-term estate planning is to make small annual gifts which are taxed at gift-tax rates lower than the effective IHT rate that would be levied if the gifts had remained part of the estate.
The reforms increased the lookback period to seven years for gifts made on or after January 1, 2024. This brings Japan in line with countries such as the United Kingdom.
Unlike the UK, however, there is no gradual reduction in the value of the gift over the seven-year period. One hundred percent of the gift’s value is added back to the taxable estate, regardless of whether it was made seven years or one day prior to death. A ¥1 million deduction is allowed for gifts made between three and seven years prior to someone’s passing.
The chart below shows this in action:
This change has a significant impact on lifetime estate planning, as gifts made on or after January 1, 2024, will be subject to a seven-year lookback for inheritance tax purposes.
For expats, discussion about Japan IHT planning with overseas parents can be difficult—especially if being subject to the Japanese rules would impact overseas planning. However, these proposed changes will accelerate the need for gift planning during 2023.
Valuation Methods for High-Rise Apartments
Although there are no specific amendments, another issue that needs to be considered in the near future is the government’s discussion of amending the rules surrounding the IHT valuation of apartments in high-rises.
Currently, there can be a large disparity between the fair market value of an apartment and its tax basis for IHT purposes. This is due to the use of various tax valuations that reduce the IHT value. For apartments in certain parts of Tokyo, the IHT value can be significantly lower than the fair market value. This disparity can be used to reduce the value of an estate considerably for IHT purposes. The government has indicated that it will look to close this avenue for tax planning in the future.
Tax Audit Statistics
The government also released its tax audit statistics in December, covering audits conducted between July 2021 and June 2022. Direct comparisons to previous years are unreliable due to the impact of the Covid-19 pandemic on the tax authority’s ability to conduct audits. However, the number of audits involving overseas assets increased by 20 percent over the previous year and is approaching the level seen prior to the pandemic. About two-thirds of the cases involved undisclosed assets in North America or Asia.
Additionally, the number of simple inquiries where the tax office contacts a taxpayer by post or phone increased by eight percent over the previous year and is 40 percent higher than pre-pandemic levels. This indicates that the tax office has shifted to less formal inquiries as a means of identifying taxpayers who require a full audit.
Summary
The increase in the lookback period for gifts accelerates the need for planning before the end of the year. This will be necessary to ensure that gifts fall out of the scope of IHT sooner. Current planning utilizing high-rise apartments may also need to be revisited in light of the anticipated changes.
As always, with any informal contact from the tax office, it is wise to consult with your tax advisor before submitting a response.
For more information, please contact Grant Thornton Japan at info@jp.gt.com or visit www.grantthornton.jp/en
