Well known tax saving setting by buying properties abroad

Well known structure

Buying properties abroad has become a well known structure for saving setting among individuals in high income tax brackets. Properties abroad are especially popular because of two major reasons.

1) The split of the cost between building and land is much more favorable overseas. In Japan, especially in urban area, land portion of the acquisition cost is relatively high. In Tokyo, it normally consists more than 50% of the total purchase price, while those in NY, LA, London, and Paris, the cost of building is apparently much higher in the entire cost of the purchase. Proportion can reach to astounding 85%:15% or even 90%:10%. This means you can expense much larger portion of the total cost you actually cash out.

2) Buildings do last much longer than in Japan but you can expense them all in much shorter period because of the life year by the Japanese tax law. Because the typical life year of a new building under the Japanese tax law is 47 years. And if ones you are purchasing are second handed, its life year is 47 years minus 80% of years that were already passed. For example, if it is 80 years old (which is not unusual in Europe for example), 47 yrs – 80 yrs * 80% = negative number, and if it becomes negative, minimum life year is 20% of the original life year (47 yrs) which is 9.4 yrs.

For instance, you buy an apartment made of concrete and steal of 80 years old in Paris for 100 million yen, its life year for the Japanese tax is 9 years (as mentioned above). Its cost of land is 85 million yen (85% of the total cost), and therefore, the depreciation expense that you can deduct against your rent income is about 9.4 million yen. And if the rent income is 1 million yen per year, the loss of 8.4 million yen (1- 9.4) can be deducted from your other income in Japan (say salary).

Converting salary income today to Capital Gain in future

There is another beauty. Sometime in future, you will sell the property. The cost for the capital gain is the book value after subtracting all the depreciation expenses you have booked since your purchase. The capital gain will look very large. But you will probably benefit from the structure.

The tax rate on salary or business income can be as high as about 50% including resident tax and social insurance. By offsetting the depreciation expense against salary income in this year, you will have the same amount of capital gain, presuming that market price of the property remains the same. (It can increase in value as opposed to this presumption, of course). The tax rate on capital gain is only 20% (if you hold more than 5 plus years). In another word, you are reducing your salary income by the amount of the depreciation expense and increasing the capital gain in future by the same amount. It is almost like converting your highly taxed salary income today to lightly taxed capital gain in future.