10 steps to reduce inheritance (estate) tax for business owners

There are many options you can take to reduce your inheritance tax. Here are basic steps to reduce the tax. Inheritance tax offers many tax deductions or discount under certain situations. But as a basic, the fundamental aspects should be addressed first.

Basics

1) Estimate your inheritance and see how the tax will be reduced if certain conditions are met. You need to know first what are there and how much they are for each items. Without knowing that, you will never know what options are available to reduce your tax. For example, if you take over parent’s (or parent in law) house and will live there with your resident address moved, you will get 80% discount on the valuation of its land.

2) Those tax benefits are only available if its split of the estate is agreed by the deadline of the tax filing (10 months). It is recommended to prepare an agreement in advance among heirs. For example, it is necessary to have an agreement of the split and actually live there by the deadline of the filing to take the above mentioned 80% discount on the land valuation.

Possible options to reduce tax

The below are real world feasible steps to reduce the tax. Some of them require to set up a co:

1) Buy life insurance by parents money. The money received from insurance is still to be counted as taxable base, you will get deduction of the taxable asset by 5 million yen times number of heirs. If the insurance money is 30 million yen, which should be close to the amount that was paid from the decedent money, you have already reduced taxable base by 20 million yen (presuming that the number of heirs is 4 for example).

2) Make gift to heirs every year. 1.1 million yen per year is tax free of gift tax by each person. This will reduce your taxable assets steadily. If you have 4 heirs and have 10 years before die, you will save 44 million yen in tax base (1.1M * 4 persons * 10 years).

3) Create a company and pay salaries to heirs. Real work has to be done to justify the salaries and keep its records of work. If you are a business owner, majority of your estate should likely come from the valuation of your own company. This is to reduce the valuation of the shares.

4) Create companies under names of heirs and pay fees to them. Again, real work has to be provided.

5) Borrow money to buy properties. Valuation of properties are usually much lower than its real market price. If you borrow money of 100 million yen to buy a condominium in Tokyo, the market price of the condominium may be still around 100 million yen but the valuation for the inheritance tax will likely be 70 million yen. You already manage to have reduced the tax base by 30 million yen.

6) Pay rents in advance or pay for other expenses to harm the balance sheet of the company. Then make gift to heirs in form of shares.

7) Make gift in form of properties to spouse for residence. It is tax free up to 20 million yen. It is a special tax benefit designed to stimulate the economy.

8) Same concept as the above. Your parent can make gift for your children’s education by 15 million yen. You need to open a special bank account for this education purpose and all the withdrawal from the account will have to be reported.

Checklist saves your corporate tax

I became a big believer in check list recently after I read a book called Checklist by Atul Gawande. It explained various situations where a checklist played a dramatic role in reducing failure rate in medicine, law practice, construction etc. A simple check list that covers a wide range of items will save you from missing just one important item out of many that can possibly cause a major damage or unnecessary cost in any areas of your concern. Now I want to provide you with a check list that I think will probably help you save your corporate tax.

The list covers many but easy ones that you can even implement in the last minutes for most of the items.

1. Is it possible to pay rent for your office in advance for one year?
2. Is it possible to pay your insurance in advance for one year?
3. Do I want to pay Safety Net Insurance? That is actually the same as saving my money but is deductible.
4. If I want to pay year end bonus to my team, I have to send an email or notice before the end of the fiscal year.
5. Is there any bad debt (accounts receivable) that has not been collectible? If the customer went bankrupt or if I did not have any transaction with them for more than one year, I can expense it.
6. Are there any expenses that can fall under R and D category? Check with my accountant.
7. If I paid more salary to my staff, there is a chance that I can get a bit tax credit. Check with my accountant.
8. Can I pay advertisement for one year in advance?
9. Can I pay my spouse for his/her work at home?
10. Can I claim a part of my car expenses (or other major things) as expenses? Check with my accountant.
11. Did I apply for Blue Tax Payer Status? That will allow me to carry my losses for next 10 years.
12. Do I want to pay myself rent for the space I work at home (at least for next 12 months)?

There is a rumor that the tax authority is considering revision on overseas property depreciation

I have not confirmed the source yet but there is a talking in tax community that the tax authority is considering to limit deductible depreciation expenses on overseas properties.

As you may know that second handed houses can be expensed over relatively shorter period. The depreciation expense are allowed to use the 20% of the original life year if it is older than the original life year.

For example, the life year defined for a wooden house by the tax law is 22 years. If you buy a wooden house which is older than 22 years, you are allowed to expense the cost of the house (except the land price portion) over 4 years through depreciation calculation (22 years * 20%).

If you buy a house of 60 million yen and if the house portion and the land portion can be split into 50:50, you can claim depreciation expense of 7.5 million yen (60 million * 0.5 / 4 years) per year over the next 4 years.

Because your rent income usually is much lower than this amount (let’s presume it will be 2.4 million yen a year), and you also have other expenses (let’s say 1 million yen), your loss will be 6.1 million yen (2.4M – 1M – 7.5M) that can be offset against other income (e.g. salary).

As you can see, it has huge impact to reduce your tax. On top of this, when you sell it, the tax rate on capital gain is only 20%. So, if you are in the higher tax bracket, say 50%), you save the income tax of 50% by the amount of loss, and when you sell it, you only have to pay 20%. It surely sounds like a very good deal, no?

The tax authority knows this and is said to be considering to stop this type of practice because this does not sound fair.

If it comes soon, the new restriction will come in by January 1, 2018. If you are thinking of buying a property because of the tax benefit, you may want to consider more on financial elements such as your future return on investment.

Tax saving tips for SMEs

After a few years of struggle (or even from the first year), your company has started generating enough income. Now you are worried about the tax to pay.

There are some tax tips that everybody know (not everybody but many. Sorry). They are nothing illegal. There should be no much reason for you not to do them.

Paying rent for a year in advance

According to Japanese Tax Law, expenses to pay for length of period of services are allowed to be expensed when they are paid for one year at maximum in advance. The typical examples are rent and life insurance. For example, your fiscal year ends in December, pay your office rent to the landlord for the whole next year. It will be deductible from your income. The condition to meet is it has to be actually “paid” by the end of the fiscal year.

To make it clear, it is advisable to pay through a bank transfer because there will be an evidence. You also need to agree that with landlord. Please get something in writing with your landlord that you both parties agree that the rent will be paid for 12 months at the end of previous year, “unless” you propose otherwise for cashflow reason or whatever.

Safety net insurance

This one is even more generous.

Safety Insurance (Bankruptcy Insurance)

You can pay at maximum 200,000 yen per month as deductible expense and after 40 months, you can terminate the contract and get 100% refund of what you pay plus interest. The minimum contribution as of today is 5,000 yen. The economical effect here is only to push the taxable income to future, meaning you will have to recognize its refund as income when it is returned.

But it is nice to push the taxable income today so that you will receive the income when rainy day in future.

Company housing

It is rather a long time solution but it does have a great deal of impact on our personal tax and social insurance.

Your company can rent a house for you and pay half of the rent as company’s deductible expense. By reducing your salary and pay it as a rent to your landlord, your taxable income will be reduced by such amount. Because the amount of social insurance contribution is also based on your salary, you will save your income tax as well as social insurance.

Buying property overseas

This one is still popular especially among foreigners who have access to property market abroad. Because the speed of depreciation is determined by how old the property is, properties in foreign countries (especially in Europe and North America) were advantageous because building that is 100 years old is not special there.

You need to be a little bit careful with this. It seems that a new restriction will be coming into place to ban this because the authority seems to think this one is not fair.

There are much more but I want to mention them in a separate post.

Blue Tax Form status

Make sure to obtain “Blue Tax Form” status. There are a few major tax benefits such as tax credits and you can carry your operating losses for next 10 years.

Consumption tax -Simplified Method

This one is basic too but make sure you can apply for the simplified method. By choosing this, you will be using deemed tax rate for consumption tax instead of actual calculation (where you plus and minus all the taxable sales and expenses). The eligibility is that your taxable sales in two years back has to be between 10 and 50 million yen.

If the sales in the fiscal year two years ago was less than 10 million yen, congratulation!, you are free of consumption tax (most of the cases).