Business Succession in Japan: Family, Employee and M&A Routes Compared

There are three ways to pass on a business (事業承継): succession within the family, succession to employees or management, and succession to a third party (M&A). The choice depends on whether there is a successor, how the shares will be transferred and who bears the funding and tax costs. Whichever route you take, preparation takes years, so it is important to decide on a direction while the owner is still in good health.

The three succession options and how they differ

The Small and Medium Enterprise Agency’s business succession guidelines divide succession into three types: “succession within the family”, “succession to management or employees” and “transfer outside the company (M&A and similar)”. The main differences are as follows.

The Small and Medium Enterprise Agency notes that the share of succession within the family is falling, while succession to people outside the family is increasing. Rather than narrowing to one option from the start, we recommend comparing several side by side.

What is passed on: management, assets and intellectual assets

Business succession does not end with handing over shares. The guidelines classify what is passed on into three categories:

• People (management): the position of owner-manager and the ability to run the business
• Assets: the company’s shares, business real estate and equipment, and funds
• Intellectual assets: technology and know-how, customer relationships, brands, and licenses and permits

Intellectual assets are the least visible and take the longest to hand over. For licenses and permits, the succession procedure depends on whether they are held by the company or by an individual.

Succession within the family: process and tax

In family succession, the company’s shares are usually transferred to the successor by inheritance or gift. The better the company performs, the higher the share valuation and the heavier the inheritance and gift tax burden. Start by estimating the share valuation and the likely tax.

Special measures under the corporate business succession tax system

The corporate business succession tax system defers and exempts inheritance tax and gift tax on unlisted shares that meet certain requirements. There are general measures and special measures; the special measures are more generous in terms of the number of eligible shares and the deferral ratio.

The plan submission deadline has been extended, but the deadline for carrying out the succession has not changed. If you may use the special measures, start discussing them early with a certified tax accountant. Even after certification, requirements such as maintaining employment and continuing the business apply, along with annual reporting.

Civil Code exceptions for reserved shares

Concentrating shares in the successor raises the issue of other heirs’ legally reserved shares (遺留分). Under the Civil Code exceptions in the Business Succession Facilitation Act, if the successor and all holders of reserved-share rights agree, and the agreement is confirmed by the Minister of Economy, Trade and Industry and approved by the family court, the following agreements can be made:

• Exclusion agreement: company shares and other assets gifted during the owner’s lifetime are excluded from the basis for calculating reserved shares
• Fixing agreement: the value of the company’s shares is fixed at the valuation at the time of the agreement

If heirs live abroad, the scope of their Japanese inheritance tax liability becomes an issue. For details, see inheritance and gift tax for foreign nationals.

Succession to employees or management (MBO and EBO)

When handing over to directors or employees, the shares can be sold to them (MBO or EBO) or transferred free of charge by inheritance or gift. In a sale, the successor often lacks sufficient personal funds, so financing is arranged in the following ways:

• A company set up by the successor borrows from a financial institution and buys the shares
• A fund invests
• Financial support under the Business Succession Facilitation Act is used

Another challenge is the owner’s personal guarantee. If the company’s borrowings are backed by the current owner’s personal guarantee, the successor may hesitate to take it over. Discuss the treatment of guarantees with financial institutions early, in line with the Guidelines for Personal Guarantees Provided by Business Owners.

The process of succession to a third party (M&A)

If there is no successor, the business can be passed to an outside company or individual. The typical process is as follows:

1. Select advisers (an intermediary, a financial adviser or a public body)
2. Value the company and set out the terms of sale
3. Search for potential buyers and sign non-disclosure agreements
4. Hold top-level meetings and sign a letter of intent
5. Buyer’s due diligence (financial, tax, legal and labor review)
6. Sign the definitive agreement and close the transaction
7. Build the post-merger management structure (PMI)

A share transfer and a business transfer cover different scopes. In a share transfer, only the shareholders change and the company itself remains. Contracts with business partners and licenses and permits also, in principle, stay with the company. A business transfer moves assets and contracts individually. It may require the consent of business partners or new licenses and permits. The Small and Medium Enterprise Agency has also published the SME M&A Guidelines, which set out how to run the process and points to watch in contracts with intermediaries.

For SMEs, the company is often passed on as a whole through a share transfer. The specific procedure for share transfers is explained in the share transfer procedure. Every prefecture has a Business Succession and Transfer Support Center, a public advisory service set up by the national government.

Points for foreign owners and foreign-owned companies

Companies run by foreign nationals and foreign-owned companies face issues that Japanese-run companies do not.

• If the successor is a foreign national, whether they meet the requirements for a status of residence to stay as a manager (such as Business Manager)
• If heirs or the successor live abroad, their inheritance and gift tax liability and its interaction with foreign taxes
• If a foreign investor acquires shares, whether an inward direct investment notification or report is required under the Foreign Exchange and Foreign Trade Act (FEFTA)
• Whether the shareholder register is in order and whether there are any nominee shareholders in name only (名義株)
• If an overseas parent company or individual is a shareholder, the procedures under the company and tax laws of their home country

For points to note when a foreign company is the buyer of a Japanese company, see also how to acquire a Japanese company (M&A).

How to prepare for business succession

Whichever option you choose, the preparation steps are broadly the same. The Small and Medium Enterprise Agency’s guidelines also recommend preparing early.

1. Assess the current situation: review the shareholder structure, finances, the valuation of the company’s shares, borrowings and personal guarantees
2. Decide on a direction: choose successor candidates, the method and the timing of succession
3. Explain to stakeholders: inform family, directors, employees, key business partners and financial institutions in stages
4. Draw up a succession plan: set out the timing for transferring shares and management control, how tax and funding will be covered and how the successor will be developed
5. Execute and review: transfer the shares, change directors and register the change, and review the plan regularly

If some shareholders cannot be located, consolidating shares may stall. The Business Succession Facilitation Act includes Companies Act exceptions that make it easier to use procedures such as buying back the shares of shareholders whose whereabouts are unknown. Tidying up the shareholder register is preparation you can start even before deciding on the succession method.

Summary of business succession options

There are three ways to pass on a business: within the family, to employees or management, and to a third party (M&A). Whichever you choose, plan share valuation, tax, funding and successor development together. Under the special measures of the corporate business succession tax system, the plan submission deadline is 30 September 2027 and the deadline for carrying out the succession is 31 December 2027. Companies run by foreign owners must also consider status of residence, heirs abroad and Foreign Exchange and Foreign Trade Act procedures.

Together with partner professionals including certified tax accountants, judicial scriveners and attorneys, TIMOA supports you in reviewing your current situation, comparing succession methods, transferring shares and handling registrations, and finding M&A counterparties and managing the process. For details, see our M&A, Succession & Exit services.