Japan Consumption Tax Exemption: Rules for New and Foreign Companies

As a rule, a business is exempt from consumption tax if its taxable sales in the base period (for a company, generally the fiscal year before last) are ¥10 million or less. However, a newly established company is a taxable business operator from its first fiscal year if its capital is ¥10 million or more or if it is controlled by a large corporate group. Sales and payroll in the specified period, or the purchase of high-value assets, can also prevent exemption.

Consumption tax liability and exemption: the basics

A business that files and pays consumption tax is a taxable business operator (課税事業者); one that is exempt from tax liability is a tax-exempt business operator (免税事業者). A tax-exempt business operator does not need to file a consumption tax return.

Base period and taxable sales

• Base period: for a company, generally the fiscal year before last. If that fiscal year was shorter than one year, certain adjustments are made.
• Taxable sales: domestic sales subject to consumption tax plus exempt sales such as exports, less returns and discounts. As a rule, this is calculated excluding tax.
• Exemption threshold: if taxable sales in the base period are ¥10 million or less, the business is, as a rule, a tax-exempt business operator.

If the business was tax-exempt in the base period, its sales in that period did not include consumption tax, so the test uses the amounts actually received.

No base period immediately after incorporation

In the first and second fiscal years after incorporation, there is no fiscal year before last. In other words, there is no base period, so the company is, as a rule, a tax-exempt business operator. However, if one of the special rules described in the next section applies, it becomes a taxable business operator immediately after incorporation.

Main cases where exemption does not apply

The test is applied for each taxable period. The main cases are summarized in the table below.

The specified period test

For a company, the specified period is generally the six months from the start of the previous fiscal year. Even if taxable sales in the base period are ¥10 million or less, the business becomes a taxable business operator if taxable sales in the specified period exceed ¥10 million.

However, the test may instead be based on salaries and similar payments in the specified period. If those payments are ¥10 million or less, the business can remain tax-exempt. Where the first fiscal year is short, for example, the specified period is determined differently, so check this together with the choice of fiscal year.

New companies (capital of ¥10 million or more)

A company whose capital is ¥10 million or more on the first day of a fiscal year without a base period is a taxable business operator for that fiscal year. If the capital is ¥10 million or more at incorporation, the company is taxable in both its first and second fiscal years. From the third fiscal year, the test is based on taxable sales in the base period and other factors.

Specified newly established companies (subsidiaries of large groups)

Even with capital under ¥10 million, a new company is a taxable business operator in fiscal years without a base period if all of the following apply.

• It is controlled by another party, for example through direct or indirect ownership of more than 50% of its issued shares
• Taxable sales of that other party, or of a company with a special relationship to it, in the period corresponding to the base period exceed ¥500 million

For taxable periods beginning on or after 1 October 2024, the rule also applies where the group’s total worldwide revenue exceeds ¥5 billion, in addition to the ¥500 million taxable sales test. Note that the test can be triggered by the size of the overseas parent group even if the company has no sales in Japan.

Points for foreign companies and subsidiaries of foreign groups

The FY2024 tax reform revised the tests for foreign business operators. All the changes apply to taxable periods beginning on or after 1 October 2024.

• Payroll test no longer available for the specified period: foreign business operators (foreign companies and non-resident sole proprietors) can no longer use salaries and similar payments for the specified period test.
• Foreign companies starting business in Japan: even if a foreign company has a base period, if it starts business in Japan on or after the day following the last day of that base period, it is deemed to have no base period for that fiscal year. If its capital is ¥10 million or more when it starts business in Japan, it is a taxable business operator as a new company.
• Specified newly established company test: as described in the previous section, a test based on total worldwide revenue has been added.

When a foreign company with substantial capital opens a Japan branch, it will in many cases be a taxable business operator from the outset. Branches and subsidiaries are compared in Japan branch vs Japanese subsidiary.

Special rules on purchasing high-value assets

Under a special rule, purchasing high-value assets while a taxable business operator prevents a return to tax-exempt status for some time afterwards.

• High-value specified assets: the rule applies to inventory or fixed assets subject to adjustment with a price of ¥10 million or more per transaction unit (excluding tax) acquired in a taxable period in which the simplified taxation method or similar is not used. The business cannot be tax-exempt up to the taxable period that includes the day three years after the first day of the taxable period of acquisition.
• Fixed assets subject to adjustment acquired by new companies: the same applies where a new company or specified newly established company acquires fixed assets or similar of ¥1 million or more (excluding tax) in a taxable period without a base period and files under the standard taxation method. During this time, the simplified taxation system cannot be elected either.

If you plan to purchase real estate or major equipment, consider the timing of the purchase together with the consumption tax tests.

Common mistakes

• Assuming that keeping capital under ¥10 million guarantees exemption through the second fiscal year
• Forgetting to check sales and payroll in the specified period (the first six months of the first fiscal year)
• Concluding that the company is not a specified newly established company without checking the size of the overseas parent group
• Overlooking that, after filing an election to become a taxable business operator, the business cannot return to exemption for two years

Keep the figures underlying each test so that they can be verified from the financial statements and payroll records. Check the details of the system and the latest amendments in the National Tax Agency’s (NTA, 国税庁) Tax Answer pages and amendment notices.

Staying exempt or electing taxable status

A tax-exempt business operator does not need to file or pay consumption tax. However, there are also drawbacks, such as the following.

• No qualified invoices: customers find it harder to claim input tax credits, and may ask for revised prices or terms.
• No refunds: refunds are unavailable even for export-focused businesses or in periods when heavy capital expenditure means a large amount of consumption tax has been paid.

To become a taxable business operator, file an election to become a taxable business operator, as a rule by the day before the first day of the taxable period to which you want it to apply. To elect from the first fiscal year after incorporation, filing during that taxable period is sufficient. Once elected, the business cannot, as a rule, return to tax-exempt status for two years.

Whether to register under the Qualified Invoice System (インボイス制度), and transitional measures such as the 20% special rule, which had been set to apply up to the taxable period that includes 30 September 2026, are explained in The Qualified Invoice System and foreign companies.

Notifications when you become a taxable business operator

Other filings after incorporation are summarized in Filings and deadlines after incorporation.

Summary: the consumption tax exemption test

The consumption tax exemption test depends not only on sales but also on capital, the size of the parent group, payroll in the specified period and asset purchases. Following the rule changes from October 2024, Japanese subsidiaries and Japan branches of foreign companies are more often taxable immediately after they are set up. It is important to complete the test before deciding on capital and the fiscal year.

Together with partner certified tax accountants, TIMOA supports you from designing capital and the fiscal year before incorporation through consumption tax tests and filings, Qualified Invoice System registration decisions and tax returns after incorporation. For details, see our Accounting, Tax & HR services.