19 February 2026 Japan | 2026 Tax Reform - highlights for Inbound businesses
On 19 December 2025, Japan's government (a coalition comprised of the Liberal Democratic Party and the Japan Innovation Party) released the 2026 Tax Reform Outline. Traditionally, these proposals are broadly incorporated into the Japanese tax laws following Parliamentary debate in late March. This Alert provides an introduction to key tax reforms that are relevant for Inbound groups (i.e., overseas-headquartered groups that operate (or invest) in Japan typically through Japanese subsidiaries and branches) as well as the individuals working for them. (Please click here to access the overall 2026 Japan tax reform outline as released in the EY Japan tax newsletter, and click here to access another EY 2026 tax reform newsletter that is focused on the requirements for the Permanent Establishment Exemption.) The 2026 tax reform package comes at a critical juncture for Japan's economy. Faced with persistent inflationary pressures, demographic shifts and global competition for investment, policymakers have prioritized measures that stimulate growth while ensuring fairness and sustainability.
The outline focuses, in part, on making Japan a more attractive location for overseas investment and for investments by individuals, e.g., in crypto assets. At the same time there may be significant additional administrative burdens for platform companies, and more generally for intra-group transactions (domestic and international). The 2026 tax reform introduces a significant incentive program designed to accelerate domestic capital investment and strengthen Japan's industrial competitiveness. This measure aims to encourage bold, high-value investments that enhance productivity and competitiveness, particularly in sectors critical to Japan's economic resilience. Under the measure, corporations that obtain approval for an investment plan under the Industrial Competitiveness Enhancement Act (ICE Act) can access substantial tax benefits in the form of tax credits or full immediate depreciation of the acquired asset. This incentive is available across all industries. All companies with a blue tax return filing status1 may apply for this tax incentive.
Approved corporations may choose between full depreciation of the qualifying assets or a tax credit, depending on the type of the asset. The table below summarizes the main benefits.
It should be noted that this new incentive cannot be claimed at the same time as the carbon neutrality-related tax incentive and/or regional future investment promotion related tax incentives. Japanese tax legislation provides various layers of research and development (R&D) related tax incentives. The 2026 tax reform introduces a new layer of R&D tax incentives for such expenses incurred in strategic industrial technologies. The measure aims to position Japan as a leader in next-generation technologies, foster domestic innovation ecosystems and attract inbound investment in high-tech sectors.
The 2026 tax reform expands the scope of eligible R&D expenses using highly skilled personnel for Open Innovation-related R&D tax credits. The calculation formula for general R&D tax credit will also be revised; under the new formula, taxpayers who reduce R&D expenses by 10% or more compared to the previous financial year cannot be eligible for R&D tax credit (currently the threshold is 30%). In addition, there will be new specific restrictions related to R&D activities conducted abroad. Following the 2024 tax reform, a Japanese taxpayer cannot utilize R&D expenses incurred through its overseas business premises for R&D tax credit purposes. The cost of outsourcing R&D activities overseas can still be eligible. However, if the 2026 tax reform is enacted, for financial years starting on or after 31 March 2028 only 50% of such outsourcing costs incurred abroad may be utilized for R&D tax credit purposes. As a transitional measure, the relevant rates will be 70% for financial years starting on or after 31 March 2026 and 60% for financial years starting on or after 31 March 2027. This restriction will not apply to R&D expenses incurred for clinical trials conducted abroad by pharmaceutical companies. The 2026 tax reform strengthens enforcement regarding certain intra-group transactions. This measure aims to increase compliance by requiring that the entity in Japan retains the necessary documentation to substantiate expenses paid to related parties for those transactions, including the details of the calculation. Often it can be challenging for a Japanese subsidiary to obtain detailed information from overseas entities regarding items such as management fees. The proposal contains no stated exemptions, which could mean that all companies should comply with these requirements in relation to all intra-group transactions. For example, there would be no exemption from this documentation retention rule for purely domestic transactions or for smaller transactions. If the documentation is not properly maintained, it may result in the revocation of the blue tax return status. This status is beneficial as it confers significant advantages such as the ability to use carried-forward losses, obtain tax credits and have certain protections in a tax audit. The criteria used to define Related Parties are the same as those used in the transfer pricing rules.
The documents that the Japanese entity will be required to hold include purchase orders, contracts, invoices, receipts, quotations and other similar documents as requested. These documents will need to contain details of the amounts — e.g., it may be necessary to show how calculations were conducted including cost allocation calculation details where costs of the head office are allocated to the Japan entity.
MNE Groups with operations in Japan, especially those in high-tech sectors, should review these changes to determine whether one of the proposed tax incentives could be utilized to offset the previously announced higher corporate income tax rates (ranging from 31.52% to 35.43%) that will be effective for fiscal years starting on or after 1 April 2026. MNE Groups should also prepare for new compliance requirements, including documentation for intra-group transactions and potential new obligations related to consumption tax treatment of LVG and digital platforms. The 2026 tax reform imposes new consumption tax obligations on overseas e-commerce (EC) sellers. Japan's consumption tax system is broadly similar to value-added tax/goods and services tax (VAT/GST) regimes in other countries. A consumption tax of 10% is applicable to most goods and services consumed in Japan. This measure is intended to address a perceived tax leakage in the rapidly growing digital economy and ensure fair competition between foreign and domestic businesses. This proposal also aligns the JCT rules with what are already common practices in other jurisdictions. Today, when overseas EC sellers make a sale of goods to a Japanese customer, output JCT is not imposed on the sale to the extent that the title to the goods is transferred outside Japan. In addition, if the value of imported goods on a Cost, Insurance and Freight (CIF) basis3 is JPY10k or less, i.e., low-value goods (LVG), the imported goods are exempt from customs duties and import JCT (certain goods, such as leather goods and knitted apparel do not qualify for the LVG exemption). This allows Japanese consumers to purchase LVG from overseas EC sellers with no JCT being assessed, if title transfers outside of Japan. Under the expected tax reform, sale of imported LVG to Japanese customers will be subject to output JCT regardless of the place of supply. This would mean that consumers will be required to pay JCT on the purchase of LVG from overseas EC sellers even if title to the good is transferred outside Japan. Such goods will still qualify for the LVG exemption of customs duties and import JCT. However, to qualify for the import JCT exemption, the overseas EC sellers will need to register as specified LVG sellers and provide registration information to the customs broker filing the import entry. Further, a change to the calculation formula of the CIF value of goods imported by consumers was also announced. The current rules provide a mechanism to adjust for differences between wholesale and retail prices, whereby the CIF value of goods imported by consumers is calculated by multiplying the retail purchase price by 0.6. This means that consumers importing goods they purchased for JPY16,666 may still qualify for LVG (16,666 x 0.6 = 9,999). However, this adjustment mechanism will be terminated. Accordingly, fewer shipments will qualify for LVG going forward. Rather than customs authorities imposing the import JCT on customers in, the overseas EC sellers of LVG will have the JCT liability. Overseas EC sellers will need to consider the option to register as a specified LVG seller. The 2026 tax reform introduces a significant compliance requirement for overseas EC platform operators. This measure is designed to prevent a tax leakage from overseas sellers and reduce the burden of tax collection for EC sellers due to the JCT taxation on the LVG. Today, some overseas EC sellers locating their online stores on other big platforms transfer goods to Japanese customers via a Japanese third party's warehouse located in Japan. In such a situation, there is potential JCT leakage from the EC sellers, because the overseas EC sellers should have the JCT liability but may not be reporting the JCT amounts. To prevent such JCT leakage, the platforms used by the overseas EC sellers will bear the JCT liability on behalf of the overseas EC sellers to the extent that the annual total amount of certain transactions performed on the platform exceeds JPY5b.
The Japanese tax authorities will assign certain platformers as a specified EC platformer. These platformers will be required to submit necessary notification to the tax authorities. The assigned platformer will then be required to submit certain notifications to show its status to the EC sellers. The 2026 tax reform introduces important revisions to the Qualified Invoice System, focusing on adjustments to input tax credit rules and transitional measures for small businesses. These changes aim to ease compliance burdens while ensuring proper tax collection under the JCT regime. In a significant relaxation and extension of the current transitional input credit relief rules, the deductible portion of JCT for purchases from non-qualified invoice issuers will be gradually reduced as follows: If a purchase amount from one non-qualified invoice issuer exceeds JPY100m in one taxable period, the excess portion of the purchase amount cannot be applied to the input tax credit transitional measures. For individual small business operators who become qualified invoice issuers and lose eligibility for the exemption threshold, a special transitional measure applies for tax periods in FY2027 and FY2028. Under this measure, the amount payable can be reduced by allowing a 70% deduction from JCT calculated on taxable sales. Japan's 2026 tax reform completes the country's alignment with the Organisation for Economic Co-operation and Development's (OECD's) Global Anti-Base Erosion (GloBE) framework, commonly referred to as Pillar Two, which introduces a global minimum tax of 15% for large multinational enterprises (MNEs). These rules aim to prevent profit shifting to low-tax jurisdictions and ensure fair taxation across borders. The 2026 changes are to reflect amendments the OECD made to the Income Inclusion Rule (IIR), specifically in relation to deferred taxes and the calculation of Adjusted Covered Taxes. It should be noted that Japan's Pillar Two rules are expected to be changed in the future, because the current rules do not take into consideration the G7 discussions regarding the impact of the "side-by-side" rules that exclude US-headed groups from Pillar Two by deeming such groups compliant in certain situations. (For background, see EY Global Tax Alert, OECD releases Side-by-Side Package on Pillar Two Global Minimum Tax: Detailed review, dated 16 January 2026.) Japan's Pillar Two Rules apply to multinational groups with consolidated revenue of €750m or more in at least two of the four preceding fiscal years. Japan parented groups, and Japan subsidiaries of foreign groups, meeting this threshold are subject to the rules.
The effective tax rate will be calculated on a jurisdictional basis using the Pillar Two rules. If the effective tax rate is less than 15%, a top-up tax applies to increase the rate to 15%. Japan will adopt the OECD's standardized reporting framework, potentially requiring the Ultimate Parent Entity to provide GloBE Information Returns/Notification. The QDMTT and UTPR apply for fiscal years beginning on or after 1 April 2026, while the IIR applies for fiscal years commencing on or after 1 April 2024. Transitional safe harbors (based on simplified calculations) will be available for the first three years. Japan's controlled foreign company (CFC) rules are typically of less impact to foreign headquartered groups with Japanese subsidiaries, as Japan is usually not a holding-company jurisdiction for such non-Japanese groups. However, note that the 2026 tax reform proposals do include an amendment to clarify the treatment of foreign related companies that are entering into liquidation. Further information on this issue is available in EY Tax's 2026 tax reform outline newsletter (see introduction for link). The 2026 tax reform introduces important changes to the taxation of crypto assets. Currently, the income arising from crypto assets is treated as miscellaneous income and taxed at the normal income tax rates. Under the 2026 reform the income or losses from the disposal of crypto assets will be treated separately. For individual taxpayers, income from the transfer of specified crypto assets through registered exchanges will be taxed separately at a flat 20% rate (15% national income tax plus 5% local inhabitant tax). Losses arising from the transfer of specified crypto assets can be carried forward for three years, provided certain conditions are met. These losses can only offset future gains from similar crypto asset transactions and cannot be offset against other income sources. Losses from derivatives transactions involving specified crypto assets are also eligible for the same three-year carryforward treatment. The 2026 tax reform introduces adjustments to the basic deduction and the minimum guaranteed amount for employment income to reflect inflationary trends and help ensure fairness in the personal income tax system. The basic deduction for individual taxpayers will be increased by JPY40k, raising the standard deduction to JPY620k. This adjustment aims to offset the impact of increasing living costs and maintain the real value of deductions. The minimum guaranteed amount for employment income deduction will also be revised upward. Currently set at JPY650k, the threshold will increase to JPY690k under the new rules. Special national defense taxation will replace the special income tax for reconstruction that was enacted following the natural disaster in Tohoku in 2011. This will be imposed at a rate of 1% on the income tax amount. In parallel, the tax rate for the special income tax for reconstruction will be reduced by 1%, such that the net impact of this new tax should be neutral.
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