On 31 March 2025, Japan enacted the 2025 Tax Reform Law and Regulations, effective 1 April 2025. This Alert provides an overview of the major reforms and revisions for corporate and international taxation.

Corporate taxation

Special defense surtax

A 4% special defense surtax will be imposed on corporate income tax amounts for fiscal years beginning on or after 1 April 2026. For calendar-year corporations, the surtax is effective for fiscal years beginning on or after 1 January 2027. In general, the special defense surtax will increase the effective tax rate from 30.62% to 31.52% for corporations subject to the size-based enterprise tax (e.g., corporations with a registered capital of more than 100 million Japanese yen (JPY100m)) and from 34.59% to 35.43% for corporations not subject to the size-based enterprise tax. The tax base on which the special defense surtax liability is calculated will be reduced by JPY5m; for example, a company with corporate income tax of JPY105m would owe a surtax on JPY4m (105-5)*4% = 4).

Revised SME-related tax rules

SMEs are the bedrock of Japan's economy, employing 70% of the labor force, and their sustained growth is indispensable for the prosperity and advancement of regional economies. Accordingly, the following tax rules for SMEs have been revised and extended for two years:

• SME business enhancement tax rules
• Special measures for the property tax base related to SME capital investments
• SME investment incentive tax rules
• Special measures for the reduced corporate income tax rate for SMEs

Other changes

Additional changes include the following.

• With the introduction, in September 2024, of new accounting standards for leasing transactions, the tax treatment of leasing transactions has been revised for both lessees and lessors.
• The calculation method for the adjustment account related to assets transferred as a result of a non-qualified merger or similar transactions has been clarified.
• The calculation of distribution asset ratios for spin-offs of wholly owned subsidiaries under the group relief system has been revised by adjusting the book value based on the previous fiscal year-end value.

International taxation

Aligned with global minimum tax rules

Japan previously applied the Income Inclusion Rule (IIR) of the Pillar Two global minimum tax. (See EY Global Tax Alert, Japan | Impact of 2024 tax reforms for inbound businesses, dated 7 February 2024.) With the 2025 Tax Reform, the Undertaxed Profits Rule (UTPR) and the Qualified Domestic Minimum Top-up Tax (QDMTT) have been enacted in accordance with international agreements.

The UTPR and the QDMTT will be effective for the accounting periods beginning on or after 1 April 2026. For multinational enterprise (MNE) groups with a calendar year accounting period, Japan's UTPR and QDMTT will first apply in the 2027 accounting period (i.e., from 1 January 2027 to 31 December 2027). For MNE groups with a fiscal year ending at the end of March, Japan's UTPR and QDMTT will first apply in the 2026 accounting period (i.e., from 1 April 2026 to 31 March 2027).

In the implementation of the UTPR, the top-up tax is proportionally allocated to the country in which each constituent entity is located and then collected by that country. This allocation of the top-up tax among countries is determined by factors based on the number of employees and the net book value of tangible assets.

For the IIR, the tax calculation related to the current net profit or loss of constituent entities, which includes the adjusted covered taxes of other constituent entities subject to the Japanese Controlled Foreign Company (JCFC) rules, will include deferred tax expense.

Revised income inclusion timing under the JCFC rules

An amount equal to a controlled foreign company's (CFC's) taxable income will be included in the income of the domestic corporation's fiscal year that includes the day after four months (currently two months) following the end of the CFC's fiscal year. This revision applies to (1) CFCs' taxable income amounts from fiscal years ending on or after 1 February 2025 that (2) are related to domestic corporations' fiscal years that begin on or after 1 April 2025.

In addition, a transitional measure has been enacted for CFC taxable amounts related to CFC fiscal years ending between 1 December 2024 and 31 January 2025 that are related to domestic corporations' fiscal years that began before 1 April 2025. The transitional measure allows the JCFC rules to be applied to the domestic corporation's fiscal years that begin on or after 1 April 2025 and include the day after four months have passed from the end of the CFC's fiscal year.