Tax proposals extend breaks, avoid hike in consumption tax

The Liberal Democratic Party-New Komeito ruling bloc on Thursday released tax reform proposals for fiscal 2008, including a two-year extension for tax breaks on capital gains, that indicate it is trying to support Japan's turmoil-stricken stock market.

The coalition meanwhile skipped any specific timetable or margin for a consumption tax hike, only hinting at a future increase in the 5 percent levy as the core source of revenue to cover rising social security costs.

According to the proposal by the coalition's tax panel, a 10 percent preferential rate will continue through the end of 2010 on capital gains on financial investments of up to ¥5 million and dividends of up to ¥1 million. However, capital gains and dividends above these levels will be subject to the original 20 percent tax beginning in January 2009.

The rates on capital gains and dividends were cut to 10 percent in 2003 as a temporary measure to support a faltering equity market.

The rates were initially set to return to 20 percent at the end of 2008 for capital gains and in March 2009 for dividends.

The government's Tax Commission had earlier proposed ending the temporary breaks as scheduled.

The Finance Ministry wants to abolish the breaks to secure greater tax revenues to deal with the government's huge debts, which stand at around 150 percent of Japan's gross domestic product.

But the ruling bloc decided to extend the breaks because lawmakers are expressing concern about an economic slowdown due to rising oil prices and continuing stock market turmoil caused by the U.S. subprime mortgage crisis.

The government will submit related bills to the Diet early next year based on the coalition's proposal.

However, the ruling camp may have a hard time getting the bills passed because the opposition camp, which now controls the House of Councilors following the coalition's election defeat in July, is calling for an end to the tax breaks.

In another measure to encourage financial investments, the coalition's proposal also includes a new securities tax system in which, for example, someone's dividend can be offset by stock investment losses in order to reduce taxable income.

Avoiding mention of when or by how much the consumption tax may be hiked, the proposal only positions the levy as the core source of revenues for the country's rising social security costs, with an eye on future increases.

To help narrow economic disparities between urban and rural areas, the coalition proposal also calls for redistributing part of the corporate tax revenue from Tokyo and other urban prefectures to financially troubled rural prefectures.

Many lawmakers in the LDP believe one of the major reasons behind its stunning defeat in the July election was the revolt of rural voters, who resent that they are being left behind in the nation's economic expansion.

Economists said they felt relieved about the decision to extend the tax breaks, but added this will not be enough to encourage households to shift more of their assets into stocks and investment trusts.

"The decision reflects the ruling bloc's concern about recent market instability, but it is not strong enough to pull more money into (the stock market). So, (the positive) effect is limited," Hidehiko Fujii of Japan Research Institute said.

Fujii also said he is concerned that the government is leaving important issues unattended, including the need to hike the consumption tax and cut corporate tax rates.

"It showed the ruling parties' passive attitude toward (tax reform). What Japan needs now is to implement policies to boost the economy. And then, tax revenues will naturally rise," he said.

Hideo Kumano, chief economist at Dai-ichi Life Research Institute in Tokyo, meanwhile said the coalition's decision to duck the consumption tax issue was "reasonable." He said wage growth is stalling and the opposition parties are against a sales tax hike. "Consumers are not ready for that," he said.

Gist of '08 tax reform proposals:

The following is the gist of proposed tax reforms for fiscal 2008 adopted Thursday by the Liberal Democratic Party-New Komeito ruling bloc:

The coalition:

* Says the consumption tax will provide major revenue to cover social security costs.

* Indicates the need to raise the sales tax in the future and says it will consider "enriching" the tax revenue.

* Proposes the redistribution of the corporate enterprise tax revenues from Tokyo and other prefectures with large populations to cash-strapped prefectures.

* Calls for an extension of two years until the end of 2010 of tax breaks for stock investors with annual capital gains of up to ¥5 million and annual dividend income of up to ¥1 million.