Craft income tax reforms carefully

The government and the ruling coalition parties are reportedly mulling raising income taxes on high-income company employees while offering tax breaks for freelance workers by adjusting taxable income deductions. While it seems to make sense to bridge the taxation gap deriving from differences in how people work, whether the income threshold for tax hikes is appropriate should be carefully considered.

Japan’s postwar income tax system has long been based on a standard household model in which the husband is a company worker on lifetime employment and the wife a homemaker. That model no longer applies to many Japanese families.

In the economic doldrums following the collapse of the bubble boom in the early 1990s and as the domestic market’s prospects clouded with the declining population, companies began hiring fewer regular full-time employees. Today, people on irregular job statuses such as part-timers account for roughly 40 percent of the workforce. Meanwhile, the number of freelancers is on the rise. Also growing are the ranks of women who keep working after having children.

Built on the premise that income earners primarily work for companies, the income tax system has given rise to discrepancies. The scheme for deducting taxable income works more to the advantage of corporate employees the higher their income rises, while putting individuals who engage in freelance work at a disadvantage in terms of the amount of tax they pay. The tax system should be adjusted to adapt to the diversification of the ways in which people work.

The Liberal Democratic Party-Komeito alliance is working on readjusting the basic deduction scheme for which all taxpayers are eligible and salary income deductions for company workers. The ruling coalition’s idea is to increase the tax burden on high-income company workers while cutting taxes paid by freelancers. The question is where to set the threshold on “high-income” salaried workers. The idea reportedly under consideration will result in tax increases for workers who earn ¥8 million or more annually — in which case up to nearly 9 percent of salaried workers, or about 4 million people, will be affected. Also reportedly being mulled is a scaling back of the taxable income deduction scheme for recipients of retirement pensions who get ¥10 million or more in benefits annually as well as those who earn ¥10 million or more a year aside from their pension income.

It may be rational to impose a higher tax burden on people with relatively high incomes, but whether the ¥8 million annual income threshold is appropriate should be carefully examined. The ruling coalition is said to be considering making households with dependent children up to the age of 22 as well as people who live with relatives requiring nursing care exempt from the tax hike — so that people shouldering the costs of child rearing or caring for elderly parents would not be affected. Whether such exceptions are appropriate should be adequately discussed.

Another key theme of tax reforms for fiscal 2018 is tax incentives for companies that raise wages or make capital investments. Behind the move is the Abe administration’s belief that major firms, which earn record profits aided by the weak yen and brisk overseas demand, are not turning enough of their profits into wage hikes and domestic investments to drive the economy.

The Abe administration, which has annually urged businesses to raise wages, is calling on companies to offer a 3 percent pay raise in wage talks with their unions next spring. The government is reportedly weighing expanding a scheme that enables companies that raise wages to deduct a certain portion of their increased wage costs from tax payments — so that the effective corporate tax rate combining national and local-level taxation on firms that offer pay raises of 3 percent or more would be cut to around 25 percent, compared with the scheduled 29.74 percent applicable for all companies in fiscal 2018. Also being weighed are additional tax breaks for companies that invest in the latest equipment that enhances productivity.

What should be taken into account is that companies do not base decisions on wage hikes or investments solely on tax considerations. The Abe administration has gradually reduced the effective rate of corporate tax from 32.11 percent in fiscal 2015 to 29.74 percent next year, but it’s not clear how much that has influenced business decisions on investments or raises. How effective these tax measures would be in prompting companies to spend more on manpower and investments at home should be verified.