"Domestic" vs. "Foreign" for Japanese Consumption Tax: How to Determine the Place of Transaction for Goods and Services

Japanese Attorney at Law - Bengoshi L.L.

• 7 min read

I. Introduction: The Critical Role of "Place of Supply" in Japanese Consumption Tax (JCT)

For any business involved in transactions that might have a connection to Japan, understanding the "place of supply" rules under Japanese Consumption Tax (JCT) law is fundamental. JCT, known as Shōhizei (消費税), is generally levied on "domestic transactions" – specifically, the supply of goods and services by a business in Japan for consideration, and on goods imported into Japan. Transactions deemed to occur outside Japan are classified as "out-of-scope" (fukazei torihiki - 不課税取引) and are not subject to JCT.

The determination of whether a transaction is "domestic" or "foreign" (i.e., its place of supply) is therefore the first crucial step in assessing JCT liability. Incorrectly determining the place of supply can lead to underpayment or overpayment of JCT, potential penalties, and complications in recovering input JCT. This article provides a guide to the key principles and specific rules used to determine the place of supply for various types of transactions under Japanese JCT law.

II. General Principles for Determining Place of Supply

The Japanese Consumption Tax Act, Article 4(1), establishes that JCT is imposed on assets transferred, assets leased, or services provided by enterprises in Japan as a business and for consideration. Article 4(3) then lays down the general rules for determining whether such transfers, leases, or services are performed "in Japan":

  1. Transfer or Lease of Assets: The transaction is deemed domestic if the asset is located in Japan at the time of its transfer or the commencement of its lease.
  2. Provision of Services: The transaction is deemed domestic if the service is provided in Japan.

While these general principles seem straightforward, their application to diverse and often complex international transactions requires a deeper look into specific rules outlined in the Consumption Tax Act Enforcement Order, Article 6, and related Basic Circulars.

III. Place of Supply for Transfers or Leases of Assets

The location of the asset at the critical moment is the primary determinant.

A. Goods (Tangible Movable Property)

The rules vary depending on the nature of the goods:

  • Goods Requiring Registration (e.g., ships, aircraft):
    • If the ship or aircraft is registered in Japan, its transfer or lease is a domestic transaction.
    • For ships (excluding those under a certain tonnage used for fishing), if registered in Japan and a foreign country, the place of supply is the location of the seller's/lessor's office from which the ship is supplied. If unregistered, it's also the location of the seller's/lessor's office.
    • For aircraft, if registered, the place of registration. If unregistered, the location of the seller's/lessor's office.
  • Other Goods (not requiring registration): The place of supply is the location of the goods at the time of their transfer or at the commencement of their lease.
    • Goods Located Overseas: If goods are located outside Japan at the time of transfer, the transaction is considered an out-of-scope (foreign) transaction, even if both the seller and buyer are Japanese businesses (JCT Basic Circular 5-7-10).
    • Tripartite Trade (Drop Shipments): When a Japanese business arranges for goods to be shipped directly from one foreign country to another foreign country without the goods ever physically entering Japan, this is treated as an out-of-scope transaction (JCT Basic Circular 5-7-1).

B. Real Property and Rights Thereon

The place of supply for the transfer or lease of real property (land, buildings) or rights relating to real property is, unsurprisingly, the location of the real property.

C. Securities

The transfer of securities (stocks, bonds, etc.) is generally considered a domestic transaction if the securities are located in Japan. The "location" of securities can be complex, often deemed to be where the issuing company is located, or where the office of the business conducting the transfer is situated, depending on the specific type of security and transaction. However, most sales of securities are JCT-exempt.

IV. Place of Supply for Provision of Services (The Most Complex Area)

Determining the place of supply for services is often more nuanced than for goods, as services are intangible and can be performed and received across borders.

A. General Rule

As stated, the general rule is that a service is deemed supplied in Japan if the service is physically performed in Japan (Consumption Tax Act, Art. 4(3)(ii)).

B. Specific Service Categories

The Consumption Tax Act Enforcement Order, Article 6(1) and 6(2), provides more detailed rules for specific types of services:

  1. Transportation Services (for passengers or goods):
    • Domestic transportation (e.g., Tokyo to Osaka): The place of departure, arrival, or any place passed through during the transportation if it is in Japan.
    • International transportation (between Japan and a foreign country, or between foreign countries via Japan): This is considered a domestic transaction but is typically zero-rated for JCT purposes (export exemption).
    • Transportation solely between foreign countries (not via Japan): Out-of-scope.
  2. Communication Services (e.g., telephone, data transmission):
    • Domestic communications: The place of dispatch or reception.
    • International communications (between Japan and a foreign country): The place of dispatch or reception.
  3. Financial and Insurance Services: The location of the service provider's office that is conducting the service transaction.
  4. Professional Services, Information Services, Design, Consulting, etc.:
    • This category includes services like legal, accounting, advertising, data processing, provision of information, research, design, and consulting. The general rule applies: the place where the service is physically performed.
    • This can become complex if services are performed partly in Japan and partly overseas, or remotely. The focus is on where the actual work or an essential part of it is carried out.
  5. Services Related to Movable or Real Property (e.g., repair, construction management, warehousing of goods): The place where the property in question is located.
  6. Services Spanning Japan and Overseas: For services that by their nature are provided across Japan and other countries (e.g., comprehensive R&D projects, international project management), the place of supply is the location of the service provider's office or place of business from which the service is supplied (Enforcement Order Art. 6(2)(vii)). This applies when it's difficult to pinpoint a single location of performance.
  7. Electronically Supplied Services (Digital Services): This is a key area with specific rules, particularly for cross-border transactions:
    • B2C (Business-to-Consumer) Electronically Supplied Services: These include the provision of e-books, digital music/videos, online games, cloud-based software (SaaS), and online advertising where the recipient is a consumer. The place of supply is deemed to be the location of the service recipient (consumer's address or domicile). Foreign businesses supplying these services to Japanese consumers are generally required to register for JCT in Japan and collect/remit JCT.
    • B2B (Business-to-Business) "Specified Services for Business": This category includes many of the same digital services (e.g., online advertising, cloud services, provision of software/data via the internet) when supplied to a business. The place of supply is the location of the service recipient (the business customer's head office or principal office). If a foreign business provides these "specified services" to a Japanese business, a reverse-charge mechanism applies. Under this mechanism, the Japanese business recipient, not the foreign supplier, is responsible for accounting for the JCT on the transaction (i.e., it self-assesses output JCT and can typically claim a corresponding input JCT credit, subject to normal rules).

V. Place of Supply for Transfers or Leases of Intangible Property

The rules for intangible property also vary by type:

A. Industrial Property Rights (Patents, Trademarks, Utility Models, Designs)

  • The place of supply is the place of registration of the right.
  • If the same right is registered in two or more countries, or if the right is unregistered (like know-how that might be treated similarly to industrial property), the place of supply is the location of the assignor's or licensor's office or place of business from which such right is assigned or licensed (Consumption Tax Act Enforcement Order, Art. 6(1)(v)).

B. Copyrights (including software provided under a license)

The place of supply for the transfer or lease of copyrights (including publishing rights, neighboring rights, and similar rights) is the location of the assignor's or licensor's office or place of business (Enforcement Order, Art. 6(1)(vii)). This means if a Japanese company licenses software from a foreign company's overseas office, it's generally a foreign transaction.

C. Goodwill (eigyōken - 営業権)

The place of supply for the transfer of goodwill is the location of the assignor's office or place of business to which that goodwill pertains (Enforcement Order, Art. 6(1)(viii)).

VI. Contractual Stipulations and Evidentiary Value

While the statutory rules provide the framework, how a transaction is documented can influence the tax authorities' interpretation, particularly for services.

  • Clarity in Contracts: It is highly advisable to clearly define the nature of the services being provided, where they will be performed, and where the deliverables (if any) will be provided or used.
  • JCT Basic Circular 5-7-15: This circular states that if a contract for the provision of services clearly specifies the place where the services are to be provided, the tax authorities will generally determine the place of supply based on that contractual stipulation, provided that it reasonably reflects the actual substance of the transaction. An arbitrary designation of place in a contract that doesn't align with reality will likely be disregarded.
  • Intangible Property: For intangible property, explicitly stating in the license or assignment agreement the specific office of the licensor/assignor from which the rights are being granted can be crucial in supporting the place of supply determination.

VII. Ambiguous Cases and Seeking Clarity

Despite these rules, some cross-border transactions can be ambiguous, especially those involving complex service flows, bundled supplies of goods and services, or services performed remotely by teams in multiple locations.
In such cases:

  • Businesses may consider seeking informal consultations with the Japanese National Tax Agency (NTA) or local tax offices.
  • For more certainty, an advance ruling (though often a lengthy process) could be sought from the NTA on the JCT treatment of a specific planned transaction.

VIII. Conclusion

Determining the place of supply is a cornerstone of Japanese Consumption Tax compliance for any transaction with a potential Japanese nexus. The rules are detailed and vary significantly depending on whether the transaction involves goods, services, or intangible property. For businesses engaged in cross-border activities, a failure to correctly apply these rules can result in unexpected JCT liabilities or missed opportunities for JCT recovery.

It is therefore essential for businesses to:

  1. Carefully analyze each type of transaction against the specific place of supply rules.
  2. Pay particular attention to services, especially digital services and those involving multiple jurisdictions.
  3. Proactively address and document the intended place of supply in their contractual agreements, ensuring it aligns with the commercial reality.
  4. When in doubt, particularly for complex or high-value cross-border scenarios, seek expert JCT advice.

By understanding and correctly applying these rules, businesses can better navigate the Japanese JCT landscape and ensure compliance.