National Tax Agency Publishes Guidance on Corporate Renters’ Tax Treatment Regarding Free Rent

Introduction

Offering free rent temporarily, whereby rent is waived for a certain period, is a method to improve the occupancy rate of leased real estate properties. The tax authorities have now provided clear guidance on the treatment of free rent for real estate, which had previously been unclear. This article explains the new treatment.

In Practice, Deduct Rent as an Expense When Paid

Regarding the tax treatment of free rent periods—where rent is waived for a certain portion of the lease term—the National Tax Agency (NTA) had not previously provided clear guidance, and this had often become an issue during tax audits.

In regards to the corporate tax treatment for a lessee under a contract with a specified free rent period, two methods are possible: (1) deducting the rent as an expense in each fiscal year in which the rent payment dates fall (no treatment during the free rent period); or, (2) deducting the total rent amount prorated over the lease term as an expense in each fiscal year during the lease term (expense recorded even during the free rent period). In practice, method #1 seems to have been used in most cases.

So long as There Are No Adverse Effects on Taxation, There’s No Problem with Deducting the Pro-rated Amounts as Expenses

The new lease accounting standards announced by the Accounting Standards Board of Japan (ASBJ) in September last year  stated that for operating leases by lessors/lenders, “(… omitted...) {W}hen the lease period of the lessor/lender includes a rent-free period, the lessor shall record the total amount of usage fees (omitted) for the contract period over the term of the contract period.”

Based on the new lease accounting standards, the NTA has decided in its Basic Corporate Tax Circular that, except in cases where there are adverse effects on taxation, the amount that should be paid over the lease period should be included as a pro-rated deductible expense in each fiscal year.

In other words, it has been clarified that for corporate tax treatment of lessees under contracts which have specified rent-free periods, provided that the expense is recorded as a deductible expense, the method of deducting the amount calculated by allocating the total rent over the lease term as a deductible expense in each fiscal year during the lease term shall be applied. This applies to corporate taxes for fiscal years beginning on or after April 1, 2025.

Small and Medium-Sized Enterprises (SMEs) Can Also Apply the Same Treatment, Subject to Expense Recognition

This treatment allows SMEs not subject to mandatory application of the new lease accounting standards to also recognize the total rent as an expense allocated over the lease term in each fiscal year using method #2, provided they carry out expense recognition and follow accounting practices aligned with the ASBJ standards. Additionally, if for accounting purposes the apportioned amounts are not recognized as expenses during the free rent period, the amounts may be deducted as expenses in each fiscal year in which the rent payment dates fall, using method #1 above.

The total amount deductible as an expense over the entire lease term will be the same regardless of whether method #1 or method #2 is used. However, for fiscal years that include the free rent period, the amounts that can be deducted as expenses will differ depending on which method is chosen.

Cases where Taxation-Related Adverse Effects Exist

It is stated that corporate tax treatment using method #2 is not permitted if taxation-related adverse effects exist. What are examples of such cases?

These are cases where the proportion of the amount equivalent to the free rent period relative to the total contract amount is excessively large, and cases where the free rent period is excessively long within the fiscal year containing the free rent period. In both cases, using method #2 allows for the recognition of significantly larger deductible expenses compared to method #1.

When selecting method #2, carefully assess whether it could be deemed to have adverse taxation consequences before proceeding.

New SME-Strengthening Tax System Type, and Return on Investment

Introduction

Let's confirm about the newly-established “Type E” created under the Small and Medium Enterprise Management-Strengthening Tax System through the FY2025 tax reforms, along with the revised Types A and B.

Type E Focuses on Relatively Large SMEs

The newly-established Type E in the FY2025 tax reforms looks to support companies aiming for sales exceeding ¥10 billion, making it applicable to larger businesses within the ‘small and medium enterprise’ category.

A key feature of Type E is that, in addition to machinery and equipment, buildings and building fixtures are now included as eligible assets. However, only acquiring buildings or building fixtures does not qualify. Eligibility is strictly limited to cases where such assets are newly-constructed or expanded in conjunction with the introduction of equipment that contributes to productivity improvement.

Changes in the Type-B Category

Type B applies when introducing eligible equipment such as machinery and equipment (costing ¥1.6 million or more) or fixtures and fittings (¥300,000 or more) based on an investment plan projecting an annual average return on investment (ROI) of 7% or higher. SMEs not acquiring buildings will apply category B rather than the newly-established category E, making Type B more practically significant.

The annual average ROI is calculated using the following formula:
a) Annual average of the sum of increases in operating profit and depreciation expense for each fiscal year ÷ b) Total acquisition cost of equipment

Although the formula itself remains unchanged, the calculation base period for determining the average amount in “a)” above has been modified. Previously, it was “the fiscal year following the equipment acquisition year and the subsequent two fiscal years.” After the amendment, now it is, “the fiscal year following the equipment acquisition year and the longest depreciation period for the acquired equipment.”

Therefore, it is anticipated that the calculation base period will be extended in more cases compared to before the revision. If calculations are mistakenly performed using the pre-revision method, discrepancies will arise from the correct annual average ROI rate, potentially affecting the determination of eligibility requirements. Care must be taken to avoid errors in calculating the calculation base period.

For Type B, unlike Type A discussed later, your company must formulate an investment plan, have its contents reviewed in advance by a tax accountant or certified public accountant (CPA), and submit a prior confirmation document.

If you are considering applying for the Management-Strengthening Tax System under Type B, please feel free to contact our office first.

Type A Requirements Also Changed

Type A is a special provision for investments in productivity-enhancing equipment. It applies to equipment models sold within a specified period (not necessarily the latest models) that contribute to productivity improvement.

The indicators for productivity-enhancing equipment requirements have been revised to  “output per unit time, yield rate, or input cost reduction rate.”

If these indicators show an annual average improvement of 1% or more compared to the older model, special depreciation or tax credits may be applicable.

For Type A, prior to acquiring the equipment, you must request a certificate from the equipment manufacturer, and then (via the manufacturer) obtain the certificate from an industry association or similar body, confirming that the equipment meets the productivity improvement requirements.

Prohibition of ‘Hometown Tax’ (Furusato Nouzei) Donations and Point Awards

Introduction

Starting October 2025, the granting of points or similar rewards when using the hometown tax donation portal site will be prohibited.

Current Status of, and Issues with, Furusato Nouzei

Furusato Nouzei (The ‘Hometown Tax Donation’ system) was established in 2008. Initially, it was a simple system aimed at providing tax deductions, and contributing to local communities. However, as the number of users increased, local governments began offering increasingly lavish local specialty products as ‘return gifts’ in an effort to attract more donations.

As a result, competition over return gifts intensified, shifting the focus away from the system's original purpose of “contributing to local communities”, to “lavish return gifts.”

Concerns grew in the government and among experts that this overheated competition for gifts risked distorting the original purpose of the Hometown Tax donation system. Consequently, in 2019, the system was revised to require that gifts be “no more than 30% of the donation amount” and be locally-produced goods.

Some may recall that municipalities like Izumisano City in Osaka Prefecture and Oyama Town in Shizuoka Prefecture were later excluded from the system for allegedly collecting large donations while violating the revised rules.

Prohibition of Points Offered by Portal Sites

Furthermore, aiming to ensure the sound operation of Furusato Nouzei, the Ministry of Internal Affairs and Communications announced a policy to prohibit donation solicitation through intermediaries that offer points or similar incentives to users.

This decision was made because it was judged that high-value point rebates offered independently by portal sites, in addition to the ‘return gifts’ provided by municipalities, deviated from the original purpose of donations, and led to excessive competition.

Point Awards to Be Ended by the End of September

Consequently, starting in October 2025, the granting of points or similar rewards when using Furusato Nouzei portal sites will be prohibited. If you make Furusato Nouzei donations using a portal site, points or similar rewards will only be granted until the end of this month.

Points Which Are Subject to the Regulations

• Points granted independently by portal sites, such as “Rakuten Points” from Rakuten Furusato Nozei or high-reward points granted through specific campaigns;
• Points with cash value or that are redeemable for gift certificates, such as Amazon Gift Cards, PayPay Points, and Furunavi Coins

Points Not Subject to Regulation

• Points or air miles normally awarded by credit card companies when donations are made via credit card payment

Portal sites have been urging that donations be made early, as donations are expected to surge in September 2025, potentially leading to shortages of return gifts. Additionally, the Ministry of Internal Affairs and Communications recently published info on the proportions of various expenses relative to donation amounts for Furusato Nouzei.

It was revealed that for a donor contributing 100(%), expenses incurred include an average 25(%) for purchasing the return gift, 13(%) for payments to intermediaries, and 8(%) for shipping, publicity, and settlement, leaving only 54(%) for the municipality.

If the points competition were to end, payments to intermediaries might decrease, potentially increasing to some extent the amounts retained by municipalities.