Establishing a branch office in Japan

Establishing a branch office in Japan

If, however, your firm wants to call its own shots when it enters the Japanese market, a branch office may be a good choice with both relatively low risk and independence.

As mentioned before, joint ventures seem to work best in saturated markets or in manufacturing operations, but branches and wholly owned subsidiaries may be better for sales or services.

A branch is simply an extension of the foreign parent, and as such the foreign parent is liable for everything the branch does in Japan. The branch must pay tax to Japan for income derived from Japanese sources, although these taxes paid to Japan may lead to offsetting tax credits in the home country.

The branch, once established , may engage in all forms of trading, manufacturing, retailing or services. Certain sectors such as banking, securities, insurance and utilities require permits. The branch may also hire Japanese employees.

When I worked for an American computer company that sold and serviced computers in Japan, I worked for its Japanese branch, although this branch was later "converted" into a subsidiary through an asset sale to the newly formed subsidiary. Such a sale or conversion of assets may encounter significant taxes if the branch's assets grew in value, so the conversion must be done carefully.

When considering the branch vs. wholly owned subsidiary debate, there are several factors in favor of the branch.

First, the branch is faster and cheaper to set up. Establishing a Japanese corporation requires the drawing up of the company's bylaws, electing directors and such. It also requires a minimum capitalization of about $100,000. As far as I know, Japan does not require the foreign branch to come up with a minimum amount of "seed" money, but for tax and other purposes the branch must register with Japanese authorities. Also, one of the representatives in the branch must be a resident, but not necessarily a citizen of Japan.

The branch also provides more flexibility to the parent in financing and taxes. After its establishment, the branch may receive freely funds from the parent without notifying the Japanese government.

Also, because the branch is merely an extension of the parent, losses incurred by the branch may be included in the parent's US tax return, while a subsidiary's may not. A subsidiary may carry losses forward and thereby reduce its future taxes payable to Japan, but these carry-forwards may not be as useful as an immediate write-off to the parent's earnings.

Also, a reasonable amount of expenses incurred by the parent may be allocated to the branch to offset income gained in Japan. The tax rate imposed on the profits of a branch or subsidiary that are not remitted back to the US should be about the same.

However, there are some limitations associated with branches.

First, a branch is not a separate company, and it may not issue shares so a branch can not make a public issue in Japan, nor can it take on Japanese partners. Although a branch's assets can be moved to a subsidiary later, this may generate capital gain taxes. Also, because of transfer pricing issues, when a branch imports goods into Japan, the Japanese officials may hold up the goods longer in order to confirm that a proper price is declared. Because sales between a parent and subsidiary are supposed to be at arm's length, transfer pricing is not such an issue.

Also, because the subsidiary is a capitalized Japanese corporation, subsidiaries find it easier to obtain local financing, personnel and to purchase land. Although a parent may finance a subsidiary through capital injections or loans, these are now considered to be arm's-length international investments, and must be reported to Japan's Ministry of Finance.