U.S. expat in Japan with Japanese spouse - pre/post retirement taxation

[okane]

I am a U.S. expat in Japan with a Japanese spouse. My spouse is a green card holder. We are in our early 30's. We've been resident in Japan for 1 year and lived/worked in the U.S. prior to that. As such we have an assortment of U.S. retirement/taxable accounts. My main goal of this post is to get a second opinion on the tax treatment of my current situation (non-permanent resident) and of a potential future status as a permanent resident/retiree (as in for tax purposes = 5 of last 10 years in Japan).

Current Situation
I currently have an accountant hired by my company prepare my U.S. and Japan taxes, but they do not prepare my spouse's Japan taxes (in the U.S. we are filing MFJ). My spouse is not working in Japan nor does she have any assets in Japan, so the only income we have to be concerned about is her assets located in the U.S. She has a SIMPLE IRA, Traditional IRA, bank interest, and a joint taxable account. Last year we decided to only count the bank interest and 50% of the joint taxable account dividends (did not have any realized capital gains last year) as taxable income in Japan. It ended up being that my spouse was under the filing threshold for national taxes, but did need to file for local taxes although still no taxes owed. Actually my spouse went to the NTA and local tax authority several times inquiring as to how she should file taxes and they were surprised she wanted to declare anything from her overseas accounts at all!

1. I've read many threads on here with conflicting information as to whether or not " private pensions" (as defined in the U.S.-Japan tax treaty and includes IRAs) are taxable in Japan prior to distribution. Last year I took the view that we would not treat her IRAs as taxable. Has anyone obtained a clear read on this from the NTA?

Article 17(1) in the U.S.-Japan Tax Treaty states that payments shall be taxable. I am taking the position that no payments are being made by the pension fund until a withdrawal or distribution occurs from the pension fund. The funds are not available for use until then. Dividends and capital gains which do not leave the pension fund and are therefore not available for use, are not taxable in Japan or the U.S.

Article 17(1) states "Subject to the provisions of paragraph 2 of Article 18, pensions and other similar remuneration, including social security payments, beneficially owned by a resident of a Contracting State shall be taxable only in that Contracting State."


Future Situation
I have put together a table to show how I think worldwide assets are taxed in Japan and the U.S. based on the U.S.-Japan tax treaty and anecdotes I've read here. This situation would be applicable if I became a permanent resident in Japan for tax purposes and am therefore subject to tax on my worldwide taxes. It is more targeted towards retirement age and any taxation prior to that would depend on the answer to #1 in my current situation.

Thoughts/corrections? Anyone have a good spreadsheet or link for parsing Article 23?

[TedSwippet]

I have nothing to offer on your Japanese tax questions -- not a Japanese resident, nor ever have been, sorry -- but I do have a thought on this aspect of your post:

My spouse is a green card holder. We are in our early 30's. We've been resident in Japan for 1 year and lived/worked in the U.S. prior to that.

Maybe you already know, but a US green card becomes effectively and technically invalid for immigration purposes (although not for tax purposes) if you live outside of the US for more than a year. You can obtain a 'reentry permit' that will extend that to two years, but nothing beyond that. Summarised in this USCIS page:

https://www.uscis.gov/sites/default/fil ... s/B5en.pdf

Also, note that there are some dangers in retaining a green card when not living in the US. Aside from the fact that this leaves you exposed to full US taxation on your worldwide earnings and gains (even though you may no longer have any right of residence in the US), holding a green card for an extended period increases the chance of being hit by a potentially nasty 'expatriation tax' when you do come to surrender it.

Your spouse's best move is probably to surrender the green card now, form I-407, and so get free of the US tax system going forwards. That will leave her able to invest in things such as a Japanese NISA without the IRS taking a piece of the returns, and potentially to do the investing for both of you, allowing you to cut the IRS out of your lives to a larger extent than is possible at present. As the spouse of a US citizen, she should be able to obtain a new green card again reasonably easily should you both decide to relocate back to the US in future.

[rk6]

Not an exact answer to your question but:

Separately pay the same accountant to also prepare and file your wife's Japan taxes for just this one coming year.
(we lived in Tokyo for several years, and my firm used PwC for this purpose - the firm paid for the first year filing for expats for both Japan and US taxes)

Then assuming no major changes in status or assets, just use that as a template for following years.

[rhe]

I haven't consulted a lawyer or accountant, but did a fair amount of reading about this. It looks like two important points are
1. How accessible the money in the overseas "tax free" account is, if you were to try to withdraw it.
2. How much the overseas "tax free" account looks like an insurance policy, rather than a brokerage account.

If you are free to withdraw money from the account, and your investments in the account are funds that report annual dividends, then at some point it's possible the NTA may decide that it's not a tax free account. I was concerned enough about this that I switched from mutual funds to variable annuity contracts in my account.

[okane]

Maybe you already know, but a US green card becomes effectively and technically invalid for immigration purposes (although not for tax purposes) if you live outside of the US for more than a year. You can obtain a 'reentry permit' that will extend that to two years, but nothing beyond that. Summarised in this USCIS page:

Thanks for the consideration. We actually did obtain a reentry permit prior to coming over to Japan, so we are covered on that front for another year at least. After that we are undecided as to what do to. Part of it is because my assignment over here was only initially for 2 years, so we may end up going back to the U.S. I have not yet had a chance to research what happens to my spouse's U.S. retirement accounts and U.S. social security qualification if she gives up her green card.

Not an exact answer to your question but:

Separately pay the same accountant to also prepare and file your wife's Japan taxes for just this one coming year.
(we lived in Tokyo for several years, and my firm used PwC for this purpose - the firm paid for the first year filing for expats for both Japan and US taxes)

Then assuming no major changes in status or assets, just use that as a template for following years.

This is a good idea and one that I've considered...but I feel that every accountant may have a different interpretation so I'd like to have a path forward researched first.

I haven't consulted a lawyer or accountant, but did a fair amount of reading about this. It looks like two important points are
1. How accessible the money in the overseas "tax free" account is, if you were to try to withdraw it.
2. How much the overseas "tax free" account looks like an insurance policy, rather than a brokerage account.

If you are free to withdraw money from the account, and your investments in the account are funds that report annual dividends, then at some point it's possible the NTA may decide that it's not a tax free account. I was concerned enough about this that I switched from mutual funds to variable annuity contracts in my account.

Where did you find the information that led you to the above two points? I don't recall seeing anything like it in the tax treaty, but it is dense reading so I'm sure I could have missed it.

[rhe]

I haven't consulted a lawyer or accountant, but did a fair amount of reading about this. It looks like two important points are
1. How accessible the money in the overseas "tax free" account is, if you were to try to withdraw it.
2. How much the overseas "tax free" account looks like an insurance policy, rather than a brokerage account.

If you are free to withdraw money from the account, and your investments in the account are funds that report annual dividends, then at some point it's possible the NTA may decide that it's not a tax free account. I was concerned enough about this that I switched from mutual funds to variable annuity contracts in my account.

Where did you find the information that led you to the above two points? I don't recall seeing anything like it in the tax treaty, but it is dense reading so I'm sure I could have missed it.

Unfortunately I didn't keep notes about how I reached these conclusions. It was based on reading Japanese language documents about foreign pensions. I know it's dangerous to try to apply logic to tax law, but consider the following line of argument:

1. Japanese tax authorities generally apply domestic life insurance law to foreign life insurance contracts, "to the extent possible"

2. Domestic life insurance is taxed when it pays out, not as the value grows.

3. Variable annuities are available as a type of domestic insurance contract.

4. A foreign variable annuity (e.g. TIAA Real Estate) would thus similarly be taxed only on payout.

To see why a "tax free savings account" type investment is probably taxable, first check that the account name isn't explicitly mentioned in the tax treaty. Then conclude that it can't be covered as a "pension" because nobody refers to it as a pension in official documents, and it's advertised as a "savings account" and not a "pension".

The grey area is thus things like a 401k, where they have a lot of "pension-like" features, but also look a bit like a tax free savings account. If you search in japanese for people who had worked in the US and have now returned to Japan, you can find some discussion of this.

[okane]

To see why a "tax free savings account" type investment is probably taxable, first check that the account name isn't explicitly mentioned in the tax treaty. Then conclude that it can't be covered as a "pension" because nobody refers to it as a pension in official documents, and it's advertised as a "savings account" and not a "pension".

The grey area is thus things like a 401k, where they have a lot of "pension-like" features, but also look a bit like a tax free savings account. If you search in japanese for people who had worked in the US and have now returned to Japan, you can find some discussion of this.

You bring up a good point here and so I took a look at the technical explanation for the tax treaty. From the paragraphs quoted below, I conclude that actually a "pension fund" as defined in the treaty includes almost all (if not all) of the typical U.S. retirement accounts. In my situation it fully covers the retirement accounts we hold. If we then look at Article 17 in the technical explanation, it again only refers to "payments" made by the pension fund. I think it is reasonable to conclude that a payment is only received when it is transferred out of the pension fund and therefore I would still argue that the "pension funds" are only taxable when a withdrawal or distribution occurs from the pension fund.

What do you think?

By the way, I also see a mention about annuities in Article 17, Paragraph 2 which has similar wording as Paragraph 1, so I think you are good to go either way.

Article 3 (General Definitions)

Subparagraph (m) defines the term “pension fund” to include any person organized under the laws of a Contracting State which is established and maintained in that Contracting State primarily to provide pension or retirement benefits or other similar remuneration, including social security payments, and which is generally exempt from income taxation with respect to such pension activities in that Contracting State.

In the case of the United States, the term “pension fund” includes the following plans under existing U.S. law: qualified plans under section 401(a), individual retirement plans (including individual retirement plans that are part of a simplified employee pension plan that satisfies section 408(k), individual retirement accounts, individual retirement annuities, section 408(p) accounts, and Roth IRAs under section 408A), section 457 governmental plans, section 403(a) qualified annuity plans, section 403(b) plans, and any fund identical or substantially similar to the foregoing schemes that are established pursuant to legislation introduced after the date of signature of the Convention. Section 401(k) plans qualify as pension funds because a 401(k) plan is a type of 401(a) plan.

Article 17 (Pensions, Social Security, Annuities, and Support Payments)

Paragraph 1 provides, as a general rule, that the Contracting State of residence of the beneficial owner has the exclusive right to tax pensions and other similar remuneration. The phrase “pensions and other similar remuneration” includes both periodic and lump-sum payments.

The phrase “pension and other similar remuneration” is intended to encompass payments made by a pension fund, as defined in subparagraph 1(m) of Article 3 (General Definitions), or any other payment made by private retirement plans and arrangements in consideration of past employment.

[rhe]

You bring up a good point here and so I took a look at the technical explanation for the tax treaty. From the paragraphs quoted below, I conclude that actually a "pension fund" as defined in the treaty includes almost all (if not all) of the typical U.S. retirement accounts. In my situation it fully covers the retirement accounts we hold. If we then look at Article 17 in the technical explanation, it again only refers to "payments" made by the pension fund. I think it is reasonable to conclude that a payment is only received when it is transferred out of the pension fund and therefore I would still argue that the "pension funds" are only taxable when a withdrawal or distribution occurs from the pension fund.

What do you think?

Sounds reasonable to me! I believe there is a reporting threshold at either 100 million JPY or 50 million JPY total assets (or maybe 50 million of overseas assets?). If you're below the threshold you never report your assets anyways, so they'll only discover these things when you try to bring them into the country.

[rhe]

Current market events have motivated me to go back and look at this more carefully. The most definitive document I found is

https://www2.deloitte.com/content/dam/D ... st2015.pdf

which has the great advantage of being both recent and from a fairly authoritative source. The main conclusion is given in the first sentence of the answer: a 401k will be taxed as a "non tax qualified retirement pension" (不適格退職年金). This basically means that "gains" are taxed when they are paid out from the 401k, but growth within the 401k can happen tax free. A side effect of this is that it is important to keep paperwork documenting contributions, because the contributions (both from you *and* your employer) are not "gains" and thus should not be taxed on payout. This distinction arises because the contributions to the 401k were taxable under Japanese tax law, and thus shouldn't be again taxed on withdrawal.

In the process of finding this document I also found some posts (in Japanese) saying that people had gone to the tax office and were told that they had to pay current year income tax on dividends inside an IRA. This means that either an IRA is treated differently than a 401k, or that this topic is sufficiently esoteric that the tax office is giving out incorrect information.
(or Deloitte is wrong, but here I think I am willing to bet on the Deloitte report rather than a random tax office official)

[mmegu]

I lived in Japan for over two decades. We are in the US now. I'm a US citizen and my wife is Japanese. One of the top tier accounting firms prepared my taxes each year for both the US and Japan returns.

Taxes in Japan are quite onerous:

1. My defined contribution Japanese pension was taxed each year it was received by the US Govt even though I never had access to it. The Japanese Govt will then tax it again when I am eligible to start withdrawing from it. Basically, it will be double taxed. My retirement account income in the US (401k and IRAs) was not taxed by Japan. I never withdrew money from those accounts.

2. After you are there for five years, you will need to declare worldwide income. If your net worth is above a certain level, you will have to declare all your worldwide assets. It is a very invasive form.

3. I would recommend your wife keep the green card. It gives you both a lot more flexibility to move back to the US at anytime. Also, once US brokers and banks know that she is no longer a US green card holder, she will have a tough time keeping those accounts open. Yes, she will have to file US taxes. But, whatever you paid in Japan could be credited against her US tax liability. The Japan tax rate is higher. So, she will likely have no US tax liability.

4. Joint accounts are not allowed in Japan. Never disclose that you have one overseas for your wife. They could force one of you to pay up to a 50% gift tax on it.

5. The Japan inheritance and gift tax laws have become insane for foreigners and their Japanese spouses. You should look into these because it is very easy to get hit with a huge tax liability. (ie. You buy a house in the US with both your names on deed)

6. FYI The way high earning foreigners (In Japan for over five years) lowered their Japan tax liability was to buy rental properties overseas. The property had to have a few requirement like being made of wood and over 22 years old. You could have depreciated the property's structure over 4 years and apply that against your income. It was a huge tax break loophole. But, this tax break will likely be closed next year.

Japan is a wonderful country. I went for a year and stayed for over two decades. You should just be careful of the tax situation there. The tax rates are some of the highest in the world.