Taxation of cryptoassets and Web 3.0 - Introduction
The Web 3.0 industry has been expanding in Japan in recent years.
However, uncertainty around the tax treatment of Web 3.0 transactions and cryptoassets in Japan have been problematic for the businesses in this nascent space.
What is Web 3.0?
Web 3.0 refers to the next generation of the World Wide Web, which is characterized by a more decentralized, interconnected, and user-centric internet.
It is also known as the decentralized web or the semantic web.
Unlike Web 2.0, which was mainly focused on user-generated content and social networking, Web 3.0 aims to create a more open and decentralized internet using blockchain technology and other distributed systems.
This would allow for more peer-to-peer transactions and communication, reducing the need for centralized intermediaries and creating more privacy and security for users.
Web 3.0 also seeks to provide a more intelligent and personalized web experience, by using artificial intelligence, machine learning, and other technologies to make sense of the vast amounts of data available online. This could lead to more intelligent search engines, personalized content recommendations, and more efficient data processing.
Overall, Web 3.0 represents a significant shift in how we use and interact with the internet, with a greater focus on user control, privacy, and decentralization, as well as more intelligent and personalized web experiences.
MTM Rules and tax uncertainty
One example of the difficulties is for those businesses who would like to issue tokens in Japan.
An illustration of this is that several blockchain companies have avoided issuing tokens in Japan, due to the tax burden derived from the application of the Year-End Mark to Market (MTM) Rules under the Corporation Tax Act (CTA) in Japan.
According to the Payment Services Act, corporations that hold cryptocurrencies that are traded in "active markets" must adhere to certain rules.
These rules require the corporations to update the acquisition price/booked price of their cryptocurrencies to reflect their current fair market values, a practice commonly referred to as "Mark to market (MTM)."
Additionally, any gains or losses resulting from these price updates must be realized at the end of each business year.
Further, there is also uncertainty more generally over the tax treatment of Web 3.0 related transactions.
The 2023 reforms
Starting in 2023, there will be some changes to the tax rules for cryptocurrencies. If a cryptocurrency has been issued but not yet distributed to third parties, it will not be subject to certain tax rules at the end of the year, as long as certain conditions are met. These conditions include technical restrictions on transfer or entrusting the cryptocurrencies to a trustee under specific conditions.
Additionally, if a corporation borrows cryptocurrencies from a third party and sells them but does not buy back the same amount by the end of the year, they will have to recognize any gains or losses as if they had bought back the same amount.
These tax reforms will apply to corporations whose business year starts on or after April 1st, 2023. The specific details of the requirements for the first condition mentioned above will be disclosed in April 2023 or later.
NTA guidelines re NFTs
In addition, the NTA (National Tax Agency) in Japan has released the first official guidelines on how NFTs (non-fungible tokens) are taxed.
Scope of guidelines
These guidelines cover:
- individual income taxes,
- corporate taxes,
- Sales / consumption taxes,
- inheritance/gift taxes, and
- statutory reporting obligations.
The guidelines use examples of art NFTs, which are backed by copyrights for digital designs, that have been distributed.
Foreign business operator distributing in Japan
For a foreign business operator distributing NFTs in Japan, the tax treatment will vary depending on the legal characteristics of the NFTs. Therefore, it is recommended to consult with tax experts to determine the tax treatment for each NFT.
Income tax and corporate taxes
Regarding individual income taxes and corporate taxes, the NFT FAQs explain that an person who is UK resident for tax purposes who creates digital art and sells art NFTs related to such digital art through a marketplace in Japan is not subject to Japanese income or corporate taxation.
This is because a person who is not a tax resident in Japan and has no permanent establishment in Japan is generally not subject to Japanese taxation on the income derived from the issuance (first-sale) of NFTs, unless the NFTs are backed by real assets which trigger Japan-sourced income separately.
Sales / consumption taxes
With regard to consumption taxes (Japanese value added taxes), the NTA deems the issuance of art NFTs as “cross-border provisions of electronic services.”
Therefore, the consideration for the issuance of art NFTs is taxable if the buyer of the art NFTs is an individual located in Japan or a Japanese corporation. A foreign issuer of art NFTs would be subject to consumption taxes in Japan in respect of the primary sale of the issued art NFTs to Japanese purchasers.
For withholding obligations, payment of the consideration for the issuance of art NFTs would generally be subject to Japanese withholding tax levied on royalties.
However, withholding obligations would not be triggered if it is difficult for the purchaser of the art NFTs to distinguish the consideration for the grant of copyrights from the total amount of NFT sales.
Inheritance / gift taxes
Under Japanese tax laws, an individual recipient of assets located in Japan by way of an inheritance/gift from another individual would be subject to inheritance/gift taxes even if the recipient is located outside of Japan.
In the NFT FAQs, NFTs are included in the scope of taxable assets so long as they have an economic value.
Like most jurisdictions around the globe, relevant authorities have been playing catch up in ensuring regulation and tax rules are fit for purpose in the new world of Web 3.0.
If you have any queries about Taxation of cryptoassets and Web 3.0 in Japan or Japanese tax matters in general, then please do get in touch.
The content of this article is provided for educational and information purposes only. It is not intended, and should not be construed, as tax or legal advice. We recommend you seek formal tax and legal advice before taking, or refraining from, any action based on the contents of this article.