Question:

Is it true that Japanese companies are not free to set executive compensation and bonuses?

Answer:

As a general rule, compensation and bonuses paid to directors and corporate auditors are not deductible. Because it is relatively easy to adjust the profit of the company by increasing or decreasing the compensation and bonuses paid to directors, the Corporate Tax Law restricts the inclusion of directors’ compensation and bonuses in deductible expenses.

However, directors’ compensation under the following three conditions are deductible for corporate tax. It is common for SMEs to adopt (1) “Fixed amount periodical compensation” or (2) “Fixed compensation notified in advance”.

(1) Fixed amount periodical compensation

“Fixed amount periodical compensation” is salary which is regularly paid on a monthly basis with a fixed amount throughout a fiscal year. It is the most popular condition that a lot of companies adopts.

(2) Fixed compensation notified in advance

“Fixed compensation notified in advance” is salary which is fixed in the amount and timing of the payment for which an advance notification is filed with the tax office. It is used when a company prefer to pay bonuses to directors in the same manner as employees.

(3) Profit-based compensation

“Profit-based compensation” is salary which is calculated based on profits for the current year and applicable to public companies.