Supreme Court Rules Against the Tax Consequences of Yahoo Group’s Reorganization Structures (ヤフー事件)

(組織再編において租税回避が争われたヤフー事案の最高裁判決に関するブログ記事、LinkedInから再掲)

The Japanese Supreme Court (“SC”) ruled on February 29, 2016 that Yahoo group’s two reorganizations (including an absorption-type merger and a corporate split) were abusive, and sustained the decision of the National Tax Agency (“NTA”) not to accept the claimed tax consequences of the reorganization by the Yahoo group.

Yahoo group reorganized twice. The first reorganization involved Yahoo Japan Corporation (“YJ”) succeeding to JPY 54 billion in losses carried forward of IDC Solutions Inc. (a data center company, "IDCS") when YJ merged with IDCS through an absorption-type merger. YJ placed its executives on the board of IDCS before YJ made IDCS a wholly owned subsidiary by acquiring 100% of the shares of IDCS from Softbank Corp. Japanese reorganization tax rules allow succession of loss carried forward when a parent company merges with a subsidiary where both companies’ businesses are related and they plan for the executive of the parent company to assume posts as executives of the subsidiary through the merger. The second reorganization involved attributing JPY 10 billion of tax loss to a subsidiary. When IDCS split its business and established IDC Frontier Inc. ("IDCF"), because IDCS planned to sell 100% of the shares of IDCF to YJ immediately after the split, IDCF recognized a tax loss based on its tax goodwill value, which could be set off against future profit for the following five business years. NTA refused both tax consequences by applying Article 132-2 of the Corporate Tax Act (“CTA”), and YJ/IDCF sued claiming that they had business purposes for the transactions. The Tokyo District Court and the Tokyo High Court upheld NTA’s decision.

In both cases, the main issue was whether NTA can apply Article 132-2 to negate a taxpayer’s tax consequence. Most academics and private practitioners had claimed that Article 132-2 should not be applied when the reorganization was predominantly for a good business purpose, even if there were also a tax avoidance purpose as well.

The petty benches of SC, comprising five judges led by Chief Judge Yoshiki Yamaura for YJ case and three judges led by Chief Judge Yoshinobu Onuki for IDCF case (other than the Chief Judges, the members of each petty bench differ from case to case), ruled in each case that Article 132-2 could apply when a taxpayer abuses the tax rules regarding reorganization. The test applied was (i) whether the reorganization is unnatural, such as the use of measures out of the ordinary or the form of reorganization differing from the substance, and (ii) whether there are reasonable grounds for the reorganization, such as a business purpose. Based on the facts and circumstances, the SC also found “abuse” of the tax system in order to avoid tax and upheld the NTA’s decision.

SC’s judgments fall halfway between the views of most academics and private practitioners on one side and the harsher rulings by the lower courts on the other. A business purpose is still an important factor, but it is not the sole deciding factor. Taxpayers should carefully analyze whether any future reorganization violates the purpose of each specific tax rule regarding reorganization – i.e. whether it “abuses” the law. The other takeaway is that although SC may not intend to make proactive use of Article 132-2, it may have been aiming to keep the ambit of Article 132-2’s unclear, to keep it as a useful last resort.

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