2021.03.11

2019 (Gyo-Hi) 333

Minshu Vol. 75, No. 3

Judgment concerning a case in which the court determined that the whole of a dividend of surplus paid by using both retained earnings and capital surplus as a resource falls under the return of capital provided in Article 24, paragraph (1), item (iii) of the Corporation Tax Act (prior to amendment by Act No. 9 of 2015)

Case seeking rescission of reassessment of corporation tax

Judgment of the First Petty Bench, dismissed

Tokyo High Court, Judgment of May 29, 2019

1. The whole of a dividend of surplus paid by using both retained earnings and capital surplus as a resource falls under the return of capital provided in Article 24, paragraph (1), item (iii) of the Corporation Tax Act (prior to amendment by Act No. 9 of 2015).

2. In the provisions of Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act (prior to amendment by Cabinet Order No. 142 of 2015) concerning the method of calculating the amount of the portion corresponding to the shares or capital contributions provided in Article 24, paragraph (1) of the Corporation Tax Act (prior to amendment by Act No. 9 of 2015), the part that provides for the method of calculating the amount of stated capital, etc. corresponding to the return, etc. of capital immediately prior to the return is invalid as provisions that go beyond the scope of delegation under the same Act to the extent of resulting in a situation where, with respect to a dividend of surplus paid by using both retained earnings and capital surplus as a resource, the calculated amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return exceeds the amount of capital surplus decreased due to the return.

(Concerning 1 and 2) Article 23, paragraph (1), item (i), Article 23-2, paragraph (1), and Article 24, paragraph (1), item (iii) of the Corporation Tax Act (prior to amendment by Act No. 9 of 2015)

(Concerning 2) Article 24, paragraph (3) of the Corporation Tax Act (prior to amendment by Act No. 7 of 2018) and Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act (prior to amendment by Cabinet Order No. 142 of 2015)


Corporation Tax Act (prior to amendment by Act No. 9 of 2015)

(Exclusion of Dividends Received from Gross Profits)
Article 23 (1) In the case where a domestic corporation receives the following amount (in the case of the amount set forth in item (i), excluding the amount that the domestic corporation receives from a foreign corporation, corporation in the public interest, etc. or an association or foundation without juridical personality and the amount pertaining to qualified distribution in kind; hereinafter referred to as the "amount of dividend, etc." in this Article), the amount of dividend, etc. (in the case of the amount of dividend, etc. related to shares, etc. that do not fall under either the shares, etc. of a wholly owned subsidiary or the shares, etc. of an affiliated corporation (meaning shares, capital contributions or beneficial rights; hereinafter the same applies in this Article), the amount equivalent to 50 percent of the amount of dividend, etc.) is excluded from the amount of gross profits when calculating the amount of income of the domestic corporation for each business year:
(i) the amount of the dividend of surplus (limited to a dividend related to shares or capital contributions excluding a dividend resulting from a decrease in the amount of capital surplus and company split by split-off), dividend of profit (excluding a dividend due to company split by split-off) or distribution of surplus (limited to distribution related to capital contributions);

(Exclusion of Dividends Received from Foreign Subsidiaries from Gross Profits)
Article 23-2 (1) In the case where a domestic corporation receives, the amount set forth in paragraph (1), item (i) of the preceding Article (hereinafter referred to as the "amount of dividend of surplus, etc." up to paragraph (3)) from a foreign subsidiary (meaning a foreign corporation for which the number of shares held by the domestic corporation or the amount of capital contributions made thereby is the number or amount equivalent to 25 percent or more of the total number of issued shares or total amount of capital contributions (excluding the shares that the corporation holds in itself and the capital contributions made thereby) and which meets other requirements specified by Cabinet Order), the amount that remains after deducting the amount calculated, as specified by Cabinet Order, as the amount equivalent to the amount of expenses related to the amount of dividend of surplus, etc. from the amount of dividend of surplus, etc. is excluded from the amount of gross profits when calculating the amount of income of the domestic corporation for each business year.

(Amount Deemed to Be the Amount of Dividend)
Article 24 (1) In the case where a domestic corporation that is a shareholder, etc. of a corporation (excluding a corporation in the public interest, etc. and an association or foundation without juridical personality; hereinafter the same applies in this Article) has received a delivery of money or other assets on any of the following grounds concerning the corporation, when the sum of the amount of the money and the value of the assets other than money (in the case of assets related to qualified distribution in kind, the amount equivalent to the book value of the assets of the corporation immediately prior to the delivery) exceeds the amount of the portion corresponding to the corporation's shares or capital contributions that served as the basic reasons for the delivery in the amount of the corporation's stated capital, etc. or consolidated individual stated capital, etc., the amount of the excess is deemed to be the amount set forth in Article 23, paragraph (1), item (i) (Exclusion of Dividends Received from Gross Profits) with regard to the application of the provisions of this Act:
(iii) return of capital (meaning a dividend of surplus (limited to a dividend of surplus resulting from a decrease in the amount of capital surplus) resulting from reasons other than company split by split-off) or the distribution of residual assets due to a dissolution;

Corporation Tax Act (prior to amendment by Act No. 7 of 2018)

Article 24 (3) Necessary matters concerning the method of calculating the amount of the portion corresponding to the shares or capital contributions prescribed in paragraph (1) and the application of the provisions of the preceding two paragraphs are specified by Cabinet Order.

Order for the Enforcement of the Corporation Tax Act (prior to amendment by Cabinet Order No. 142 of 2015)

(Method of Calculating the Amount of Stated Capital, etc. or Consolidated Individual Stated Capital, etc. that Corresponds to Shares Held)
Article 23 (1) The amount of the portion corresponding to shares or capital contributions provided in Article 24, paragraph (1) of the Act (Amount Deemed to Be the Amount of Dividend) is the amount provided in the following items in accordance with the category of the grounds provided in the same paragraph as set forth in those items:
(iii) return of capital set forth in Article 24, paragraph (1), item (iii) of the Act or distribution of residual assets due to dissolution: with regard to a corporation that has conducted return of the capital or distribution of residual assets due to dissolution (hereinafter referred to as the "return, etc." in this item) (hereinafter such corporation is referred to as the "returning corporation" in this item), the amount calculated by dividing the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return, etc. of the returning corporation (the relevant amount means the amount calculated by multiplying the amount of stated capital, etc. or consolidated individual stated capital, etc. immediately prior to the return, etc. (hereinafter referred to as the "amount of stated capital, etc. immediately prior to the return" in this item) by the ratio of the amount set forth in (b) to the amount set forth in (a) (the ratio is zero if the amount of stated capital, etc. immediately prior to the return, etc. is zero or less; the ratio is one if the amount of stated capital, etc. immediately prior to the return, etc. exceeds zero and the amount set forth in (a) is zero or less or if the amount of stated capital, etc. immediately prior to the return, etc. exceeds zero and the whole of residual assets is distributed; the ratio is rounded up to three decimal places if it has a fraction that is less than the three decimal places)) by the total number of shares related to the return, etc. of the returning corporation and multiplying the obtained amount by the number of shares related to the return, etc. of the returning corporation which the domestic corporation provided in the same paragraph held immediately prior to the return, etc.:

(a) the amount obtained by subtracting the book value of liabilities (including obligations related to share options) from the book value of assets of the returning corporation at the end of the previous period (meaning the end of the business year preceding the business year containing the date of the return, etc. of the returning corporation (if the returning corporation has submitted an interim return or consolidated interim return containing the matters set forth in Article 72, paragraph (1) or Article 81-20, paragraph (1) of the Act with regard to the period provided in these provisions within six months prior to the date of the return, etc. but has failed to submit a tax return or consolidated tax return during the period from the date of submission of the interim return or consolidated interim return to the date of the return, etc., the period related to the interim return or consolidated interim return as provided in these provisions)) (if the amount, etc. of stated capital, etc. has increased or decreased during the period from the end of the previous period to the time immediately prior to the return, etc., the amount obtained by adding the amount of the increase or the amount obtained by subtracting the amount of the decrease); and

(b) the sum of the amount of capital surplus that has decreased due to the return of capital or the amount of money delivered by the distribution of residual assets due to dissolution and the value of assets other than money (in the case of assets related to qualified distribution in kind, the book value thereof immediately prior to the delivery) (if the amount of capital surplus that has decreased or the relevant sum exceeds the amount set forth in (a), the amount set forth in (a));

The final appeal is dismissed.

The costs of the final appeal shall be borne by the appellant of final appeal.

Concerning reasons for a petition for acceptance of final appeal stated by the counsel for final appeal

1. The appellee, which is a domestic corporation, received a dividend of surplus using capital surplus and retained earnings as a resource (hereinafter referred to as the "Dividend") from a foreign subsidiary in the consolidated business year from April 1, 2012, to March 31, 2013 (hereinafter referred to as the "Consolidated Business Year"). The appellee filed a consolidated corporation tax return for the Consolidated Business Year (hereinafter referred to as the "Tax Return"), considering that the portion of the Dividend using capital surplus as a resource (hereinafter referred to as the "Dividend from Capital") falls under the return of capital prescribed in Article 24, paragraph (1), item (iii) of the Corporation Tax Act (prior to amendment by Act No. 9 of 2015; the same applies hereinafter unless otherwise specified) and that the portion of the Dividend using retained earnings as a resource (hereinafter referred to as the "Dividend of Profit") falls under the dividend of surplus prescribed in Article 23, paragraph (1), item (i) of the same Act, respectively. In response to this, the district director of the competent tax office determined that the full amount of the Dividend falls under the aforementioned return of capital and made a reassessment of corporation tax for the Consolidated Business Year (hereinafter referred to as the "Reassessment").

In this case, the appellee demands that the appellant rescind the Reassessment in relation to the portion exceeding the amount reported in the Tax Return.

2. The provisions of related laws and regulations are as outlined below.

(1) The main sentence of Article 23, paragraph (1) of the Corporation Tax Act provides that in the case where a domestic corporation receives the amount of dividend, etc. set forth in the items of the same paragraph (in the case of the amount set forth in item (i) of the same paragraph, excluding the amount that the domestic corporation receives from a foreign corporation), the whole or part of the amount is excluded from the amount of gross profits when calculating the amount of income of the domestic corporation for each business year. Item (i) of the same paragraph sets forth the amount of "dividend of surplus (limited to a dividend related to shares or capital contributions and excluding a dividend resulting from a decrease in the amount of capital surplus and company split by split-off)."

Article 23-2, paragraph (1) of the same Act provides as follows: in the case where a domestic corporation receives a dividend of surplus, etc. set forth in Article 23, paragraph (1), item (i) of the same Act from a foreign subsidiary prescribed in Article 23-2, paragraph (1) of the same Act, the amount that remains after deducting the amount calculated, as specified by Cabinet Order, as the amount corresponding to the amount of expenses related to the amount of dividend of surplus, etc. from the amount of dividend of surplus, etc. (the amount equivalent to 5 percent of the amount of the dividend of surplus, etc. pursuant to Article 22-4, paragraph (2) of the Order for the Enforcement of the Corporation Tax Act (prior to amendment by Cabinet Order No. 138 of 2014; the same applies hereinafter) is excluded from the amount of gross profits when calculating the amount of income of the domestic corporation for each business year.

(2) A. The main sentence of Article 24, paragraph (1) of the Corporation Tax Act provides as follows: in the case where a domestic corporation that is a shareholder, etc. of a corporation has received a delivery of money or other assets on the grounds concerning the corporation as set forth in the items of the same paragraph, when the sum of the amount of the money and the value of the assets other than the money exceeds the amount of the portion of the corporation's stated capital, etc. that corresponds to the corporation's shares or capital contributions (hereinafter referred to as "shares, etc.") that served as the basic reasons for the delivery (hereinafter referred to as the "amount of the portion corresponding to shares"), the amount of the excess is deemed to be the amount set forth in Article 23, paragraph (1), item (i) of the same Act (hereinafter the amount deemed to be the amount set forth in the same item is referred to as the "amount of deemed dividend"). Article 24, paragraph (1), item (iii) of the same Act sets forth "return of capital (meaning a dividend of surplus (limited to a dividend of surplus resulting from a decrease in the amount of capital surplus) resulting from reasons other than company split by split-off)" (hereinafter referred to as the "return of capital"). In addition, paragraph (3) of the same Article provides that the method of calculating the amount of the portion corresponding to shares and other matters are specified by Cabinet Order.

B. Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act provides as follows with regard to the method of calculating the amount of the portion corresponding to shares in the case of the return of capital.

(A) First of all, the amount of stated capital, etc. corresponding to the return of capital, etc. of a corporation that made the return of capital (hereinafter referred to as the "returning corporation") immediately prior to the return (hereinafter referred to as the "amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return") is calculated by multiplying the amount of stated capital, etc. immediately prior to the return of capital of the returning corporation (hereinafter referred to as the "amount of stated capital immediately prior to the return") by the ratio of the amount set forth in (ii) below to the amount set forth in (i) below (hereinafter referred to as the "book value of net assets") (hereinafter that ratio is referred to as the "ratio provided in the Order for Enforcement"). Incidentally, the ratio provided in the Order for Enforcement is zero if the amount of stated capital immediately prior to the return is zero or less, and it is one if the amount of stated capital immediately prior to the return exceeds zero and the book value of net assets is zero or less:

(i) the amount obtained by subtracting the book value of liabilities from the book value of assets of the returning corporation at the end of the previous period; however, if the amount, etc. of stated capital, etc. has increased or decreased during the period from the end of the previous period to the time immediately prior to the return of capital, the amount obtained by adding the amount of the increase or the amount obtained by subtracting the amount of the decrease;

(ii) the amount of capital surplus that has decreased due to the return of capital (hereinafter referred to as the "amount of decreased capital surplus"); however, if this amount exceeds the book value of net assets, the book value of net assets.

(B) The amount of the portion corresponding to shares is calculated by dividing the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return by the total number of shares or the total amount of capital contributions related to the return of capital of the returning corporation and multiplying the obtained amount by the number of shares or the amount of capital contributions related to the return of capital of the returning corporation which the domestic corporation provided in Article 24, paragraph (1) of the Corporation Tax Act held immediately prior to the return of capital.

(3) Article 61-2, paragraph (1) of the Corporation Tax Act provides that in the case where a domestic corporation has transferred any securities, the amount of capital gain or capital loss, which is the difference between the amount of consideration and the amount of costs in relation to the transfer, is included in the amount of gross profits or deductible expenses when calculating the amount of income for the business year containing the day on which a contract for the transfer was concluded (in the case where the transfer is due to payment of a dividend of surplus, the day on which the dividend of surplus becomes effective). Item (i) of the same paragraph provides that in the case where there is the amount of deemed dividend under the provisions of Article 24, paragraph (1) of the same Act, the amount of consideration for the transfer of securities is the amount that remains after deducting the amount equivalent to said amount of deemed dividend.

In addition, Article 61-2, paragraph (17) of the same Act provides that in the case where a domestic cooperation has received the delivery of money as the return of capital of a corporation that issued shares, etc. that the domestic corporation holds, the amount of costs related to the transfer of securities is the amount calculated as specified by Cabinet Order based on the book value immediately prior to the return of capital. In response to this, Article 119-9, paragraph (1) of the Order for the Enforcement of the Corporation Tax Act provides that the aforementioned amount is the amount calculated by multiplying the book value of the shares, etc. immediately prior to the return of capital by the ratio related to the return of capital as provided in Article 23, paragraph (1), item (iii) of the same Order (the ratio provided in the Order for Enforcement).

3. The outline of the facts lawfully determined by the court of prior instance is as follows.

(1) The appellee holds all shares of capital contributions to Kyo-ya Pacific Company, LLC (hereinafter referred to as "KPC"), which is a corporation set up under the Limited Liability Company Act of Delaware of the United States (hereinafter referred to as the "LLC Act"), throughout the Consolidated Business Year, and KPC thus falls under a foreign subsidiary prescribed in Article 23-2, paragraph (1) of the Corporation Tax Act. In an attempt to circulate funds from KPC and its subsidiary to the appellee, on November 12, 2012, the appellee informed KPC that 644,000,000 dollars in total should be distributed by dividing the amount into 100,000,000 dollars as the "return of capital" and 544,000,000 dollars as a "dividend" in light of tax handling.

(2) KPC received a remittance of 644,000,000 dollars from its subsidiary, Kyo-ya Company, LLC (hereinafter referred to as "KC"), as a dividend of profit. In order to also circulate it to the appellee, on November 12, 2012, KPC exchanged a written consent and written resolutions attached thereto with the appellee, who is the only employee of KPC, under the LLC Act.

The aforementioned written consent stated that signatories (the officers of KPC and the representative of the appellee) agree to adopt the written resolutions attached thereto while setting the date of their entry into force as November 12, 2012. The written resolutions stated that KPC was granted the authority to distribute 100,000,000 dollars to the appellee as the return of additionally paid capital after reducing the amount of stated capital and transferring the amount of the reduction to additionally paid capital, the authority to distribute 544,000,000 dollars to the appellee from retained profit, and other authorities. Incidentally, additionally paid capital falls under capital surplus under the Companies Act of Japan, and retained profit falls under retained earnings under the same Act.

(3) On November 14, 2012, the appellee received a remittance of 644,000,000 dollars (51,204,440,000 yen) related to the Dividend from KPC. On November 30, 2012, KPC transferred 103,810,000 dollars from capital to additionally paid capital and placed 644,000,000 dollars remitted from KC into income from dividend and then implemented accounting processes of reducing 100,000,000 dollars of additionally paid capital and 544,000,000 dollars of retained profit, respectively.

(4) The appellee filed the Tax Return on July 31, 2013. In the Tax Return, the Dividend was treated as outlined below.

A. The portion of the Dividend that was received from KPC's additionally paid capital (the Dividend from Capital), 7,951,000,000 yen (100,000,000 dollars), falls under money delivered by the return of capital set forth in Article 24, paragraph (1), item (iii) of the Corporation Tax Act. The amount of stated capital immediately prior to the return of KPC was 211,057,771.56 dollars, while its book value of net assets was 97,684,743.50 dollars, which was below the amount of stated capital immediately prior to the return, and was below the amount of decreased capital surplus. Therefore, if calculation under Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act is conducted, the ratio provided in the Order for Enforcement becomes 1, and the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return becomes 211,057,771.56 dollars, which is the same amount as the amount of stated capital immediately prior to the return. The amount of the portion corresponding to shares also becomes the same amount as the appellee holds all shares of capital contributions to KPC. Therefore, no portion becomes the amount of deemed dividend. Consequently, the full amount of the Dividend from Capital becomes the amount of consideration for the transfer of securities referred to in Article 61-2, paragraph (1) of the Corporation Tax Act.

B. The book value of the appellee's capital contributions to KPC immediately prior to the Dividend is 20,869,809,622 yen, and the full amount thereof becomes the amount of costs related to the transfer of securities as the ratio provided in the Order for Enforcement is one. Therefore, the difference between said amount and the Dividend from Capital, 7,951,000,000 yen (the amount of consideration for the transfer of securities), that is, 12,918,809,621 yen (memorandum value of 1 yen is taken into consideration), is included in the amount of deductible expenses as the amount of capital loss on securities under Article 61-2, paragraph (1) of the Corporation Tax Act.

C. The portion of the Dividend that was received from KPC's retained profit (the Dividend of Profit), 43,253,440,000 yen (544,000,000 dollars), falls under the amount of dividend of surplus referred to in Article 23, paragraph (1), item (i) of the Corporation Tax Act. Therefore, the amount that remains after deducting the amount equivalent to 5 percent of said amount from said amount, 41,090,768,000 yen, is excluded from the amount of gross profits.

D. Consequently, the amount of consolidated income is minus 14,964,203,607 yen, and the amount of consolidated operating loss carried over to the following period is 29,520,045,412 yen.

(5) On April 28 2014, the district director of the competent tax office made the Reassessment against the appellee on the grounds that the full amount of the Dividend, 644,000,000 dollars, falls under money delivered by the return of capital referred to in Article 24, paragraph (1), item (iii) of the Corporation Tax Act because the date of entry into force of the Dividend from Capital and that of the Dividend of Profit are the same. The outline of the Reassessment is as follows.

A. In conducting calculation under Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act, the amount of the portion corresponding to shares is 211,057,771.56 dollars as mentioned in (4)A. above. As a result, the amount of deemed dividend becomes the amount that remains after deducting the amount of the portion corresponding to shares from the amount of the Dividend, that is, 34,423,236,583 yen (432,942,228.44 dollars).

B. Under Article 23-2, paragraph (1) of the Corporation Tax Act, the amount that remains after deducting the amount equivalent to 5 percent of the aforementioned amount of deemed dividend from the amount of deemed dividend is excluded from the amount of gross profits.

C. The difference between the amount that remains after deducting the amount of deemed dividend from the amount of the Dividend, 16,781,203,417 yen (the amount of consideration for the transfer of securities), and the book value of the appellee's capital contributions to KPC immediately prior to the Dividend, 20,869,809,622 yen (the amount of costs related to the transfer of securities), that is, 4,088,606,204 yen (memorandum value of 1 yen is taken into consideration), is included in the amount of deductible expenses as the amount of capital loss on securities under Article 61-2, paragraph (1) of the Corporation Tax Act.

D. As a result, the amount of consolidated income is minus 6,909,887,134 yen, and the amount of consolidated operating loss carried over to the following period is 21,465,728,939 yen.

4. Based on the aforementioned facts, the court of prior instance determined as summarized below and ruled that the appellee's claim should be upheld.

From the context of Article 24, paragraph (1), item (iii) of the Corporation Tax Act, a return of capital referred to in the same item should be considered to mean a "dividend of surplus paid due to a decrease in the amount of capital surplus," that is, a "dividend using capital surplus as a resource." In that case, if a dividend is paid by using both capital surplus and retained earnings as a resource, the same item is applicable to the portion of the dividend using capital surplus as a resource, while Article 23, paragraph (1), item (i) of the same Act is applicable to the portion of the dividend using retained earnings as a resource. However, even in such case, if taxation differs depending on which of those portions of the dividend is deemed to have been paid earlier, the whole of the dividend is exceptionally deemed as a return of capital and is considered to conform to the rules under Article 24, paragraph (1), item (iii) of the same Act. However, this case is not the case where the aforementioned taxation difference arises. Therefore, Article 24, paragraph (1), item (iii) of the same Act is applicable to the Dividend from Capital, while Article 23, paragraph (1), item (i) of the same Act is applicable to the Dividend of Profit.

5. However, the aforementioned determination of the court of prior instance concerning interpretation of Article 24, paragraph (1), item (iii) of the Corporation Tax Act cannot be upheld for the following reasons.

(1) The Commercial Code prior to amendment by Act No. 87 of 2005 (hereinafter referred to as the "Old Commercial Code") provided for a dividend of profit (Article 290, paragraph (1)) and a decrease in capital (Article 375, paragraph (1), item (i)) as separate procedures in relation to a return of company property to shareholders. The Corporation Tax Act prior to amendment by Act No. 10 of 2006 (hereinafter referred to as the "2006 Amendment") distinguished between a dividend of profit referred to in Article 23, paragraph (1), item (i) and a return due to a decrease in capital without cancellation of shares referred to in Article 24, paragraph (1), item (iii) according to this difference in procedures.

On the other hand, the Companies Act (Act No. 86 of 2005) organized a dividend of profit under the Old Commercial Code as a dividend of surplus using retained earnings as a resource and a return due to a decrease in capital without cancellation of shares as a dividend of surplus using capital surplus as a resource after transferring stated capital to capital surplus. As a result, they both have come to be conducted through the same procedure called a dividend of surplus (Article 453). Therefore, the Corporation Tax Act after the 2006 Amendment provides that whether Article 23, paragraph (1), item (i) or Article 24, paragraph (1), item (iii) should be applied is to be determined not based on a difference in terms of the procedure for the return of company property but based on a difference in terms of the resource thereof under the Companies Act.

(2) Separating dividends of surplus under the Companies Act based on the resource thereof, there are the following three types: [i] dividends using only retained earnings as a resource, [ii] dividends using only capital surplus as a resource, and [iii] dividends using both retained earnings and capital surplus as a resource. Regarding a return of capital, Article 24, paragraph (1), item (iii) of the Corporation Tax Act provides it as "a dividend of surplus (limited to a dividend of surplus resulting from a decrease in the amount of capital surplus) …," and this pairs up with the expression of "dividend of surplus (… excluding a dividend of surplus resulting from a decrease in the amount of capital surplus …) in the provisions of Article 23, paragraph (1), item (i) of the same Act. Therefore, in light of such context, etc. of both provisions, the same Act is considered to have provided that dividends mentioned in [ii] and [iii], in which the amount of capital surplus decreases, fall under the return of capital referred to in Article 24, paragraph (1), item (iii) and that dividends other than these, that is, dividends mentioned in [i], fall under the dividend of surplus referred to in Article 23, paragraph (1), item (i), respectively.

Therefore, the whole of a dividend of surplus paid by using both retained earnings and capital surplus as a resource should be considered to fall under the return of capital provided in Article 24, paragraph (1), item (iii) of the Corporation Tax Act.

For the reasons described above, the determination of the court of prior instance to the effect that Article 23, paragraph (1), item (i) of the Corporation Tax Act is applicable to the portion of a dividend of surplus paid using retained earnings as a resource, out of the whole of a dividend of surplus paid by using both retained earnings and capital surplus as a resource, contains illegality of the erroneous interpretation of the Corporation Tax Act.

6. The lawfulness of the Reassessment is examined based on the aforementioned premise.

(1) As mentioned in 3.(5) above, the Reassessment is based on the result of calculating the amount of the portion corresponding to shares prescribed in the main sentence of Article 24, paragraph (1) of the Corporation Tax Act in accordance with the provisions of Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act on the premise that the whole of the Dividend falls under the return of capital provided in Article 24, paragraph (1), item (iii) of the Corporation Tax Act. In that calculation, the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return exceeded the amount of the decreased capital surplus, that is, the amount of the Dividend from Capital, because KPC's book value of net assets was below the amount of stated capital immediately prior to the return. Consequently, the portion of the amount of the Dividend of Profit was included not in the amount of deemed dividend but in the amount of consideration for the transfer of securities.

(2) Article 22, paragraph (1) of the Corporation Tax Act provides that the amount of income of a domestic corporation for each business year is the amount that remains after deducting the amount of deductible expenses for the business year from the amount of gross profits for the business year. Paragraph (2) of the same Article provides that the amount to be included in the amount of gross profits is to be the amount of proceeds for the business year arising from the sale of assets, etc. or other transactions other than transactions of capital, etc. (paragraph (5) of the same Article), except as otherwise provided. As a dividend that a corporation that is a shareholder, etc. receives falls under proceeds in terms of business accounting, it should originally be subject to taxation. However, from the perspective of avoidance of double taxation, etc., the whole or part of such dividend is to be excluded from the amount of gross profits pursuant to the provisions of Article 23 or 23-2 of the same Act, which fall under the aforementioned cases otherwise provided.

In addition, the same Act provides that the method of calculating the amount of stated capital, etc. equivalent to the amount of capital contributions from shareholders, etc. in a corporation's property (hereinafter referred to as the "capital portion") (Article 2, item (xvi)) and the method of calculating the amount of retained earnings equivalent to the amount that the corporation earned by its business activities and retains without making distributions to shareholders, etc. (hereinafter referred to as the "profit portion") (item (xviii) of the same Article) are respectively provided by Cabinet Order (Articles 8 and 9 of the Order for the Enforcement of the Corporation Tax Act). The same Act makes it a principle to strictly distinguish those portions.

(3) Article 24, paragraph (1), item (iii) of the Corporation Tax Act provides that in the case where a domestic corporation that is a shareholder, etc. of a corporation has received a delivery of money by the return of capital, the portion of the money exceeding the amount of the portion corresponding to shares is to be considered as the amount of deemed dividend. In addition, for a returning corporation that returned capital, the amount equivalent to the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return out of the amount of the return of capital is to be subtracted from the amount of stated capital, etc. (Article 8, paragraph (1), item (xvi) of the Order for the Enforcement of the Corporation Tax Act), and the amount of the portion exceeding the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return (amount of deemed dividend) is to be subtracted from the amount of retained earnings (Article 9, paragraph (1), item (xi) of the same Order). These provisions are considered to be intended to prevent avoidance of taxation on a dividend and realize proper taxation by deeming the whole or part of a dividend using only capital surplus as a resource to be a dividend received because such dividend can also be evaluated as including distribution of the profit portion from a substantial perspective.

On the other hand, it is impossible to deny the possibility that retained earnings also include the capital portion. However, Article 23, paragraph (1), item (i) of the Corporation Tax Act prior to the 2006 Amendment that provided for the tax treatment of a dividend of profit under the Old Commercial Code was not amended even after it was made possible to first dispose of capital reserve and then pay a dividend of profit using capital surplus as a resource through amendment of the Old Commercial Code by Act No. 79 of 2001. As long as such dividend of profit was paid based on the procedure for dividend of profit under the Old Commercial Code, it was treated as a dividend received in the same manner as an ordinary dividend of profit even if it was substantially a return of the capital portion. Under Article 23, paragraph (1), item (i) of the Corporation Tax Act after the 2006 Amendment made in association with the enforcement of the Companies Act, the whole or part of a dividend of surplus using only retained earnings as a resource has also been excluded from the amount of gross profits on the premise that the full amount of such dividend of surplus can be subject to taxation. In addition, Article 9, paragraph (1), item (viii) of the Order for the Enforcement of the Corporation Tax Act provides that if a dividend of surplus referred to in Article 23, paragraph (1), item (i) of the same Act has been paid, the amount related to the dividend is to be subtracted from the amount of retained earnings of a corporation that paid the dividend, and does not provide that the part of such dividend is to be treated as a return of the capital part.

(4) For the reasons described above, the Corporation Tax Act provides that whether Article 23, paragraph (1), item (i) or Article 24, paragraph (1), item (iii) should be applied to a return of company property to shareholders is to be determined based on a difference in terms of the resource of the return under the Companies Act on the basis of the basic idea of strictly distinguishing the capital portion and the profit portion. The same Act also provides that a return using only retained earnings as a resource is treated as distribution of the profit portion without exception under Article 23, paragraph (1), item (i), irrespective of whether it includes the capital portion, and that the whole or part of such return is excluded from the amount of gross profits. On the other hand, the same Act can be considered to adopt a mechanism in which a return using only capital surplus as a resource is divided into a return of the capital portion and distribution of the profit portion pursuant to Article 24, paragraph (1), item (iii) and the amount of the latter is deemed to be the dividend referred to in Article 23, paragraph (1), item (i).

In light of the aforementioned mechanism, Article 24, paragraph (1), item (iii) of the Corporation Tax Act is considered as provisions as follows: in the case of a dividend of surplus paid by using both retained earnings and capital surplus as a resource, the full amount of the portion thereof using retained earnings as a resource is treated as distribution of the profit portion, while the portion thereof using capital surplus as a resource is assumed to be divided into the distribution of the profit portion and the return of the capital portion. The same item is considered not to be designed to treat the portion using retained earnings as a resource as a return of the capital portion.

(5) Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act, which provides for the method of calculating the amount of the portion corresponding to shares in response to the delegation under Article 24, paragraph (3) of the Corporation Tax Act, aims at calculating the amount of the portion corresponding to shares while considering a return of company property as having been made proportionally from both the capital portion and the profit portion in accordance with the ratios of those portions in net assets. The aforementioned proportional calculation is conducted only with respect to the portion using capital surplus as a resource by using not the amount of money delivered by the return of capital but the amount of decreased capital surplus as the amount that acts as the numerator when calculating the ratio provided in the Order for Enforcement that is used for calculating the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return (2.(2)B.(A)(ii) above). Therefore, this framework for the method of calculation can be considered to conform to the purport of the same Act as mentioned above. However, to the extent that the case where the book value of net assets is smaller than the amount of stated capital immediately prior to the return applies, the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return calculated by the aforementioned calculation method exceeds the amount of decreased capital surplus. If the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return as mentioned above is calculated in relation to a dividend of surplus paid by using both retained earnings and capital surplus as a resource, the portion using retained earnings as a resource is treated as a return of the capital portion.

In that case, in the provisions of Article 23, paragraph (1), item (iii) of the Order for the Enforcement of the Corporation Tax Act concerning the method of calculating the amount of the portion corresponding to shares, the part that provides for the method of calculating the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return in the case where capital has been returned does not conform to the purport of the Corporation Tax Act to the extent that the calculated amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return exceeds the amount of decreased capital surplus with respect to a dividend of surplus paid by using both retained earnings and capital surplus as a resource. Therefore, the same part should be considered to be invalid as illegal provisions that go beyond the scope of delegation under the same Act.

7. According to the explanations made above, it must be said that it is erroneous to calculate the amount of deemed dividend in the Dividend and the amount of consideration for the transfer of securities based on the amount of stated capital, etc. corresponding to the return, etc. immediately prior to the return that exceeds the amount of the Dividend from Capital. It is thus impossible to find that the amount of consolidated income of the appellee in the Consolidated Business Year exceeds the amount reported in the Tax Return and that the amount of consolidated operating loss carried over to the following period is below the amount reported in the Tax Return. Therefore, in the Reassessment, the portion exceeding the amount reported in the Tax Return is illegal. The determination of the court of prior instance that the appellee's claim should be upheld can be accepted in the conclusion without the need to make a determination on the remaining points. The arguments made by the counsel are not acceptable in the end.

Accordingly, the Court unanimously decides as set forth in the main text of the judgment.

Justice MIYAMA Takuya

Justice IKEGAMI Masayuki

Justice KOIKE Hiroshi

Justice KIZAWA Katsuyuki

Justice YAMAGUCHI Atsushi