When starting a business, you have the choice of either running the business as a sole proprietor or establishing a company. In the case of a sole proprietorship, you just need to notify your local tax office. You can then start your business soon thereafter.
On the other hand, establishing a company requires a fair amount of paperwork. Although it takes more time and effort, a company offers various advantages over a sole proprietorship.
The main advantages of establishing a company are:
- it is easier to gain social trust
- the tax benefits
- limited liability
- the freedom to set the fiscal accounting period
Let’s take a closer look at the advantages of establishing a company in Japan.
Easy to gain social trust
When establishing a company, information such as trade name (company name), address, and capital must be submitted to the Legal Affairs Bureau for registration. The registered information can be viewed by anyone. This visibility helps to improve a company’s credibility in society. Some business partners and suppliers will only enter into contracts with a registered company, and some companies will refuse to conduct transactions of any size with a sole proprietor.
Tax benefits of establishing a company
Sole proprietorships and companies are subject to different taxation rules, with sole proprietorships subject to personal income tax and companies subject to corporate tax. The income tax rate for sole proprietorships is progressive, meaning that as income increases, the tax rate increases in stages, with the maximum tax rate being 45%.
In contrast, the corporate income tax rate is 23.20% for companies with capital of 100 million yen or less, and with income of 8 million yen or more; while for companies with capital of 8 million yen or less, the rate is fixed at 15%. The higher the income, the higher the tax savings will be when establishing a company.
In addition, when a company is established, the owner of the company receives his/her salary as executive compensation. In a company, executive compensation is considered an expense and is not subject to corporate tax, if it meets certain requirements, such as regular equal pay. Other tax-saving advantages include a wider range of expenses and the ability to carry forward losses (deficits) for 10 years if a blue tax return is filed.
Limited liability
In the case of sole proprietorships, the business owner must assume all business responsibilities; unpaid payments to suppliers, borrowings from financial institutions, delinquent taxes, etc. If the business deteriorates, liabilities from the sole proprietorship will also be borne as personal liabilities. This is called “unlimited liability”.
On the other hand, in the case of a company, there is a limited scope of liability (‘limited liability’) and the individual representative does not have to bear all the responsibility. Except for borrowing done by personal guarantee, the maximum liability is within the scope of the investment. In other words, there is no obligation to pay more than the amount invested, and personal assets are protected. This is a great advantage, as it minimizes the risk in the case that the business fails.
Freedom to set the fiscal accounting period
In the case of sole proprietorships, the fiscal year is determined by law to be from January to December, so the fiscal year ends in December. On the other hand, a company can freely set the closing month of the business year. You are able to set it according to your convenience, so as for example not to overlap the company’s busy season and the company’s closing month.
To learn more about setting up a company in Japan, we recommend checking the following: Types of Company Structures in Japan
