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No. 6 July 2002

New Tax Bill Gives Partial Victory to NPOs

Three years after the enactment of the Law to Promote Specified Non-Profit Activities (the NPO Law; see Civil Society Monitor no. 4) in 1998, the Japanese Diet passed a second landmark legislation related to nonprofit organizations (NPOs). In March 2001, the Law Amending in Part the Special Tax Measures Law was approved as the first legislation to address the eligibility of NPOs incorporated under the NPO Law to receive tax-deductible donations.

This legislation is the latest event in the movement toward establishing a more enabling environment for NPOs in Japan. The movement acquired momentum and national attention after some 1.2 million volunteers acted to aid the victims of the Great Hanshin-Awajishima Earthquake in 1995. The ineptness of the government bureaucracy to deal with the tragic situation and the impressive work of the volunteers and NPOs active at the scene of the disaster dramatized the need for a legal infrastructure that, by directly addressing the constraints against the activities of NPOs, recognized the valuable contribution of NPOs to society. The fight to ease rigid government control over incorporation of NPOs and to realize better tax treatment for them started receiving strong support from political leaders, business leaders, and the media, eventually resulting in the passage of the NPO Law. This law is significant because it makes approval of incorporation for an NPO contingent on certain objective criteria rather than subject to the discretionary powers of competent authorities of the central government.

While the passage of the NPO Law represented a victory for the nonprofit sector in Japan, the law was unsatisfactory in that it did not address the issue of tax deductibility for NPOs. Instead, a Diet resolution was appended to the law stating that the issue of tax privileges would be reviewed within two years of promulgation. The Law Amending in Part the Special Tax Measures Law is the result of that review.

Philanthropic Giving and NPOs

Since the enactment of the NPO Law in 1998, some 4,200 NPOs have incorporated. This number of new NPOs is significant, given that 26,000 "public interest corporations" have incorporated since 1886, when Article 34 of the Civil Code was enacted. Yet this impressive emergence of civil society organizations that facilitate participation in sustaining and promoting the public good has not been accompanied by equally substantial philanthropic development.

Organized private philanthropy in Japan has not shown any significant growth in recent years, nor has corporate philanthropy registered much growth, though it has remained stable despite the recent economic stagnation. Individual giving, as has been the case over the years, has remained an insignificant factor in the overall philanthropic landscape.

Most of the newly incorporated NPOs are in dire need of financial resources. According to a December 1999 survey by the Economic Planning Agency of newly incorporated NPOs, of the 663 respondents, more of these groups depended on fees (90.6 percent) and revenues from activities (73.6 percent) than on contributions (60.8 percent). According to a survey conducted by the Prime Minister's Office on NPOs in 2000, the breakdown of financial resources of these organizations is 34 percent from fees, 10 percent from revenues from services, 17 percent from government support, and 5 percent from contributions. These figures corroborate the findings of the Johns Hopkins Comparative Nonprofit Sector Project, undertaken between 1990 and 1996, which found the sources of revenues of NPOs in Japan to be 52.1 percent from fees and charges, 45.2 percent from government aid, and a meager 2.6 percent from private contributions.

The need for substantial growth of philanthropic support is obvious, because as civil society organizations are increasingly expected to respond to the diverse social needs in Japan, the gap between the "demand side" of civil society and the "supply side" in terms of financial resources can only widen.

Toward a More Enabling Environment

The Fight for Tax Privileges for NPOs

A major factor inhibiting giving in Japan has been the lack of tax privileges for recipient organizations. The limited availability of tax privileges for NPOs, especially in terms of tax-deductible contributions, exemplifies the reluctance of the government bureaucracy to loosen its tight grip over national resource allocation. In order for Japanese NPOs to become eligible for tax-deductible contributions, they have to be authorized as a "special public interest–promoting corporation" by the Ministry of Finance and the government agency with jurisdiction over them. While the scope of organizations with this privilege has been widened since the late 1980s, of the total 26,000 public interest corporations incorporated under Article 34 of the Civil Code, only fewer than 1,000 are given this status. It is important to note that this special tax privilege must be reassessed every two years through a rigorous renewal process in which the decision to grant or renew this status rests entirely on the discretion of officials in charge at the Ministry of Finance. Moreover, it can be safely assumed that most of those 1,000 nonprofits with the tax privilege are de facto subsidiaries of government agencies with their top executive posts filled normally by ex-bureaucrats of these agencies. Aside from these 1,000 organizations that underwent the authorization process, 34 types of organizations, such as legal persons conducting scientific research and experiments, educational corporations, social welfare corporations, and corporations providing rehabilitation for criminal offenders, have been defined as special public interest–promoting corporations, and some 17,000 such organizations have been automatically given the privilege of receiving tax-deductible contributions.

The strong reluctance on the part of the government bureaucracy to readily bestow the tax privilege was demonstrated at the time of the passage of the NPO Law. In fact, the issue of tax deductibility for NPOs was a point of contention most vigorously fought over throughout the legislative process. When the NPO Law was finally passed in March 1998, tax deductibility was not one of its provisions. After a fierce debate, the Diet resolution mentioned earlier was attached to the bill. With the strong urging of NPO leaders, a nonpartisan Parliamentary Caucus on NPOs was formed in August 1999 to begin examining proposals for tax deductibility for donations to nonprofits. Representatives of the NPOs themselves formed a liaison council on reform of the tax and corporate system for NPOs. The council prepared a proposal on tax privileges in October 2000, as the tax revisions were to be debated in the Diet before the end of November 2000 for possible implementation in November 2001 under the resolution to the NPO Law.[1] The Parliamentary Caucus on NPOs held its fourth general assembly in August 2000 and confirmed that tax measures to support NPOs would be submitted to the Diet as a bill sponsored by the legislators. [2]After this assembly, the legislators, working with NPO leaders, held open forums throughout Japan with the participation of a large number of citizens. Each political party then started drafting tax reform measures to support NPOs. One common feature of these legislative proposals by divergent parties was that they sought objective measures for achieving public benefits.

On December 1, 1999, one year after the enactment of the NPO Law, the Parliamentary Caucus on NPOs submitted the first draft of its proposal on tax privileges in connection with NPOs. On December 14, 2000, the tripartite ruling coalition finally decided on a framework for revision of the tax code for fiscal 2001. It clearly stated that tax measures to support NPOs should be introduced from October 1, 2001. This legislative proposal passed both Houses of the Diet without any revision in March 2001.

Stringent Requirements for NPO Tax Deductibility

Though the new tax legislation supplements the NPO Law enacted two years ago, there is heavy criticism of the conditions which NPOs must satisfy in order to gain the tax privilege. Several key provisions in the legislation inhibit NPOs from qualifying for tax-deductible contributions (for the complete text see the unofficial translation in this newsletter of "The Cabinet Order Amending in Part the Special Tax Measures Law"). These conditions include the following: (1) that 80 percent of total expenditures be spent on NPO-related activities; (2) that 70 percent of donations received be spent on NPO-related activities; (3) that more than one-third of total revenues come from donations and grants; (4) that single contributions of more than 2 percent of total contributions not be counted toward the amount of donations, that small contributions under 3,000 yen not be counted toward the amount of donations, and that contributions of more than 50 percent of total donations not be counted toward the amount of donations; and (5) that for NPOs to receive donations from more than one municipality they must perform a specific activity in more than one municipality, must have beneficiaries of the specified nonprofit activity in more than one municipality, and specified nonprofit activities or their beneficiaries in one municipality must not exceed 80 percent of their total activities. The strongest criticism from NPOs concerns the requirement that donations and grants constitute one-third of the overall revenues but with many restrictions in computing the amount. According to an informal survey done by C's (Coalition for Legislation to Support Citizens' Organizations), it is estimated that at the most 10 percent of NPOs will be authorized to receive tax-deductible contributions.

Despite these strict conditions, some NPO leaders acknowledge that the legislation contains certain elements which distinctly represent a major gain by NPOs as well as civil society in Japan in general. Specifically, determination of whether certain NPOs are qualified to receive the privilege for tax-deductible contributions will be made by the Director General of the National Tax Administration Agency solely on the basis of objective criteria set forth in the law, unlike the case of the Civil Code, under which such a determination is made at the arbitrary discretion of officials of the government agency in charge and the Finance Ministry. Once this barrier of bureaucratic intervention has been broken, it may be possible for NPOs, with the help of members of the Diet, to negotiate for less stringent conditions for tax privileges. One other major gain by the NPO side is that the new legislation allows individuals to donate assets for inheritance to the authorized NPOs by deducting the amount of donations from the amount of assets subject to the inheritance tax. Again, these provisions are not available to "special public interest–promoting corporations" incorporated under the Civil Code.

A Two-Tiered Civil Society

The dichotomy within civil society organizations in Japan—namely, the existence of those established under Article 34 of the Civil Code and those established by the provisions of the NPO Law along with the new tax privilege available to some of these NPOs—has posed a basic question concerning the overall structure of civil society organizations. This two-tier structure became evident when the NPO Law was enacted, resulting in considerable easing of the incorporation process without the need for approval of the government agencies as against the traditional Civil Code public interest corporations which can be incorporated only after undergoing the rigorous process of government approval. Thus, an intense exploration has begun among some civil society experts, practitioners, and members of the Diet to review the entire structure of civil society, including Article 34 of the Civil Code, amendment of which requires constitutional revision.

When legislation on a new category of quasi–nonprofit corporations passed the Diet toward the end of May 2001, proponents of an overall review of the legal system pertaining to civil society succeeded in getting an amendment attached to the legislation. The amendment reads: "In light of the importance of and future prospects for the activities of nonprofit organizations, and in view of the need to fully adjust the legal system to the transformation of society, the Government should expeditiously review the legal system pertaining to the incorporation of nonprofit organizations under Article 34 of the Civil Code, particularly concerning ways to ascertain their adherence to the public interest" (unofficial translation). On the part of civil society, the Japan Association of Charitable Organizations, which consists mainly of nonprofit corporations under the Civil Code, has launched a major study with the participation of leaders in civil society, the legal profession, media, business, and other sectors to formulate recommendations on the legal system regarding the nonprofit sector and also to recommend ways for NPOs to improve their own governance with a special emphasis on their fiduciary responsibility.

It is ironic that just when NPOs are gaining strong public support, several scandals involving nonprofits under the Civil Code have tarnished the image of NPOs in general. The scandals are not unrelated to the fact that in Japan many of the traditional NPOs have had close relationships with the competent authorities through, for example, accepting former bureaucrats from the government agencies that have jurisdiction over their fields of activities to fill top executive posts. In the current political atmosphere in Japan where primacy is given, at least rhetorically, to the need for fundamental structural reforms limiting the power of bureaucracy, the traditional nonprofits are seen, at times, as players in the state-centric system.

The debate over the question of further tax incentives for financial contributions to NPOs will continue and intensify, and the struggle for a more enabling environment for nonprofits should be carried out in the overall framework of governance of society. The debate cannot shirk the fundamental questions of what is the public interest, who defines the public interest, who should serve the public interest, and whether civil society organizations are legitimate and effective actors promoting the public interest. Tax deductibility for contributions for NPOs, in this sense, has become a central focus of the debate.

Notes

  1. This section draws heavily on "Problems with Taxation on Donations in Regard to Taxation to Support NPOs," by Takako Amemiya. This piece is contained in the reference material for the House of Councillors Finance Committee Research Office in Diet Session No.151, March 2001.
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  3. Most legislative proposals in Japan are drafted by government bureaucrats, but the number of bills drafted and submitted by legislators has been increasing in recent years.
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