Japan explains depreciation used in Pillar Two incentive cap

The explanation concerns Circular Kaho 2-17 of 7 August 2026, which amended the Corporate Tax Basic Circular. It does not introduce an October tax amendment. New section 18-2-6-2 addresses the meaning of depreciation under Corporate Tax Act Enforcement Regulations 38-34-2(2), within the incentive calculation in Enforcement Order 155-42-2.^{[2][3][4][5][7]}

That calculation allows specified incentive amounts to be included in jurisdictional adjusted covered taxes used under Corporate Tax Act 82-3(2). The ordinary cap is 5.5% of the greater of the prescribed payroll-cost amount and prescribed depreciation amount. Application requires the intention to use the rule to be included in the relevant group reporting, including qualifying foreign reporting where the statutory filing exemption applies.^[2][4][5][6]

For the depreciation component, the NTA confirms that the figure may come from items recorded in the constituent entity’s income statement or the consolidated income statement. This matters where those amounts differ. The circular directs teams to the relevant financial-statement depreciation when building this part of the cap.^[2][3]

The explanation also draws two boundaries. Impairment losses are not included in depreciation. And the calculation is not based on the special adjusted carrying value used for the substance-based income exclusion. The NTA consequently says the corresponding book-value adjustments for specified valuation and consolidation treatments are not required in this depreciation calculation.^[2]

The circular’s specific transitional rule applies sections 18-2-6-2 to 18-2-6-6 to accounting periods beginning on or after 1 January 2026. That older applicability date must be distinguished from the fresh 9 October publication of the explanation.^[1][3]

For group tax teams, the practical task is to identify the relevant financial-statement depreciation and separate impairment amounts before modelling the cap. The clarification does not mean that every incentive qualifies: the Order separately defines eligible expenditure- and production-based measures and excludes specified arrangements. Eligibility, the reporting election and the cap remain distinct checks.^[2][4]