In case you didn't know, Japan has a demographics problem. The country's birth rate is among the lowest in the developed world, while its average lifespan is among the highest. Japan is not unique in this trend, but cases in the rest of the developed world are less extreme and somewhat mitigated by immigration in places like the United States and Western Europe. As an island nation, Japan does not benefit from any sizeable immigration and as a result, the country's working population is now in decline while the ranks of the retired and elderly are beginning to swell, as illustrated in the chart below.

Source: Statistics Bureau at the Ministry of Internal Affairs & Communications.

In short, there are fewer and fewer working people around to support an ever growing retired class, which puts pressure on a lot of things - from public and private pension schemes to government finances. (For more, read: How Demographics Drive The Economy).

In a country like Japan where women make up a relatively small slice of the full-time working population, one solution is to entice more of them into the workforce. And this is exactly what the current administration is trying to orchestrate. But many barriers exist, one of which is a tax benefit for stay-at-home moms, which essentially encourages some married women to work less or even not at all. This article will examine this tax and why it's so difficult to get rid of. 

It's Worse In Japan

As mentioned above, Japan is not the only developed country facing these frightening demographic trends, but the state of affairs is much worse here than elsewhere and is expected to deteriorate much faster, as seen in the following chart. 

Source: Statistics Bureau at the Ministry of Internal Affairs & Communications.

With Japanese government finances already in something of a mess - total government debt is far in excess of 200% of GDP, by far the largest such ratio in the developed world - it makes finding solutions to the problem all the more pressing. (For related reading, see: The Fundamentals Of Abenomics).

What Is This Tax On Working Women?

To be fair, this is not a "tax" per se on working women, but rather a tax benefit for the spouses of stay-at-home wives. For married women making less than JPY 1.03 million per year (US$ 8,600 at an exchange rate of 120 JPY/USD) there is a tax deduction for their husbands of about JPY 380,000 (roughly US$ 3,170). For a man making JPY 6 million (USD 50,000) a year, that works out to a tax break of around JPY 70,000 (US$ 580) according to an article from the Nikkei Shimbun on May 2, 2015.

While this may not seem like such a huge barrier to a dual income couple where the woman is making a comparable amount of money as the man, it can be a significant barrier to a stay-at-home mother who is working part-time. She needs to be careful not to work too much for fear of losing this benefit. And in fact, according to that same Nikkei article, there are currently about 14 million people in Japan taking advantage of this tax deduction.

This deduction was introduced back in 1961 when it was by far the norm for married women to stay at home, but clearly things have changed since then. As the article pointed out, there were some 11.14 million households with stay-at-home moms as early as 1980, but by 2013 that figure had shrunk to 7.45 million, which is a significant change.

Why This Rule Has Not Been Changed

The current administration is actually trying to change this rule. They planned to introduce a series of tax reforms in 2013, but this was thrown off track last April after the national sales tax was hiked from 5 to 8%. This threw consumer spending back into a tailspin and left the economy teetering on the brink of a sustained recession. (To learn more, see: Understanding Japan's Heavy Exposure To Rising Rates).

But they are now at it again, and looking to draft a proposed law as early as June. The leading proposal centers around an idea to simply get rid of the current tax deduction entirely and replace it with a standard deduction for married couples that is not based on the woman's level of income (though whether to consider total household income or not is still up for debate i.e. there is no consensus about whether the wealthiest households should get this deduction).

This all sounds straightforward enough, except for one problem. Extending the deduction to all married couples (or at least all but the wealthiest), could amount to a significant tax cut when considered in its aggregate amount and the government is unlikely to be able to afford this. As the chart below shows, looking at the planned government budget for the coming year, expenses related to financing the existing debt burden already account for nearly a quarter of spend!

Draft Government Expense Budget

Billions of yen and % of total

Source: Cabinet Office

Bottom Line

Even though the government of Japan finally appreciates how its taxation rules can discourage many women from working (or at least working more), the basic problem now comes down to cash. Just getting rid of the deduction and doing nothing else in its place would effectively amount to a tax increase, which would be a precarious plan given the delicate state of Japan's economy at the moment. But extending the benefit in any fashion to instill a greater sense of fairness could be costly too. With a huge hole in the government's check book, it needs to carefully think about balancing any tax breaks with other sources of income.

It is true that if this tax barrier on working women was properly resolved, a lot more women would likely either join the work force or at least extend their participation therein. This should have revenue benefits for the government that would hopefully in time wipe out the immediate losses from extending the deductions to all married couples. But while most now agree on the potential long-term benefits, the near-term reality is still making getting from point A to B rather challenging.

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