Qualified Stock Options in Japan: Taxation and the Basic Requirements

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Startup stock option questions cluster around two moments: around a Series A round, and right before an offer to a senior hire, and most start with a single line: we want to make them qualified. Qualified stock options (税制適格ストックオプション) are close to the default for Japanese startups, but the term often leads the conversation while what makes them advantageous, and which requirement breaks the qualification, stay unclear. This article sets out the basics: how the taxation works and what the requirements are.

Tax rules here keep changing. This article reflects the National Tax Agency's July 2023 Q&A and the 2024 revision to the Act on Special Measures Concerning Taxation. Confirm current rules with a tax accountant before issuing.

What decides how a stock option is taxed: when, and on what

A stock option becomes cash only once exercised into shares and those shares are sold, so taxation splits into three points: grant, exercise and sale. Nothing is taxed at grant, qualified or not; the difference is at exercise and sale.

For a non-qualified stock option, the spread between the share price at exercise and the exercise price is, in principle, taxed at exercise as employment income. Employment income is subject to aggregate taxation, so the combined income and resident tax rate can reach approximately 55% at the top end, and since the shares are unsold, the holder must find cash to pay tax separately, sometimes while holding unsellable pre-IPO shares. At sale, the difference between the sale price and the exercise-time price is taxed as capital gains.

For a qualified stock option, meaning one satisfying every requirement of Article 29-2 of the Act on Special Measures Concerning Taxation (called a qualified share option (特定新株予約権) in the statute), nothing is taxed at exercise. Tax is deferred to sale, where the full spread between the sale price and the exercise price is taxed as capital gains under separate self-assessment taxation, at a combined 20.315%: 15% income tax, 0.315% special reconstruction income tax, and 5% resident tax.

The difference is twofold: the taxable moment shifts from exercise to sale, and the rate shifts from aggregate taxation up to approximately 55% to a flat 20.315%. For the same number of options, the amount actually received can differ enormously.

A reminder: in 2023 the National Tax Agency ruled trust-type stock options taxable as employment income at exercise, and companies had to scramble to respond, so common practice alone is not a safety guarantee.

The qualification requirements under Article 29-2

The premise is that the options are issued without payment, under a Companies Act resolution including Article 238(2). The grant agreement must also satisfy the following.

Eligible recipients. Directors, executive officers and employees, and their heirs, of the issuer or a subsidiary it owns above 50%. Auditors and accounting advisors are excluded, as are major shareholders and their specially related persons such as a spouse. A major shareholder holds more than one-third of shares in an unlisted company, or more than one-tenth in a listed one; founders of unlisted startups usually exceed one-third and so typically cannot receive qualified options. Outside contributors are generally ineligible, though certified plans under the Act on Strengthening Management Capabilities of Small and Medium-Sized Enterprises allow certain highly skilled external personnel, with scope expanded in 2024.

Exercise period. Between two and ten years after the grant resolution. A 2023 exception extends this to fifteen years where the company, as of the resolution date, is under five years old and unlisted; both conditions must hold on that date.

Annual exercise-value cap. JPY 12 million per person per calendar year, in principle; exercise past the cap loses qualified treatment for the entire excess. A 2024 revision eased this for younger companies: under five years old, the exercise price used for the test is divided by two (effectively up to JPY 24 million); between five and twenty years old and unlisted, or listed under five years, divided by three (up to JPY 36 million). The agreement must specify this method.

Exercise price. No less than fair value per share when the grant agreement is signed; pricing below fair value breaks qualification outright. The NTA's July 2023 notice and Q&A confirmed unlisted companies may value shares under the Property Valuation Basic Notice, including a net asset value approach, and that a company with preferred shares may value common shares accounting for the preferred shares' liquidation preference, relevant to any company that has already raised on preferred stock.

No transfer. The option itself cannot be transferred; a recipient cannot sell it while unexercised.

Share issuance and holding. Issuance on exercise must comply with Companies Act Article 238(1). Shares acquired must be held in custody with a securities company, or under an arrangement for the issuer itself to manage transfer-restricted shares, an option added in 2024 for companies where a securities account is impractical pre-IPO.

Procedure. The recipient submits a written statement confirming they are not a major shareholder; the company files a statutory report with the tax office by January 31 of the year following the grant. A missed filing breaks an otherwise well-drafted grant, so it belongs on the issuance checklist.

The requirements are met through the contract, not the statute alone

Nearly all of these requirements turn on what the grant agreement actually says. Qualification depends on whether the issuance terms and allotment agreement contain the required provisions for exercise period, the annual cap, non-transfer and share management alike. Only once each is checked against its clause can the option be called qualified, which is why reviewing the draft is legal work, not tax work or drafting alone.

Vesting and forfeiture on termination are not tax requirements

Vesting and forfeiture on leaving are not part of what Article 29-2 requires. How long someone works before exercising, and what happens on departure, are left to the company's own design, which is why each company's thinking shows up here.

A common structure: 25% vests twelve months after grant, with the remainder vesting monthly over the following thirty-six months, a one-year cliff with four-year vesting, often paired with a restriction against exercise before listing and a narrow exception allowing exercise if the company is acquired. What happens to unexercised options on departure, how competition or misconduct is treated, and whether inheritance applies on death are design choices in the same category. Because terms generally cannot change unfavorably after grant, it helps to think through, at the design stage, someone leaving after four years, someone leaving after one, and an acquisition scenario.

Closing

Qualified stock options bring tax requirements, Companies Act procedure and capital structure together into a single issuance and allotment agreement. Legal Agent supports the design of qualified stock options, drafting of issuance terms and allotment agreements, the required Companies Act procedure, and alignment with a company's capital policy, working through AI and lawyers together as part of our startup legal practice.