Abstract
This study investigates the role of hometown tax donations—a unique Japanese tax mechanism—in supporting local public finance, particularly in rural municipalities. Under this system, individual taxpayers can redirect a portion of their income taxes to a municipality of their choice, often outside their place of residence, in exchange for local gifts or services. Originally designed to support financially weaker regions, the system has become an important supplementary revenue source for many rural areas.
Our analysis shows that over 90% of rural municipalities have benefited from increased general revenue through this scheme, contributing to improved financial stability. The system has had minimal adverse effects on the budgetary capacity of donor-side municipalities, i.e., those that forgo tax revenue. Because local governments have broad discretion in how the funds are used, these donations are often treated as general-purpose revenue. This flexibility enables municipalities to save regular budget funds and allocate resources toward long-term financial improvements, such as enhancing their current account balance and future liability ratios.
In terms of allocation, most donations are directed toward “soft” initiatives—like promoting local industry and providing subsidies—rather than traditional infrastructure. However, in cases where donation amounts are particularly large, the funds are often used for capital-intensive projects. Unlike the conventional local allocation tax, which focuses on infrastructure, the hometown tax system has expanded the scope of public spending to include community development and service-based initiatives.
However, the system also exacerbates disparities among rural municipalities. Some municipalities receive significantly more donations due to their ability to offer attractive return gifts, while others receive minimal support. As a result, the gap between “winner” and “loser” municipalities is widening.
