Internal Equity Analysis in Pay — Japan Employment Law

1. Meaning of Internal Equity Analysis in Pay

Internal equity analysis in pay means examining whether employees within the same organisation are being paid fairly in relation to the value, responsibility, duties, skills, experience and working conditions of their jobs.

It does not necessarily mean that every employee must receive exactly the same salary. Japanese employment law recognises that differences in treatment may be justified where there are relevant differences in job duties, responsibility, employment status, transfer requirements, career expectations or other legitimate factors.

For HR purposes, internal pay-equity analysis therefore asks:

Are differences in pay supported by objective and legally relevant reasons?

This issue is particularly important in Japan because the legal framework concerning fixed-term, part-time and regular employees prohibits unreasonable differences in working conditions. The Supreme Court has developed an item-by-item approach in several important cases.

2. Legal Framework

A. Constitution of Japan — Article 14

Article 14 establishes the principle of equality before the law and prohibits discrimination on specified grounds.

However, equality does not mean that every employee must receive identical compensation. Japanese constitutional jurisprudence recognises the concept of reasonable equality, allowing distinctions based on legitimate differences.

B. Labour Contract Act

The Labour Contract Act is important when analysing whether differences in employment conditions between workers are reasonable.

Historically, Article 20 addressed unreasonable differences between fixed-term and indefinite-term employees. The relevant framework has subsequently been carried forward into the Part-Time and Fixed-Term Employment Act.

The analysis focuses on matters such as:

• job duties;
• responsibility;
• scope of changes in duties;
• transfers;
• purpose of the particular wage or benefit;
• employment structure; and
• other relevant circumstances.

The courts have particularly emphasised examining the purpose and nature of each individual wage or benefit, rather than simply comparing total compensation.

3. What Does Internal Pay Equity Examine?

A Japanese employer can examine compensation through several dimensions.

1. Job value

Two employees performing substantially similar work should be examined for differences in:

• salary;
• allowances;
• bonuses;
• overtime treatment;
• benefits; and
• other remuneration.

2. Responsibility

A difference may be supported where one employee has:

• managerial responsibility;
• greater decision-making authority;
• responsibility for staff;
• greater financial responsibility; or
• substantially greater accountability.

3. Skills and qualifications

Pay differences may reflect:

• specialist qualifications;
• professional expertise;
• scarce skills;
• language capabilities;
• technical competence; or
• required professional certification.

4. Experience and seniority

Japanese employment systems have historically attached importance to seniority and long-term employment.

However, seniority-based differences should still be connected to the employer's actual compensation system and its purpose.

5. Employment status

An employer cannot simply say:

"This employee is fixed-term, therefore they receive less."

The employer should examine the particular wage or benefit, its purpose and the actual differences between the categories of employees.

This principle is particularly important after the Supreme Court's 2020 decisions.

4. Item-by-Item Analysis

Internal equity should generally be performed separately for:

The Supreme Court's Article 20 jurisprudence supports examining each treatment separately according to its nature and purpose.

5. Internal Equity Audit

A company can conduct an internal pay-equity audit as follows:

Step 1 — Collect data

Collect:

• employee category;
• job title;
• department;
• salary;
• bonus;
• allowances;
• length of service;
• qualifications;
• job responsibilities;
• working hours; and
• employment status.

Step 2 — Group comparable employees

Employees can be grouped according to:

• substantially similar duties;
• responsibility;
• job grade;
• location;
• employment category; and
• required qualifications.

Step 3 — Identify pay differences

For example:

Employee A: ¥350,000/month
Employee B: ¥300,000/month

The company should ask why the ¥50,000 difference exists.

Possible legitimate explanations could include:

• higher job grade;
• specialist qualification;
• greater responsibility;
• longer service under an established salary system; or
• different job duties.

Step 4 — Test the explanation

The explanation should be supported by:

• work rules;
• salary regulations;
• employment contracts;
• job descriptions;
• evaluation records; and
• actual working practices.

Step 5 — Correct unexplained disparities

Where a significant difference lacks a defensible basis, the company can review:

• salary grade;
• allowances;
• promotion criteria;
• performance evaluation; and
• compensation policies.

6. Major Japanese Case Laws

Case 1 — Nagasawa Transport Case

Supreme Court, 1 June 2018

This is an important Japanese precedent concerning differences between fixed-term and indefinite-term employees.

The Supreme Court developed an approach in which the court examines the individual working-condition item, considers its nature and purpose, and then evaluates the circumstances relevant to the difference.

Significance for internal equity

Employers should not conduct an equity analysis merely by comparing the total annual compensation of two employees.

Instead:

Basic salary → analyse separately
Bonus → analyse separately
Allowance → analyse separately
Leave benefit → analyse separately

This makes the case particularly important for compensation audits.

7. Hamakyorex Case

Supreme Court, 1 June 2018

The Hamakyorex litigation concerned differences in allowances between regular and fixed-term employees.

The case is particularly relevant to allowances because the court examined the purpose of individual allowances, rather than treating all compensation differences as one issue.

The case is frequently discussed alongside the Nagasawa Transport decision in relation to Japan's "equal pay for equal work" jurisprudence.

Significance

An employer should ask:

Why does this allowance exist?

If an allowance compensates an employee for a condition that both regular and fixed-term employees experience, excluding one category may require stronger justification.

8. Osaka Medical and Pharmaceutical University Case

Supreme Court, 13 October 2020

This case concerned differences in treatment between regular and non-regular employees, particularly bonuses.

The Supreme Court considered the purpose of the bonus and the differences between the employment categories. The Court concluded, in the circumstances of that case, that the difference was not unreasonable.

Significance for internal equity

The case demonstrates that:

Same workplace ≠ automatically identical compensation.

An employer can potentially justify different compensation where the underlying employment structures, duties and purposes of the payment differ.

But the employer should be able to demonstrate the reasoning behind the difference.

9. Metro Commerce Case

Supreme Court, 13 October 2020

The Metro Commerce case concerned the non-payment of retirement allowance to fixed-term contract employees.

The Supreme Court examined the nature and purpose of the retirement allowance, together with differences in job duties, the scope of transfers and the employer's system for promotion to regular employment.

The Court concluded, in the circumstances before it, that the difference was not unreasonable.

Significance

Internal equity analysis should consider:

• job responsibilities;
• transfer obligations;
• career structure;
• promotion systems;
• length and nature of employment; and
• purpose of the retirement benefit.

The case therefore demonstrates that job structure and career expectations can affect compensation analysis.

10. Japan Post Cases

Supreme Court, 15 October 2020

The Supreme Court decided several Japan Post cases concerning differences in treatment between regular and fixed-term employees.

The litigation included issues involving:

• family/dependent allowances;
• payments for working during year-end/New Year holidays;
• seasonal holidays; and
• sick leave-related treatment.

The Supreme Court found several of the differences unreasonable in the circumstances.

Significance

These cases demonstrate that employers should not automatically exclude non-regular employees from benefits merely because their employment contract is fixed-term.

The purpose of each benefit is important.

For example, where a payment is connected with actually performing work during a particular period, the employer may need to examine whether both categories of employees perform the relevant work.

11. Japan Post — Tokyo, Osaka and Saga Cases

The Japan Post litigation involved multiple cases concerning employees working under fixed-term arrangements in different regions.

The Supreme Court's October 2020 decisions collectively became important authorities on the interpretation of unreasonable disparities in employment conditions.

Significance for HR

A compensation audit should therefore compare:

Regular employee → benefit

with

Fixed-term employee → benefit

and then ask:

1. What is the purpose of the benefit?
2. Do both employees satisfy that purpose?
3. Are their duties different?
4. Are their responsibilities different?
5. Is the difference in treatment documented?
6. Is there another legitimate reason for the difference?

12. Internal Equity and Performance Evaluation

Internal equity also requires reviewing performance-management systems.

Suppose two employees have the same job grade but:

• Employee A consistently meets performance objectives;
• Employee B does not.

A performance-based salary difference may be legitimate if:

• performance criteria are clearly established;
• employees know the criteria;
• the evaluation process is consistently applied; and
• managers document the reasons for different ratings.

An unexplained manager preference, however, creates a greater equity risk.

13. Internal Equity and Gender

Pay-equity analysis should also identify differences that may correlate with sex or other protected characteristics.

The objective is not merely to calculate the average salary of men and women.

A more useful analysis examines:

Job → Grade → Experience → Responsibility → Performance → Salary

For example:

The company should investigate why Employee C receives less.

The analysis should identify whether the difference results from:

• legitimate performance differences;
• different qualifications;
• different responsibilities;
• different working arrangements; or
• an unexplained historical pay difference.

14. Internal Equity and Non-Regular Employees

Japan's equal-treatment framework makes this especially important.

A company should not simply create two compensation structures:

Regular employees = higher pay

Fixed-term employees = lower pay

Instead, it should document the reasons for each difference.

For example:

The company should then determine whether the stated differences correspond to actual working conditions.

15. Pay Transparency and Documentation

Internal equity analysis becomes difficult when salary decisions are undocumented.

Employers should maintain:

• salary structures;
• job grades;
• job descriptions;
• evaluation criteria;
• promotion rules;
• allowance rules;
• bonus criteria;
• employment categories; and
• records explaining exceptional salary decisions.

This allows the employer to demonstrate that differences arise from a consistent compensation system rather than arbitrary decisions.

16. Corrective Measures

When an internal equity review identifies an unexplained difference, corrective measures may include:

Salary adjustment

Increase the lower-paid employee's salary where appropriate.

Reclassification

Move an employee to the correct job grade.

Policy revision

Change unclear or inconsistent salary rules.

Manager training

Train managers on objective compensation decisions.

Historical review

Examine whether the disparity arose from an outdated salary system.

Monitoring

Repeat the analysis periodically.

17. Practical Japanese HR Model

A useful internal-equity framework is:

Job Evaluation
↓
Job Classification
↓
Salary Grade
↓
Performance Evaluation
↓
Pay Decision
↓
Equity Audit
↓
Corrective Action

This makes compensation decisions more consistent and easier to defend.

18. Important Principles from the Case Law

The Japanese cases discussed above establish several important practical principles:

1. Pay differences are not automatically unlawful.
2. Each wage or benefit should be examined according to its nature and purpose.
3. Employment status alone should not automatically justify every difference.
4. Actual job duties matter.
5. Responsibility and transfer obligations can be relevant.
6. Bonuses and retirement benefits may have purposes beyond simple payment for individual work.
7. Allowances connected with particular work or living conditions require separate analysis.
8. Companies should document the reasons for compensation differences.
9. Internal salary audits should examine both formal policies and actual workplace practices.
10. A compensation system should be periodically reviewed as legislation and employment structures change.

The Supreme Court's 2018 and 2020 jurisprudence is particularly important because it moved the analysis away from a simple "same work = same total pay" formula toward a more detailed examination of the purpose of each treatment and the actual differences between employee groups.

Conclusion

Internal equity analysis in pay in Japan is the systematic examination of whether differences in employee compensation can be explained by legitimate factors such as job duties, responsibility, qualifications, experience, performance, employment structure and the purpose of individual benefits.

The Nagasawa Transport, Hamakyorex, Osaka Medical and Pharmaceutical University, Metro Commerce and Japan Post decisions provide an important legal framework for this analysis. They show that Japanese courts generally examine compensation differences item by item, considering the nature and purpose of the particular payment and the actual circumstances of the employees involved.

For employers, the practical approach is therefore to maintain a transparent salary structure, document objective reasons for differences, periodically conduct pay-equity audits, and correct disparities that cannot be adequately justified.