tax reform panel of Japan's ruling Liberal Democratic Party has agreed on income tax breaks aimed at offsetting the pain of price hikes on households to help change decades of deflationary mindset, a document reviewed by Reuters showed on Thursday.

The LDP, and its small coalition ally Komeito, decided to forego tax hikes for increased defence spending next fiscal year, as Prime Minister Fumio Kishida prioritised the tax cuts as a symbol of government efforts to push a pro-growth agenda.

Kishida's cabinet is mired in a downward spiral in public support over rising cost of living, declining real wages and a scandal over fundraising proceeds that is leading to a shake-up of top ministers.

The document showed the panel decided to cap annual household income for those who are eligible for the income tax cuts amid concerns about a gap between haves and have nots.

It shelved a decision to increase taxes to fund a planned boost to defence spending for the next fiscal year.

The tax panel could not be immediately reached for comment.

For households, the LDP tax panel will forego lowering a cap on mortgage borrowing planned for next year.

To encourage a virtuous cycle of growth led by private-sector demand, the tax policymakers are ramping up tax breaks on companies that raise wages.

Even loss-making small firms can be allowed to carry over preferential tax treatment for up to five years.

The tax panel has also agreed to a newly-establish tax scheme to help spur domestic investment for companies that produce vital materials from the standpoint of decarbonisation and economy security.

The government will offer tax incentives for a decade to boost production in five areas including electric vehicles and high-tech chips as part of efforts to attract firms to make big-ticket investments.

The scheme aims to make it easier for companies to invest in Japan by providing tax benefits for projects with high hurdles for achieving profitability in areas the government sees as strategically important such as green transformation.

The ruling coalition will include the tax breaks in the fiscal 2024 tax reform framework that is finalised on Thursday.

(Reporting by Tetsushi Kajimoto; Editing by Jacqueline Wong)