Accommodation of concepts
Mudarabah – profit sharing partnership separating responsibility for capital investment and management.
A possible structure to implement a mudarabah transaction is a Japanese trust arrangement. In this framework, a settlor entrusts its asset to a trustee who manages it under the trust agreement. The beneficiary of the trust (who may or may not be the settlor) will receive profits generated from the trust asset, while losses will also be borne by the beneficiary (unless there is any mismanagement by the trustee) as the value of the trust asset decreases. As long as the trust asset is properly segregated from the trustee’s assets, the trust asset will not be included into the trustee’s bankruptcy estate in the case of the trustee’s bankruptcy (bankruptcy remoteness). The beneficial interest of a trust may constitute a ‘security’, which is subject to Japanese securities regulations. Only licensed trust companies and trust banks are qualified to conduct a trust business in Japan.
An anonymous partnership (TK) would be an alternative vehicle to implement a mudarabah transaction. In this arrangement, an investor contributes its asset to an entrepreneur for the entrepreneur’s business, and the entrepreneur agrees to distribute a portion of the profits generated from the business to the investor under the TK agreement between them. However, losses will generally be borne by the investor only to the extent of its contributed asset. In a TK, only the entrepreneur will carry out the business while the investor has only limited control concerning it. Unlike the trust arrangement as stated above, the investor’s interest in the assets contributed for a TK arrangement will not be protected in the event of the bankruptcy of the entrepreneur and those assets will constitute part of the entrepreneur’s bankruptcy estate. TK entrepreneurs do not require trust licences. However, they might be subject to securities regulations depending on the activities they conduct. Also, a TK interest is deemed to be a security subject to securities regulations.
Murabahah – cost plus profit agreement.
Murabahah transactions can be generally implemented under Japanese law. However, there is no special tax exemption applicable to murabahah transactions and thus taxes (eg, consumption tax, registration tax and real estate acquisition tax, where applicable) may be charged for each transfer of the relevant assets.
Regarding financial regulations in Japan, those who implement murabahah transactions may need to be registered under the Money Lending Business Act depending on the structure of the relevant transactions. Banks can conduct lending and deposit-taking businesses involving commodity murabahah to the extent the relevant transactions meet certain requirements under the applicable banking regulation guideline. Banks can also carry out lending equivalent activities utilising murabahah through their subsidiaries as a matter of Japanese banking regulations.
Creditors under murabahah transactions may take collateral to secure indebtedness arising therefrom.
Murabahah transactions with retail consumers may be subject to consumer protection regulations under the Instalment Sales Act if they involve certain goods and services as well as a certain method of payment. In that case, an IFI conducting a murabahah transaction must comply with the various requirements of that act, including the duty to provide its customers with a written and detailed explanation of the various aspects of the transaction.
Musharakah – profit sharing joint venture partnership agreement.
Musharakah can be created through a partnership under the Civil Code. A partnership agreement is entered into among partners, and each will jointly make contributions to the business under the agreement. As opposed to a TK, each of the partners will be able to participate in the partnership’s business activities even though that power might be delegated to one or more managing partners with no specific formality requirement. Profits and losses would be shared among the partners under the provisions of the partnership agreement, which may or may not be proportionate to their contributions. Care should be taken in setting up a Civil Code partnership because each partner’s liability to creditors of the partnership will be unlimited, which means that the creditors will have rights of recourse that extend beyond each partner’s contribution and to the partner’s assets if necessary.
An investment limited partnership (LPS) is an alternative structure that can be used to secure limited liability concerning a transaction. An LPS is a partnership among one or more general partners and limited partners, the purpose of which is to jointly make investments. Certain matters concerning an LPS, like the scope of its business and the names and addresses of its general partners, must be registered with a legal affairs bureau. The scope of business that an LPS can conduct is limited to certain investment activities like the acquisition of shares and monetary claims and thus this vehicle can be utilised for limited activities. As in the case of a Civil Code partnership, profits and losses would be shared among the partners under the provisions of the partnership agreement, which may or may not be proportionate to their contributions. However, limited partners of an LPS will enjoy limited liability and thus they will not incur losses beyond their contributions. Limited partners may not actively participate in the LPS’ business activities. However, general partners of an LPS, who have unlimited liability concerning the claims of the LPS’ creditors, will have full control over the LPS’ business.
Both Civil Code partnership interests and LPS interests will be deemed to be securities subject to Japanese securities regulations. Also, financial institutions whose scope of permissible businesses is restricted might be prohibited from joining partnerships conducting businesses that are not permitted under applicable regulations. Also, ownership of voting shares in companies above a certain threshold by financial institutions (the current threshold is generally 5 per cent for banks) is restricted unless that ownership is permitted under a statutory exemption. Share ownership through partnerships or LPSs could be covered under an exemption if it meets certain requirements.
Ijarah – lease to own agreement.
Ijarah would constitute leasing transactions in Japan, and, in general, would be valid. At present, no law specifically regulates the leasing industry. However, if, at the end of a leasing period, ownership of the leased asset is transferred to the lessee (ijarah wa iqtina), such a transaction may be subject to the Instalment Sales Act (one of Japan’s consumer protection laws) as in the case of murabahah.
Banks may conduct certain types of leasing businesses under Japanese banking regulations, but the terms of those leases are strictly limited. Lease agreements entered into by banks should not contemplate a transfer of the leased assets to the lessee at the end of the lease term, which would prohibit banks from carrying out ijarah wa iqtina transactions. Therefore, ijarah transactions conducted by banks using a lease framework may not be flexible enough to accommodate the various needs of customers. However, bank subsidiaries can carry out ijarah transactions subject to compliance with banking regulations as in the case of murabahah.
Wadiah – safekeeping agreement.
Wadiah, if appropriately drafted, might be treated like bank deposits for the Japanese deposit insurance regime, although no such agreements currently exist. However, Japanese banking regulations allow only licensed banks and similar organisations to conduct a deposit-taking business. Therefore, wadiah transactions should generally only be carried out by licensed banks in Japan. Concerning deposited cash, it is generally understood that banks do not owe a fiduciary duty to depositors under Japanese law. Additionally, the possibility of making gifts (hibah) to depositors instead of interest has yet to be tested in Japan. Although it may not be impossible, those gifts may be limited in value to the maximum amount set by Japanese consumer protection law. As long as the gift’s payment is at the bank’s discretion, it would not be protected by Japanese deposit insurance.
Financial products designed under the concept of sharing risk and profit (ie, products whose principal amount cannot be guaranteed) are not contemplated to be covered by Japanese deposit insurance.
Law stated date
Give the date on which the information above is accurate.
31 July 2020.