The Trust Law (Law 62 of 1922, as amended) and the Trust Business Law (Law 154 of 2004) are the two main laws governing trust business in Japan.

Characterized as a civil law, the Trust Law sets out the basic legal principles relating to trusts, including the definition of a trust. The Ministry of Justice (MOJ) is the supervising authority of the Trust Law.

The Trust Business Law, characterized as an administrative law, regulates trust business in Japan. The Trust Business Law is a special law under the umbrella of the Trust Law as it sets out special rules concerning the various parties involved in a trust business, including a trustee's obligations and responsibilities. The Financial Services Agency (FSA) is the supervising authority of the Trust Business Law.

In recent years, there have been significant changes to the Japanese trust legal system due to the amendment of the Trust Law and the Trust Business Law.

On November 26 2004, the Japanese Diet passed the new Trust Business Law. This was the first major amendment of the original Trust Business Law since it was enacted in 1922. The new Trust Business Law, together with the relevant ministerial orders and regulations, came into effect on December 30 2004.

In July 2005, the MOJ published an outline summary of the draft new Trust Law with a supplementary explanatory memorandum. The new Trust Law should be submitted to the Diet in early 2006. Further revisions of the Trust Business Law are also anticipated to complement those being made to the Trust Law.

Table 1 summarizes the timetable of amendments to the Trust Law and the Trust Business Law.

The Trust Business Law

The main amendments to the Trust Business Law include:

• an expansion of the scope of trust assets by lifting the restrictions on the types of assets that may be placed in trust;
• an expansion of the scope of entities conducting trust business by revising the trust business licensing system; and
• clarification of the obligations and responsibilities of trust companies to protect the rights and interests of the settlor and beneficiaries of a trust, including fiduciary responsibilities and disclosure obligations.

Scope of trust assets expanded

Before the amendments to the Trust Business Law, only the following types of assets could be held in trust: money, securities, monetary claims, moveable property, land and its fixtures, surface rights and land leases. Assets, such as intellectual property rights, could not be placed in trust. The new Trust Business Law lifted this restriction. Accordingly, any property rights, including intellectual property rights that could be trust assets under the Trust Law, may now also be trust assets under the new Trust Business Law.

As a result of this amendment, financial products involving the securitization of intellectual property, in particular, content rights concerning movies and animation, have been introduced into the Japanese market.

Scope of entities conducting trust business expanded

Before the amendments, only financial institutions licensed under the Law concerning the Concurrent Undertaking of Trust Business by Financial Institutions (Law 43 of 1943, as amended) were permitted to carry on a trust business. The Trust Business Law now provides greater flexibility by setting up two new categories of trust business licences.

1. General trust company (unyou-gata shintaku-kaisha). A trust company in this category can invest and dispose of trust assets at its discretion. A general trust company must possess a licence granted by the prime minister, and must also have a minimum capital of ¥100 million ($836,951).
2. Administrative trust company (kanri-gata shintaku-kaisha). A trust company in this category has no discretion regarding the investment and disposal of trust assets. This type of trust company needs only to register with the prime minister, and to have a minimum capital of ¥50 million.

Since this amendment to the Trust Business Law, four general trust companies have been licensed and one administrative trust company has been registered with the FSA (Japan Digital Contents Trust Inc, which has as its main focus the securitization of content rights).

Trust company's obligations and responsibilities

Before the amendments, a trustee owed certain fiduciary duties under the Trust Law and the Trust Business Law, including a duty of loyalty and the duty to segregate the trust assets. Under the amendments to the Trust Business Law, the trustee's duties to protect the rights and interests of the settlor and beneficiaries have been expanded, as discussed more fully below.

Restrictions on the delegation of trust business: Article 22 of the new Trust Business Law provides that a trust company may delegate part of its trust business to a third party provided that:

1. the relevant trust agreement clearly provides for delegation of the trust business and the name of the delegated party (or, if the delegated party is not determined, the criteria and procedures for selection of the delegated party should be stated);
2. the delegated party can properly perform the delegated trust business; and
3. certain terms, as required by the ministerial regulations, must be included in the delegation entrustment agreement, such as the duty to segregate trust assets.

The delegated party will also be subject to the provisions of the Trust Business Law that relate to a trustee's fiduciary duties, including the duty of loyalty, the duty to segregate trust assets, and the restriction on self-dealing.

Although Article 22 of the Trust Business Law does not define delegation of trust business, Section 3-3-5 of the relevant guidelines suggest that one factor is whether the delegated party has the discretion to manage or invest the trust assets. The guidelines state that: the custody of trust assets; the investment of trust assets; the collection of receivables of trust assets; and the construction of trust assets generally fall within the term delegation of trust business under Article 22.

If the delegation does not amount to a delegation of trust business, the trustee will be able to freely delegate the function without following the procedures referred to above.

Restriction on self-dealing: The current Trust Law prohibits a trustee from acquiring any trust asset for its own account. This rule has been criticized, as it does not accord with practice. Sometimes, it is advantageous for the trustee to acquire trust assets for its own account (for example, in the case of surplus money deposited into an account with the trustee where that trustee is a trust bank). Article 29(2) of the Trust Business Law now permits self-dealing, provided that an outline of the self-dealing transaction is set out in the relevant trust agreement and that there is no risk that the transaction will adversely affect the trust assets.

Disclosure obligations: The new Trust Business Law imposes several disclosure obligations on the trustee, including:

1. the requirement to disclose and explain certain items to the settlor before execution of the trust agreement (Article 25 of Trust Business Law);
2. the requirement to submit certain items in writing to the settlor upon entering into a trust agreement (Article 26 of Trust Business Law); and
3. the delivery of a report regarding the status of the trust assets to the beneficiary each accounting period (Article 28 of Trust Business Law).

In certain limited circumstances, the Trust Business Law provides an exemption from these disclosure obligations.

The new Trust Law

The main reason for amending the Trust Law is to modernize the existing law, which had not been amended substantially since it was enacted in 1922. Existing trust law is very traditional and does not easily accommodate commercial trends, for example, securitization. The modernization of the Trust Law will bring it in line with the commercial uses of trusts. The MOF also intends to improve regulations to assist with the development of personal trusts, including:

1. relaxing fiduciary duties and responsibilities from mandatory requirements to default requirements, including the prohibition on self-dealing and the delegation of a trustee's duties to third parties;
2. creating new rules for the modification, combination and division of a trust;
3. creating rules regarding the exercise of beneficiary rights; and
4. introducing new types of trusts, including declarations of trusts, special purpose trusts, limited liability trusts, trusts permitting the issuance of beneficiary interest rights as securities and business trusts.

Deregulation of fiduciary duties

Relaxation of the self-dealing prohibition: The current Trust Law prohibits a trustee from acquiring trust assets for its own account and acquiring any rights in relation to those trust assets. This prohibition is a mandatory rule based on the duty of loyalty owed by the trustee to the beneficiary (Article 22 of the Trust Law). The draft new Trust Law proposes three exceptions to this prohibition on self-dealing, where: (1) the transaction is permitted in the trust agreement; (2) the trustee discloses facts regarding the transaction to the beneficiary and the beneficiary approves the transaction; and (3) the transaction does not harm the beneficiary's interests and the transaction is necessary.

These exceptions in the draft new Trust Law are broader than those set out in the Trust Business Law. The exception in the Trust Business Law, as discussed above, is that self-dealing is only permitted when the outline of the self-dealing transaction is set out in the relevant trust agreement, and that the transaction does not adversely affect the trust assets. Unless the current provision in the Trust Business Law is further amended, the trustee of a trust business will be subject to the Trust Business Law provision, irrespective of the wider exceptions under the new Trust Law.

Delegation of a trustee's duties to third parties: Under the current Trust Law, a trustee can delegate its duties to a third party only: (1) when the trustee is permitted to do so in the trust agreement; or (2) in unavoidable circumstances. The new Trust Law is expected to permit delegation to third parties in the following additional circumstances: (1) when the trustee is permitted to do so in the trust agreement; or (2) when it is appropriate to do so in light of the purpose of the trust. The current Trust Law also stipulates that a third party to whom the trustee's duties have been delegated owes the same obligations as the trustee. The new Trust Law is expected to abolish this provision as the scope of this obligation is not entirely clear. However, the Trust Business Law has stricter rules for the delegation of the duties of a trustee. Unless these rules under the Trust Business Law are amended, the trustee of a trust business will be subject to the stricter provisions irrespective of these changes under the Trust Law.

Modification, combination and division of trusts

Under the current Trust Law, no specific provision exists for the modification of a trust. Any modification of a settled trust is only possible through the agreement of all of the parties (that is, the settlor, trustee and beneficiary).

The draft Trust Law provides the following exceptions to this rule, resulting in a more practical solution:

1. if the modification clearly does not adversely affect the purpose of the trust, it is possible to modify the trust by agreement between the beneficiary and the trustee; and
2. if the modification clearly does not adversely affect the purpose of the trust and also does not affect the beneficiary's interest, it is possible for the trustee to modify the agreement unilaterally, at the trustee's discretion.

The draft Trust Law further proposes that parties can freely provide rules for the modification of the trust in the trust agreement. This amendment allows for a third party or a party to the trust to be delegated the power to modify the trust when so provided in the trust agreement.

Under the current Trust Law, there is no provision regarding the combining or division of trust assets managed by the trustee. The draft new Trust Law proposes that a trustee may combine two or more trusts into a single trust or divide a trust into two or more separate trusts by using appropriate procedures, for example, disclosure to the beneficiaries and trust creditors.

Exercise of beneficiary rights

The Trust Law does not currently regulate decision-making among multiple beneficiaries. The draft new Trust Law stipulates that the parties can create decision-making rules among beneficiaries in the trust agreement, for example, by a majority vote at a meeting of the beneficiaries.

Under the new Trust Law, it will be possible to modify, combine or divide trusts through a majority vote at a beneficiaries meeting, without necessarily all of the beneficiaries being in agreement. The new Trust Law is expected to provide a mandatory buyout right to allow a beneficiary who opposes a decision of the other beneficiaries to require the trustee to apply the trust assets to the purchase of the beneficiary's interest.

New types of trusts introduced

The new Trust Law is also expected to introduce new types of trust, including: (1) declarations of trust; (2) limited liability trusts; (3) the issuance of beneficiary interest rights as securities; (4) business trusts; (5) security trusts; and (6) special purpose trusts. These new trust forms are intended to produce new business opportunities for commercial trusts and to also allow for personal trusts. At the time of writing, the proposals were still under discussion.

Declarations of trust: In the case of declarations of trust, the same entity can be both the settlor and a trustee. The MOJ has stated that this type of trust can be used for securitization purposes (that is, once the company has created the trust with regard to an asset, it can then sell the beneficiary interests in relation to that asset for profit).

Limited liability trusts: Under a limited liability trust, the trustee's liability is limited to the value of the trust assets. Under current Trust Law, the trustee, as the owner of the trust assets, is personally liable for all obligations of the trust. Trustees often limit their personal liability by including a limited recourse clause in the transaction agreements, which limits recourse against the trustee's own assets or the trust assets of other trusts held by the trustee. The draft new Trust Law proposes a new limited liability trust under which a trustee's liability, except for a trustee's liability in tort, is automatically limited to the value of the trust assets. The MOJ has stated that, in addition to introducing limited liability trusts, it will be necessary to develop rules to protect creditors, such as a registration system providing public notice of limited liability trusts. The introduction of limited liability trusts will provide an alternative to corporations as project vehicles in business transactions. The use of such trusts will change the credit exposure of counterparties dealing with such trusts. Documentation used by counterparties will need to be substantially modified when dealing with a limited liability trust.

Trusts permitting the issuance of beneficiary interest rights as securities: Currently, it is only possible for beneficiary interest rights to be issued as securities in limited cases in accordance with certain special laws, including the Investment Trust and Investment Corporation Act and the Special Purpose Company Law. The new Trust Law is expected to permit the issuance of beneficiary interest requirements if so specified in the trust agreement. This change would benefit parties who would like to sell rights to beneficiary interests to a number of beneficiaries. At this stage, it is unclear whether the FSA will designate beneficiary interest securities as securities under the Securities Exchange Law. If beneficiary rights are designated as securities, only securities companies will be permitted to sell beneficiary interest securities.

Business trusts: Under the current Trust Law, debt is not permitted to be a trust asset upon the creation of the trust. This effectively prevents a whole business from being placed in trust. However, the draft new Trust Law permits debt to be a trust asset together with non-debt property. The MOJ has indicated that the amount of debt can be greater than the amount of non-debt property. It will also be possible to create a business trust that can be a combination of a declaration of trust, a limited liability trust, and a trust that issues beneficiary interest rights as securities. When introduced, this type of business trust is expected to be a useful vehicle for various commercial transactions, including whole-business securitization, joint-venture transactions, and as an alternative to using a corporation. However, ultimately the versatility of business trusts will depend on how business trusts are regulated under the Trust Business Law and also how they are likely to be taxed.

Security trusts: The draft new Trust Law provides that a mortgage can be a trust asset. The MOJ has indicated that this means that the new Trust Law will permit security trusts under which syndicated lenders can entrust security packages for loans to a trustee in return for beneficiary interest rights. This change to the law means that a secondary market for syndicated loans can be developed because the transfer of security packages together with the loan will become easier. Although security trusts will be permitted under the new Trust Law, the amendment will have limited practical impact as other related laws such as the Civil Code, the Civil Execution Law and the Real Estate Registration Law do not yet include the necessary complementary provisions.

Special purpose trusts: The current Trust Law does not permit a special purpose trust except for one established for the public interest. However, the draft new Trust Law is proposing the introduction of special purpose trusts for non-public interest purposes, such as a trust for securitization purposes.

Author biography

Jeremy Pitts Baker & McKenzie Tokyo Aoyama Aoki Jeremy Pitts is a partner of Baker & McKenzie Tokyo Aoyama Aoki and focuses his practice on financial regulation, product development and structured financial transactions in Japan. He has extensive experience acting for foreign financial institutions, and has a comprehensive knowledge of Japanese financial markets and practices. Working closely with a team of specialized Japanese lawyers, he has been involved in assisting foreign financial institutions with regulatory matters in Japan and with the development of new products for the market. Pitts is the leader of Baker & McKenzie's global banking and finance practice group. He is also managing partner of Baker & McKenzie Tokyo Aoyama Aoki. He was named a leading banking and finance lawyer for Japan by Asia Pacific Legal 500 (2004, 2005) Pitts is qualified in New South Wales. He is also admitted as a solicitor in England and is registered as a foreign lawyer in Japan. Akiko Hosokawa Baker & McKenzie Tokyo Aoyama Aoki Akiko Hosokawa focuses her practice in the areas of banking and finance laws, specifically in project finance, private finance initiative, derivatives, real estate, and securitization and structured financing transactions. She has extensive experience in assisting clients with regulatory work in the banking, insurance, securities and trust industries. She is also familiar with general corporate legal advice. Hosokawa spent four years in the urban development department of a Japanese life insurance company and joined Tokyo Aoyama Aoki Law Office in 1997. She practised in the London office of Baker & McKenzie and at Goldman Sachs International, London from 2002 to 2003. From February of 2004 until June of 2005, she was seconded to the Japanese Financial Services Agency, where she focused on revision of the trust business law. Hosokawa is admitted to practise in Japan and New York. She received an LLB from Kobe University and an LLM from Boston University School of Law.