The major players differ slightly depending on the type of project.
The PFI regime was introduced in Japan in 1999 when the Act on Promotion of Private Finance Initiative (Act No 117 of 1999, as amended) (the “PFI Act”) was enacted. Many availability-based accommodation projects have since been implemented (eg, schools, hospitals, school catering service facilities, and libraries). The PFI has been welcomed by local governments as a tool to spread the cost of investing in infrastructure over 20–30 years – although it has sometimes been targeted by critics who argue that it does not provide value for money.
Against that background, the PFI Act was amended in 2011 to introduce a concession scheme, under which a concessionaire is authorised to collect a commission, toll, fee or other consideration from the general public for their use of the infrastructure that the concessionaire operates. In this way, the concession scheme is considered a flexible tool for structuring a project where the private sector assumes all or part of the revenue/demand risk. Concession schemes were intended to be used to privatise the operation of certain infrastructure in which the legal title cannot be transferred to the private sector, owing to national security or other political reasons. The first infrastructure targeted was airports. Since Kansai International Airport and Osaka International Airport were privatised through a 44-year concession with the use of approximately JPY200 billion of project finance, many airports have been privatised under concession schemes.
The national government is considering privatising other infrastructure using concession schemes, such as water facilities, so-called MICE facilities (ie, facilities for meetings, incentives, conferences and entertainment) and stadiums/indoor sports facilities.
The PFI Act provides the procedural requirements that the public sector must follow to initiate a PFI project and the substantive rights and obligations granted to a private sector company under the PFI regime. However, the PFI Act itself does not legalise the operating and maintaining of public infrastructure by the private sector; this needs to be legalised by separate legislation. Accordingly, a concession scheme will not be available unless appropriate legislation has been enacted for the relevant public infrastructure. To date, such legislation has generally not been passed in respect of toll roads.
In addition to the general PFI/PPP regimes under the PFI Act, the Port and Harbour Act (Act No 218 of 1950, as amended) and the Urban Park Act (Act No 79 of 1956, as amended) each provides for a PPP regime applicable to specific public property.
Further, based on the Japanese national government’s long-term strategy for carbon neutrality, a new PPP structure was introduced in late 2023 under which public auctions (Long-Term Carbon Neutrality Capacity Auctions) are held to select project companies for certain areas of renewable energy businesses (eg, energy storage services and biomass power plants) to which availability-based payments will be paid by the Organization for Cross-regional Co-ordination of Transmission Operators (OCCTO) (a statutory institution that every electricity business operator is required to join as a member, for up to 20 years) – subject to the project companies fulfilling certain requirements stipulated by the OCCTO for the purpose of achieving the governmental goal of stabilising domestic electricity supply and demand.
The Japanese project finance market has some unique characteristics; understanding these characteristics will help in procuring project finance in Japan. Perhaps the most unique characteristic is that the structuring of project finance in Japan is largely influenced by asset finance – real estate finance, in particular. That tendency is stronger in solar and onshore wind renewable energy projects, which have boomed since the feed-in tariff (FIT) was introduced in Japan in 2012. The “bankruptcy remoteness” of a project company and tokumei kumiai (TK) investments in project finance are both concepts imported from real estate finance practice.
Bankruptcy Remoteness
The following structure is typically adopted to achieve bankruptcy remoteness for a project company:
An ISH is considered independent from the project sponsor if all equity interests in the ISH are held by an independent accounting firm and if the corporate officer positions of the ISH are all assumed by accountants who are independent of the project sponsor. Usually, an ISH is incorporated with nominal funding, such as JPY100,000. Furthermore, GKs, ISHs and their respective officers need to deliver to project finance lenders a “non-petition letter” undertaking not to file in any insolvency proceeding with regard to the project company. By doing so, project finance lenders seek to make the project company as remote as possible from legal insolvency proceedings.
TK Investments
TK investment plays an important role in relation to an ISH’s involvement in the ownership structure of the GK project company. As the GK project company is held by an ISH that is independent of the project sponsors, certain arrangements for project sponsors to inject money into the project company and receive returns from the money so injected are required. TK investments are employed for that purpose as a substitute for legal equity in the GK.
A TK investment is an investment made pursuant to a TK contract, which is a bilateral contract whereby one party (TK Operator) receives funds from the other party (TK Investor) and – with those funds ‒ conducts certain business as pre-agreed with the TK Investor, sharing the profit generated from such business with the TK Investor. The business is conducted in the name of the TK Operator, and the TK Investor’s liability is limited to the obligation to make an investment of a pre-agreed amount, which means that a TK investment is a limited liability investment.
The TK Operator may enter into a TK contract for the same business with multiple parties – in which case, taken as a whole, the structure will be economically very similar to a limited liability company where the TK Operator is the company and the TK Investors are members of the company. However, a key difference is that each TK contract needs to remain bilateral and no multilateral agreement involving two or more TK Investors is used. Under a TK contract, the profit and loss allocated to TK Investors is directly recognised by the TK Investors, instead of the TK Operator. The effect of this allocation is that the project revenue is not subject to corporate tax at the project company level.
However, whether a TK investment can be used as equity in a particular project must be carefully examined. By way of example, in the case of PFI/PPP projects and offshore wind projects – both of which involve a public authority procurement process – the tender documents often require the equity investment to be made in the form of legal equity. Also, some financial institutions dislike TK investments in biomass projects.
Debt-to-Equity Ratio
Another characteristic of project finance in Japan is that a certain debt-to-equity ratio is often required to be maintained, not only during the construction period but also during the operation period. In such a case, project sponsors need to structure their financial model carefully so that this requirement does not affect the return on invested capital.
FIT Projects and Corporate PPA
Since the introduction of the FIT in Japan in 2012, FIT projects have been predominant in the renewable energy project field, where certain utilities are legally obliged to purchase all electricity generated by approved power plants at a fixed price and for a fixed term. From April 2022, however, FIT approval ceased to be newly granted for the vast majority of renewable energy project categories, with feed-in premium (FIP) approvals starting to be granted instead. Under the FIP regime, on the one hand project companies can receive prescribed premiums from the government to supplement their revenue, but on the other hand project companies need to independently sell their generated electricity into the power market or to retailers by entering into a bilateral power purchase agreement (Corporate PPA).
Corporate PPA projects consist of “physical” and “virtual” (VPPA) projects. In “physical” Corporate PPA projects, electricity is physically supplied from the project company to the offtaker. In contrast, in VPPA projects, only non-fossil certificates are transferred directly from the project company to the offtaker, with the project company selling the physically generated electricity and the offtaker purchasing the electricity in the marketplace. The project company and the offtaker make a pre-agreed price settlement for the transaction as a whole to have the same economic effect as the sale and purchase of the electricity certified by the corresponding non-fossil certificate at a fixed price from the project company to the offtaker. Regardless of whether FIP is utilised, since the latter half of 2022, there have been many projects in Japan using Corporate PPAs and the project finance market is rapidly expanding in this field.
Many buyout transactions of both FIT and non-FIT (including FIP) renewable energy projects have occurred in the market in recent years. In this connection, attention must be paid to a new rule introduced in 2024. Under that rule, if a project sponsor sells its FIT/FIP project to a third party or even restructures the investment structure of an FIT/FIP project (except where it is a small-sized project) within its corporate group, the project sponsor will be generally required to hold a presentation meeting with the local community to explain the change of the project owner(s) and/or investor(s) and to collect comments from the local community. Project sponsors are expected to consider and address those concerns. As this new rule has very limited exemptions, project sponsors need to take into account this new rule when they plan to sell an FIT/FIP project or to restructure the investment structure of an FIT/FIP project.
Offshore Wind Projects
Offshore wind projects have been attracting the attention of the market, in light of the Japanese government strongly promoting renewable energy as a means to achieve a carbon-neutral society by 2050, and because of the potentially numerous offshore wind opportunities provided by the island geography of Japan.
A legal impediment to offshore wind projects was that, unlike for harbour areas, for many years there was no legislation regulating the use of general sea areas. This issue was addressed by the Act on Promoting the Utilisation of Sea Areas for the Development of Marine Renewable Energy Power Generation Facilities (Act No 89 of 2018, as amended), which came into force in 2019. Under this Act, the government designates sea areas that it considers suitable for offshore wind projects and selects a project developer through a tender process, who is granted a right to use the designated sea area for up to 30 years.
After the first batch of projects for general sea areas was awarded in December 2021 and the second batch was awarded in March 2024, the government has invited tenders for the third batch of projects and the process is ongoing. The government is also working on feasibility studies for several general sea areas as potential future project sites. It is highly likely that offshore wind projects will continue to attract close attention from the market.
Battery Energy Storage Projects and Utilisation of Long-Term Carbon Neutrality Capacity Auctions
Battery energy storage projects have been generally recognised as having a disadvantage in attracting project financing because their future cash flow is not easily projected, owing to their revenue being exposed to fluctuations of the electricity market. However, under the Long-Term Carbon Neutrality Capacity Auction regime, project companies will be paid availability-based payments, which will bring significant stability to their cash flow. Consequently, it is expected that energy storage projects operating under this regime will be able to obtain project finance. This regime is also expected to be utilised for other renewable energy projects for the same reasons.
Under Japanese law, the principle is that any property having economic value can be taken as security, unless creating a security interest in such property is prohibited by law. There are three forms of security interest that can be created by contract under Japanese law:
A mortgage and a pledge are both security interests established by legislation, whereas a collateral assignment is a security interest developed through case law.
Mortgages (Teitoken)
A mortgage is available for real estate, automobiles, vessels, aircraft and some other assets. The Japanese government has established and administers a title registration system for each such asset, and perfection of title is made through registering the title in the government-operated title registration system. Mortgages are also perfected through the title registration system.
There are also special types of mortgage:
Where a factory mortgage is created over the site of a factory, the security interest extends to the equipment and facilities used for the factory on that site, provided that such equipment and facilities are registered as components of that factory under the title registration system. Where a factory foundation mortgage is created over a factory foundation, the security interest extends to property that is listed as property of that factory foundation. A factory foundation whose primary property is the site of the factory, the structures erected on the site and the equipment and facilities used for the factory is also permitted to own certain intangible property, such as the leasehold of the site and IP related to that factory – in which case, the factory foundation mortgage will cover such intangible property as well. In the context of factory mortgages and factory foundation mortgages, a power plant is considered to be a “factory”.
Furthermore, in relation to a PFI project, mortgages can be created over concession interests (kokyoshisetsuto uneiken) (ie, specified rights and interests in the infrastructure assets that are granted to a concessionaire in relation to a concession scheme project under the PFI Act). However, given that any transfer of concession interests is subject to the consent of the grantor of the concession interests, unlike other mortgages, enforcing a mortgage over concession interests requires the consent of the grantor of the concession interests.
Pledges (Shichiken)
A pledge is available for any property. However, as far as project finance is concerned, pledges are not typically used for real estate or other tangible property (ie, movable property) and are only used for intangible property such as receivables, bank accounts, insurance proceeds, shares in a company or other forms of equity interests, copyrights and patents, etc. The most relevant reason for only using pledges for intangible property in project finance is that if a pledge is created over real estate or movable property, the owner of the real estate or movable property is deprived of the right to occupy, hold and use such property, which means that the project company cannot occupy, hold or use its real estate or personal property if a pledge is created over such property.
The way to perfect a pledge varies, depending on the type of property over which the pledge is created. A pledge created over a receivable is perfected upon:
The same methods of perfection apply to pledges over bank accounts and over insurance proceeds, because a bank account is considered as a depositor’s receivable against the bank and a claim for insurance proceeds against an insurance company is also considered as a receivable against the insurance company. Registering the pledge under the receivable registration system administered by the Ministry of Justice is an alternative means of perfecting a pledge created over receivables. This saves a great deal of cost and time compared to obtaining written acknowledgement from each debtor of those receivables or sending written notice to each debtor.
Other pledges are perfected as follows:
Collateral (Joto Tampo)
Collateral assignment is available for any property, but in the field of project finance it is usually used for tangible property other than real estate (ie, movable property) and sometimes for receivables. Collateral assignment is often used to complement pledges, as collateral assignment does not deprive the owner of the property of the right to hold and use it. Collateral assignment of movable property is perfected upon the owner of that movable property acknowledging the assignment. The owner is permitted to continue to hold and use the movable property as it did before the collateral assignment was made. Collateral assignment of receivables is perfected in the same manner as a pledge. Collateral assignment of movable property and receivables can also be perfected by registering the collateral assignment under the registration system administered by the Ministry of Justice.
In addition to the above-mentioned forms of security interests, as a substitute for taking a contract as security, a call option may be granted by a project company to project finance lenders with regard to the contractual position that the project company holds under a contract. Just as with other security interests, the option is structured to become exercisable upon the occurrence of an event of default or acceleration of debt and – if the option is exercised – the project company must transfer its contractual position under that contract to any person that is designated by the lenders (including themselves). Such arrangement is referred to as a “grant of call option (joto yoyaku) with regard to contractual position (keiyakujonochii)”. It is not a security in a legal sense, but it is used to secure project finance lenders’ so-called step-in right to project agreements.
Japanese law does not recognise floating charges or any other universal or similar security interest over all present and future assets of a company.
However, the Act on the Promotion of Cash Flow-Based Lending (Act No 52 of 2024, as amended) was enacted in June 2024, introducing a new type of security interest named “enterprise value charge” (kigyo kachi tampo ken). This may, in effect, function as floating charge, as the Act enables a company to provide security over its business as a whole. The Act is scheduled to take effect in the spring of 2026 and financial institutions are studying how to employ this new enterprise value charge for various financing transactions. The Act is primarily designed for start-up companies with limited real assets. However, as the concept of subjecting the entire business as a whole to a security interest is highly compatible with the underlying principle of security packages in project financing, the possibility of employing the enterprise value charge in project financing is being explored.
Registration tax (torokumenkyo zei) is imposed on the registration of the creation of a security interest. In the case of a mortgage over real estate, the rate is 0.4% of the registered face value of the secured obligations, and 0.25% in the case of a factory mortgage or factory foundation mortgage. Temporary registration (kari toki) of a mortgage is sometimes allowed by lenders up to the occurrence of a specified credit event. This has the legal effect of maintaining the priority order of the mortgage – although the temporary registration must subsequently be changed to definitive registration (hon toki) to implement in-court foreclosure under the mortgage. The registration tax levied on temporary registration is JPY1,000 per registration.
In the case of a pledge or collateral assignment, the registration tax is JPY7,500 per registration.
Each property over which a mortgage is created must be individually identified in the security document, as registration is made on each property.
With regard to movable property and receivables subject to collateral assignment, each item of collateral does not need to be individually identified in the security document to grant a valid security interest in that item. A general description of the types of collateral covered would be sufficient, as long as such description can distinguish the assets of the security provider that are subject to the security interest from those that are not.
Under Japanese law, the proceeds of third-party liability insurance cannot be taken as security.
Distinctions Between Security/Guarantee Categories
Under Japanese law, each of the above-mentioned three forms of security interest – mortgage (teitoken), pledge (shichiken) and collateral assignment (joto tampo) (see 2.1 Assets Availableas Collateral to Lenders) – and guarantees are classified into one of two types:
Once the obligations secured by a revolving security/guarantee are fixed (ie, crystallised), the revolving security/guarantee gains substantially the same characteristics as an ordinary security/guarantee.
Revolving Securities/Guarantees and Mortgages
Revolving securities/guarantees were invented and developed through practice and later ratified by case law. While a revolving mortgage (ne teitoken) was codified thereafter, revolving pledges (ne shichiken) and revolving collateral assignments (ne joto tampo) have not been codified. Practitioners employ a revolving pledge and revolving collateral assignment with the understanding that the provisions of a revolving mortgage should apply to a revolving pledge and revolving collateral assignment; however, such practice has not been fully tested by the Japanese courts with regard to all of these aspects of a revolving mortgage.
There is another issue related to revolving mortgages. As is the case with an ordinary mortgage (futsu teitoken), the value of the obligations secured by a revolving mortgage must be registered. However, it may not be easy to estimate the maximum exposure a hedging provider may have during a project. At the same time, the rate of registration tax (torokumenkyo zei) depends on such amount. Therefore, the value of the obligations secured as registered must be agreed between the project finance lenders and project sponsors prior to registration.
There are a number of types of statutory liens under Japanese law. Some are attached to an employee’s salary claims, certain construction fees, receivables of sellers of goods, funeral costs, etc. Certain statutory liens have to be registered under the title registration system to secure their priority, so lenders can confirm whether those statutory liens exist by checking the title registration records. For other statutory liens, lenders have no means to confirm whether they exist, other than by checking with the potential parties to such lien.
Generally, security interests automatically cease to have an effect upon the secured obligations being discharged in full, but it is common practice for the lender to deliver a release letter confirming that the security interest no longer exists. Such release letter is more important if the security interest is a revolving security interest/guarantee because the revolving security interest/guarantee is not necessarily extinguished when the outstanding secured obligations are discharged in full.
Under Japanese law, a secured lender can enforce its collateral when the debt secured by such collateral is not paid on the day when it becomes due and payable. Under a financing agreement, the parties agree to a set of events or circumstances that would make outstanding loans immediately due and payable. This is called an “event of default” or “event of acceleration” (kigennorieki soshitsujiyu). Some of these events or circumstances automatically accelerate repayment of the loans, whereas others only accelerate repayment of the loans if the lender so notifies the borrower.
Under Japanese law, there are two means to enforce a security interest: in-court foreclosure and out-of-court foreclosure. However, in-court foreclosure is not available for collateral assignment; out-of-court foreclosure is the only way to enforce a collateral assignment.
In order to enforce a right, in general, the holder of the right must obtain a court judgment (or arbitration award if arbitration is the agreed method of dispute resolution) and then present it to the court for execution. However, in the case of enforcing security, the secured interest holder only has to prove the existence of the security by way of presenting an executed security agreement and/or the relevant perfection documents to the court. The secured interest holder does not have to obtain a judgment that the debt secured is due and payable, and not yet discharged.
Once the existence of the security interest is proved, it is the debtor that owes the burden of proof to show that the debt is not due or otherwise is not required to be paid. When the application for enforcement of a security interest is filed with the court, the court will usually hold a public auction in which the collateral will be sold to the highest bidder and the security interest holder will receive the net proceeds from the sale of the collateral.
Security interests can be enforced outside a court, provided that the process of so enforcing the secured interests is agreed and set out in a security agreement. It is standard practice in a Japanese financing transaction to set out the following in a security agreement:
It is generally considered that secured interests can be more quickly enforced and greater value realised from the enforcement if the enforcement is conducted out of court rather than through an in-court foreclosure proceeding. For mortgages, out-of-court foreclosure requires the further co-operation of the mortgagor in that the mortgagor must become the seller of the mortgaged property. In contrast, in the case of pledges, the secured party can directly exercise its pledge rights and can obtain the title to (and sell) any pledged asset if so agreed with the pledgor in the pledge agreement, in each case, without the involvement of the pledgor. This is the same in the case of collateral assignments. For a collateral assignment, the secured party can obtain the title to (and sell) the assigned property by following the procedures stipulated in the security agreement without further co-operation of the assignor.
The Act on General Rules for Application of Laws (Act No 78 of 2006, as amended) controls conflict of laws issues in Japan, and allows parties to a contract to choose the jurisdiction governing the contract. Accordingly, the courts of Japan generally uphold the choice of foreign law provision in a contract. However, under this Act, if it finds that the application of a foreign law chosen by agreement between the parties to a contract would lead to a consequence that is detrimental to the public order of Japan, the court will refuse to apply the chosen foreign law and apply Japanese law instead. Furthermore, Japanese laws and regulations covering certain areas – eg, antitrust, foreign exchange, labour, usury and real estate lease – are considered mandatory and will therefore apply regardless of any choice of foreign law.
The Code of Civil Procedure (Act No 109, 1996, as amended) provides that the parties may choose a court in a foreign country as the agreed venue of dispute resolution. Accordingly, the courts of Japan generally recognise a choice of foreign court made in a contract. However, the Code of Civil Procedure also provides that a choice of foreign court will not be upheld if the Japanese court decides that such court in a foreign country does not have the capability (legally or otherwise) to exercise the jurisdiction of that foreign court.
As Japan is a member state of the Convention on the Recognition and Enforcement of Foreign Arbitral Awards 1958 (the “New York Convention”), an arbitral award would be recognised by the courts of Japan and may be enforced without retrial of the merit, in accordance with – and subject to – the New York Convention and the Arbitration Act (Act No 138 of 2003, as amended).
A final judgment rendered by a foreign court would be recognised, and may be enforced without retrial of the merit if it satisfies a certain set of requirements set out in Article 118 of the Code of Civil Procedure. Such requirements include that reciprocity between the country of the relevant judgment and Japan is assured, and that the terms of the judgment and the judicial procedure through which the judgment was rendered do not conflict with the public order and morality of Japan.
In a judicial proceeding in Japan, Japanese citizens and foreigners are treated equally and there are no substantive restrictions on a foreign lender’s ability to enforce its rights under a loan or security agreement. However, as the official language in Japanese courts is Japanese, a foreign lender would have to prepare a Japanese translation of the documents produced by its home country’s government – eg, certificate of incorporation – to establish its identity. All other documents to be filed with the Japanese court must also be in Japanese or be accompanied by a Japanese translation.
Furthermore, where a foreign lender who does not have any presence in Japan files a claim with a Japanese court, the Japanese court would likely order the foreign lender to place a security deposit with the court to cover the costs and expenses that may be incurred by the court in relation to a trial of such claim.
A foreign lender must have a money-lending licence under the Money Lending Business Act (Act No 32 of 1983, as amended) in order to engage in the business of granting loans or money-lending in Japan, except where a foreign bank grants a loan through its licensed branches in Japan.
Whether granting a loan is conducted as business for the purpose of the Money Lending Business Act is a fact-oriented issue. Thus, care must be taken if a project sponsor seeks to inject equity into the project company by way of extending a subordinated loan, as it is often considered that a person who extends a loan more than once is deemed to engage in money-lending business for the purpose of this Act.
Under the Money Lending Business Act, engaging in only intra-group lending that satisfies certain prescribed criteria is exempted from the licence requirement. This includes lending to and from a subsidiary in which a lender has 50% or more of the shares, or 40–50% of the shares with supporting factors indicating control over such subsidiary, such as the lending company dispatching officers to work in the subsidiary.
Loans to a joint venture (JV) company by a JV partner are also exempted if the lending JV partner holds 20% or more of the JV company’s shares and all the other JV partners consent to the granting of such loans. If the project sponsor’s relationship with the borrowing company does not fulfil these exempting requirements (such as where the lending company holds less than 20% of the shares in the borrowing company), under the above-mentioned prevailing view on what constitutes money-lending business, such project sponsor effectively cannot use subordinated loans as a means of injecting equity. In such a case, bonds (shasai) with a subordination clause would typically be employed as a substitute for subordinated loans, as subscribing for a bond is not considered to be money-lending for the purpose of the Money Lending Business Act.
In general, there are no restrictions on the granting of security or guarantees to foreign lenders. Foreign lenders may also take security or guarantees in the same manner as Japanese lenders do.
The foreign investment regime under the Foreign Exchange and Foreign Trade Act (Act No 228 of 1949, as amended) was reformed to further promote sound investment into Japan and to appropriately monitor investment into Japan that may undermine national security. The new rules have been in effect since June 2020.
In general, the following foreigners are only required to file ex post facto notification to the Bank of Japan, unless the subject company conducts business in a “designated industry”:
The “designated industry” classification is divided into “core industries” and “non-core industries”. In general, a core industry is an industry that is closely connected to national security and/or fundamental infrastructure such as manufacturing firearms, lithium ion batteries, aircraft or spacecraft, or that is related to electricity, telecommunications, oil or gas – whereas a non-core industry is an industry other than a core industry that is still considered to be important from a national security perspective and/or fundamental infrastructure, such as broadcasting, or is related to biological products, or marine or air transportation.
Where the subject company conducts business in a designated industry, the foreign investor may not make the investment unless the foreign investor makes a prior notification and the specified waiting period expires; such period is generally 30 days. This period could be shortened to five business days if the government considers that the waiting period can be so shortened from a national security perspective, but may also be extended up to five months, at the discretion of the government.
If the government determines during the waiting period that the investment may undermine national security, public order or public safety, or adversely affect the national economy, it may issue a warning to change the terms of the investment or cancel it. If the investor does not respond to the warning or expresses an intention to disobey the warning, the government may issue an order to change the terms of the investment or cancel it. Enforcement by a foreign lender of its security interests over any shares in a Japanese company that conducts business in a designated industry may also be restricted by such regulations.
On the other hand, the new rules have introduced an exemption from the above-mentioned prior notification requirement.
First, certain financial institutions (eg, banks, security brokers, insurance companies and fund managers) that are adequately regulated in their home countries are fully exempted from the prior notification requirement.
Second, foreign investors that are not a foreign state or a state-owned enterprise (excluding sovereign wealth funds and public pension funds certified by the Ministry of Finance of Japan) and do not have a criminal record are exempted from the prior notification requirement in the following circumstances.
Nationality Requirement
Furthermore, companies in certain regulated industries are subject to a nationality requirement under the respective industry regulations. In this case, generally, a prescribed shareholding majority of such companies must be owned by Japanese citizens and/or Japanese corporations, and this requirement must be fulfilled in order to obtain and maintain a licence for such company to conduct its business. Examples of such companies are a broadcasting company under the Broadcasting Act (Act No 132 of 1950, as amended) and an airline company under the Aviation Act (Act No 231 of 1952, as amended). If a foreign lender places security interests over shares in such a company, the foreign lender may only enforce the security interests by way of selling such shares to Japanese citizens or Japanese corporations.
Under the Foreign Exchange and Foreign Trade Act, ex post facto notification to the Bank of Japan is usually required for a cross-border payment of more than JPY30 million, unless such payment is made in connection with the international trade of goods.
Under the Income Tax Act (Act No 33 of 1965, as amended), dividends, interest and profit distribution to a TK Investor are subject to withholding tax of 20.42% where the recipient is non-resident. Such withholding tax may be reduced or exempt if Japan has a tax treaty with the country where the foreign recipient is resident and such recipient satisfies the applicable conditions to enjoy treaty benefits.
A project company is permitted to maintain offshore foreign currency accounts.
None of the financing or project agreements need to be registered or filed with any government authority nor otherwise need to comply with any local formalities in order to be valid or enforceable, except that certain security interests have to be registered in order to be perfected (such registration would require the disclosure of the basic terms of the obligations secured by the security – eg, amount and interest rate).
In general, no licence is required to own land in Japan. This also applies to foreign entities, unless a foreign entity engages in the real estate brokerage business.
Minerals or other natural resources (such as natural gas and crude oil) may not be extracted without a licence, under the Mining Act (Act No 289 of 1950, as amended), and such licences are not granted to non-Japanese persons or corporations.
The concepts of agency and trust are both recognised in Japan. Specifically, the Trust Act (Act No 108 of 2006, as amended) clarifies that creating a security trust is permissible. However, owing to some practical reasons, security trusts are not commonly used in project finance or any other syndicated lending transactions in Japan. As such, security is granted to each of the lenders individually, and each time a lender disposes of its shares in a syndicated facility, a new lender has to perfect the acquisition of certain security interests and guarantees. In relation to this, an ordinary security interest/guarantee is tagged with – and carries the loans secured by – such ordinary security interest/guarantee by operation of law. On the other hand, a revolving security interest/guarantee does not transfer along with the obligations secured by that revolving security interest/guarantee until it is crystallised.
However, the situation may change if the enterprise value charge (kigyo kachi tampo ken) under the Act on the Promotion of Cash Flow-Based Lending (see 2.2 Charges or Interest Over All Present and Future Assets of a Company) is employed because the enterprise value charge is statutorily required to be accompanied by a security trust. This means that the enterprise value charge must be granted to a trustee under a security trust where lenders and other secured parties are beneficiaries of the trust. The security trust facilitates the process of transferring loans because the security is held by the security trustee for the benefit of present and future lenders and other secured parties. This is considered to be another potential benefit of using enterprise value charges in financing transactions.
Where security interests compete with each other, priority will be determined based on when the security interest is perfected: the security interest that is perfected earlier will have priority over that which is perfected later.
In order to agree on the priority of enforcement proceeds, secured lenders typically enter into an intercreditor agreement. However, a Japanese court would not uphold such intercreditor agreement in a foreclosure proceeding and would distribute enforcement proceeds to secured lenders in priority of the time that the security interests were perfected and in accordance with the relevant statutes that determine the priority between the security interests and any other statutory liens. After the distribution of such proceeds is made by the court, the secured creditors who received such proceeds and are parties to the intercreditor agreement are obliged by contract to redistribute such proceeds so that the secured creditors will receive the enforcement proceeds as contemplated by the intercreditor agreement.
Japanese law does not require a project company to be incorporated under the laws of Japan. However, in its request for proposals for PFI/PPP projects, in practice the procuring authority always requires that the project company be a corporation incorporated under the laws of Japan – usually a kabushiki kaisha. As a matter of practice, it is extremely rare for a project company to be a foreign law corporation; the typical form of a project company is a kabushiki kaisha or a godo kaisha.
Under Japanese law, there are four types of insolvency proceedings:
Of these four types of insolvency proceedings, civil rehabilitation proceedings and corporate reorganisation proceedings are reorganisation-type procedures; the other two are liquidation-type proceedings. Special liquidation proceedings and corporate reorganisation proceedings are only available to a kabushiki kaisha.
Civil rehabilitation proceedings are often referred to as debtor-in-possession (DIP) proceedings, as the debtor’s management continues to operate the debtor’s business while being overseen by a supervisor (kantoku iin) appointed by the court.
Corporate reorganisation proceedings are a reorganisation-type procedure where a reorganisation trustee (kosei kanzainin) appointed by the court operates and protects the debtor’s business and property.
When insolvency proceedings commence with regard to a debtor, in general, creditors of that debtor may not enforce their rights outside those proceedings. In liquidation-type proceedings, the creditors will only receive distributions from the proceeds of disposition of the debtor’s assets. In reorganisation-type proceedings, creditors have the right to vote on any proposed rehabilitation/reorganisation plan, and – subject to any write-offs or rescheduling of their claims under the rehabilitation/reorganisation plan that is approved – their claims will be paid in accordance with the approved rehabilitation/reorganisation plan.
However, the commencement of any insolvency proceedings other than corporate reorganisation proceedings does not prevent secured creditors from enforcing their security outside the insolvency proceedings and recovering their loans from the enforcement proceeds of the collateral. In contrast, under corporate reorganisation proceedings, secured creditors are not allowed to enforce their security. Project finance lenders preferring bankruptcy remoteness therefore require the project company to be a godo kaisha, as corporate reorganisation proceedings are only available against a kabushiki kaisha.
In insolvency proceedings other than corporate reorganisation proceedings (ie, civil rehabilitation proceedings, bankruptcy proceedings or special liquidation proceedings), secured creditors may recover their outstanding loans from the enforcement proceeds of the collaterals, or from the debtor’s general assets to the extent that those secured creditors cannot fully recover their loans from the enforcement proceeds of the collaterals. Proceeds from the disposition of the debtor’s general assets are distributed to creditors on a pro rata basis. In a corporate reorganisation proceeding, all the creditors (including secured creditors) will recover their outstanding loans in accordance with the approved reorganisation plan.
Debts under certain subordination agreements are treated as subordinated under the respective insolvency proceedings. Where a sponsor injects equity by way of subordinated debt or TK investment, project finance lenders usually ensure that the subordinated debt or TK investment agreement contains the specific type of clause required for the injected equity to be treated as such.
A debtor that has become insolvent is unlikely to have sufficient assets to discharge all of its outstanding debts – in which case, creditors that do not have sufficient security would typically end up writing off their loans. Those creditors may try to obtain some of the debtor’s assets as security to secure their priority on those assets, but such action is capable of being avoided under any subsequent insolvency proceedings as being an impermissible preference.
Corporate reorganisation proceedings are generally considered unfavourable to secured creditors in that the secured creditors are not allowed to enforce their collateral until the approved reorganisation plan is fully implemented, and the reorganisation plan may write off their loans and/or reschedule the repayment of their loans.
No private entities are excluded from insolvency proceedings in Japan – although special liquidation proceedings and corporate reorganisation proceedings are only available to the kabushiki kaisha company form. However, governments and local municipalities are considered to be excluded from insolvency proceedings.
In general, foreign insurance companies are not allowed to provide insurance to Japanese residents for property located in Japan or vessels or aircrafts registered in Japan unless they open a branch office in Japan and obtain a licence under the Insurance Business Act (Act No 105 of 1995, as amended), with the following exceptions:
There are no restrictions on foreign creditors receiving proceeds from insurance policies over project assets.
Under the Income Tax Act, interest payable to a foreign lender is subject to withholding tax of 20.42%. Such withholding tax may be reduced or exempt if Japan has a tax treaty with the country where such lender is resident and such lender satisfies the applicable conditions to enjoy treaty benefits. Please also see 4.4 Restrictions on Payments Abroad or Repatriation of Capital regarding withholding tax on dividends and profit distribution to a TK Investor.
Under the Stamp Duty Act (Act No 23 of 1967, as amended), a loan agreement is subject to stamp duty ‒ the amount of which varies depending on the amount of the loan evidenced by the loan agreement. The stamp duty will be JPY600,000 if the amount of the loan is more than JPY500 million. However, stamp duty is not applicable to a loan agreement if all parties to the agreement execute it solely electronically.
The Interest Restriction Act (Act No 100 of 1954, as amended) is the main source of usury laws in Japan and restricts the amount of interest that can be charged. Under this Act, for a loan of JPY1 million or more, interest at a rate of more than 15% per year and default interest at a rate of more than 21.9% per year may not be charged. For the purposes of this Act, any amount that in substance is charged like interest is deemed to be interest, no matter how the amount may be described. Furthermore, this Act states that any commitment fee to be charged on a revolving credit facility will fall within the definition of interest. This created difficulties in the corporate finance sector and was therefore specifically addressed by the enactment of the Act on Specified Credit Commitment Contracts (Act No 4 of 1999, as amended), under which a commitment fee is deemed not to fall within the definition of interest for the purposes of the Interest Restriction Act if the relevant revolving credit is granted to an entity that satisfies certain requirements – eg, the entity is a kabushiki kaisha with stated capital of JPY300 million or more, or with a net worth of JPY1 billion or more.
However, in practice, given that a project company is sometimes so thinly capitalised that it may not satisfy these requirements under the Act on Specified Credit Commitment Contract, in order to avoid violating the Interest Restriction Act it is relatively common for a commitment fee not to be charged to a project company in respect of the availability of any project finance facility at all or until a first drawdown is made.
For tax purposes, Japan has both thin-capitalisation rules and earning-stripping rules. Thin-capitalisation rules are applicable to interest that is:
The prescribed portion of such interest is not deductible in calculating taxable income of the payor if both the following conditions are met:
Under the earning-stripping rules, interest is not deductible in calculating the taxable income of the payor, if and to the extent that the total amount of interest that is paid to (both related and third-party) lenders and not subject to Japanese taxation at the level of the recipients of the interest payments exceeds 20% of EBITDA of the payor as calculated for this purpose.
Project agreements are typically governed by Japanese law. A PFI/PPP agreement or concession agreement with the Japanese government, a local municipality, or a state-owned entity is always governed by Japanese law. However, fuel supply agreements with a foreign supplier in power projects (eg, conventional power projects and biomass projects) are sometimes governed by foreign law, such as English law or New York law.
Financing agreements are always governed by Japanese law, with the exception that security agreements on collaterals located outside Japan would typically be governed by the laws of the jurisdiction in which those collaterals are located.
As described in 9.1 Project Agreements and 9.2 Financing Agreements, project agreements and financing agreements are governed by Japanese law, with only a few exceptions.
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info@noandt.com www.noandt.com/enAmendment of the Renewable Energy Special Measures Act
The amended Act on Special Measures Concerning Promotion of Utilisation of Electricity from Renewable Energy Sources (the “Renewable Energy Special Measures Act”), which was enacted in May 2023 and came into effect on 1 April 2024, added the provision of prior notification to local residents in surrounding areas as an additional requirement for project planning approval under the FIT (feed-in-tariff)/FIP (feed-in-premium) system. This revised system is expected to have an effect on FIT/FIP certified businesses.
In Japan, the amount of renewable energy produced has increased since the FIT system was launched in 2012. Meanwhile, local residents are becoming increasingly concerned about safety, disaster prevention, landscape and environmental impact, and future waste disposal relating to renewable energy projects, as business operators of different sizes ‒ mainly for solar power generation ‒ have entered the market. In order to address these concerns of local residents, the amended Renewable Energy Special Measures Act has added a requirement that persons seeking business plan accreditation with regard to the FIT/FTP system give prior notification to local residents in surrounding areas (including holding briefing sessions) about their proposed project. There is an exception to this new requirement in certain cases, such as for renewable energy power generation facilities with an output of less than 10 kW.
The amended Renewable Energy Special Measures Act provides that business operators implement these prior notification procedures not only when obtaining a new FIT/FIP business plan accreditation, but also when making changes to important matters in the renewable energy power generation business plan that require change accreditation. Specifically, prior notification to local residents in surrounding areas is required for existing FIT/FIP if:
Notably, the requirement to provide prior notification to local residents in the first two above-listed circumstances has been greatly affecting business operators that plan either to transfer their renewable energy power generation business accredited under the FIT/FIP system, or to acquire a renewable energy power generation business operator, or to otherwise execute transactions related to the ones described in the aforementioned two scenarios. Accordingly, in many cases, business operators seeking to accomplish these types of transactions will be required to provide prior notification to affected local residents.
In giving prior notification to local residents, it will be necessary either to hold a briefing session or to provide a written notification, depending on the output of the renewable energy power generation facility and certain other factors. If the output is 50 kW or more, the business operator will now be obligated to give a briefing session. Therefore, for commercial renewable energy power generation facilities, a briefing session is generally required to be held.
Launch of Long-Term Decarbonisation Power Source Auctions and Increase in Storage Battery Business
The first long-term decarbonisation power source auction was held in January 2024 and the results were released in April 2024. The long-term decarbonisation power source auction is a bidding system introduced to promote new investments in decarbonised power sources in response to various issues, including supply capacity declining owing to the exit of existing power sources and stagnation of new investments, a tight supply-and-demand situation for electricity, and soaring wholesale market prices. The bidding system is implemented for various decarbonised power sources and the successful bidders will be able to earn capacity revenues at the fixed-cost level for 20 years, in principle, thereby providing predictability of long-term revenues.
The long-term decarbonisation power source auctions generally target decarbonised power sources. However, in light of the current shortage of power supply, the capacity tender has been opened for LNG thermal power (which is not a decarbonised power source) and the tender capacity has been limited to a total of 6 million kW for three years from FY 2023. In the first auction round, the bid capacity for decarbonised power sources was 7.805 million kW, which is almost twice the tender capacity of 4 million kW; of this amount, 5.397 million kW was bid for “storage batteries and pumped storage” (4.559 million kW for storage batteries and 838,000 kW for pumped storage) ‒ far exceeding and more than five times the tender capacity of 1 million kW.
For newly installed decarbonised power sources with no maximum tender capacity, on the other hand, the bid capacity was a total of approximately 1.5 million kW (1.316 million kW for nuclear power and 199,000 kW for biomass mono-firing) and the capacity was fully contracted. In addition, for “retrofitting existing thermal power plants (retrofitting for hydrogen and ammonia co-firing)” with the maximum tender capacity of 1 million kW, the bid capacity was 826,000 kW (770,000 kW for ammonia and 55,000 kW for hydrogen) ‒ ie, below the maximum tender capacity ‒ and all bids were successful.
For “storage batteries and pumped storage” with the bid capacity substantially exceeding the maximum tender capacity, the capacity of 1.669 million kW was finally awarded to the bid beyond the maximum tender capacity in accordance with the predetermined rules, following the fact that the bid capacity for certain power sources was below the tender capacity. That is, while the bid capacity for decarbonised power sources other than “storage batteries and pumped storage” remains below the tender capacity, the bid capacity for “storage batteries and pumped storage” (especially storage batteries) is extremely high. Further, the bid capacity of 5.756 million kW for LNG-fired thermal power was fully awarded, resulting in the successful bid for most of the total tender capacity (6 million kW) for three years from FY 2023 in the first auction round.
Based on the first auction results, the Agency for Natural Resources and Energy has been reviewing the system for the second auction round in the System Review Working Group. The interim report released by the Working Group in August 2024 states that the following changes will be made for the second auction round:
As mentioned previously, the successful bidders in the long-term decarbonisation power source auction will be able to earn capacity revenues at a fixed-cost level for 20 years, in principle. It is also expected that project financing will be provided for the winning power source in the long-term decarbonisation power source auction.
Increase in the storage battery business
The storage battery business is growing rapidly, as evidenced by the fact that ‒ in the first auction round of the long-term decarbonisation power source auction ‒ the bid capacity far exceeded the maximum tender capacity. In the storage battery business, electricity purchased from the electricity market is stored, and the difference in price of electricity sold in the electricity market or other processes will be a profit.
When considering project financing, therefore, business operators will face the issue of how to analyse market volatility risk. Currently, there are not many cases of project financing for the storage battery business in Japan. However, it will be easier for successful bidders to consider project financing in the future, as the winning power source enables them to earn the long-term capacity revenues at a fixed-cost level.
Enactment of Hydrogen Society Promotion Act and CCS Business Act
The Act on the Promotion of Supply and Use of Low-Carbon Hydrogen for Smooth Transition to a Decarbonised Growth-oriented Economic Structure (the “Hydrogen Society Promotion Act”) and the Act on Carbon Dioxide Storage Business (the “CCS Business Act”) were enacted in May 2024. These two new laws cover the hydrogen/ammonia business and the carbon dioxide capture and storage (CCS) business, respectively.
Hydrogen Society Promotion Act
The Hydrogen Society Promotion Act aims to facilitate a smooth transition to a decarbonised growth-oriented economic structure by providing support measures for business operators that have the certified plan in order to promptly enhance the supply and use of low-carbon hydrogen. The core of the Hydrogen Society Promotion Act is the plan accreditation system and support scheme for certified business operators (support in addressing price gaps and in developing hubs). Business operators that manufacture or import low-carbon hydrogen in Japan and that use low-carbon hydrogen will be able to receive subsidies from the Japanese government to address the price gap between low-carbon hydrogen and conventional fuels, such as coal and natural gas, and to develop hubs by preparing a low-carbon hydrogen supply business plan and obtaining accreditation under the Hydrogen Society Promotion Act. The Agency for Natural Resources and Energy aims to adopt the first project being supported under this new law by the end of 2024 at the earliest.
In addition to technical issues, business operators will face many challenges for projects that utilise hydrogen and ammonia, including the need to simultaneously commercialise power generation projects on the demand side and build supply chains for hydrogen and ammonia on the supply side. However, it is expected that ‒ by establishing a support scheme under the Hydrogen Society Promotion Act ‒ the stability of business cash flows will be improved, enabling business operators to consider project financing.
CCS Business Act
The CCS Business Act sets out the establishment of a licensing system for exploratory drilling and storage business, business and security regulations for the storage business, and business and security regulations for pipeline transportation among transportation businesses. Under the CCS Business Act, the Minister of Economy, Trade and Industry designates areas where reservoirs exist as specified areas and then selects ‒ through a public tender procedure ‒ business operators that can appropriately conduct storage business and exploratory drilling.
It is expected that the CCS Business Act, by defining a framework for CCS businesses, will promote domestic CCS businesses in the future.
Establishment and Commencement of Operations of GX Acceleration Agency
On 1 July 1 2024, the GX Acceleration Agency (Agency for Acceleration of Transition to Decarbonized Growth-oriented Economic Structure) commenced operation. It was established under the Act on Promotion of a Smooth Transition to a Decarbonised Growth-oriented Economic Structure (the “GX Promotion Act”) ‒ enacted in 2023 ‒ and is intended to provide debt guarantees and other support to business operators that reduce greenhouse gas emissions and contribute to economic growth, as well as to facilitate operations of an emissions trading system.
In August 2024, the GX Acceleration Agency formulated support standards for determining the eligibility of business operators to receive financial support (including debt guarantees) and the details of the support. According to the support standards, projects are eligible to receive support (including debt guarantees) from the GX Acceleration Agency if they meet all five of the following criteria:
For new projects contributing to decarbonisation, such as hydrogen and CCS, there is a concern that a risk may not be eliminated even if the private sector intends to provide funds through project financing. The GX Acceleration Agency is, therefore, expected to support project financing for these new businesses.
Creation of Enterprise Value Charge
In June 2024, the Act on the Promotion of Cash Flow-Based Lending was enacted, and an “Enterprise Value Charge” was created as a means of establishing a new type of collateral.
The Enterprise Value Charge is a new form of security interest that previously did not exist in Japan. It is a security interest that covers the entire property, including intangible assets such as business know-how and customer bases, as well as tangible assets such as real estate. In order to prevent inappropriate use of the Enterprise Value Charge, the security interest holder is limited to business operators that have received a new licence for trust businesses. It is also necessary to establish the security interest by way of the Enterprise Value Charge by entering into a trust agreement in which the obligor (the person granting the security interest) is the settlor and the security interest holder is the trustee (and lenders may become the beneficiary of such security interest holder).
The Enterprise Value Charge has complicated procedures and there are other issues to be addressed, including the need to enter into a trust agreement and the inability to have proceeds distributed or money delivered in a compulsory execution by a third party against the obligor’s individual assets ‒ although an objection may be asserted if compulsory execution would hinder the obligor’s continuation of business. However, there are also advantages to the fact that the obligor can satisfy the requirement for perfection by registering the charge on its commercial register without satisfying the perfection requirement for the establishment of the security interest on the individual assets. These advantages are likely to incentivise the utilisation of the Enterprise Value Charge for project financing in the future. The Act on the Promotion of Cash Flow-Based Lending will come into effect within two-and-a-half years of its enactment, and it is expected that further consideration will be given in practice towards its enforcement.
Public-Private Partnership (PPP)/Private Finance Initiative (PFI)
In June 2024, the Japanese government released the PPP/PFI Promotion Action Plan (2024 revised version). One of the pillars of this plan is to promote “cross-sectoral” project formation, which integrates similar facilities and common operations, as well as “wide-area” project formation, which achieves operational efficiency through co-operation among local governments. The Cabinet Office is conducting a survey and study in order to develop a guide that outlines the key points of cross-sectoral and wide-area PPP/PFI and plans to compile the results in December 2024. Further, the facilities of the Self-Defence Forces (SDF) were designated as a priority area to focus on introducing PPP/PFI. The Japanese government will promote the use of PFI and other means in the relocation and integration of SDF stations and bases.
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