As we receive many inquiries regarding the formation of Real Estate Funds, let’s explain the application of regulations in this regard.
Real Estate Funds cannot be structured solely by the Type II Financial Instruments Business.
There are several hurdles to realize the fund’s establishment.
Although our office does not support the Specified Joint Real Estate Ventures License applications, we provide explanations of the Specified Joint Real Estate Ventures License for the purpose of explaining the regulatory system.
Investment Funds targeting Physical Real Estate Assets
Specified Joint Real Estate Ventures
In principle, investment funds that engage in buying and selling or leasing real estate as their business objective cannot be structured even if they are registered as a Type II Financial Instruments Business.
As these projects fall under the category of Specified Joint Real Estate Ventures, it is necessary to undergo the following procedures related to Specified Joint Real Estate Ventures for the Ministry of Land, Infrastructure, Transport and Tourism (MLIT).
To engage in Specified Joint Real Estate Ventures, in principle, it is generally required to obtain permission as one of the following entities, depending on the business content:
Type 1 Operator: Fund Manager (managing own fund as a member of the fund’s executive committee or salesperson)
Type 2 Operator: Acting as an agent or intermediary in the entering into contracts
Type 3 Operator: Real estate operation for Special Enterprise
Type 4 Operator: Acting as an agent or broker in the entering into contracts for a Special Enterprise
These entities are required to obtain permission as per the regulations.
In addition, the Type4 operators are also required to be registered as Type II Financial Instruments Business Operator.
This is because under Article 2, Paragraph (2), Item (v), (c) of the Financial Instruments and Exchange Act, “as defined in Article 2, Paragraph (3) of the Act on Real Estate Specified Joint Enterprises (Act No. 77 of 1994), rights based on a real estate specified joint enterprise contract (excluding those concluded with a special business operator prescribed in paragraph (9) of Article 2 of the same Act) shall not be regarded as securities under the Financial Instruments and Exchange Act.
| Types of Operator | Types of Licenses and Permits | Capital Regulation | Limitation | Target Client |
|---|---|---|---|---|
| Type 1 Operator | Permission | JPY 100 million | N/A | |
| Type 2 Operator | Permission | JPY 10 million | N/A | |
| Type 3 Operator | Permission | JPY 50 million | Same as Special Enterprises | |
| Type 4 Operator | Permission | JPY 10 million | Same as Special Enterprises | |
| Small-Scale Specified Joint Real Estate Ventures | Registration | JPY 10 mill | The total amount is JPY 100 million, and each individual’s amount is below JPY 1 million (JPY 100 million for Qualified Investors). | |
| *The amount deducting the total liabilities from each of the aforementioned total assets needs to meet the net asset requirement equivalent to 90% of the capital or contributed amount, | ||||
| Special Enterprise | Notification | Limited to Professionals Investors in certain schemes | ||
| Special Business Activities for Qualified Institutional Investors-only | Notification | Limited to Super Professionals Investors | ||
Therefore, the Type4 operator business, which involves acting as an agent or broker ‘in the entering into contracts with a Special Enterprise’ for transactions not excluded under this provision, shall be Type Ⅱ Financial Instruments Business as an agent or broker for deemed securities.
By submitting this SPC notification, it is no longer necessary to obtain a Specified Joint Real Estate Ventures license for the SPC itself by entrusting the business to the Type3 and Type4 business operators.
For smaller funds, there is also a method to obtain registration for a Small-Scale Specified Joint Real Estate Ventures.
In addition, filing a notification for the Special Business Activities for Qualified Institutional Investors-only for advanced professionals is a method that does not require approvals or registrations for Specified Joint Real Estate Ventures.
To engage in Specified Joint Real Estate Ventures, regardless of whether it involves permission and registration, or notification, there is a review process that needs to be undertaken, and the review period can be lengthy.
Obtaining a license requires professionals with a background in real estate asset management and enough capital.
Specific Purpose Companies (TMK)
Instead of structuring a fund as a Specified Joint Real Estate Ventures, there is also a method of establishing a Special Purpose company (TMK: Tokutei Mokuteki Kaisha) under the Act on Liquidation of Assets.
TMK is incorporated by the fund itself and may issue pass-through shares (preferred investments, etc.) and corporate bonds (specified bonds, etc.).
However, there are considerable hurdles when it comes to the structuring of TMK arrangements.
It is necessary to submit a business commencement notification, and preparation such as a liquidation plan is required.
In practice, the structuring involves the involvement of the asset manager who is responsible for the management and the securities company in charge of the sales. Therefore, it is necessary to establish the structure under the involvement of a substantial amount of securitization and financial institutions.
Investment Fund in Real Estate Beneficially owned by Trust
GKTK Scheme
Funds that aim to acquire beneficial interest in trust by entrusting real estate to trust banks or similar entities can be sold by Type II Financial Instruments Business operator.
However, it is insufficient to establish real estate funds only by Type II Financial Instruments Business operator.
That’s because trust beneficiary interests are considered securities, so they primarily fall under the operation of funds that primarily invest in securities. Therefore, to operate such funds, the investment management business registration(real estate-related specific investment management business) is necessary.
This method is called GK/TK, and is one of the most common techniques used in real estate securitization.
On the other hand, since it is necessary to register as an Investment Management Business and a Type II Financial Instruments Business operator, there are regulatory hurdles that are just as challenging as obtaining permission for real estate specific joint ventures.
Investment management businesses are required to maintain a minimum capital stock and net assets of JPY 50 million, and it is necessary to retain a number of experienced professionals in the field of real estate asset management.
It is also necessary to register as a comprehensive real estate investment adviser.
There is also a method in which management is entrusted to an outside Investment Management Business Operator and solicitation to a Type II Financial Instruments Business Operator, while the company itself is registered as an investment advisory and agency business Operator, providing only investment advisory services. This allows for partial involvement in the management function of real estate securitization.
In this case, the ultimate investment decision is the responsibility of the external investment management company, but it is possible to receive management fees, incentive fees, etc. as an Investment Advisory and Agency business Operator.
Regulatory Relaxation when limiting Investors to Professional Investors
For funds investing in real estate through trust beneficiary interests, instead of registering as the Investment Management Business and the Type II Financial Instruments Business, it is possible to utilize the Specially Permitted Businesses for Qualified Institutional Investors, etc. (SPBQII) when dealing with a small number of professionals or semi-professional investors.
For details on Special Business Activities for Qualified Institutional Investors, please refer to this section.
The scope of special Business Activities for Qualified Institutional Investors, etc. is limited to self-private placement and self-management.
Therefore, offering of funds must be conducted by oneself or entrusted to a brokerage under a Type II Financial Instruments Business Operator, and the management of the fund must be conducted by oneself or entrusted to an Investment Management Business Operator.
Alternative methods for Real Estate Investment
As described above, the establishment of so-called “real estate funds” requires a thorough internal preparation and the completion of permit and registration procedures.
As an alternative method to “funds,” if the number of investors appears to be limited to a small number of families, considering a private placement of small-scale corporate bonds could be feasible.
Although it is not permissible to solicit many unspecified investors due to the risk of violation of the Investment Act, it is possible to raise funds for real estate acquisition through the issuance of corporate bonds without the need for permit and registration procedures of licenses.
