Detailed Explanation on the Repayment of Contributions in Limited Liability Companies under Japanese Corporate Law

In Japan, the Limited Liability Company (LLC), as defined under Japanese Corporate Law, has seen an increase in utilization across various business entities in recent years due to its more flexible organizational design and operation compared to a stock corporation. One key aspect of this flexibility is the ‘capital contribution refund’ system, which allows members to request a return of all or part of their invested capital while maintaining their status within the company. In contrast, stock corporations are subject to the ‘principle of capital maintenance’ to protect creditors, which generally prohibits shareholders from directly demanding the return of their contributions from the company. Shareholders recover their invested capital by transferring their shares to third parties. However, the capital contribution refund in an LLC provides an alternative means for members to recover capital, but it is not granted without limitations. This system is subject to very strict procedural discipline under Japanese Corporate Law to balance the interests of the members with the protection of the company’s creditors. This article will provide a detailed explanation of the legal framework for capital contribution refunds in LLCs under Japanese Corporate Law, covering the requirements, specific procedures, and legal liabilities in case of procedural violations, based on the provisions of the law.

The Legal Definition and Significance of Capital Contribution Refunds in Japanese LLCs

Article 624, Paragraph 1 of the Japanese Companies Act stipulates that members of a partnership company can request a refund of capital contributions already made to the company. This “refund of capital contributions” refers to an act where a member of a Japanese LLC seeks the return of all or part of the property, such as money, they have contributed in the past, without losing their status as a member. This concept is distinctly different from the “refund of interest upon withdrawal” (Japanese Companies Act Article 611), which is the return of the full assessed value of one’s share when leaving (withdrawing from) the company.

The source of funds for the refund of capital contributions is not the profit distribution from the company’s earnings but the capital itself that the member has contributed. Specifically, it is paid from the accounts of capital stock or additional paid-in capital on the company’s balance sheet. The rationale behind this system is deeply related to the nature of an LLC’s interest. Unlike the shares of a stock corporation, an LLC’s interest generally lacks marketability, and its transfer often requires the consent of other members, resulting in significantly low liquidity. Therefore, LLC members cannot easily adopt an exit strategy like shareholders who sell their shares on the stock market to recover their invested capital. The capital contribution refund system functions as an important mechanism to legally ensure that members of such a closed and personal union-based LLC have the opportunity to recover their invested capital.

Two Key Legal Requirements Governing the Repayment of Contributions Under Japanese Corporate Law

The repayment of contributions is a right of the shareholders, but it also reduces the financial foundation of the company, necessitating the protection of the interests of the company’s creditors. Therefore, Japanese Corporate Law imposes two strict legal requirements for executing the repayment of contributions.

First Requirement: Reduction of Contribution Amount through Amendment of the Articles of Incorporation

First and foremost, as a critical precondition, Article 632, Paragraph 1 of the Japanese Corporate Law stipulates that members of a joint-stock company cannot demand the repayment of contributions unless the amount of their contributions is reduced through an amendment to the articles of incorporation. This means that the repayment of contributions is not merely a financial transaction between the member and the company but an official act of organizational law involving a change to the articles of incorporation, which are the fundamental rules of the company.

According to Article 637 of the Japanese Corporate Law, as a general rule, the amendment of the articles of incorporation of a joint-stock company requires the consent of all members. However, this requirement can be relaxed by making a special provision in the articles of incorporation. This principle of requiring the consent of all members gives significant governance implications to the act of repaying contributions. Even if one member wishes to have their contributions repaid, the prerequisite amendment to the articles cannot be made without the consent of all other members, effectively giving each member a veto right over the capital withdrawal of others. This mechanism functions as a strong protective measure to prevent a few members from unilaterally changing the company’s capital structure and harming the interests of other members, especially minority shareholders.

Second Requirement: Financial Source Regulation and Surplus Funds Limitation

Secondly, even after fulfilling the procedural requirement of amending the articles of incorporation, there is a strict upper limit on the amount that can be repaid, based on the company’s financial situation. Article 632, Paragraph 2 of the Japanese Corporate Law states that the book value of the money or other assets to be distributed to the members as a result of the repayment of contributions (the repayment amount) cannot exceed the lesser of the following two amounts:

1. The amount of surplus funds of the company on the day the repayment of contributions is requested
2. The reduced amount of the member’s contribution due to the amendment of the articles of incorporation

The term “surplus funds” here is not simply “capital surplus + profit surplus” but is calculated according to the methods prescribed by the company accounting regulations (refer to Article 632, Paragraph 2 of the Corporate Law). These dual restrictions are core regulations for ensuring creditor protection and fairness among members. Limiting to the surplus funds amount aims to prevent a situation where the company’s net assets fall below the amount of the capital stock (so-called capital impairment) due to the repayment, thereby maintaining the financial foundation of the company and protecting all company creditors. On the other hand, limiting to the reduced amount of the contribution as stipulated in the articles of incorporation ensures that the financial act of repayment precisely corresponds to the act of organizational law involving the amendment of the articles, playing a role in preventing the outflow of assets to specific members without a basis in the articles of incorporation.

Specific Procedures for Reducing the Amount of Capital Stock

Decision to Reduce Capital

When the capital contribution subject to repayment is accounted for as “capital stock” on the books, the procedure becomes more complex. In this case, the repayment of the contribution involves a procedure known as “reduction of the amount of capital stock” (capital reduction), based on Article 626 of the Japanese Companies Act. The capital reduction process for a Limited Liability Company (LLC) is designed with creditor protection as the top priority and requires the following strict steps.

First, unless otherwise provided in the articles of incorporation, the decision to reduce capital is made by a majority of the managing members.

Next, the most important and time-consuming procedure is the “creditor protection procedure” stipulated in Article 627 of the Japanese Companies Act. This procedure provides creditors, whose ultimate security is the company’s capital, with an opportunity to object to the reduction. Specifically, the company must take the following measures:

Official Gazette Announcement

The company must announce in the Official Gazette of Japan that it is reducing the amount of capital stock and that creditors have a certain period of at least one month to object. Furthermore, if “the amount of the distribution exceeds the amount calculated as the net assets of the LLC according to the method prescribed by the Ministry of Justice,” the period extends to at least two months, and the announcement in the Official Gazette cannot be omitted (Article 635, Paragraph 2, Proviso and Paragraph 3). An example of the announcement is as follows:

Announcement of Reduction of Capital Stock
Our company has decided to reduce the amount of capital stock by ●● million yen. Creditors who object to this decision must come forward within one month from the day following the publication of this notice.
Reiwa (Gregorian calendar year) ●● Year ●● Month ●● Day
Chuo-ku, Ginza ●-chome ●-ban ●-go
LLC ●●●●
Representative Member Taro Shiodome

Individual Notice

In addition to the Official Gazette announcement, the company must send a notice with the same content individually to all known creditors. However, if a company has specified a method of announcement other than the Official Gazette in its articles of incorporation (such as publication in a daily newspaper or electronic announcement) and makes such an announcement in addition to the Official Gazette (so-called double announcement), it is permitted to omit this individual notice.

Objections by Creditors

If a creditor raises an objection, the company cannot proceed with the capital reduction unless it settles the debt, provides adequate security, or entrusts sufficient property to a trust company or similar entity for the purpose of settlement.

Effectiveness of Capital Reduction

Unlike a joint-stock company, the effectiveness of an LLC’s capital reduction does not occur on a date arbitrarily set by the company. Article 627, Paragraph 6 of the Japanese Companies Act stipulates that the effectiveness arises on the day when all creditor protection procedures have been completed. This usually refers to the time when the period for creditors to raise objections has expired, and all responses to objections have been finalized. After the effectiveness occurs, the company must register the change in the amount of capital stock with the Legal Affairs Bureau. This series of public and time-consuming procedures effectively discourages LLCs from frequently changing their capital stock. Thus, through procedural burdens rather than absolute legal prohibitions, a different approach from that of joint-stock companies is taken to ensure the stability of capital.

Comparing Capital Systems of Stock Corporations and Limited Liability Companies in Japan

To gain a deeper understanding of the unique personalityistics of the capital return system of a Japanese Limited Liability Company (LLC), it is effective to compare it with the capital system of a Japanese Stock Corporation. In a Stock Corporation, the ‘principle of capital maintenance’ is strictly applied to secure the company’s assets and protect creditors. This principle dictates that the capital contributed by shareholders at the time of the company’s establishment must be maintained as the financial foundation of the company and, in principle, must not be returned to the shareholders. The main method for shareholders to recover their invested capital is by selling their shares to a third party.

In contrast, the system for an LLC can be described as ‘procedurally flexible.’ Capital returns are possible, but they require clearing multiple layers of procedures, including the consent of all members, funding regulations within the scope of surplus funds, and strict creditor protection procedures when there is a decrease in capital. This difference reflects the distinct organizational personalityistics of the two entities. The table below summarizes the main differences in the capital systems of both entities.

Legal Consequences of Procedural Violations: The Responsibility of Executing Officers Under Japanese Corporate Law

The stringent procedures for the repayment of contributions as defined by the Japanese Companies Act are supported by a robust enforcement mechanism to ensure compliance. At the heart of this is the responsibility of executing officers, as stipulated in Article 636 of the Japanese Companies Act.

This provision states that if a joint-stock company violates the capital regulations (Article 635 of the Japanese Companies Act) by repaying a shareholder’s contribution, the officers who executed the repayment are jointly and severally liable to the company for the illegally repaid amount, along with the shareholder who received the repayment. This liability extends not only to the company but also to the personal assets of the executing officers.

Particularly noteworthy is the shift in the burden of proof regarding this responsibility. That is, executing officers cannot escape liability unless they prove that they were not negligent in performing their duties. This is known as the “presumption of negligence,” and it represents a significant burden for the executing officers. Moreover, this obligation cannot be waived in principle, and even with the consent of all shareholders, exemption is only allowed up to the amount of surplus funds available at the time of the illegal repayment—a strict limitation. This provision of personal liability serves as the final bulwark to ensure the effectiveness of the creditor protection system. Executing officers who make management decisions are strongly motivated to ensure that legal procedures are fully complied with when repaying contributions, playing a crucial role in preventing the easy outflow of capital.

Summary

The system for the repayment of contributions in a Japanese LLC (Godo Kaisha) under Japanese Corporate Law provides flexibility for members to recover their invested capital. However, the exercise of this system is subject to very strict legal discipline. The procedures consist of multiple stages, including the amendment of the articles of incorporation requiring the consensus of all members, regulations to maintain the financial foundation of the company, and, if it involves a reduction in the stated capital, creditor protection procedures that are time-consuming and costly. Neglecting any of these procedures can render the repayment illegal, and the managing members involved may incur significant personal liability to the company. Therefore, when considering the repayment of contributions, it is essential to understand the provisions of the Corporate Law accurately and proceed with the procedures cautiously.

Monolith Law Office boasts a wealth of experience in Japanese corporate legal affairs and provides specialized legal services to a wide range of clients, both domestic and international. We possess deep knowledge and experience in complex capital structure changes, including the establishment and operation of LLCs, as well as procedures for the repayment of contributions and capital reduction. Our firm employs several English-speaking professionals with foreign legal qualifications, ensuring that our clients can fully comply with Japanese regulations and achieve their strategic goals through smooth communication, even in the context of international business.