As part of the Japanese government's ongoing efforts to promote foreign direct investment ("FDI") in Japan, the Ministry of Economy, Trade, and Industry ("METI") and the Financial Services Agency ("FSA") have announced plans to introduce measures to promote the onshore bond market for Japanese issuers. The proposal would expand the exemption from Japanese withholding tax on onshore issuances to include corporate bonds and reduce the burden of the procedural requirements for obtaining the exemption.

In the case of onshore issuances, only Japanese Government Bonds ("JGBs") issued by the national government and bonds issued by local Japanese governments are currently exempt from the Japanese withholding tax of 15% that generally applies to interest on debt of Japanese issuers. In addition, the procedures for obtaining the exemption, especially in the case of local government issuers, require that the Qualified Foreign Intermediary ("QFI") and relevant foreign investors submit documents to verify their status with respect to each issuance. With some 60-800 types of issuances, such a requirement has proved quite burdensome and is said to have inhibited foreign investor interest in Japan's municipal and soevereign bond markets.

Under the proposals, the tax exemption for onshore bond issuances would be expanded to corporate issuers, in addition to Japanese national and local governments. However, it is unclear whether the tax exemption would apply to profit-linked notes or non-publicly traded bonds (i.e., bonds not listed on an exchange or issued by an issuer that does not maintain continuous disclosure with respect to its securities). In addition, the procedural requirements would be simplified to basically allow QFIs and investors to make a one-time application to certify their eligibility for the tax exemption, instead of having to do so with respect to every issuance.

Historically, Japanese companies have obtained the bulk of their financing either from the equity markets or domestic banks. As a result, the global market for bonds of Japanese issuers has remained sporadic and largely illiquid. The proposal would allow Japanese corporations the option of issuing debt domestically, rather than having to go to the Eurobond market (for which only a limited group of issuers are eligible) or of having to obtain financing from domestic banks. METI and FSA's hope appears to be to significantly expand the global market for yen-denominated debt and debt financing for Japanese issuers.

If adopted, it is anticipated that the proposed changes will take effect beginning at the start of the next fiscal year on April 1, 2010. However, it is unclear whether or how the change in government brought about by Sunday's general election may affect the proposals and their implementation.

The Tokyo Financial Services Group is tracking this important development and will be updating this alert periodically as progress on the proposals occurs.

Tokyo Financial Services Group

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