Buying Goods in Japan: What Happens if the Seller Doesn't Own What They're Selling? (Defects in Rights)

When purchasing goods, a buyer rightfully expects to receive not only the physical items but also clear and unencumbered legal rights to them. However, situations can arise where the seller, for various reasons, is unable to transfer the full, promised rights. This issue, distinct from physical defects in the goods themselves, is known in Japanese contract law as a "defect in rights" (kenri no kashi). Understanding how the Japanese Civil Code addresses a seller's liability in such scenarios—particularly when the seller doesn't actually own all or part of what they purport to sell, or when third-party claims restrict the buyer's ownership—is crucial for anyone involved in sales transactions in Japan. This article explores these complex rules, including significant changes brought about by the 2020 amendments to the Civil Code.

I. The Seller's Fundamental Obligation: Transferring Valid Rights

Under Article 555 of the Japanese Civil Code, a sales contract is formed when one party (the seller) promises to transfer a property right to the other party (the buyer), and the buyer promises to pay the purchase price. This fundamental obligation of the seller encompasses more than just the physical delivery of goods; it centrally involves the transfer of the agreed-upon legal rights to those goods. This typically means transferring clear title, free from undisclosed third-party rights or encumbrances that would diminish the buyer's expected enjoyment and control of the property.

When a seller fails to fulfill this obligation to transfer complete and valid rights, it can constitute a breach of contract. Japanese law provides specific remedies for the buyer in such cases, historically categorized under "seller's warranty liability" (kashi tanpo sekinin), with a sub-category for "defects in rights." This liability is generally understood as a specific manifestation of contractual liability, arising from the seller's failure to properly perform their core duty.

II. Sale of Property Belonging Wholly to Another (Taninbutsu Baibai)

One of the most straightforward instances of a defect in rights is when a seller contracts to sell property that, in its entirety, belongs to someone else.

A. Validity of the Contract (Civil Code Article 560)

Perhaps surprisingly to those from some other legal traditions, Article 560 of the Japanese Civil Code explicitly states that a contract for the sale of a right belonging to another person is valid. This means the contract itself is not void from the outset simply because the seller does not own the property at the time of contracting. By entering into such a contract, the seller undertakes a legal obligation to acquire the right from the true owner and then transfer it to the buyer. This rule applies regardless of whether the seller mistakenly believed they owned the property or knowingly entered into a contract to sell something they intended to acquire later. Even if the true owner is absolutely unwilling to part with the property, the sales contract between the seller and buyer remains initially valid, and the seller must endeavor to fulfill it.

B. Seller's Inability to Transfer Rights (Civil Code Article 561, as amended by the 2020 reforms)

If the seller, having entered into a valid contract for the sale of another's property, is ultimately unable to acquire the rights from the true owner and transfer them to the buyer, the seller becomes liable to the buyer. The remedies available to the buyer have been clarified and somewhat streamlined by the 2020 Civil Code amendments.

Buyer's Remedies under the Current Law (Post-2020):

1. Right to Terminate the Contract (Kaijo):
   If the seller cannot transfer the subject matter of the sale, the buyer can terminate the contract. Under the amended Civil Code (which now often refers to general termination rules for these situations, e.g., Article 542 for termination without prior demand if performance is wholly impossible), the buyer’s knowledge (good or bad faith) at the time of contracting that the seller did not own the property is generally irrelevant for the right to terminate. The core issue is the seller's failure to perform the fundamental obligation of transferring the right. A prior demand for performance (saikoku) is typically not required if the transfer is definitively impossible.
2. Right to Claim Damages (Songai Baishō):
   The buyer can also claim damages in accordance with the general rules for default (non-performance) under Article 415 of the Civil Code. This means that if the seller's inability to transfer the rights is due to a cause attributable to the seller (i.e., the seller is at fault), the buyer can seek damages. The scope of damages is typically expectation interest (rikō rieki) – compensation to put the buyer in the position they would have been in had the contract been duly performed. This could include, for example, the difference between the contract price and the market price if the buyer has to procure substitute goods, or lost profits if the buyer was a reseller.It is worth noting that the pre-2020 version of Article 561 explicitly allowed any buyer (good or bad faith) to terminate, but only a good faith buyer (one unaware of the seller's lack of title) could claim damages. The rationale was that a bad faith buyer knowingly assumed the risk. The 2020 reforms shifted towards a more unified approach based on general non-performance principles.
   • Buyer's Knowledge and Damages: Under the reformed system, while the buyer's knowledge of the seller's lack of title at the time of contract generally doesn't preclude termination, its impact on damages would be assessed under the general principles of Article 415. If a buyer knowingly entered a speculative contract aware of the title issues, it might affect the foreseeability or extent of recoverable damages, or potentially lead to arguments of comparative negligence if the buyer's own conduct contributed to the loss. However, the explicit statutory preclusion of damages for a bad faith buyer found in the old Article 561 has been removed, and the matter is now governed by general default rules.

C. Seller's Right to Terminate (Former Civil Code Article 562 - DELETED)

Historically, the former Article 562 of the Civil Code provided a right for a seller who had, in good faith (i.e., without knowing that the right sold did not belong to them), contracted to sell another's property and was subsequently unable to acquire and transfer it, to terminate the contract by compensating the buyer for any damages.

This Article 562 was deleted by the 2020 Civil Code reforms. Now, a seller's inability to perform in such a situation is generally handled under the broader rules of impossibility of performance. If the impossibility is attributable to the seller, the buyer retains their rights to claim damages and/or terminate under general default rules. If the impossibility is not attributable to the seller, issues of risk allocation (primarily governed by Article 536, which generally extinguishes the counter-obligation if performance becomes impossible without fault of either party) would come into play, or the buyer might still have termination rights if the fundamental purpose of the contract is frustrated. The seller no longer has a specific statutory pathway to terminate by simply paying damages in this scenario.

III. Sale of Property Partially Belonging to Another or Deficient in Quantity (Civil Code Article 563, as amended)

This situation covers cases where, for example, a seller sells a defined quantity of goods (or a plot of land of a specific area), but can only transfer rights to a lesser quantity or area because part of it belongs to a third party, or simply because the promised quantity does not exist. The 2020 reforms significantly restructured how these issues are handled, moving away from the old distinctions based heavily on the buyer's good or bad faith.

Current Law (Post-2020 New Article 563):

The amended Article 563 now provides a more streamlined approach when the seller cannot transfer the full agreed-upon quantity or part of the subject matter:

1. Buyer's Right to Demand Full Performance (Cure of Deficiency) (New Art. 563(1) referring to Art. 562 principles): The buyer can first demand that the seller fulfill the contract with respect to the deficient part (i.e., acquire and transfer the missing rights or quantity) within a reasonable period specified by the buyer. This is part of the broader remedy of demanding "cure" or "remedial action" for non-conforming goods/rights.
2. Right to Demand Price Reduction (New Art. 563(2)):
   • If the seller fails to provide full performance regarding the deficiency within the reasonable period set by the buyer.
   • If such full performance is impossible from the outset.
   • If the seller clearly refuses to provide full performance.
   • If, given the nature of the contract or other circumstances, the contractual purpose cannot be achieved unless full performance is made by a specific time, and that time has passed.
   • If, even if the buyer were to demand full performance, it is clear from the circumstances that the seller will not perform.
     In these cases, the buyer can demand a reduction in the purchase price proportionate to the extent of the deficiency in the rights or quantity. The buyer's knowledge (good or bad faith) regarding the deficiency at the time of contracting is generally irrelevant for exercising this right to demand a price reduction.
3. Right to Terminate the Contract (New Art. 563(3) referring to general termination rules like Art. 541 and 542):
   If, due to the partial inability to transfer rights or the quantity shortage, the fundamental purpose of the contract cannot be achieved by the performance of the remaining part, the buyer may terminate the entire contract. The buyer's knowledge at the time of contract generally does not preclude this right, though the general conditions for termination (which may or may not require a prior demand for performance, depending on the circumstances outlined in Articles 541 and 542) must be met.
4. Right to Claim Damages (New Art. 563(4) referring to general default rules like Art. 415):
   The buyer can claim damages in accordance with the general rules governing default (Article 415). This typically requires that the seller's failure to transfer the full rights or quantity is due to a cause attributable to the seller (fault).

Time Limits for Buyer's Claims (Civil Code Article 566, as amended):
For defects in rights or quantity shortages in sales (not involving sales to consumers where the Consumer Contract Act might provide different rules), if the seller was unaware of the defect/shortage at the time of delivery, the buyer must notify the seller of the defect or shortage within one year from the time the buyer became aware of it. If the seller was aware of the defect/shortage at the time of delivery, this one-year notification requirement does not apply to restrict the buyer. This notification is generally a prerequisite for exercising remedies such as demanding cure, price reduction, or damages. The ultimate period for bringing a legal action would be governed by the general statute of limitations for contractual claims (e.g., 5 years from when the buyer is able to exercise the right, or 10 years from when the right could be exercised, under Article 166).

This is a significant change from the pre-2020 law (old Articles 563, 564, and 565 for quantity shortages), where the buyer's remedies (price reduction, termination, damages) and the one-year time limit for exercising them (from knowledge for a good faith buyer, or from the time of contract for a bad faith buyer for price reduction in some cases) were more rigidly tied to the buyer's good or bad faith at the time of contracting.

IV. Sale of Property Subject to Restrictive Third-Party Rights (e.g., Usufruct, Easement, Registered Lease)

This category deals with situations where the property sold is burdened by a third-party right that restricts the buyer's full ownership or use, such as a usufruct, a servitude (easement), a registered leasehold that is opposable to the buyer, or other similar encumbrances.

Current Law (Post-2020 - primarily addressed under the broader "Non-Conformity" regime, with specific reference in new Article 565 for certain cases):

The 2020 reforms have largely integrated the handling of such defects in rights into the general framework for "non-conformity of the subject matter with the contract" (Articles 562 et seq.). If the existence of such an encumbrance means that the property transferred does not conform to the terms of the sales contract (e.g., the contract implied or stated that the property would be free from such burdens), the buyer generally has the following remedies:

1. Demand for Cure/Remedial Action (New Art. 562): The buyer can request the seller to take remedial action, such as by removing the encumbrance (e.g., by terminating the lease or extinguishing the easement, if possible).
2. Price Reduction (New Art. 563): If cure is not provided within a reasonable time, or is impossible, the buyer may demand a price reduction.
3. Damages (Art. 415): The buyer can claim damages if the non-conformity is due to a cause attributable to the seller.
4. Termination (Art. 541, 542): If the non-conformity is significant enough to frustrate the purpose of the contract, the buyer may terminate the contract.

The buyer's knowledge of the encumbrance at the time of contracting is a crucial factor. If the buyer was aware of and accepted the property subject to the encumbrance, they generally cannot later claim non-conformity based on that specific encumbrance. The one-year notification period under Article 566 (from awareness of the non-conformity) also applies, unless the seller knew of the encumbrance at the time of delivery.

The pre-2020 law (old Article 566) was more restrictive: only a buyer in good faith (unaware of the encumbrance) could claim damages or, if the contract's purpose was thereby frustrated, terminate. Price reduction was not an available remedy for this category of defect. A one-year limitation from the time of discovering the defect applied.

V. Sale of Property Subject to Security Interests (e.g., Mortgage, Pledge) Leading to Loss of Ownership (Civil Code Article 567)

Article 567 specifically addresses the situation where the property sold is subject to a pre-existing security interest (such as a mortgage, pledge, or statutory lien), and as a result of the enforcement of that security interest, the buyer subsequently loses ownership of the property. This provision has been largely retained through the 2020 reforms due to the specific and severe consequence it addresses.

Buyer's Remedies under Article 567:

• Right to Terminate the Contract: The buyer can terminate the sales contract. This right is available irrespective of whether the buyer was in good or bad faith regarding the existence of the security interest at the time of contracting. No prior demand (saikoku) is necessary.
• Claim for Reimbursement of Expenses: If the buyer expends their own funds to discharge the secured debt to preserve their ownership (e.g., by paying off the mortgage), they can demand reimbursement of these expenses from the seller.
• Claim for Damages: The buyer is also entitled to claim damages from the seller.

If a security interest merely exists on the property but has not been enforced in a way that causes the buyer to lose ownership, the situation would typically be treated as a non-conformity under the general rules (e.g., new Article 565), allowing the buyer to demand its removal or seek other remedies. Article 567 is triggered by the actual loss of ownership due to the security interest's exercise.

VI. Sale of Claims (Receivables) and Seller's Warranty for Debtor's Solvency (Civil Code Article 569)

When a claim or receivable (e.g., a debt owed by a third party to the seller) is itself the subject of a sale:

• The seller implicitly warrants the existence of the claim at the time of the sale. If the claim does not exist (e.g., it was already extinguished or was fictitious), the seller is liable.
• However, the seller generally does not warrant the solvency (shiryoku) of the debtor of the claim unless they have specifically agreed to do so (a "warranty of solvency").
• If the seller does provide a warranty of solvency by special agreement (Article 569):
  • It is presumed to be a warranty of the debtor's solvency at the time the contract for the sale of the claim was made (Article 569, Paragraph 1).
  • If the claim sold is not yet due at the time of the sale, and the seller warrants the debtor's future solvency, it is presumed to be a warranty of solvency at the time of maturity of the underlying claim (Article 569, Paragraph 2).
    If the debtor proves to be insolvent at the relevant time, the seller who gave the warranty will be liable to the buyer for damages.

VII. Conclusion

Japanese law provides a detailed, albeit historically complex, framework for addressing "defects in rights" when a seller is unable to transfer the full and unencumbered rights to property as agreed in a sales contract. The sweeping 2020 amendments to the Civil Code have significantly modernized and streamlined many of these rules. The trend has been to move away from rigid distinctions based on the buyer's good or bad faith for certain remedies like price reduction and termination, and towards a more unified concept of "non-conformity of the subject matter with the contract," where remedies include demanding cure, price reduction, termination, and damages (the latter generally requiring seller's fault).

Specific provisions for more drastic scenarios, like the sale of another's property or loss of ownership due to existing security interests, continue to provide clear pathways for buyer protection. For businesses involved in sales transactions in Japan, whether as buyers or sellers, a nuanced understanding of these obligations and remedies, especially in light of the recent legal reforms, is indispensable for managing risk and ensuring contractual expectations are met.