Interest on Claims in Japan: How Are Agreed Interest, Statutory Interest, and the Interest Restriction Act Regulated?

When dealing with monetary claims and obligations in Japan, the rules governing interest can significantly impact the final amounts due, whether in commercial lending, trade credit, or damages for late payment. Japanese law provides a framework that addresses interest agreed upon by parties (yakujo-risoku), interest set by statute (hotei-risoku), and crucially, imposes strict limits on interest rates through the Interest Restriction Act (Risoku Seigen Ho) to protect borrowers. This article explores these key aspects of interest regulation in Japan.

Fundamental Concepts of Interest in Japanese Law

At its core, "interest" (risoku 利息) in the Japanese Civil Code generally refers to a return on capital – a charge for the use of money or other fungible goods, calculated based on the principal amount, the period of use, and an agreed or statutory rate.

It is essential to distinguish this true "interest" from other concepts that sometimes use similar terminology:

• Default Interest / Damages for Delay (Chien-Songaikin 遅延損害金 or Chien-Risoku 遅延利息): When a monetary obligation is not performed by its due date, the damages payable for this delay are often calculated as a percentage of the overdue amount. While referred to as "default interest," this is legally characterized as damages for non-performance (Japanese Civil Code Art. 419, Para. 1), not interest in the sense of a return on capital. Its primary purpose is to compensate the creditor for the loss caused by the delay.
• Intermediate Interest (Chukan-Risoku 中間利息): This term arises in the context of calculating lump-sum damages for future losses, such as lost future income in personal injury cases. The future loss is discounted to its present value by deducting "intermediate interest" to account for the early receipt and potential for investment of the lump sum (Japanese Civil Code Art. 417-2, Art. 722, Para. 1). The rate used for this deduction is the statutory interest rate.

Fees such as credit card annual fees, arrangement fees for syndicated loans, or other service charges are generally not considered interest, though the Interest Restriction Act has specific rules on what can be "deemed" interest, as discussed later.

Agreed Interest (Yakujo-Risoku 約定利息)

Parties to a contract, particularly a loan agreement (kinsen shohi taishaku 金銭消費貸借 – a loan for consumption), are generally free to agree on an interest rate. This reflects the principle of freedom of contract. However, this freedom is not absolute and is significantly constrained by public policy and, most importantly, by the maximum rates set forth in the Interest Restriction Act. If an agreement provides for interest but does not specify a rate, the statutory interest rate will apply (Japanese Civil Code Art. 404).

Statutory Interest (Hotei-Risoku 法定利息)

The Japanese Civil Code provides for a statutory interest rate (hotei-riritsu 法定利率) that applies in several situations:

• When an interest-bearing obligation exists but no rate has been agreed upon by the parties.
• When specific legal provisions mandate the accrual of "statutory interest" (e.g., on reimbursement claims between joint and several obligors under Art. 442, Para. 2).
• As the default rate for calculating damages for delay in the performance of monetary obligations, if no specific (and higher) contractual default interest rate has been agreed (Art. 419, Para. 1).
• As the discount rate for calculating intermediate interest (Art. 417-2).

The Variable Statutory Interest Rate (Japanese Civil Code Art. 404)

A significant change brought about by the 2017 amendments to the Civil Code (effective April 1, 2020) was the introduction of a variable statutory interest rate.

• Initial Rate and Review Mechanism: The initial statutory interest rate was set at 3% per annum. This rate is subject to review every three years. The Minister of Justice will announce a "base rate" (kijun-wariai 基準割合), calculated from the average short-term lending rates of banks over the preceding five years (specifically, from the January of the year six years prior to the start of the review period to the December of the year two years prior).
• Adjustment Rule: If the newly calculated base rate differs from the base rate applicable during the last period when the statutory rate was changed (or the initial base rate if no change has occurred) by 1% or more, the statutory interest rate will be adjusted by that percentage difference (rounded down to the nearest full percentage point). This system aims to keep the statutory rate broadly aligned with prevailing market conditions while avoiding overly frequent or minor adjustments.
• Abolition of Separate Commercial Rate: The 2017 reforms also abolished the separate, higher statutory interest rate (formerly 6% p.a.) that applied to commercial obligations under the Commercial Code. The Civil Code's variable rate now applies uniformly unless specific laws provide otherwise.

Determining the Applicable Statutory Rate in Specific Contexts

Crucially, when the statutory rate applies, it does not fluctuate throughout the life of a particular interest calculation. The rate is fixed based on the statutory rate in effect at a specific point in time:

• For true interest on a claim: The rate is that which was in effect at "the time the first interest accrued" on that principal claim (Art. 404, Para. 1). This means the rate is locked in for that claim, regardless of subsequent changes to the general statutory rate.
• For default interest (damages for delay): The rate is that in effect at "the time the debtor first became responsible for the delay" (Art. 419, Para. 1).
• For intermediate interest deduction: The rate is that in effect at "the time the claim for damages arose" (e.g., the time of the tortious act for tort claims, or the time of breach for contract-based future loss claims) (Art. 417-2).

Compound Interest (Juri 重利)

"Compound interest" refers to interest on interest. Agreements for compound interest are generally valid in Japan, provided they do not violate public policy or the limits imposed by the Interest Restriction Act.
Article 405 of the Civil Code also provides a statutory mechanism for limited capitalization of interest: if interest for one year or more is in arrears, and the debtor fails to pay such interest despite a demand from the creditor, the creditor may add the interest to the principal. This is a right of capitalization by unilateral declaration. This statutory compounding is generally understood to apply to contractual interest on loans for consumption, and by analogy to default interest in such loans, but its application to default interest on other types of claims (e.g., tort damages) is considered inappropriate by many scholars.

The Interest Restriction Act (Risoku Seigen Ho 利息制限法): A Detailed Examination

The Interest Restriction Act (Act No. 100 of 1954, as amended) is a cornerstone of borrower protection in Japan, imposing strict ceilings on interest rates for monetary loans.

Purpose and Scope

The primary purpose of the Act is to prevent usurious lending by setting maximum permissible interest rates for "monetary loans for consumption" (kinsen o mokuteki to suru shohi taishaku 金銭を目的とする消費貸借). This generally means loans where money is borrowed with the intention of consuming it and returning an equivalent amount. The Act's protections are particularly relevant for consumer loans but also apply to business loans if they fit the definition of a loan for consumption. It does not typically apply to interest in other commercial contexts like overdue trade payables (unless these are novated into a loan) or interest components in lease finance charges.

Maximum Interest Rates (Article 1)

The Act stipulates maximum annual interest rates based on the principal amount of the loan:

• For principal amounts less than ¥100,000: 20%
• For principal amounts of ¥100,000 or more but less than ¥1,000,000: 18%
• For principal amounts of ¥1,000,000 or more: 15%

"Deemed Interest" (Minashi-Risoku) (Article 3)

To prevent circumvention of the rate caps, Article 3 of the Act provides that any money paid by the debtor to the lender in connection with a loan, other than the principal repayment, is deemed to be interest, regardless of its nominal description (e.g., fees, commissions, discounts, survey charges, etc.). However, genuine costs for executing the loan contract or for the debtor's performance (e.g., stamp duty, actual costs of remittance if borne by debtor) are excluded from this deemed interest rule. There are also specific exceptions for "business monetary loans for consumption" (eigyo-teki kinsen shohi taishaku) regarding certain fees (see memo 12 in the reference text).

Consequences of Exceeding Maximum Rates

1. Excess Portion is Void: Any portion of an agreed interest rate that exceeds the maximums stipulated by the Interest Restriction Act is legally void (Article 1). The loan contract itself remains valid, but only up to the permissible interest rate.
2. Recovery of Overpayments: If a borrower has paid interest exceeding the legal limits, they are entitled to have the excess amount applied first to any outstanding principal. If the principal has already been fully repaid, the borrower can claim the return of the excess interest paid as unjust enrichment (futo-ritoku). This principle was firmly established by the Supreme Court through a series of landmark decisions that effectively nullified a previous provision (former Art. 1, Para. 2 of the IRA) suggesting that "voluntary" payments of excess interest could not be reclaimed.

The "Grey Zone Interest" (Gure-Zon Kinri) Issue and Its Resolution

For many years, a significant issue in Japan was the "grey zone interest." This referred to interest rates that were above the ceilings of the Interest Restriction Act but below the (then much higher) criminal penalty thresholds set by the Act on Regulation of Receiving of Capital Subscription, Deposits and Interest on Money (Shussiho). Some lenders charged interest in this grey zone, and under the (now abolished) "deemed valid performance" (minashi-bensai) provisions of the Moneylenders Business Act, if certain formal requirements (like delivery of specific documents) were met and the borrower paid "voluntarily," such payments could sometimes be retained by registered moneylenders even if they exceeded IRA limits.

This led to widespread problems of over-indebtedness. A series of Supreme Court rulings in the mid-2000s strictly interpreted the requirements for "deemed valid performance," making it very difficult for lenders to retain grey zone interest. Subsequently, comprehensive legal reforms in 2006 (fully effective by 2010) largely eliminated the grey zone by:

• Abolishing Article 1, Paragraph 2 of the Interest Restriction Act.
• Significantly lowering the maximum interest rates under the Shussiho (now generally aligned with IRA rates, with a cap around 20% for criminal sanctions).
• Abolishing the "deemed valid performance" system under the (revised) Moneylenders Business Act.

These reforms have greatly strengthened borrower protection against excessive interest rates.

Interest Withholding / Discounting (Risoku no Tenbiki) (Article 2)

If interest is deducted from the principal amount at the time of the loan (i.e., the borrower receives less than the nominal principal), Article 2 of the Interest Restriction Act provides rules for calculating the effective principal amount for the purpose of applying the maximum interest rates. If the amount withheld exceeds the permissible interest calculated on the amount actually received by the borrower, the excess withheld is deemed to have been applied to the repayment of the (agreed) principal.

Voidness of Extremely Usurious Loan Contracts

Beyond the Interest Restriction Act, Article 42, Paragraph 1 of the Moneylenders Business Act stipulates that a loan contract entered into by a moneylender as a business is void if it provides for an annual interest rate exceeding 109.5%. In such cases, the entire loan contract (not just the excess interest) is void. The borrower would generally not be obliged to pay any interest, and whether the principal itself must be returned would depend on unjust enrichment principles, potentially affected by the illegality of the transaction (Art. 708 of the Civil Code concerning "performance for an illegal cause").

A Note on Negative Interest Rates

In recent years, the Bank of Japan has implemented negative interest rate policies for certain deposits held by financial institutions. However, this does not mean that borrowers in standard loan agreements would start receiving interest from lenders if benchmark rates turned negative. The prevailing view, supported by banking industry analysis, is that interest on loans is fundamentally a payment from the borrower to the lender for the use of capital; a negative calculated interest figure would typically result in zero interest payable by the borrower, not a payment obligation for the lender, absent a specific contractual agreement to that effect.

Conclusion

The regulation of interest in Japan is a multi-faceted area, balancing freedom of contract with robust borrower protection. While parties can agree on interest rates, these agreements are subject to the strict ceilings and "deemed interest" rules of the Interest Restriction Act, especially for loans for consumption. The introduction of a variable statutory interest rate aims to keep legally implied rates more aligned with economic conditions. For businesses involved in lending or borrowing in Japan, or in transactions where interest or default charges are relevant, a thorough understanding of these rules, particularly the potent effects of the Interest Restriction Act, is critical for compliance and risk management.