My Debtor in Japan Transferred Assets to Avoid Paying Me. What Are My Legal Options?

Japanese Attorney at Law - Bengoshi L.L.

• 9 min read

It's a creditor's nightmare: you're owed a significant sum, and you discover your debtor has suspiciously transferred assets, seemingly to put them beyond your reach. This scenario is not uncommon, and Japanese law provides a specific, powerful remedy for creditors facing such situations: the "Creditor's Revocatory Right." Historically known as Saikensha Torikeshi Ken (債権者取消権), this right is now primarily referred to under the reformed Civil Code as the "Fraudulent Act Revocatory Right" (Sagai Kōi Torikeshi Ken - 詐害行為取消権). This article delves into this crucial mechanism, exploring what it is, when it can be used, its effects, and how it has been reshaped by the significant 2020 amendments to the Japanese Civil Code.

Understanding the Japanese Creditor's Revocatory Right

The Creditor's Revocatory Right, principally governed by Articles 424 to 426 of the Japanese Civil Code, empowers a creditor to seek the nullification of acts committed by their debtor that are prejudicial to the creditor's ability to obtain satisfaction of their claim. The core purpose is to restore assets that were improperly removed from the debtor's estate, thereby preserving the pool of assets available for all creditors.

Imagine your debtor, facing insolvency, sells a valuable piece of real estate to a relative for a fraction of its market value, or suddenly repays a large, non-urgent debt to a friendly company while ignoring your overdue claim. These are the kinds of situations where the Creditor's Revocatory Right might come into play. It is a distinct legal action initiated by the creditor, not the debtor or an insolvency trustee (though it shares some conceptual similarities with a trustee's avoidance powers in formal bankruptcy).

While the term "Fraudulent Act Revocatory Right" suggests a focus on acts that deplete the debtor's total assets, the scope can, under specific conditions, extend to certain "preferential acts" (henpa kōi - 偏頗行為) which, while not reducing the debtor's net worth, unfairly benefit one creditor to the detriment of others by disturbing creditor equality.

What Kind of Acts Can Be Challenged?

The types of debtor's actions that can be targeted by this right fall primarily into two categories, with the 2020 Civil Code reforms bringing more clarity, especially to the latter:

  1. Fraudulent Acts (Sagai Kōi - 詐害行為):
    These are acts by which the debtor disposes of their property, thereby reducing the assets available to satisfy creditors. Classic examples include:The key is that the act results in a diminution of the debtor's overall estate that could otherwise be used to pay creditors.
    • Selling property for a significantly inadequate price.
    • Gifting valuable assets when the debtor is insolvent or on the brink of insolvency.
    • Forgiving a debt owed to the debtor without proper justification.
    • Entering into contracts that impose excessive obligations on the debtor for little return.
  2. Preferential Acts (Henpa Kōi - 偏頗行為):
    These acts don't necessarily reduce the debtor's net assets but unfairly favor one or some creditors over others, particularly when the debtor is already in financial distress. For instance, repaying an unsecured debt to one creditor in full while other creditors with similar claims receive nothing.Historically, challenging purely preferential acts through the Creditor's Revocatory Right was more complex than in formal insolvency proceedings, where a trustee has specific powers to avoid preferences. However, the reformed Civil Code, particularly Article 424-3, now explicitly addresses certain types of preferential acts. This article allows for the revocation of:This codification provides clearer grounds for challenging certain preferential transactions outside of formal insolvency, though the conditions remain specific.
    • The provision of security for an existing debt, or the extinguishment of an existing debt, if the act was done when the debtor was already unable to pay debts generally as they become due (payment suspension) or had filed for bankruptcy, AND the creditor knew these circumstances.
    • The provision of security or extinguishment of debt that was not yet due, or was for a non-monetary obligation, or was otherwise not an obligation of the debtor, if done within 30 days before the debtor became unable to pay debts generally, AND there was collusion between the debtor and the benefiting creditor to prejudice other creditors.

Key Requirements for a Successful Revocation Action

To successfully revoke a debtor's act, a creditor must satisfy several stringent requirements as laid out in the Civil Code:

  1. Existence and Nature of the Creditor's Claim:
    The revoking creditor must have a monetary claim against the debtor. Generally, this claim must have arisen before the challenged act was committed by the debtor (Article 424-2). This is to protect transactions made when the debtor was solvent and the creditor did not yet exist or rely on those assets. There are exceptions, for example, if the act was done with the specific intent to harm future creditors.
  2. Act Prejudicial to Creditors:
    The debtor's act must be prejudicial to the creditors. This typically means that the debtor was insolvent at the time of the act, or the act itself caused the debtor to become insolvent (i.e., unable to satisfy all their creditors).
  3. Debtor's Knowledge (Fraudulent Intent):
    The debtor must have known, at the time of the act, that it would prejudice their creditors (Article 424(1)). This does not necessarily require proof of malicious intent to defraud, but rather an awareness that the act would diminish the assets available for creditors or unfairly prefer one creditor.
  4. Beneficiary's or Transferee's Knowledge:
    The person who benefited from the debtor's act (the beneficiary) must have known, at the time of the act, that it was prejudicial to other creditors (Article 424(1)).
    If the property has been subsequently transferred, a subsequent transferee is also subject to the revocation unless they can prove they did not know, at the time of their acquisition, that the original act was revocable (Article 424-5). Good faith purchasers for value may be protected.

The burden of proof for these elements generally lies with the revoking creditor.

The Effects of a Successful Revocation: Restoring Value, Not Creating Preference

If a creditor successfully revokes a debtor's act, the primary goal is to restore the value or property to the debtor's estate. The 2020 Civil Code reforms have significantly clarified and altered the effects, moving away from a system that could lead to individual creditor preference:

  1. Return of Property to the Debtor:
    If the revoked act involved the transfer of specific property (e.g., real estate, valuable goods), the general effect of revocation is that the property is to be returned to the debtor (Article 424-6(1)). The property then becomes part of the debtor's general assets, available for execution by all creditors. For instance, if a transfer of real estate is revoked, the registration of title would be restored to the debtor's name.
  2. Monetary Restitution:
    If the property itself cannot be returned (e.g., it has been consumed, destroyed, or transferred to a bona fide subsequent purchaser who is protected), or if the original act was a monetary payment or the discharge of a monetary obligation, the creditor who brought the revocation action can demand monetary restitution equivalent to the value lost. Under Article 424-6(1), this monetary restitution is to be paid by the beneficiary (or subsequent transferee liable for restitution) directly to the revoking creditor.
  3. The Abolition of De Facto Preferential Payment (The Crucial Change):
    This is perhaps the most significant impact of the 2020 reforms on the Creditor's Revocatory Right. Historically, when a creditor received direct monetary restitution, case law allowed them to set off their own claim against the debtor with these recovered funds. This resulted in a "de facto preferential payment," allowing the diligent revoking creditor to effectively satisfy their claim ahead of other creditors. The reformed Civil Code, in Article 424-6(2), explicitly prohibits this. It states that if a creditor has received direct monetary restitution from the beneficiary or transferee as a result of the revocation, the creditor cannot set off their own monetary claim against the debtor with the obligation to hand over these recovered monies to the debtor. The creditor must deliver the recovered sum to the debtor.This change means that the Creditor's Revocatory Right no longer serves as a tool for an individual creditor to gain a preferential recovery. Instead, it functions to bring value back into the debtor's estate for the potential benefit of all creditors, aligning its effect more closely with the principles of creditor equality often seen in formal insolvency proceedings.
  4. Scope of Revocation:
    The revocation is generally limited to the extent necessary to satisfy the revoking creditor's claim and the costs of the action (Article 424-7). It doesn't necessarily unwind the entire transaction if a partial revocation is sufficient.
  5. Effects on the Beneficiary/Transferee:
    Once an act is revoked, the beneficiary or transferee who knew of the fraudulent nature must return the property or its value. If they had paid consideration to the debtor for the transfer, they may have a claim against the debtor for the return of that consideration, but this claim will typically be an ordinary unsecured claim.

Comparing the Creditor's Revocatory Right with Avoidance Powers in Formal Insolvency (Hinin Ken - 否認権)

While both the Creditor's Revocatory Right and the avoidance powers (hinin ken) of an insolvency trustee aim to retrieve assets improperly removed from a debtor's estate, there are key differences:

  • Who Exercises the Right: The Creditor's Revocatory Right is exercised by an individual creditor for the (now indirect) benefit of their claim and ultimately the debtor's estate. In contrast, avoidance powers in formal insolvency proceedings (like bankruptcy or civil rehabilitation) are exercised by a court-appointed insolvency trustee or supervisor on behalf of the entire body of creditors.
  • Range of Acts Covered: An insolvency trustee's avoidance powers are often broader and more specifically defined by insolvency statutes. They can typically cover a wider range of transactions, including the perfection of security interests shortly before insolvency or payments that are clearly preferential under specific statutory look-back periods. The Creditor's Revocatory Right, while now having clearer rules for certain preferential acts under Article 424-3, is still primarily focused on "fraudulent acts" as defined by the Civil Code.
  • Subjective Requirements (Intent/Knowledge): The subjective requirements (debtor's and beneficiary's knowledge of prejudice) for the Creditor's Revocatory Right can sometimes be more stringent than those for certain types of avoidance actions by a trustee in insolvency, where, for example, some preferences can be avoided based on more objective criteria like timing and the debtor's insolvency status.
  • Primary Goal: While the reformed Creditor's Revocatory Right now channels recovered assets to the debtor, its initiation is still driven by an individual creditor's interest in preserving assets from which they can eventually be satisfied. The trustee's avoidance actions are explicitly for the collective and equitable distribution to all creditors according to statutory priorities.

If formal insolvency proceedings are initiated, the trustee's avoidance powers generally take precedence, and an individual creditor's pending revocation action might be stayed or taken over by the trustee.

The Creditor's Revocatory Right in the Context of Private Workouts (Shiteki Seiri)

Private workouts, or out-of-court restructurings, are common in Japan. The Creditor's Revocatory Right can play a significant role in these informal processes:

  • Defensive Use by a Creditor Group: If a debtor, while negotiating a workout, makes a preferential payment to a non-cooperative creditor or engages in an asset-stripping transaction, the creditors' committee (if one exists) or a major creditor involved in the workout could use the threat or actual filing of a revocation action to claw back those assets for the benefit of the restructuring plan.
  • Offensive Use by a Dissenting Creditor: Conversely, a creditor who is dissatisfied with a proposed private workout plan might challenge certain elements of the plan itself (or transactions made in furtherance of it) as being a fraudulent act prejudicial to them. For example, if a plan involves transferring the debtor's key assets to a new entity on terms that the dissenting creditor believes are unfair or designed to defeat their claims, they might seek to revoke those transfers. The assessment of whether a workout agreement itself is "fraudulent" would involve considering procedural fairness (e.g., was the dissenting creditor properly informed and allowed to participate?), substantive fairness of the proposed distributions, and the overall viability and good faith of the plan.
  • "Bargaining in the Shadow of the Law": The mere existence of the Creditor's Revocatory Right significantly influences negotiations during private workouts. Parties are aware that certain transactions could be unwound if the workout fails and individual creditor actions or formal insolvency ensues. Even though the direct preferential benefit to the revoking creditor has been removed, the power to restore assets to the debtor's estate can still be a potent bargaining chip to encourage transparency and fairness in negotiations. The possibility of revocation might push parties towards more equitable solutions to avoid later challenges.

A Historical Perspective: The Evolution of a Key Creditor Remedy

It is important to understand that the Creditor's Revocatory Right, particularly its effects, has evolved. For many years, as detailed in legal scholarship and established through case law, a successful revoking creditor could achieve a de facto preferential recovery. This was a significant incentive for creditors to actively pursue such claims. The logic was often that the diligent creditor who uncovered and pursued the fraudulent act deserved to benefit directly.

However, this created a tension with the principle of creditor equality, especially as a debtor neared insolvency. Academic circles widely debated the fairness of this outcome, with many advocating for a system where recovered assets benefited all creditors proportionally. The "Responsibility Theory" and the "Right of Action Theory" were among the academic constructs arguing for a return of assets to the debtor's general estate.

The 2020 amendments to the Civil Code, specifically the changes to Article 424-6, directly addressed this long-standing debate. By prohibiting the revoking creditor from setting off their claim against the recovered monetary restitution, the reforms effectively dismantled the de facto preferential payment system for this right. This was a deliberate policy choice to enhance fairness among creditors and align the effects of the Creditor's Revocatory Right more closely with the collective nature of debt recovery in situations of debtor distress.

Conclusion

The Japanese Creditor's Revocatory Right (Sagai Kōi Torikeshi Ken) remains a formidable and essential tool for creditors who find that their debtor has unfairly disposed of assets. While the 2020 Civil Code reforms have fundamentally altered its impact by eliminating the potential for the revoking creditor to gain a direct preferential payment, the right's core function of preserving and restoring the debtor's assets continues.

Today, it serves as a mechanism to bring assets back into the debtor's control, making them available for all creditors, rather than allowing one diligent creditor to secure a priority. This shift underscores a legislative intent to promote greater creditor equality even outside formal insolvency proceedings. For businesses and legal professionals dealing with Japanese debtors, understanding the current scope, requirements, and non-preferential effects of this revocatory right is paramount for effectively protecting their interests and navigating complex debt recovery scenarios.