Navigating Officer Retirement Allowances in Japan: Determination Procedures, Internal Rules, and Non-Payment Risks

Japanese Attorney at Law - Bengoshi L.L.

• 7 min read

Officer retirement allowances (退職慰労金 - taishoku irokin) are a common feature in Japanese corporate practice, often serving as a significant component of an executive's overall compensation package. These payments, typically made upon a director's or corporate officer's departure, are not merely discretionary gifts but are subject to specific provisions within the Japanese Companies Act (会社法 - Kaishaho). Understanding the procedures for their determination, the critical role of internal company rules, and the potential legal risks associated with non-payment or disputes is essential for companies operating in Japan.

Under Japanese law, officer retirement allowances are generally considered to fall within the scope of "remuneration, bonus, or other financial benefit received from the Stock Company as consideration for the execution of duties," as outlined in Article 361, Paragraph 1 of the Companies Act. This classification is significant because it means that, like regular director salaries and bonuses, the determination of retirement allowances must adhere to the same fundamental principle:

  • They must be either stipulated in the company's Articles of Incorporation (定款 - Teikan), or
  • They must be approved by a resolution of the general shareholders' meeting.

This requirement applies even to portions of the allowance that might be characterized as a reward for special or meritorious service during the officer's tenure. Given that it is highly unusual for Articles of Incorporation to specify concrete amounts for retirement allowances, shareholder resolutions are the standard mechanism for their approval. The rationale, as with other forms of director compensation, is to prevent self-dealing by management and ensure shareholder oversight over significant disbursements of company funds.

2. Directors Concurrently Serving as Employees (Shiyounin Kenmu Torishimariyaku)

A distinction arises for directors who also hold employee status within the company (使用人兼務取締役 - shiyounin kenmu torishimariyaku).

  • The portion of any retirement payment attributable to their service as an employee (governed by employment contracts, work rules, or employee retirement benefit plans) is generally not subject to the shareholder approval requirements of Article 361.
  • If the company has clear internal rules (e.g., employee retirement benefit regulations) that allow for a distinct calculation of the employee severance component separate from the director-specific retirement allowance, then only the director-specific portion needs to comply with Article 361 procedures.
  • However, if the employee and director components are indistinguishable or not clearly delineated, Japanese courts have tended to treat the entire amount as subject to Article 361. A Kyoto District Court decision on January 16, 1969, for example, held that unless the employee portion is clearly separable based on established regulations, the entire retirement allowance for a director who also served as an employee falls under the purview of the (then equivalent of) Article 361.

Therefore, for directors with dual status, clear internal policies differentiating employee severance from director retirement allowances are crucial for procedural clarity.

3. The Critical Role of Internal Rules and Established Practices

While shareholder resolutions are paramount, internal company rules (such as a formal Officer Retirement Allowance Regulation - 退職慰労金規程, taishoku irokin kitei) and established past practices play a significant role in the determination and justification of these allowances.

  • Basis for Calculation and Delegation: Well-defined internal rules often provide the formula or criteria for calculating retirement allowances (e.g., based on final position, years of service as an officer, and a merit multiplier). Such rules are particularly important if the shareholders' meeting delegates the determination of the specific allowance amount to the board of directors.
  • Contractual Implications: If internal rules or a consistent, well-understood practice regarding retirement allowances can be considered part of a director's terms of appointment or mandate contract, the company (specifically, its board) may have an obligation to at least propose a retirement allowance consistent with these rules to the shareholders upon the director's retirement. Failure to do so could potentially lead to claims for damages by the retiring director, though proving direct causation can be complex as shareholders ultimately have discretion.
  • Tax Considerations: The existence of reasonable, consistently applied internal rules for calculating retirement allowances can be important in justifying the amount to tax authorities. Unusually large payments not substantiated by such rules or clear merit may risk being treated as non-deductible expenses for the company or, for the recipient, potentially reclassified from retirement income (which receives favorable tax treatment) to salary or dividends, leading to a higher tax burden.

4. Delegating Determination to the Board of Directors

It is common for shareholders to delegate the final determination of the specific amount, timing, and method of payment of a retirement allowance to the company's board of directors. However, such delegation cannot be unconditional.

  • Requirement for Guiding Standards: For such delegation to be valid, the shareholder resolution itself must, either explicitly or implicitly, provide the board with clear standards or a framework upon which to base its decision. This principle has been affirmed by the Supreme Court (e.g., decisions on October 28, 1969, and February 22, 1983).
  • "Concrete and Clear Standards": The guiding standards must be sufficiently concrete and clear to prevent the board from effectively engaging in self-dealing. These standards should typically be embedded in pre-existing internal rules or well-established company practices that are either known to shareholders or readily accessible by them.
  • Disclosure to Shareholders: Reflecting this, Article 82, Paragraph 2 of the Ordinance for Enforcement of the Companies Act mandates that if a shareholder proposal involves delegating the determination of retirement allowances to directors based on certain criteria, those criteria must be disclosed in the shareholder meeting reference materials. An exception exists if shareholders are provided with other appropriate means to learn these criteria (e.g., internal regulations being available for shareholder inspection).
  • Typical Resolution Wording: A common formulation for such a shareholder resolution might state something to the effect of: "A retirement allowance shall be paid to the retiring director(s) in a reasonable amount in accordance with the company's prescribed standards, and the determination of the specific amount, timing, and method of payment shall be entrusted to the board of directors".
  • Further Delegation by the Board: Can the board, having received such delegated authority, further delegate the task to the Representative Director? If the task involves merely applying the pre-approved, objective standards without further discretion, such sub-delegation may be permissible. However, if significant discretion remains in determining the amount, further delegation is more problematic, though if the standards are exceptionally clear, it might be argued as acceptable.

5. Contractual Rights, Non-Payment, and Director Promises

The interplay between internal rules, director expectations, and the ultimate shareholder approval can lead to disputes if an expected allowance is not paid.

  • Abstract vs. Concrete Rights: If a director's terms of appointment or established company rules provide for a retirement allowance, the director may be seen as holding an "abstract right" to such an allowance upon retirement. However, this abstract right generally crystallizes into a concrete, legally enforceable claim for a specific amount only once it has been approved by a shareholder resolution (or determined by the board under validly delegated authority).
  • Board's Failure to Propose: If the board of directors, without good reason, fails to propose an expected retirement allowance to the shareholders for a departing director (contrary to established rules or practices that formed part of the director's expectations), the directors on that board could potentially face claims for breach of their duties. The company itself might also face a claim for damages from the retiring director, perhaps framed as a loss caused by the representative director's actions (under Article 350 of the Companies Act). However, establishing a direct causal link between the failure to propose and the actual loss of the allowance can be difficult, as shareholders are ultimately not bound by internal rules and could have rejected the proposal anyway.
  • The "One-Man Company" Exception: In closely-held, owner-managed companies where formal shareholder meetings are rarely held and the representative director effectively makes all decisions, courts have occasionally treated a clear promise of a retirement allowance by that representative director as being tantamount to shareholder approval, thus creating an enforceable obligation (e.g., Osaka High Court, December 21, 1989). This is, however, an exception based on specific factual circumstances.

6. Shareholders' Ultimate Discretion: The Power to Reduce or Deny

A crucial aspect of Article 361 is that shareholders retain ultimate discretion.

  • Not Bound by Internal Rules: When voting on a retirement allowance proposal, shareholders are not legally bound by the company's internal rules, formulas, or past practices regarding such payments.
  • Freedom to Decide: They have the power to approve the proposed amount, approve a lesser amount, or reject the proposal entirely.
  • Challenging Shareholder Decisions: If shareholders make a decision that seems grossly unfair or arbitrary (e.g., denying an allowance in a way that appears to be an abuse of shareholder power), the affected director might theoretically explore legal challenges to the shareholder resolution or claims against other directors for orchestrating an abusive outcome. However, the threshold for succeeding in such challenges would likely be very high.

7. The Impact of Director Misconduct on Retirement Allowances

The discovery of misconduct by a director can significantly impact their entitlement to a retirement allowance.

  • Discovery Before Shareholder Resolution: If serious misconduct by the director (such as acts constituting a "disqualifying event" under internal rules, or criminal behavior relevant to their duties) comes to light before their retirement allowance has been formally determined and approved by shareholders, the board of directors would generally be justified in deciding not to propose the allowance to shareholders, or in recommending its denial.
  • Discovery After Shareholder Resolution: The situation is more complex if misconduct is discovered after the shareholders have already approved a specific retirement allowance amount for the director. In such cases, the director is generally considered to have a vested, concrete legal right to the approved sum. The company typically cannot unilaterally revoke or withhold this approved payment.
    • The company's primary recourse in this scenario would be to pursue separate legal action against the director to claim damages for the harm caused by their misconduct. If successful, the company might then be able to set off its damage claim against the director's retirement allowance entitlement, subject to the general legal rules governing set-offs.

Conclusion

Officer retirement allowances in Japan are a significant financial consideration governed by the Companies Act's principles of shareholder oversight. While internal rules and established practices provide important context and calculation frameworks, the ultimate authority for approving these payments (or the standards for their determination) rests with the shareholders. Companies must ensure that procedures for determining and approving taishoku irokin are transparent and comply with Article 361. Clear internal regulations are vital, especially when delegating specifics to the board, and careful consideration must be given to the contractual expectations of directors and the handling of special circumstances, such as the discovery of misconduct. Navigating these aspects diligently can help prevent disputes and ensure that retirement allowances serve their intended purpose as fair compensation for an officer's dedicated service.