Financial Services Agency of Japan (FSA) proposed amendments to its supervisory guidelines applicable to managers of investment trust (toshin) funds and real estate funds, and is currently accepting comments until May 13. Of those, amendments relating to real estate funds would require managers to take additional measures to manage transactional conflicts of interest, specifically:

1. Implement property due diligence processes and keep proper records as part of the existing measures required to ensure the appropriateness of due diligence;
2. Implement systems to avoid inappropriate influence over service providers, e.g., appraisers, to ensure their independence; and
3. Document internal considerations and keep meeting minutes with parties of potential conflicts of interest transactions, which would allow periodical assessment of such transactions.

These amendments came after the recent enforcement action against a J-REIT manager who was found to have violated the duty of loyalty due to its significantly ineffective conflict of interest management system and having acted against the interests of the fund, which resulted in a suspension and business improvement order. The manager was found to have, when purchasing several properties from its affiliate for the fund, had the appraiser raise appraisal values to exceed the prices desired by the affiliate while keeping the appraisal fees lower than other appraiser candidates to create apparent justification to hire the compromised appraiser.

These amendments, which could be adopted in the next month, would apply to all managers registered in Japan managing public or private real estate funds (onshore or offshore).

While the proposed additional measures are, in practice, consistent with existing practices among many sophisticated real estate fund managers, managers should consider taking this opportunity to revisit their conflicts of interest policies, procedures and implementations thereof, as well as fund terms and disclosures in offering documents, to ensure that these measures are addressed, implemented, and represented in a manner consistent with the amendments.