Sublease and rental guarantee agreements causing problems for first-time investors

Starting September 1, companies* offering sub-lease arrangements to investors and landlords will be obligated to include a clause in pre-contract documentation to warn the property owner that future rent may be subject to change.

The new rule has come after a recent spike in complaints from landlords who, at the advice of real estate brokerages and construction companies, built apartments under the expectation of leasing them for a guaranteed rent. After completion, however, the sub-leasing company would either cancel the rental agreement (a relatively easy task since rental law is strongly in favour of the tenant) or decrease the rent offered to the landlord. Some investors were promised that rents would continue to rise 3% annually, only to find out after purchase that the sublessor would only offer a rent of 10% below initial estimates.

If you are considering a property offering a rental guarantee or sub-lease arrangement, be sure to thoroughly check the terms of the agreement. Even terms promising rent increases or rent guarantees can be overthrown by courts. It is also essential to understand the local rental market to gauge whether the rent and occupancy rates promised by the seller or broker are in line with actual market conditions.

A recent reduction in tax exemptions on inheritance taxes has led many wealthy Japanese to invest in real estate as a means of minimising their taxable estate. Building rental apartment buildings and flats has been a popular method of reducing the future tax burden on their heirs. As a result, the real estate investment market is experiencing brisk activity, with rental apartment developers and contractors reporting record sales figures.

The number of housing starts in 2015 for owner-occupied housing increased by 3.3% from 2014, while rental-only housing starts increased by 6.6% over the same period. The introduction of minus interest rates earlier this year has also prompted banks to aggressively offer investment-type loans to consumers. Unlike home loans where competition is tight and interest rates are low, investment loans can attract higher interest rates and better margins for banks.

A number of real estate brokerages have also been holding numerous seminars spruiking investment apartments and buildings. The key sales point to the properties offered is a sub-lease arrangement offered by developers and brokers. However, there have been a growing number of complaints from amateur investors who were not prepared for a scenario where their contracted rent could decrease, wiping out any potential gains.

With declining birth-rates and an ageing society, vacant homes are on the rise across Japan. The problem is particularly noticeable in outer-suburban and regional areas where many of these investment properties are located. Although occupancy rates may be high in brand new buildings, vacancies can start to climb as a building ages.

*The revision by the Ministry of Land, Infrastructure, Transport and Tourism is a voluntary registration system. Only companies that choose to register will be obligated to follow the revisions. There are no fines or penalties imposed on companies that choose not to register.

Sources:
FDJ Online, August 23, 2016.
Zenkoku Chintai Jutaku Shimbun, August 22, 2016.
The Sankei Shimbun, August 24, 2016.