Web3 Going Abroad: Introduction to Japan's Blockchain Industry Regulatory Policies

Author: Jin Jian Zhi, Senior Lawyer at Shanghai Mankun Law Firm

In conversations with industry professionals, Mankun lawyers have discovered that Japan is also one of the countries with a vibrant blockchain startup atmosphere. Many well-known former Web2 company employees are starting blockchain ventures in Japan, such as Guo Yu. However, due to language barriers, Japan is often overlooked by Chinese entrepreneurs. As the world's third-largest economy, Japan's crisis awareness somewhat influences the authorities' regulatory attitude towards the blockchain industry. The authorities are trying to leverage new technologies like blockchain to maintain their status as the world's third-largest economy while also protecting domestic investors to prevent Japan from becoming a regulatory haven with rampant issues.

Under this ambiguous and conflicted attitude, Japan's blockchain industry regulatory policies have instead shown mature and stable characteristics, creating a favorable environment for blockchain startups.

This article will introduce Japan's blockchain industry regulatory policies from several aspects, including the development of the blockchain industry, the legal status and tax policies of digital currencies, the licensing system and self-regulatory organizations for digital currency exchanges, the rules and guidelines for digital currency issuance financing (ICO/IEO), and the Japanese government's support and outlook for blockchain technology, to help Mankun's friends understand the overview and obtain relatively comprehensive and accurate information.

01 Development of Japan's Blockchain Industry

Japan's regulatory policies in the blockchain industry have gradually developed and improved. From the early emphasis on the security of digital currency (Japanese: 暗号資産) transactions to later promoting the application of blockchain technology across various industries, Japan has demonstrated foresight and innovation in this field. The following are significant events in the development of Japan's blockchain industry.

2014: The Lessons from the Mt.Gox Incident

In 2014, Japan experienced the famous Mt.Gox Bitcoin exchange collapse, resulting in significant Bitcoin losses. This incident triggered heightened government attention to the security of digital currency transactions and became an important turning point in the development of Japan's digital currency regulatory policies.

2016: Legalization of Digital Currency

As mentioned earlier, in 2016, the Japanese Cabinet passed an amendment to the Payment Services Act (Japanese: 資金決済に関する法律), officially incorporating digital currencies into the legal regulatory framework. This amendment took effect in April 2017, marking the legalization of digital currencies in Japan.

2017: Introduction of the Licensing System

With the enactment of the Payment Services Act, the Financial Services Agency (FSA) of Japan began requiring digital currency exchanges to apply for licenses and accept regulatory oversight to ensure transaction security and protect investor interests.

2018: Establishment of the JVCEA Self-Regulatory Organization

To further strengthen industry self-regulation and improve industry standards, Japanese digital currency exchanges established the Japan Virtual Currency Exchange Association (JVCEA), dedicated to enhancing industry transparency and consumer protection.

2019: Regulatory Framework for ICOs and IEOs

The Japan Virtual Currency Exchange Association published the "Rules Related to New Coin Offerings" and accompanying "Guidelines on Rules Related to New Coin Offerings," providing a clear regulatory framework for digital currency issuance financing activities.

2021: Establishment of the STO Association

The Financial Services Agency of Japan officially approved the Japan Security Token Offering (STO) Association as a self-regulatory organization responsible for formulating and enforcing rules and standards related to STOs.

2022: The Bank of Japan Launches Digital Yen Trials

The Bank of Japan announced the initiation of a trial phase for Central Bank Digital Currency (CBDC), which is still ongoing. The Governor of the Bank of Japan plans to make a judgment on whether to issue it in 2026.

02 Legal Status and Tax Policies of Digital Currencies

In 2016, the Japanese Cabinet passed an amendment to the Payment Services Act, which took effect in April 2017, legally defining digital currencies and recognizing their legitimacy. Under the Payment Services Act, digital currencies are defined as meeting all of the following criteria:

1) Property value recorded electronically on electronic devices or other items; 2) Transferable using electronic information processing organizations; 3) Not denominated in domestic currency, foreign currency, or other monetary assets; 4) Usable by unspecified persons for purchasing or renting items or receiving services; 5) Can be bought and sold to unspecified persons.

In other words, Japan recognizes digital currencies as legitimate means of payment. The Payment Services Act is the world's first legislation to incorporate digital currencies into a legal regulatory framework, which is of significant importance to the digital currency market.

Japan only taxes the income from digital currency transactions, categorized as "other or miscellaneous income," and employs a progressive tax rate of 5%-45%. When combined with resident taxes and the special reconstruction income tax, the maximum tax rate is approximately 55%. Additionally, starting from July 1, 2017, digital currencies are exempt from the 8% consumption tax.

03 Licensing System and Self-Regulatory Organizations for Digital Currency Exchanges

According to the amendment to the Payment Services Act, institutions engaged in digital currency trading must apply for a license from the Financial Services Agency of Japan and accept its regulation. Generally, to operate a digital currency exchange in Japan, the following four basic conditions must be met:

• Entity: A corporation or foreign digital currency trading institution (with a business location in Japan and a representative in Japan)
• Registered Capital: Must have a property base, with registered capital of at least 10 million yen and positive net assets
• Corporate System: A corporate system capable of appropriately and effectively conducting business (e.g., segregation of user assets from company assets, establishment of effective risk management systems to prevent risks such as hacking, system failures, money laundering, and terrorist financing)
• Compliance: Adherence to relevant laws and regulations, protection of user privacy, fulfillment of anti-money laundering obligations, and cooperation with inspections and investigations by the Financial Services Agency

Currently, there are 23 digital currency exchanges in Japan that have obtained licenses from the Financial Services Agency, including well-known platforms such as Huobi Japan, bitFlyer, and Coincheck.

In addition to the oversight of the Financial Services Agency, to enhance the credibility and transparency of the industry, protect investor interests, and promote the healthy development of the digital currency market, with the approval and authorization of the Financial Services Agency, Japan established the Japan Virtual Currency Exchange Association (JVCEA) in April 2018, initiated by 16 licensed exchanges for self-regulation. The association has formulated a series of self-regulatory rules and guidelines, including:

• Classification management of digital currencies provided by exchanges, determining listing conditions based on factors such as security, liquidity, and transparency
• Risk assessment of exchanges, setting leverage limits, margin ratios, and forced liquidation mechanisms
• Information disclosure by exchanges, requiring them to publicly disclose trading rules, fee standards, and customer complaint handling methods
• Consumer education by exchanges to enhance awareness and risk consciousness regarding digital currencies

04 Rules and Guidelines for Digital Currency Issuance Financing (ICO/IEO)

In September 2019, the JVCEA issued the "Rules Related to New Coin Offerings" and accompanying guidelines, allowing public issuance and sale of tokens for financing (IEO and ICO). This marked the first time Japan established a clear regulatory framework for digital currency issuance financing.

According to the rules and guidelines, to issue and sell tokens compliantly in Japan, the following main conditions must be met:

• The issuing or underwriting entity must be a licensed exchange and report relevant matters to the Financial Services Agency and the association
• The issued tokens must meet the safety, liquidity, and transparency standards set by the association and pass the association's review
• The issued tokens must have a reasonable pricing mechanism and fully disclose relevant information to consumers
• The issued tokens must be sold out within a certain period, and the sales situation must be reported to the association

Currently, under the "Rules Related to New Coin Offerings," there has not been a single ICO in Japan, and only four IEOs have taken place. Therefore, on September 26, 2023, to better improve the situation of IEOs, the JVCEA further released an initial proposal for IEO reform directions.

05 Japan's Support and Outlook for Blockchain Technology

The Web3 project team of Japan's ruling party released a white paper on April 6, 2023, viewing Web3 as a national strategy. To this end, the Japanese government has invested significant resources in promoting research and application of blockchain technology. For example, the Cabinet Office of Japan has established several special funds to support innovation and practical application research in blockchain technology. Additionally, the Japanese government is actively promoting international cooperation, engaging in exchanges and collaborations with other countries on the formulation of blockchain technology standards and regulatory framework construction. The Japanese government believes that through international cooperation, it can promote the healthy development of blockchain technology while creating more opportunities for Japanese enterprises and consumers.

According to forecasts by the Yano Economic Research Institute, by 2022, Japan's blockchain market size will reach 123 billion yen, approximately 8.1 billion RMB. Japan's applications in the blockchain field cover various aspects, such as real estate registration, identity verification, interbank clearing, Bitcoin insurance, and supply chain finance. Here are some specific cases:

• Real Estate Registration: The Japanese government plans to integrate nationwide real estate data, approximately 230 million plots and 50 million buildings, into a single blockchain ledger to improve data visualization, accuracy, and security. This project is currently still in the testing phase and is expected to be completed within the next five years.
• Identity Verification: The Financial Services Agency (FSA) of Japan developed a blockchain platform that allows customers to share personal information among multiple banks and financial institutions and use shared IDs to open accounts. Additionally, SoftBank Group collaborated with TBCASoft to launch a blockchain-based identity recognition and verification project, utilizing zero-knowledge proofs and distributed ledger technology to protect personal identity information from theft.
• Interbank Clearing: Fujitsu collaborated with Mizuho Financial Group, Sumitomo Mitsui Financial Group, and Mitsubishi UFJ Financial Group to develop a peer-to-peer remittance service using blockchain, improving the efficiency and security of remittances.
• Bitcoin Insurance: Due to frequent hacking attacks on Bitcoin exchanges resulting in customer asset losses, Japan's Sumitomo Mitsui Insurance Company partnered with bitFlyer to launch a Bitcoin insurance product, providing compensation services for Bitcoin assets and covering losses caused by internal incidents and employee misconduct.
• Supply Chain Finance: Mizuho Bank and IBM Japan jointly developed a blockchain trade finance platform, enabling the rapid and secure exchange of digital transaction documents and supply chain transaction data, enhancing transparency and credibility among transaction parties.

06 Conclusion

In summary, Japan is a country that holds an open and proactive attitude towards blockchain technology and digital currencies. It has established relatively comprehensive and clear regulations in terms of law, taxation, licensing, and self-regulation, and continues to explore and innovate to adapt to the rapid changes and diverse application scenarios of blockchain technology, aiming to have a foothold in the global blockchain industry development. For blockchain entrepreneurs, this ambition of the Japanese government may provide a fertile ground for startups.