i Tax law
France has become more attractive since the election of Emmanuel Macron as President of the Republic. In particular, his promised reforms in tax law largely have become a reality. The key changes include the following reforms:
- the wealth tax basis is now limited to real estate assets, thus excluding other assets. This change combines with the significant five-year income tax and wealth tax exemptions enjoyed by new residents of the country (on condition of having resided abroad during the five years preceding immigration);
- the taxation of capital gains, dividends and interest is now subject to a flat tax of 30 per cent for residents of France and 12.8 per cent for non-residents;
- the exit tax rules are now less stringent (see Section II.v); and
- more generally, more opportunities now exist for efficient personal and estate planning for individuals, although some of the new rules still require clarification.
ii Civil law
The reported new attractiveness of France from a tax point of view combines with the deserved perception that the French legal system is highly protective of individuals and families and of their savings and wealth. This is particularly important in the area of succession and estate planning. In this context, new European Union (EU) regulations allow for more flexible planning when confronted with the traditionally strict French forced-heirship rules. More generally, one should point out a noticeable trend away from rigid statutes in favour of private contracts, all favouring the development of family governance structures.
Marriage and divorce law remains highly complex. Divorces that involve several jurisdictions require a particularly good command of private international law, including an intimate knowledge of the relevant EU regulations and international treaties. Three aspects are worth noting:
- As is the case in most civil law jurisdictions, marriage and divorce planning requires that attention be paid to 'matrimonial regime', namely those rules that govern the holding of the spouses' assets during marriage and their distribution on death or divorce. Future spouses can chose a regime and, to an extent, tailor it to their wishes by entering into a marriage contract. In the absence of a marriage contract, spouses are deemed to have chosen the civil law default regime of community property. In both cases, and subject to certain conditions, they may decide to adopt a different matrimonial regime during marriage.
- Future spouses and married couples cannot contract on the matter of compensatory payments (clean break) on divorce, as the matter is in the hands of the divorce judge, who adjudges the matter in accordance with criteria set out in the civil code, but, within those criteria, at his or her discretion.
- Tax planning in family law naturally remains a critical aspect of proper planning, notably when several jurisdictions are involved.
France is attractive again because of a more investor-friendly tax system and of a civil law environment that is more flexible than it ever was, notably in cross-border situations.
i Introduction to personal taxation for individuals
There is no equivalent in France to the common law concept of domicile. Residence is the criteria for liability to tax. Nationality is generally not relevant in the French tax context. It is, however, a criterion that is used in some tax treaties signed by France (tie-breaker rules).
Tax residents of France are subject to: income tax on their worldwide income; and wealth tax, gift tax and inheritance tax on their worldwide assets. Subject to tax treaty, non-residents of France are liable to income tax by reason of their French source income; and wealth tax, gift tax and inheritance tax on their French assets.
Domestic law applies first and foremost to determine residence. Tax treaty provisions apply only in these cases where double taxation arises.
In practice, the revenue considers that a person who is predominantly in France (even for less than 183 days) or whose centre of vital interests is located in France, is a resident of France. The day count is therefore not relevant in many situations and some individuals living outside France but having interests and properties in France where they spend most of their time must consider the tax implications of those rules with great care.
Personal income tax is calculated according to a progressive bracket system with a marginal rate of 45 per cent above €157,000 on net income (wages, bonus, commissions, industrial or commercial profits, professional fees, rental income, etc.) plus social contribution tax.
An income surtax is due: (1) at the rate of 3 per cent between €250,000 and €500,000 and 4 per cent above €500,000 for a taxpayer who is single; and (2) at a rate of 3 per cent between €500,000 and €1 million and 4 per cent above €1 million for married couples and members of a PACS (civil pact between different or same-sex couples).
Specific personal income tax rates apply when non-cooperative jurisdictions and territories are involved (75 per cent).
In addition to income tax proper, taxable income is subject to social contribution charges at a global rate of 17.25 per cent on passive income (dividends, interest and capital gains), 9.2 per cent on wages and 8.3 per cent on pensions.
ii Developments relating to personal taxation for individuals
Liability to French gift or inheritance tax depends, with reference to the time of gift, namely death (transfer), on the tax residence of the donor (deceased); on the tax residence of the donee (heir) or legatee; and on the location of the assets for tax purposes (which may be different than for civil law purposes). Hence, a careful analysis of the assets' nature and location has to be made.
As between parents and direct descendants, the tax is calculated in accordance with a brackets system. The marginal rate is 45 per cent above €1.805 million, subject to a basis reduction of €100,000, available every 15 years.
There is no inheritance tax between spouses or members of a PACS.
Lifetime gifts between those couples are subject to tax at the marginal rate of 45 per cent above €1.805 million subject to a basis reduction of €80,000.
Other rules apply to brothers and sisters (45 per cent above €24,000) and non-relatives (60 per cent).
Transfer of business assets enjoys a favourable tax regime depending on the nature of the business. Full or partial exemption applies, one of them consisting in applying a 75 per cent rebate for the purpose of calculating the gift or inheritance tax basis.
iii Issues relating to cross-border structuring
Private clients' estate planning in a cross-border environment necessitates that one consider issues such as:
- testamentary freedom;
- surviving spouse and family members' protection;
- asset protection and transfer to the next generation;
- family governance and control; and
- inheritance, income tax and wealth tax planning.
iv Regulatory issues
Quite aside from the issue of taxation, privacy in financial matters is nowadays non-existent. Indeed, beyond KYC rules2 as they are now applied throughout the world, the personal details of owners of French assets, movable or immovable, need to be disclosed to satisfy the requirements of our tax laws, notably in relation to the '3 per cent tax', trustees reporting obligations and National Registry, wealth tax, income tax, gift and inheritance tax. Owning assets through French or offshore vehicles is not a solution as this usually attracts even more confiscatory taxes.
v Issues affecting entrepreneurs at the proprietor level
The high level of social charges and taxes and the lack of flexibility of our labour laws are also severely affecting the situation of entrepreneurs in France.
In another respect, the exit tax regime had a significant impact on French entrepreneurs until its recent reform. The exit tax provides that, subject to specific deferral rules, an individual who was a resident of France for income tax purposes during the six years preceding the exit date will be subject to exit tax on latent gains pertaining to direct or indirect participations (crystallised on the day preceding the exit date), to the extent that, alone or together with other members of the household, the individual's participation represents 50 per cent of the annual profits or €800,000, irrespective of whether the entity is French, provided only that it is subject to corporate tax or an equivalent tax.
An automatic payment deferral (without collateral) of the income tax component is available if the taxpayer transfers his or her residence from France to another EU Member State or European Economic Area Member State, provided that country has signed an administrative assistance agreement or mutual assistance agreement with France. Payment deferral may be also granted in other situations (e.g., transfer of residence for professional reasons). The latent gain is no longer taxable after two years; or five years when the entire share value exceeds €2.57 million.
i Introduction to succession
One of the most notable differences between the common law and civil code systems in the area of the law that will be reviewed here is that, generally, civil law systems do not recognise the concept of 'estate'. This is true in France. The nearest conceptual equivalent is the notion of masse successorale, which refers to the whole of the assets and liabilities of the deceased at the time of death.
Under French inheritance civil law, the conceptual approach is that the estate of the deceased passes directly to his or her heirs at the very moment of death.
Another difference between the two legal systems is the existence under most civil law systems of a limitation on testamentary freedom.
In France, issue of the deceased and, in the absence of issue, certain close relatives and, in most cases, the deceased's surviving spouse, enjoy special protection by operation of law, the effect of which is to guarantee that they receive a set portion of the estate depending on the number of children of the deceased, if any, as follows: if there is one child, the reserved portion is half; two children, two-thirds; and three or more children, three-quarters. In the event a child dies leaving issue, then the same rules apply per stirpes. In the absence of children, another reserve rule applies to parents, depending on whether there are survivors in one or two ascending lines. In private international law terms, the EU Regulation No. 650/2012 on International Successions, adopted in June 2012, and which applies to successions opened since 17 August 2015, avoids the fragmentation of successions and enables people living in the EU to organise their succession in advance and guarantees the rights of heirs and legatees. Since that date, the succession is subject to a single law: that of the nationality of the deceased or of his or her last domicile.
The regulation provides a European certificate of succession, which will constitute proof of the capacity of heir or legatee and of the powers of the executors of wills or third-party administrators.
ii Key legislative or case law changes affecting succession
Under the Civil Code it is now possible for an individual who wishes to plan for the time he or she is no longer alive, to agree separately with one, several or all reserve heirs that the latter waive their right to challenge violations of their reserved portion. This opens the way for transfers of estate assets in excess of the free portion, to the extent of the rights that the relevant heir or heirs have waived. However, this can only be done by written deed under the strictest conditions of form, which notably involve the presence of two French notaries. Only those reserve heirs that are of age can enter into one of those agreements. This waiver is not a taxable event excepting a modest stamp duty.
In addition to the foregoing, it is also now permissible for a person who is planning ahead for his or her succession to delay the moment when the heir has access to his or her share in the estate, for instance when the heir is a minor or needs to finish his or her education.
This can be achieved by way of a special deed signed in the presence of a notary. This is known as a power of attorney with posthumous effect, which survives the death of the principal.
Under such a power of attorney, the principal can entrust to any person, including a legal entity, the management of certain designated assets for a limited duration (two or five years, depending on the circumstances, renewable by court order). The power of attorney must be precise in the description of the agent's powers and must designate the heir or heirs with respect to whom the document is written.
Another development in our law now makes it permissible for an individual, instead of transferring all or part of the future succession assets unconditionally, to make a lifetime gift or a bequest subject to the condition that: (1) the transferee on his or her death leave whatever remains of the gift or bequest to a named third party (residual gift or bequest);3 or (2) the transferee keeps the gift or bequest during his or her lifetime and leaves it to a named third party on his or her death.4
The tax system applicable to gradual and residual gifts and bequests is quite complex but attractive.
iii Cross-border developments
As regards international gifts, French domestic law provides for very limited flexibility in terms of permitting tax-deductible gifts from a French tax resident to a foreign philanthropic body, except (rarely) when a treaty provides for more favourable rules or when the charity is situated in the European Union.5
Concerning the Brexit vote, the tax treatment of the gifts made by EU donors to UK charities is yet to be confirmed.
IV WEALTH STRUCTURING and REGULATION
i Commonly used vehicles for wealth structuring
Vehicles appropriate for wealth structuring depend mainly on the jurisdiction of residence of the owner and on applicable tax treaty provisions, if any. French residents generally opt for direct detention of their assets or through a civil law company and are keen on life insurance products. Business assets are generally owned through corporations, frequently European corporations. Trusts and family foundations have been used by individuals and families in recent decades, but the new law against trusts introduced by the previous government has put a stop to that. This has generated huge difficulties for those families whose assets were structured on the basis of fiduciary relationships, even for those families that were established in common law high-tax jurisdictions.
The traditional vehicles used for planning in a French context are the following.
France does not have partnerships properly speaking but civil companies (as well as other types of structures), which operate very much as partnerships. Civil companies are transparent for civil law purposes and semi-transparent for tax purposes.
By way of example, real estate may be held through a real estate investment company, commonly known as an SCI. The SCI share value can therefore be reduced by bona fide bank loans (but no longer by shareholder loans), provided such bank loans were taken out for the purpose of purchasing the property or with respect to structural work in the property.
Life insurance products provided they are EU-law compliant, offer a solution to reduce the scope of application of forced heirship rules. Indeed, under the Insurance Code, monies paid to a beneficiary on the occasion of the death of the owner of the policy are excluded from the succession of the deceased, which means in particular that they are not subject to forced heirship rules.
However, this freedom is subject to a rule of reason that was elaborated in case law, so that great prudence must be exercised if the sums invested as premiums in life insurance exceed the likely value of the free portion on the death of the policyholder.
ii Legal and tax treatment of commonly used vehicles
France does not have a trust law of its own. It signed, but did not ratify, the 1985 Hague Convention on the Recognition of Trusts; however, France, to a large extent, recognises foreign trusts under its own principles of private international law. Indeed, under such rules, a foreign trust should be recognised as a fact, subject to proper evidence being provided.
In addition, for several years, certain French laws have referred directly to trusts: Article 120(9), Article 123-bis and Article 990 D of the Tax Code.
French courts have also recognised foreign trusts as a specific legal concept that should be recognised as such. Since 2011, a trust is now fully transparent for tax purposes, notably wealth tax, gift tax and inheritance tax. As a result, owning French assets, especially French properties through a trust, requires filing of information with the French revenue on a yearly basis in regard to the fair market value of the property and the name of the ultimate beneficiary. Failing that, a 3 per cent tax is assessed on the fair market value of the underlying property and is payable each year. In some cases, the trustee may have to pay penalties of 12.5 per cent of the trust assets. A national registry listing trusts involving residents of France or French assets is now in place and records the personal details of settlors, beneficiaries and trustees, as well as the annual value of the trust assets. How accessible it is to the public is debatable, but in any case, it is at the disposition of the French tax administration.
Life insurance provides protection against income tax while the funds remain invested, as well as significant income tax reductions when the owner of the policy decides to withdraw funds. Life insurance can also be used as a planning tool to reduce exposure to wealth tax.
Last, sums passing to an insurance beneficiary on the death of the owner are not subject to inheritance tax (except as regards premiums paid by the policyholder after his or her 70th birthday), but rather to a flat 20 per cent tax up to €700,000 and 31.25 per cent above that amount, assuming that the share received by each beneficiary exceeds €152,500. This rate applies irrespective of whether the policyholder is a French tax resident or not.
iii Key aspects of regulation of service providers dealing with private wealth
Anti-money laundering regime
In France, subject to the following, all transactions suspected of involving money laundering or terrorist financing are reported to a 'cell' of the Ministries of Finance and Budget: the Intelligence Processing and Action Against Clandestine Financial Circuits cell, TRACFIN.
France has implemented the Third EU Money Laundering Directive by way of an Ordinance dated 30 January 2009 and subsequent implementation decrees.
French lawyers do not report directly to TRACFIN. Rather, they must declare any suspicions of money laundering to the president of the relevant bar. The president then passes on such declarations to TRACFIN, unless he or she considers the suspicions to be unfounded.
In addition, French lawyers are, to an extent, exempted from certain obligations under anti-money laundering laws when they act in the context of legal proceedings to defend a client or provide advice in the interest of the defence of a client, excepting naturally the case of advice that would place the lawyer in the position of an accomplice.
EU Savings Tax Directive
The Savings Tax Directive establishes a system of declaration of savings income paid to non-resident investors to facilitate taxation in the Member State where the beneficial owner resides. France opted for the systematic declaration approach.
On regulatory matters, beyond the modernisation of a number of bilateral treaties (e.g., with the United Kingdom, Luxembourg, Belgium and Switzerland), France has entered into a number of tax information exchange agreements, which, subject to some specifications, are in line with Article 26 of the OECD Model, notably with Andorra, Anguilla, the British Virgin Islands, Belize, Brunei, the Cayman Islands, the Cook Islands, Costa Rica, Dominica, Gibraltar, Guernsey, Liberia, Liechtenstein, the Isle of Man, Jersey, the Netherlands Antilles, San Marino and Uruguay.
EU Foreign Account Tax Compliance Act
New legislation similar to the US Foreign Account Tax Compliance Act is in force in the EU territory and in France,6 submitting financial institutions to annual or occasional reporting obligations to the EU tax authorities regarding individuals owning, directly or indirectly, bank accounts or financial investments.
French internal rules also provide strict controls and substantial penalties for hidden bank accounts.
Recently, the EU Council has revised on 24 June 2020 the 2018/822 MDR Directive (DAC6) imposing reporting obligations to intermediaries or taxpayers within a period of 30 days cross-border arrangements. That provision grants to the EU Member States the following extension: (1) arrangements of the period 25 June 2018 to 30 June 2020 must be reported by the end of February 2021; and (2) a 30-day period applies as from January 2021 for arrangements of the period from July to December 2020.
Another extension could be decided depending of the evolution and implications of the covid-19 pandemic.
V OUTLOOK and conclusions
The current government is urging reforms, notably of the French tax system. This is triggering reactions and protest movements, but at the moment offers the opportunity of refreshing the whole tax system.
1 Line-Alexa Glotin is a partner at UGGC Avocats.
2 'Know your customer' regulation, which requires that professionals make an effort to verify the identity, suitability and risks involved with creating or maintaining a business relationship (cf. anti-money laundering (AML) policy).
3 Article 1057 et seq.
4 Article 1048 et seq.
5 C-318/07 Hein Persche, 27 January 2009.
6 In November 2013, the United States and France signed a bilateral agreement requiring French banks to report to the French government information about their US account holders. The government of France will forward that information to the Internal Revenue Service and in return the Internal Revenue Service will provide similar information to France about French account holders at US financial institutions.