The Lending and Secured Finance Review: France
Corporate lending remains the most prevalent source of financing for French corporate borrowers, through either syndication or club deals. As an alternative source of funding, French corporates and especially medium-sized to large corporates use private placements, thus allowing them to access institutional investors and diversify their financing sources.
For syndicated loans, the most widely used precedent remains the French law Multicurrency Term and Revolving Facilities Agreement published by the Loan Market Association.
A form of private placement has emerged on the French market since 2012: Euro Private Placements (Euro PPs), which are medium or long-term financings granted in the form of either a loan agreement or an issue of listed or unlisted bonds between a company and a small number of investors. The model loan agreement and model subscription agreement (for the issuance of bonds), each drafted in French and English, were published by the Bank of France and the French Treasury for use in the context of Euro PPs and have been updated in October 2019. In January 2016, the AMAFI2 published a Code of Best Practice for Euro PP arrangers. In addition, to render the French bonds market more attractive, the order dated 10 May 2017 modernised French law to simplify the development of bonds issues governed by it. Some amendments have simplified the applicable regime – in particular, by clarifying the obligations of the issuers – and other amendments were made to facilitate the regime where the bonds issued are subscribed by qualified investors. The amount borrowed under syndicated companies in France was around US$151.2 billion in 2019 compared with US$170.8 billion in 2018.3
Notable recent deals in France include: (1) the syndicated loan for a total amount of US$4.96 billion for Accorinvest SAS;4 and (2) the financing of the acquisition by LVMH Moet Hennessy LV SE of Tiffany & Co through a loan of US$17 billion.5
Legal and regulatory developments
i Reserved banking activities
Pursuant to Article L. 511-5 of the French Monetary and Financial Code (MFC), the ability to carry out credit transactions on a regular basis is, in principle, subject to the monopoly of licensed credit institutions (banks) and finance companies (together with licensed credit institutions and authorised entities). Finance companies were created in 2013 in France, and may only carry out credit transactions and, subject to exceptions, do not benefit from the European passport. In 2018, 175 finance companies were registered in France.6
These restrictions are known as the 'banking monopoly'. This monopoly also extends to receiving funds from the public and providing banking payment services, which can only be carried out by credit institutions (notwithstanding the possibility for payment institutions to provide payment services aside the banking monopoly regulations).
Subject to certain conditions defined by EU law, an entity authorised to carry out banking activities (such as carrying out credit transactions) in a European Economic Area (EEA) Member State is entitled, if it chooses, to carry out the same permitted activities in any other EEA Member State by either exercising the right of establishment (through a branch or agents) or providing cross-border services.
Thus, a licence would be required for an entity to carry out what qualifies as credit transactions in France on a regular basis.
Breach of banking monopoly rules constitutes a criminal offence (with penalties of up to three years' imprisonment and a fine of up to €375,000).
A credit transaction is defined by Article L. 313-1 of the MFC as any act whereby a person, acting in exchange for payment (fees, interest or any other kind of payment), provides or promises to provide funds to another person or an undertaking on behalf of another person.
The term 'credit transaction' is therefore broad in scope and covers many types of transactions.
Exceptions to the banking monopoly
The banking monopoly regime is subject to a number of exceptions set out in the MFC and the French Commercial Code, including the issuance or subscription of bonds, deferred payment terms, vendor loans, intra-group loans (i.e., credit transactions between entities under common control) and loans granted to a company by direct shareholders of the share capital of the company.
Certain specific entities that are not authorised entities may, in certain circumstances, carry out credit transactions, such as insurance companies, payment services providers, crowdfunding platforms, or certain funds, including in particular those that are recognised as European long-term investment funds and certain alternative investment funds.
The Macron Law, which was adopted in August 2015, introduced a new exception to the banking monopoly. Under the new law, limited liability companies can extend loans with a maturity of less than two years to small and medium-sized enterprises with which they have business relationships. A decree released on 24 April 2016 sets out the various business relationships under which enterprises are authorised to extend loans and the maximum annual amount of such loans per borrower and in aggregate, depending on the size, the net cash and cash equivalent of the lending company. Law No. 2019-486 of 22 May 2019 on the growth and transformation of business relaxed these rules by allowing more company types to grant this kind of loan and increasing the maximum term from two to three years.
To facilitate cross-border transactions, Order No. 2017-1432 of 4 October 2017 introduced a new exception that allows, since 1 January 2018, certain foreign entities and institutions to acquire professional non-matured loan receivables from French regulated entities. Eligible foreign acquirers must have an activity or corporate purpose similar to those of certain entities authorised to lend in France pursuant to applicable banking monopoly rules.
A new exception was also introduced by Law No. 2018-1021 of 23 November 2018 as regards certain credit operations among entities belonging to a social housing organisation group. As regards intra-group loans, Law No. 2019-486 of 22 May 2019 on the growth and transformation of business broadened the possibility for companies to receive repayable funds from their shareholders and officers by, inter alia, abolishing the requirement for shareholders to hold at least 5 per cent of the companies' capital.
ii Authorised entities and prudential obligations
Banking licences have been granted to credit institutions by the European Central Bank (ECB) since 4 November 2014. However, a filing must be made with the French banking regulator (ACPR), which assesses all applications and forwards draft decisions to the ECB. Moreover, licences for finance companies are still granted by the ACPR.
Credit institutions considered as 'important' in accordance with Council Regulation (EU) No. 1024/2013 are supervised directly by the ECB, whereas less important credit institutions and finance companies are directly supervised by the ACPR.
To be licensed as a credit institution or a finance company, an institution must meet certain prudential requirements relating to its share capital, and its maintenance of solvency and liquidity ratios. Additional requirements pertaining to the governance and the internal organisation of the credit institution or finance company must be met (e.g., appointment of control officers, a compliance officer or a risk management officer).
iii Impact of Basel III, the Bank Recovery and Resolution Directive, the Capital Requirements Regulation, the Capital Requirements Directive,7 sanctions and anti-corruption laws
The impact of the implementation of global regulatory regulations such as Basel III, the Bank Recovery and Resolution Directive, the Capital Requirements Regulation and the Capital Requirements Directive is difficult to assess with respect to corporate lending, even if such measures certainly affect the pricing of loans made by banks.
However, as far as documentation is concerned, these regulations impact the 'increased-costs' provisions pursuant to which the costs of compliance with the regulations are to be borne by the borrower. These increased-costs clauses are usually heavily negotiated by French corporates. In this respect, a series of four texts adopted on 20 May 2019 could have some impact on the current pricing because they significantly amend the above-mentioned European regulatory framework.
In addition, the increasing range of sanctions and anti-corruption laws implemented around the world (in particular, sanctions imposed by the Office of Foreign Assets Control of the US Treasury Department, the ACPR and the French anti-bribery agency), as well as their significant extraterritorial effect and their consequences in the event of breach (as illustrated by the US fine imposed on BNP Paribas in 2014 or by the French fine imposed on La Banque Postale in 2018), has led many lenders to seek specific representations and undertakings from the borrower in relation to these matters. These are not only required in most loan documentation negotiated recently, but also by arrangers and initial purchasers in the context of French law bond issues through representations or due diligence questionnaires.
i Deductibility of interest for borrowers
Interest expenses incurred by a company subject to French corporate income tax are generally deductible for tax purposes, subject to the specific limitations or anti-abuse rules described hereinafter, provided that the following criteria are simultaneously met:
- the debt has been incurred for the direct purpose of the business carried out by the borrowing company;
- the debt is duly recorded in its balance sheet for accounting purposes;
- the financial terms and conditions of the debt are set at 'arm's length'; and
- the debt service (i.e., repayment of principal and payment of interest charges) does not exceed the financial capabilities of the borrowing company nor deprive it of the necessary funds to meet any reasonable, foreseeable investment needs.
Definition of a related party
All references to 'related parties' below mean two companies where one company controls (directly or indirectly) the other or they are controlled directly or indirectly by another company. A company is considered as controlling another company if it holds the majority of the share capital of that company or it de facto manages that company.
Main specific limitation rules
These limitation rules shall apply following the order specified by the law and the French tax authorities in their guidelines.
Limitations to the deduction of interest depending on the interest rate
As a general rule, interest paid by a French company to its shareholders is deductible only if the borrower's share capital is fully paid up.
Interest paid by a French company to its shareholders who do not qualify as related parties is only deductible within the limit of the average annual interest rate for certain loans granted by banks (1.32 per cent for fiscal year ending on 31 December 2019).
Interest paid by a French company on loans granted by related parties (even if the related party is not a shareholder of the borrower) is only deductible within the limit of the interest rate defined above. Should the interest rate exceed such limit, the interest may nevertheless be deducted provided that the borrower demonstrate that the applied rate does not exceed the rate that the borrower would have obtained from independent financial institutions in comparable circumstances.
France adopted new anti-hybrid limitations provided by Directive (EU) 2017/952 (ATAD 2) and replacing the existing French anti-hybrid provision existing up to that point. These limitations are applicable for fiscal years opened as from 1 January 2020 to (1) hybrid mismatches and (2) tax residency mismatches and are applicable to any expense and not only to financial expenses. Additional rules will be applicable to reverse hybrid mismatches for fiscal years opened as from 1 January 2022.
Limitation applicable to 'hybrid mismatches'
Subject to certain exceptions, this limitation aims at preventing hybrid mismatches, as defined hereafter, resulting in (1) the deduction for tax purposes of a payment by the debtor which is not included (taken into account) in the taxable result of the beneficiary (deduction without inclusion) or (2) the deduction for tax purposes of a payment both by the debtor and another person (double deduction).
In principle, these limitations apply to mismatches arising (1) between a taxpayer and an associated enterprise, between associated enterprises of the same taxpayer, between the head office and an establishment9 or between two or several establishment of the same entity or (2) under a structured arrangement.10
For the purpose of these limitations:
- 'associated enterprises' means:
- an entity in which the taxpayer holds directly or indirectly at least 50 per cent of the voting rights, of the share capital or of the profit rights;
- an entity that controls, under the same conditions as bullet 1, the taxpayer;
- an entity in which a person, which holds directly or indirectly at least 50 per cent of the voting rights or of the share capital of the taxpayer, also holds at least 50 per cent of the voting rights or the share capital;
- an enterprise that is part of the same consolidated group for accounting purposes (global consolidation);
- an enterprise on the management of which the taxpayer has a significant influence or that has a significant influence on the management of the taxpayer.11 For purposes of bullets 1 to 3, a person who acts together with another person in respect of the voting rights or share capital of an entity shall be treated as holding a participation in all of the voting rights or capital ownership of that entity that are held by the other person.
- 'hybrid mismatches' encompass:
- financial instruments (broadly defined) giving rise to a deduction in the state of residence12 of the debtor without inclusion in the taxable result of the beneficiary in its state of residence,13 when the mismatch is attributable to a difference in the tax qualification of the instrument or of the payment itself;
- payments to a hybrid entity (as specifically defined) giving rise to a deduction in the state of residence of the debtor without inclusion in the taxable result of the hybrid entity in its state of residence, when the mismatch is attributable to a difference in the attribution of payments to the hybrid entity pursuant to the rules of the state of residence of the hybrid entity and of the state of residence of any person holding a participation in the hybrid entity;
- payments to an entity having one or more establishments giving rise to a deduction in the state of residence of the debtor without inclusion in the taxable result of the entity, when the mismatch is attributable to a difference in the attribution of payments between the head office and the establishment or between two or more establishments of the same entity pursuant to the rules of the states in which the entity performs its activities;
- payments to an establishment giving rise to a deduction in the state of residence of the debtor without inclusion in the taxable result of the establishment in another state as a result of this establishment being disregarded by this other state;
- payments by a hybrid entity giving rise to a deduction in its state of residence without inclusion in the taxable result of the beneficiary, when the mismatch is attributable to the absence of consideration of the payment in the state of residence of the beneficiary;
- a deemed payment between an establishment and its head office or between two or more establishments giving rise to a deduction in the state where this establishment is located without inclusion in the taxable result of the beneficiary, when the mismatch is attributable to the absence of consideration of the payment in the state of residence of the beneficiary; and
- payment giving rise to a double deduction, even when the payment is made to a third party which is not an associated enterprise.
The French tax consequences of these limitations can be summarised as follows:
- when a 'deduction without inclusion' hybrid mismatch is concerned, (x) the payment is not deductible for French corporate income tax purposes (in practice when the debtor is established in France and the beneficiary outside France) or (y) the payment is subject in France to corporate income tax (in practice when the debtor is established outside France in a state allowing the deduction and the beneficiary in France); and
- when a 'double deduction' hybrid mismatch is concerned, the payment is not deductible for French corporate income tax purposes (x) at the level of the investor14 when this investor is established in France or (y) at the level of the debtor when the investor is established outside France in a state allowing the deduction (deduction may finally be allowed if it can be proved that the relevant income is subject to a 'double inclusion' in respect of the same fiscal year or any fiscal year beginning within 24 months from the end of the fiscal year in respect of which the deduction of the expense occurred).
Specific provisions are applicable to 'imported hybrid mismatches',15 to 'mismatches involving disregarded establishment of a French entity', and to 'hybrid transfers'.16 In the case of imported hybrid mismatches, the deduction of related payments is denied in France in whole or in part unless one of the jurisdictions involved in the transaction applies an equivalent neutralisation of such hybrid mismatch. In the case of mismatch involving a disregarded establishment of a French entity, the income attributed to this establishment which is not included in its taxable results in its state of establishment will be included in the taxable result of the French entity unless France is required to exempt such income from French taxation pursuant to a double tax treaty.17 In the case of hybrid transfers designed to produce a relief for tax withheld at source on a payment derived from a transferred financial instrument to more than one of the parties involved, the benefit of such relief is limited in proportion to the net taxable income relating to the relevant payment.
Limitation applicable to 'reverse hybrid mismatches'
A reverse hybrid mismatch is characterised where one or more associated enterprises, holding individually or jointly directly or indirectly at least 50 per cent of the share capital, of the voting rights, or of the rights to profits in a hybrid entity that is incorporated or established in a EU Member State, are established in one or more states that regard the hybrid entity as a taxable person.
Where such a hybrid entity is incorporated or established in France, its income are subject to taxation in France to the extent that such income is not otherwise taxed under the laws of another jurisdiction.18 An exception is provided, under certain conditions, to certain collective investment vehicles.
Limitation applicable to 'tax residency mismatches'
This limitation concerns the payments, expenses and losses deductible from the taxable result of a taxpayer having its residence in France and in another jurisdiction, which are taken into account in both jurisdictions.
In this case, the deduction of these elements is denied for French tax purposes, unless (1) the payment, expense or loss is included in the taxable result of the beneficiary, or the loss is reinstated in the taxable income of the taxpayer, both in France and in the other jurisdiction (double inclusion) or (2) the other jurisdiction is another EU member state which denies the deduction and the taxpayer is tax resident in France pursuant to the double tax treaty between France and such other member state.
General limitation on the deduction of interest based on the taxpayer's EBITDA
France adopted, on 1 January 2019, a new set of rules concerning interest deduction and thin capitalisation, based on the Anti-Tax Avoidance Directive (ATAD) (Directive (EU) 2016/1164 dated 12 July 2016).
The reform limits the deductibility of interest if and to the extent that the net borrowing costs of the French taxpayer (towards both related and unrelated parties) exceed the higher of 30 per cent of its EBITDA for tax purposes19 or €3 million for a full FY. For taxpayers that are members of a French tax consolidated group, the same rules apply – subject to certain adjustments not specifically detailed here – at the level of the group and do not apply in practice to interest paid between members of the French tax consolidated group.
EBITDA is calculated based on the taxpayer's income subject to French corporate income tax for a given fiscal year (and before offsetting losses of prior fiscal years and before implementation of this limitation), adjusted with amounts for netted amortisation, deductible provisions for depreciation, net deductible borrowing costs, and certain income, capital gains or losses subject to reduced corporate income tax rates.
Net borrowing costs refers to the excess of deductible financial expenses (after implementation, as the case may be, of the above-mentioned limitation rule applicable to excessive interest expenses between direct shareholders or related parties) over taxable financial income received by the company (the definition of financial expense and income is quite broad).
Companies that belong to a consolidated group for financial accounting purposes (global consolidation) may benefit from a safe harbour clause: they are able to deduct an additional 75 per cent of the amount of net borrowing costs not allowed for deduction under the above-mentioned general limitation, provided that the ratio between their equity and their total assets, as specifically defined for the purpose of this safe harbour, is equal to or greater than the same ratio determined at the level of the consolidated group to which they belong. The ratio of the company is deemed to be equal to the ratio of the consolidated group if the ratio of the company is lower than the ratio of the group by a maximum of two percentage points.
Non-deductible interest under such limitations could be carried forward indefinitely. However, if the company qualifies for the application of thin-capitalisation rules, the interests that cannot be deducted under the second thin-capitalisation limitation (see below) can be carried forward only pursuant to a more stringent specific rule (see below).
Unused interest capacity (i.e., the positive difference between the applicable thresholds and the amount of interest deducted during a given fiscal year) may also be used to increase interest deductibility during the subsequent five fiscal years, except if the company qualifies for the application of thin-capitalisation rules, where none of the unused interest capacity can be carried forward (even when the unused interest capacity has been generated the company was not thin-capitalised).
For fiscal year closed as from 31 December 2019, a safe harbour is applicable to 'stand-alone' companies, corresponding to a company which, in respect of the relevant fiscal year, does not belong to a consolidated group for financial accounting purposes and does not have an establishment outside France or an associated undertaking within the meaning of Article 2 of the UE Directive 2016/1164. This safe harbour allows to deduct an additional 75 per cent of the amount of the net borrowing costs, without any carry forward of the remaining non-deductible interest.
Rules applicable in case of thin capitalisation
Special rules apply in the case of thin capitalisation, namely where a company's average indebtedness towards related parties exceeds 1.5 times its net equity for a given fiscal year. As the case may be, a twofold mechanism is to be applied to determine the total amount of interest that can be deducted:
First, a ratio between the company's indebtedness to unrelated companies (increased by 1.5 times its net equity) and the company's total indebtedness must be computed. A first limitation is determined by multiplying this first ratio by the higher of 30 per cent of the taxable EBITDA or €3 million for a full FY. Within this limit, a first amount, (A), equals to the net financial expenses also multiplied by this first ratio, is deductible.
Second, another ratio between the company's indebtedness to related parties (diminished by 1.5 times its net equity) and the company's total indebtedness must be computed. A second limitation is determined by multiplying this second ratio by the higher of 10 per cent of the taxable EBITDA or €1 million for a full FY. Within this limit, a second amount, (B), equals to the net financial expenses multiplied by this second ratio, is deductible.
The total amount of interest that can be deducted results from the addition of the deductible amount determined by the application of both rules (A+B). Non-deductible interest pursuant to the second ratio could be carried forward indefinitely but only up to a third of their amount and interest expense carried forward from previous fiscal year may only be deducted that year within the limit of the first limitation.
Pursuant to a specific safe harbour, a thin-capitalised company will not be subject to the thin-capitalisation limitation if, for the given financial year, the ratio between the total indebtedness and the equity, as specifically defined, of the consolidated group to which the concerned company belongs is greater than or equal to its own ratio. The debt-to-equity ratio of the relevant company is deemed to be equal to the ratio of the consolidated group if the company's ratio is not higher, by more than two percentage points, than the debt-to-equity ratio of its consolidated group.
A thin-capitalised company is deprived from the general safe harbour applicable to the members of consolidated groups unless it benefits from the specific safe harbour described above. As mentioned above, special carry-forward rules concerning non-deductible interest and unused interest capacity shall apply.
In addition to general anti-abuse rules not described here, French tax law provides for various general anti-abuse rules that may specifically apply to interest deduction.
Within French tax consolidated groups, an anti-abuse rule may apply where a company is acquired by a company controlled directly or indirectly by the seller (or placed under common control with the seller), and the transferred company is or become a member of the same French tax consolidated group than the purchaser.
In cross-border transactions, interest paid by French companies to entities located in low-tax jurisdictions, or on an account opened in the books of a financial institution established in such jurisdiction, is only deductible if the borrower proves that the interest relates to genuine transactions and is not excessive. For interest due to entities located in a non-cooperative state or territory (NCST, as defined hereafter) or on an account opened in the books of a financial institution established in such NCST, the borrower must further demonstrate that the main purpose and effect of the transaction are not to transfer income to the NCST.
Initially, the French list of NCSTs included the states or territories subject to a review by the Organisation for Economic Co-operation and Development (OECD) in respect of tax transparency and exchanges of tax information, and which have not concluded with France and at least 12 other states or territories a convention on administrative assistance allowing the exchange of information necessary for the application of their respective tax laws. This list is updated, in principle each year, on the basis of certain criteria by a ministerial ruling.
This initial list, as updated, was amended on 23 October 2018 to include the states and territories, other than those of France, that are considered as NCSTs by the European Union, listed in Annex I of the EU list of NCST published on 5 December 2017, as amended. In this respect, French legislation distinguishes between (1) the states and territories included in the EU list on the ground that they facilitate the creation of extraterritorial structures or devices intended to attract benefits that do not represent real economic activity, and (2) the states and territories included in the EU list because they do not meet at least one of the other EU criteria defined by Annex V of the list, namely tax transparency, the absence of preferential tax measures that are potentially harmful or the implementation of the Base Erosion and Profit Shifting (BEPS) project. This extension of the French list of NCST has in practice been effective, as far as the jurisdictions added to the list are concerned, since 1 April 2020,20 this date corresponding to the first day of the third month following the publication of the ministerial ruling published on 7 January 2020 (the amendments made to the EU list after the publication of the ministerial ruling on 7 January 2020 will become effective into French law only after the publication of a new ministerial ruling).
Please note that, depending on the nature of the financial expenses and of the loan agreement, specific reporting obligations may have to be complied with by the taxpayer (failure to comply with these obligations may entail the payment of penalties).
ii Withholding taxes on payments to lenders
Interest paid by French companies to non-residents is not usually subject to any withholding tax, except for (in each case subject to more favourable provision of any applicable tax treaty):
- interest paid outside France in an NCST, which is subject to a 75 per cent withholding tax, unless the company proves that the main purpose and effect of the transaction are not to transfer income to the NCST (this withholding tax concerns the NCST that are mentioned in the French list and in the first category of the EU list. The states or territories mentioned in the second category of the EU list will not be concerned by this measure); and
- interest which are not deductible for French tax purposes (which may generate a deemed distribution subject to withholding tax), subject to exceptions specifically provided either by the law or the guidelines of the French tax authorities.
iii Documentary and transfer taxes
France does not levy any documentary or transfer taxes on loan agreements.
iv Impact of the FATCA and of the OECD Common Reporting Standard
The Foreign Account Tax Compliance Act (FATCA) was enacted by the United States in 2010 to combat offshore tax evasion by US persons. On 14 November 2013, the French Minister of Economy and Finance and the US ambassador to France signed a bilateral intergovernmental agreement intended to implement the FATCA, which was implemented in France by Law No. 2014-1098, dated 29 September 2014.
The Savings Directive (Directive (CE) 2003/48, amended by Directive (EU) 2014/48), which provided for the automatic exchange of information between tax authorities of Member States on income from private savings, was repealed on 10 November 2015. The repeal of this Directive aimed to prevent overlap with Council Directive (EU) 2011/16, as, amended by Directive (EU) 2014/107 (DAC2), which entered into force on 1 January 2016 and is directly inspired by the OECD Common Reporting Standard (CRS), thus extending the scope of exchange of information between Member States to include, notably, financial accounts, interest and dividends paid to such accounts.
The FATCA and CRS regimes are notably implemented in France through Article 1649 AC of the French Tax Code (FTC). French financial institutions must on that basis report on an annual basis to the French Tax Authorities some information relating to the financial accounts held by reportable persons (as specifically defined) they maintain and to the holders of such accounts.
Article 56 of the Amending Finance Bill for 2017 (law No. 2017-1775 dated 28 December 2017) has expanded the provisions contained in the FTC, the French Tax Procedures Code (TPC) and the MFC related to such regimes, by:
- introducing French regulators (ACPR and AMF) to control the compliance of French financial institutions;
- requiring financial institutions to maintain an audit trail and a control plan;
- enacting the prohibition to open a new financial account without collecting a self-certification;
- providing for a new reporting obligation of account holders that would not have provided the financial institutions with the relevant information; and
- introducing new penalties, including applicable directly to account holders.
Credit support and subordination
This section describes current applicable French legal framework that could be modified pursuant to the draft bill described in Section VII.
Security interests over an asset must be granted in accordance with the specific set of rules applying to the category to which the asset belongs. Security packages are therefore most often documented through several separate security documents (although some law firms choose to cover several unregistered security interests in one single security agreement).
Below is an overview of certain types of security interests that may be granted over assets located in France.
Registration always requires the payment of fees (the amount of which represents a percentage of the secured obligations for mortgages and security trusts while registration fees for other registered securities are nominal) and a renewal of the registration on occasion to maintain the effectiveness and ranking of the security interests.
All registered security interests must be drafted in French to allow registration with the relevant authorities for validity or perfection purposes and cover the relevant mandatory points required by law to be valid.
Security interests over real estate
Mortgages are granted over lands and buildings. To be valid, they must be executed before a public notary. To be perfected, they must be registered with the land registry, which will trigger the payment of various costs, including the real estate registration tax.
Security trusts require rights and assets (whether present or future) to be transferred to a trustee acting in favour of the secured creditor. The assets held by the trustee of the security trust are segregated from its own assets. They are generally used in restructuring transactions where the assets of the borrower consist of real estate.
To be valid, security trusts must be registered with the local tax authorities within one month of their execution.
Security interests over tangible movable property
Pledges over a business
Pledges over a business are granted over the business and cover at least the trade name, the leasehold rights where the business is operated and the goodwill of the business. If expressly provided and identified in the pledge agreement, the scope of the pledge may extend to fixed assets such as furniture, machinery, equipment and intellectual property (IP) rights attached to the business. The secured creditors may also decide to pledge machinery, equipment or IP rights under the specific regimes described below.
To be valid, they must be registered with the tax authorities and then with the registrar of the commercial court within 30 days of execution.
Registration requirements are described below, for situations where the IP rights are included within the scope of the pledges over a business.
Pledges over inventory
Pledges over inventory may be created in accordance with the French Civil Code (civil law pledges) or with the French Commercial Code (commercial law pledges).
To perfect a civil law pledge, it must be registered with the registrar of the relevant commercial court or the pledgor must effectively transfer possession and control of the pledged assets. The transfer is usually carried by a third-party service provider, which then undertakes certain obligations.
Since an order dated 29 January 2016, with respect to contracts entered into after 1 April 2016, the regime of the commercial law pledge has been simplified. However, the availability of a commercial law pledge is still limited, as the beneficiary of the pledge can only be the credit institution (see Section II) that has extended the financing secured by the security interest.
To be enforceable against third parties, the pledge must contain mandatory provisions and be registered with the registrar of the relevant commercial court.
Case law decided that the use of civil law pledges is only possible in instances where the conditions for creating commercial law pledges are not met. However, the above-mentioned order dated 29 January 2016 has expressly provided that parties can freely decide from 1 April 2016 whether to use a civil law pledge or a commercial law pledge.
Pledges over machinery and equipment
Pledges over machinery and equipment can only be granted to the seller, the credit institution financing the payment of the purchase price or the guarantor guaranteeing payment of the purchase price for the identified machinery and equipment over which the pledge is created to secure the payment. They must be directly granted in the sale agreement or the financing agreement.
To be valid, it must be granted within two months of delivery of the relevant machinery and equipment, and be registered with the tax authorities and then with the registrar of the commercial courts within 15 days of execution.
Security interests over shares and financial instruments (securities)
Pledges over securities accounts
Pledges over securities accounts are governed by the MFC and are only relevant where the securities to be pledged are issued by a French limited liability company that is not a limited liability partnership. They apply to the securities account on which the securities and future securities held in the name of the pledgor are registered. The securities account is opened in either a paper format register held by the issuer of the securities or in an electronic format register by a regulated intermediary authorised by law to hold such accounts (the pledged securities account holder).
These pledges are created by the execution of a statement of pledge drafted in French, containing mandatory provisions and covering both the securities account where the securities held in the name of the pledgor are registered, and the special proceeds account opened in the name of the pledgor in the books of a bank or of the pledged securities account holder, where all dividends pertaining to the securities are transferred.
In practice, the security interest is registered in the securities transfer register and in the security holders' accounts of the French company.
Pledges over partnership interests
Pledges over partnership interests are governed by the French Civil Code and are applicable only to shares issued by limited or unlimited liability partnerships (which are not limited liability companies). As such partnerships are 'closed companies', granting such pledges requires the secured creditors to be approved by the shareholders as potential future shareholders.
To be perfected, they must be registered with the registrar of the commercial court.
Security interests over contractual rights, receivables and intangibles
Pledges over receivables
Pledges over receivables (including pledges over a bank account) are governed by the French Civil Code and must properly identify the pledged receivables and the relevant debtor or debtors.
With respect to a pledge over a bank account, the pledged receivables will correspond to the amount of credit in the bank account at the time the pledge over the bank account is enforced, after taking into account debits and credits previously initiated but not yet completed.
As between the parties and towards third parties, the pledge is perfected as soon as it is executed, whereas a notification is required to perfect the pledge towards the debtor of the receivables.
'Dailly' assignments are security interests where a company makes an outright transfer of any claims it may have over identifiable receivables arising out of its professional activity. They are only available where the beneficiary of the assignment is a credit institution (see Section II) that has extended the financing secured by the security interest.
To be valid, a Dailly assignment must be drafted in French and contain mandatory provisions and must be perfected on the date specified by the secured creditor in the Dailly assignment.
The debtor of the receivables must be notified if the secured party wants to directly receive all payments pertaining to the receivables.
Cash collateral is created by transferring cash to the credit of a bank account belonging to the secured creditor.
Pledges over IP rights
Pledges may be granted over all kinds of IP rights such as patents, trademarks or designs. To be perfected, they must be registered with the French Trademark and Patent Office and published in the Official Bulletin of Industrial Property.
ii Guarantees and other forms of credit support
Guarantees are commonly used in France and granted by the parent company as well as significant subsidiaries of the group (see Section V, 'Corporate benefit and misuse of corporate assets' and 'Financial assistance'), whereas other forms of credit support are limited.
With respect to guarantees, as of 2006, guarantees have been governed by one chapter of the French Civil Code and may take three forms: joint and several guarantees, autonomous guarantees and letters of intent.
iii Priorities and subordination
As in other jurisdictions, financial indebtedness can be subordinated in two ways: through structural and contractual subordination.
Structural subordination, where senior debt is made directly available to operational companies, whereas mezzanine and junior debt is only made available to the acquisition vehicle, cannot be effected in respect of corporate lending for a single borrower and therefore is usually only seen in acquisition finance contexts.
Contractual subordination through subordination agreements is commonly used, and the effectiveness of these agreements has been recognised by Article L. 626-30-2 of the French Commercial Code in the context of safeguard proceedings. However, the effectiveness of contractual intercreditor arrangements is not free from doubt because there are no published decisions of any French courts on their validity or enforceability.
Legal reservations and opinions practice
i Legal reservations
Corporate benefit and misuse of corporate assets
The relevant entity must consider its corporate benefit before guarantees or security interests are granted. The concept of corporate benefit is not clearly defined by French law and French courts will assess, after the event, whether the decisions taken by the directors of the company were in fact prejudicial to the company.
Failure to act in a company's corporate interest puts the relevant directors at risk of becoming as follows:
- liable for damages on the basis of their alleged mismanagement; and
- criminally liable on the basis of misuse of a company's assets or credit. For individuals, the penalties are five years' imprisonment and a fine of up to €375,000.
As boundaries of the concept of 'group-wide corporate benefit' remain rather vague under French law, current market practice has designed (in relation to upstream or cross-stream guarantees) guarantee limitation clauses ensuring that a French guarantor's liability under its guarantee is limited to the financing proceeds directly or indirectly lent on to the French guarantor.
Under French law, it is prohibited for French limited liability companies that are not limited liability partnerships that are being acquired, and for their subsidiaries, including foreign subsidiaries (e.g., if the foreign subsidiary has French assets over which security is to be created), to give any guarantees or grant security interests over their assets to secure the amounts used to acquire them.
Financial assistance issues must also be considered when merging the acquisition vehicle and the target, or when implementing debt pushdowns (in particular, where the target group draws further new facilities, the proceeds of which are to be used as a dividend allowing the acquisition vehicle to repay the initial acquisition indebtedness).
Breaching Article L. 225-216 of the French Commercial Code is a criminal offence that exposes the directors of the company to a fine of up to €150,000. Moreover, French commentators consider that, based on the mandatory status of this provision, transactions not complying with Article L. 225-216 could be voided by French courts.
Insolvency, security interests and the suspect period
The onset of court-driven proceedings (i.e., liquidation proceedings, reorganisation proceedings and several types of safeguard proceedings) triggers a general stay of certain claims (predating the proceedings) including a stay of claims for payment having arisen prior to the judgment opening the relevant proceedings and a stay of all enforcement action in respect of security interests.
French insolvency law provides for a 'suspect period', extending backward in time from the date of the judgment opening recovery or liquidation proceedings to the time when a company becomes unable to settle its liabilities as and when they fall due with its available assets. This time may be backdated to the date falling 18 months prior to the opening judgment.
Certain transactions entered into during the suspect period are automatically void. In particular, French law provides for the automatic nullification of the granting of pledges and mortgages that have been constituted during the suspect period to secure pre-existing indebtedness.
Some other transactions are voidable at the court's discretion, particularly if the court determines that the creditor knew of the debtor's suspension of payments at the time of the relevant transaction (including repayment of debts that are due and payable, and transfers of assets for consideration).
ii Legal opinion practice
Characteristics of French legal opinions
There is sufficient consensus on issues relating to French legal practice for French legal opinions to be relatively standardised.
Capacity legal opinions (covering due incorporation, due corporate action and due authority of the relevant signatories) are usually delivered by counsel to the borrower whereas French law validity legal opinions (covering validity and enforceability of French-law governed documentation) are usually delivered by the legal adviser of the lenders or the bonds' initial purchasers. There are exceptions to these principles in the context of the issuance of high-yield bonds or where US parties are involved, in which case French practice is increasingly that legal advisers of the issuer and the bonds' subscribers both provide validity opinions as to the security package on the transaction.
Addressees of legal opinions usually include the security agent or trustee (where applicable), the arrangers, the initial purchasers (for bond transactions) or the facility agent, and the initial lenders (for loan transactions). The provision of copies of legal opinions (without reliance) is usually permitted in respect of the affiliates, auditors and advisers of the addressees, as well as courts, regulatory authorities and potential assignees or transferees. Addressees are recently and quasi-systematically asking to include rating agencies in the list of non-reliance recipients (mainly for loan transactions).
French legal opinions usually contain standard qualifications relating to:
- the use of a security agent if no security agent is appointed pursuant to Article 2488-6 et seq. of the French Civil Code;
- lower-ranking security interests;
- the effectiveness of 'parallel debt' structures if no security agent is appointed pursuant to Article 2488-6 et seq. of the French Civil Code; and
- the effectiveness of any pledges of future receivables that are not identifiable or properly identified.
iii Choice of foreign governing law
In accordance with Regulation (EC) No. 593/2008, dated 17 June 2008, the choice of foreign law to govern a financing is a valid choice of law that would be upheld under French law unless the choice is tainted with fraud, or it conflicts with French international public policy or French mandatory provisions, and provided that the relevant provisions of foreign law are produced in evidence before the French courts.
iv Recognition of foreign judgments
Decisions by European courts against a debtor are normally enforceable before French courts in accordance with Council Regulation (EC) No. 44/2001, dated 22 December 2000.
For non-European countries and in the absence of a bilateral agreement between France and the country where the judicial decision has been rendered, recognition is subject to the conditions required for exequatur:21 the foreign court must have jurisdiction over the case in accordance with French rules of private international law; and the decision must not contravene French international public policy rules or be tainted with fraud, and must not conflict with any proceedings or decisions having the same subject matter as a French judgment.
Transfers of existing loan participations between existing and new lenders are mostly effected through assignments of receivables or through sub-participations. The assignment must be in writing or it will be declared void and needs to be notified to or acknowledged by the debtor to be enforceable regarding the debtor. The securities provided by the assignor will remain enforceable.
The 2016 order mentioned in Section IV introduced, in particular, provisions relating to assignments of debts and assignments of contracts. Assignments of debts will be possible with the approval of the creditor, which can be given in advance. In addition, following the law dated 20 April 2018, entered into force on 1 October 2018, an assignment of debts must be in writing or it will be declared void. The creditor must also give express consent to free the initial debtor; in the absence of consent and unless otherwise provided, the debtor will still be considered as a joint debtor until full repayment of the debt by the assignee. If the creditor does not free the initial debtor, the securities will remain enforceable. Otherwise, to remain enforceable the initial debtor and third parties that granted securities must give their consent to maintain the securities. With respect to guarantees, the guarantors will still be liable under their guarantees and the guarantee will be reduced by the amount of the assigned debt. Assignment of contracts follows the same logic as assignment of debts.
Novation is rarely used, as the validity and priority over security interests would be affected.
i Loan trading and banking monopoly
The purchase of unmatured debt (i.e., the transfer from a lender of its participation in a facility) constitutes a credit transaction to which the banking monopoly rules (see Section II) apply, and as such can only be carried out by authorised entities or foreign similar entities with respect to the purchase of professional non-matured loan receivables (see Section III) if it is deemed to be carried out in France.
The mere holding of a participation or a sub-participation in a loan to a French borrower is generally not considered by practitioners as a credit transaction to the extent that the loan has already been made available to the borrower and that no further drawing will be required from the lenders (i.e., term loans and non-revolving loans).
ii Loan trading and transfer of security interests
The assignment of receivables entails the automatic transfer of all accessory features relating to the receivables (including the benefit of personal guarantees and security interests securing the receivables). Notable exceptions include Dailly assignments as they may only be provided for the benefit of credit institutions and cash collateral accounts that are the property of the bank to which they were initially granted, although they are subject to a restitution claim for the same amount.
The customary practice under French law documentation had been to grant security for the benefit of all finance parties directly as opposed to a security agent alone, as French practitioners did not rely on Article 2328-1 of the French Civil Code, which was introduced in 2007 purportedly to allow French security agents to manage security interests on behalf of the other creditors, owing to uncertainties and the incompleteness of its regime. However, the order of 4 May 2017, entered into force on 1 October 2017, replaced, improved and clarified the former legal regime under Article 2488-6 et seq. of the French Civil Code. This new regime provides, in particular, that the security agent is now a beneficiary of the in rem or personal guarantees that are segregated from its own assets, can be appointed in any written agreement and can take certain legal actions in bankruptcy proceeding without a special power granted by the finance parties. French practitioners now rely on this new legal framework to grant security only for the benefit of the security agent.
In the context of cross-border transactions with main documents not governed by French law, parallel debt structures can still be used, but those provisions are now less relevant for France if a security agent is appointed in accordance with Article 2488-6 et seq. of the French Civil Code. This concept has received only partial recognition by French case law, as it was held (in the very specific context of safeguard proceedings opened in France) that such structures governed by foreign laws were compatible with French international public policy rules. It remains to be seen whether these structures will be upheld by French courts in more general contexts.
Outlook and conclusions
i Significant legal and regulatory developments
The past few years have witnessed an incremental erosion of the banking monopoly regime.
A bill authorising the government to legislate by issuing an order to simplify and update the French legal framework of guarantees and security interests is currently being debated in Parliament. It contemplates modernising guarantees, pledges over movable and intangible assets and security interests over real estate regimes and creating new legal instruments to grant a French law-governed assignment over receivables as distinct from Dailly assignments. Such reform is expected to be adopted by May 2021 at the latest.
ii Outlook for the lending market
It is likely that the general disintermediation of the French corporate lending market will continue for the time being, along with a further diversification of available funding sources (and further inroads into the banking monopoly regime), to reflect the emergence of new market players and the development of partnerships between traditional banks and investment funds. The competitiveness of corporate lending by credit institutions has continued owing to a friendly interest rate environment.
It is also likely that the French corporate lending market will witness some changes given the impact of Brexit, the reference rates reform and the development of green loans.
iii Covid-19 crisis
This article does not take into account the impacts caused by the covid-19 crisis on the French lending market, as it is too early to assess them. France (like other countries) is facing an unprecedented economic crisis. The French government has unveiled emergency packages in various sectors to mitigate the economic impacts on companies resulting from the quarantine measures implemented to fight covid-19, including in the financing sector.
In particular, one of the main financial support measures unveiled by the French government is, under certain strict conditions (notably for large companies or groups of companies), the guarantee from the French state on loans granted between 16 March 2020 and 31 December 2020 by credit institutions and financing companies or crowdfunding intermediaries (together, the PGE Lenders), up to €300 billion, to companies registered in France, other than PGE Lenders, to meet the financial needs of companies whose activity is severely affected because of the covid-19 crisis. As at 26 May 2020 and since its implementation, the amount of such French state-guaranteed loans for large and mid-cap companies is around €15.2 billion out of a total of €82.013 billion for all companies (whatever their size).
1 Karine Sultan and Yves Rutschmann are partners, and Jessica Chartier, Béna Mara and Gaël Rivière are associates at Bredin Prat.
2 Association française des marchés financiers.
3 Global Syndicated Loans Review, Full Year 2019, Reuters.
4 Global Syndicated Loans Review, First Quarter 2020, Reuters.
5 Global Syndicated Loans Review, Full Year 2019, Reuters.
6 2018 ACPR Annual Report.
7 The Capital Requirements Regulation and Directive.
8 Please note that these rules may be amended in the course of 2020 as a result of the covid-19 crisis.
9 For the purpose of the Anti-Hybrid Limitation, 'establishment' should refer in practice to a permanent establishment.
10 Characterised in the case of (1) an arrangement (with an associated enterprise or not) involving a hybrid mismatch where the mismatch outcome is priced into the terms of the arrangement or an arrangement that has been designed to produce a hybrid mismatch outcome, and (2) the taxpayer cannot demonstrate that he, she or an associated enterprise was not aware of the hybrid mismatch and has not benefited from the value of the tax benefit resulting from the hybrid mismatch.
11 The 50 per cent thresholds are reduced to 25 per cent where the hybrid mismatch arises (1) in connection with a hybrid financial instrument or (2) under a deemed payment (x) between the head office and an establishment or (y) between two or more establishments of a same entity.
12 For the purpose of the Anti-Hybrid Limitation, 'residence' should refer to the place where a person has its head office or its residence for tax purposes.
13 For the purposes of this rule, a payment will be considered as included in the taxable result of the beneficiary if the two following conditions are met: (1) the payment does not give rise, pursuant the rules applicable in the state of residence of the beneficiary, to an exemption, a taxation rate reduction, a tax credit or a tax reimbursement (other than a tax credit in relation to a withholding tax) because of the nature of the payment and (2) this inclusion occurs in respect of a fiscal year beginning within 24 months from the end of the fiscal year in respect of which the payment has been deducted. In addition, would not be concerned, under certain conditions, hybrid transfers performed by financial traders (as specifically defined).
14 Any person other than the debtor benefiting from a deduction as a result of the hybrid mismatch.
15 An imported hybrid mismatch may be characterised when a payment to an entity is offset (in whole or in part, directly or indirectly) at its level by expenses relating to a hybrid mismatch through (1) a transaction or a series of transactions between associated enterprises of a same taxpayer or (2) structured arrangements (as defined above).
16 Hybrid transfers may be characterised as any arrangement allowing the transfer of a financial instrument where the underlying return on this instrument is considered, from a tax standpoint, as benefiting simultaneously to several parties to the transaction.
17 The combination of this specific rule with the general rule referred to above is unclear at this stage.
18 The combination of this specific rule with the general rule referred to above is unclear at this stage.
19 Earnings before interest, tax, depreciation and amortisation, as adjusted for the purpose of this limitation.
20 And 7 January 2020 as far as the jurisdiction removed from the list are concerned.
21 'Exequatur' is a concept specific to private international law and refers to a decision by a court authorising the enforcement in that country of a judgment, arbitral reward or court settlement given abroad.