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France Reforms CFC Legislation

by Ulrika Lomas,, Brussels

28 August 2012

France has amended article 209B of the tax code (CGI) governing Controlled Foreign Company (CFC) legislation. It extends the existing punitive tax treatment of companies operating in non-cooperative jurisdictions to companies operating in low-tax jurisdictions.

Under the new law, the burden of proof is shifted to the taxpayer. A French resident taxpayer controlling directly or indirectly at least 50% of a company based in a low-tax jurisdiction is now required by law to prove that the foreign company is carrying on genuine business activities abroad, and that the business structure has “main justifications” other than tax avoidance. If the taxpayer fails to do this, the underlying CFC income is taxed in the hands of the French resident shareholder.

For corporate tax purposes, France's anti-avoidance system usually distinguishes between a white list, a black list of “non-cooperative jurisdictions”, and low-tax jurisdictions. The law stipulates that a jurisdiction is deemed to be low-tax when income is subject to a tax below 50% of the applicable French rate “under normal conditions”.

When a French resident taxpayer is taxed under the CFC rules, it may also face double taxation as dividends and capital gains from the CFC remain taxable, but only on 5% of the amount. However, foreign tax credit is granted both on underlying business profits, interest, royalties and dividends against overall French tax, provided there is a tax treaty.

Under the previous law, the burden of proof rested on the tax authority, and CFC rules applied where either at least 20% of the CFC income was passive, or at least 50% of the CFC income was either passive or derived from performing intragroup services. In order to combat tax avoidance and reduce uncertainty for the taxpayer, France has finally scrapped these thresholds and shifted towards CFC legislation more focused on a “substance over form” approach.

Although 'effectively carrying on business' remains the main exemption from French CFC rules, it does not matter any more whether the CFC derives most of its income from passive income, intragroup services, or genuine commercial activity overseas. The new law requires rather that the existence of the CFC is justified “mainly by an objective other than offshore tax avoidance”.

For EU resident CFCs, the interpretation of this requirement is narrowed down. In such case, the CFC must not be “part of an artificial arrangement intended to circumvent French tax law”.

Although upcoming French tax authority practice with the new rules is still obviously unknown, this new CFC regime may leave the door open to exempt personal holding companies from taxation they currently encounter, especially if they can prove they have been constituted for genuine reasons other than tax avoidance, such as asset protection or reduced compliance costs related to expatriation in the case of highly mobile individuals. This is especially applicable for CFCs based in the EU.

The new CFC legislation will apply to all tax years ending after 31st December 2012. In uncertain cases, taxpayers might wish to seek a legally binding advance ruling from the tax authority.

TAGS: individuals | compliance | tax | investment | business | tax avoidance | interest | royalties | law | tax authority | offshore | legislation | asset protection | France | dividends | services

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