New Limitation Of Interest Deductibility By French Corporate Taxpayers

Author:Mr Vincent Agulhon and Emmanuel De La Rochethulon
Profession:Jones Day

Further to the introduction of thin-capitalization rules in 2007, which limited the deduction of interest accruing on intragroup debt financing and the enlargement of their scope in 2011 to third-party debt secured by guarantees provided by an affiliate, France has just introduced another limitation of the deductibility of interest expenses for holding companies. The new limitation of interest deductibility is probably one of the most worrying for multinational groups. This Commentary provides a short description of this new rule as well as the questions it raises and clarification needed.

The new measure's intended purpose is to counter tax optimization schemes where the taxable base of a multinational group's French subsidiary is eroded by interest deductions on loans financing the acquisition by that French enterprise—under the direction of the ultimate foreign parent of the multinational group—of foreign subsidiaries' stock generating income (dividends) and gains that are almost entirely exempt from French corporate income tax. In those situations, the French subsidiary of a multinational group would typically borrow from a bank to purchase a number of foreign subsidiaries and would be able to deduct the accruing interest in full from its French operational profits. The dividends received from the foreign subsidiaries and gains from disposition of their stock would be tax exempt, but for the residual recapture of a "service charge" resulting in an effective tax charge as low as 1.8 percent on the dividend income and 3.6 percent on long-term capital gains. However, the drafting of the new legislation will potentially apply to a wider range of situations, including fully legitimate "old and cold" structures.

New Art. 209 IX of the French tax code provides that interest expenses incurred by French corporate taxpayers that own French or foreign subsidiaries are tax deductible (always subject to the standard thin-capitalization rules introduced in 2007). However, this is the case only if the taxpayer is able to provide evidence that decisions regarding the ownership of the subsidiaries' stock are taken in France and that the management/control of those subsidiaries is actually performed from France, either by the taxpayer or by another related French corporate taxpayer. Absent satisfactory evidence that the decision process/control is actually performed in France, the interest expense of the French parent company will be denied for a period...

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