Important factors to consider in residence planning
Frederic Mege, Director, Moores Rowland, Monaco
Recent legislation in France has brought about significant changes to taxation for non-French tax residents who own or are looking to buy French residential property. On 30 December 2017, the French Parliament approved the 2018 French Finance Act. Among other measures, the Act abolished the former wealth tax and introduced a new wealth tax on real estate (impôt sur la fortune immobilière).
The 2018 French Finance Act carries considerable implications for non-French tax residents, as it changes territorial tax limits when French real estate is owned through a company, and restricts deductible debt. Under these new rules, existing property ownerships may need to be reviewed.
The tax affects only residential properties, i.e. those properties that are not used for business activity. Under Article 965 II 2° of the French tax code (FTC), tax applies to French residential properties owned both directly and indirectly through a French or foreign company or entity, regardless of the number and location of companies or entities owned. When a French residential property is owned by a company, shares are only taxable to the extent that their value is attributable to real estate assets or rights held directly or indirectly. The legislation has changed the territorial limits of tax and no longer refers to the concept of a ‘French real estate company’. Under the previous wealth tax legislation, shares of non-quoted foreign companies mainly owning French real estate were regarded as France-based and taxable assets. Under the new legislation, it is now enough to own a French residential property indirectly in order for it to be eligible for tax.
The territorial scope of the real estate wealth tax is, however, subject to the provision of any relevant Double Tax Treaty (DTT), which may state otherwise. This change
in the definition of territorial limits could pave the way for unexpected tax benefits to non-French tax residents owning French real estate indirectly, depending on their state of residence and the provisions of each relevant DTT. The issue remains to be clarified.
Valuation of Company Shares
When a French residential property is owned through a company, taxes apply to shares of the company and not the property itself. The value of the shares needs to be determined. Under the new legislation, substantial changes have been made to the valuation criteria. The principle remains that the value of the shares is equal to the market value of the residential property, less any qualifying debts. This gives the net value upon which tax is applied. Article 973 II of the FTC provides a list of debts that cannot, in principle, be taken into account when assessing the net value of a company’s shares. These debts are:
• Loans granted for the acquisition of real estate from the taxpayer, or a member of his/her tax household, when the company purchasing the property is controlled by the same person or a member of his/her tax household.
• Loans from the taxpayer, or a member of his/her tax household, to the company purchasing the property. This restriction appears to include shareholder loans, which were formerly excluded.
• Loans from a company or entity directly or indirectly controlled by the taxpayer, or with immediate family members.
As these three restrictions refer to taxpayers liable to the real estate wealth tax, they should apply only to debts arising since 1 January 2018. The restrictions may be lifted if the taxpayer can prove that the loan has not been granted mainly for tax reasons (objectif principalement fiscal). This subjective concept will likely raise issues in future. Article 973 II of the FTC adds another restriction on loans from a taxpayer’s family member (outside the household), unless the loan has been granted under normal conditions.
As these various restrictions could be waived under specific circumstances, this may create tax planning opportunities when structuring debts.
Valuation of Company Shares
The new legislation defines deductible debt. In this context, debt refers to loans taken out directly by the individual taxpayer, rather than granted to a company. Article 974 I of the FTC includes a general condition for deducting debt. In order to be deductible, a debt must be linked to a taxable asset, exist on 1 January of the tax year, and be the personal liability of the taxpayer. Such debt must also be substantiated.
The legislation brings in a restriction on interest-only loans. These are no longer fully deductible, with a formula now in place to determine deductible annuities. There is a similar restriction on loans that do not provide capital reimbursement over a particular time frame. Both of these restrictions apply to loans already in place on 1 January 2018. There are further restrictions on family loans and loans taken from controlled companies, unless those loans have been granted under normal commercial conditions.
The Act also limits deductions when the value of the taxable asset exceeds EUR 5,000,000 and the amount of the loan exceeds 60% of the taxable value. The part of the loan exceeding this limit is only deductible by up to 50%. The limit does not apply if the taxpayer can prove that the loan has not been created mainly for tax purposes.
Tax Rates and Process
The wealth tax on real estate is payable if the net value of
the taxable asset exceeds a EUR 1,300,000 threshold. If so, progressive tax rates apply:
Net taxable value Rate
Up to EUR 800,000 NIL
From EUR 800,001 to EUR 1,300,000 0.50%
From EUR 1,300,001 to EUR 2,570,000 0.70%
From EUR 2,570,001 to EUR 5,000,000 1.00%
From EUR 5,000,001 to EUR 10,000,000 1.25%
Above EUR 10,000,000 1.50%
The taxable asset must be assessed at its market value on 1 January of the relevant tax year, in other words from 1 January 2018. The valuation of the taxable asset is the taxpayer’s responsibility, though this is subject to review by the French tax authorities if they do not deem the value disclosed to be accurate.
Later this year, the French tax authorities will issue the relevant forms and give the deadline to submit the forms and pay the tax. Non-French tax residents already owning or looking to purchase residential property in France ought to be ready in time.