The French Administrative Supreme Court has recently ruled, in the context of the capital gains tax charge applicable to non-residents on the transfer of a significant shareholding, that the administrative guidelines cannot be used to fix a legal provision which is inconsistent with EU principles. While it is reasonable to expect that a legislative fix will be introduced as part of the 2021 Finance Bill, EU (or eligible EEA) taxpayers that have been subject to the relevant charge may wish to review their position to establish whether a tax refund can be claimed.
The relevant tax charge
The relevant charge is the French capital gains tax charge applicable notably to non-French resident corporate entities on the transfer of a significant shareholding in a French entity (Section 244 bis B of the French tax code).
Capital gains recognized by a non-French resident taxpayer on the transfer of shares held in a French resident entity are generally not subject to French capital gains tax except, subject to double tax treaties, for investments held in French real estate companies, or if the non-French resident taxpayer holds, in the French entity, a significant shareholding (defined as the direct or indirect holding of more than 25% of the profit rights of the French entity, at any time during the last 5 years preceding the transfer). Most of double tax treaties concluded by France neutralize this non-resident French capital gains tax for corporate investors. But there are exceptions, including the double tax treaties concluded with EU Member States Austria, Hungary, Italy, Malta, Spain and Sweden which contain, subject to certain exceptions, a provision dealing with substantial shareholdings.
If a non-French resident corporate entity transfers a significant shareholding, the French capital gains tax would be assessed by reference to French standard corporate income tax rates - which, for FY 2020, is 28% or 31%, depending on the transferor’s turnover.
Possible discrimination and its administrative fix
The said capital gains tax charge becomes inconsistent with the EU non-discrimination principle if it is imposed in circumstances where a French tax resident transferor would have been subject to a lower level of tax, for instance, because the relevant capital gain would have been eligible for the French participation exemption regime had the EU corporate transferor been established in France (the domestic regime provides for a corporate tax exemption, except for a 12% recapture that remains subject to standard French corporate income tax leading to an effective corporate tax charge of c. 4%).
In order to avoid such discrimination, the French tax authorities' official guidelines have, since 2006, included a safe harbor whereby the non-resident French capital gains tax is capped at the amount of corporate income tax that would have been payable by a French tax resident transferor, provided that the corporate transferor is notably:
- resident in another EU Member State (or, under certain conditions, in the EEA),
- without exemption, subject to a tax that is comparable to French corporate income tax, and
- able to demonstrate that the conditions of the French participation-exemption regime are met, i.e. notably that the shares have been held for a minimum 2-year period, represent a qualifying participation and are issued by a qualifying company.
In such case, the non-resident French capital gains tax is reduced from 28% (or 31%) to c. 4% and a specific filing process must be followed.
Arguments before the court
An Italian company argued that, despite this safe harbor, from which it effectively benefited, the non-resident French capital gains tax was not compatible with the EU non-discrimination principle. Looking at the legislation on its own (without the official guidance's fix), the application of the non-discrimination principle would require the legislation to be disregarded, resulting in a full discharge of the non-resident French capital gains tax and not only of the fraction exceeding the amount of French corporate income tax that would have been due, if the transferor had been established in France. The underlying question was therefore a pure matter of principle: whether or not it was possible for the French tax authorities to amend, through their official guidelines, a legal provision which is inconsistent with EU principles without amending the legal provision itself.
The remarkable decision
In a remarkable decision dated 14 October 2020 (no 421524), the French Administrative Supreme Court (Conseil d’Etat) has ruled in favor of the Italian company and has considered that neither the French tax authorities nor the tax courts are allowed to rectify a legal provision which is contrary to EU principles and that only the legislator can amend the law in order to make it consistent with EU principles, at least when the letter of the law does not allow, as it was the case here, an interpretation which neutralizes the inconsistency. The non-resident French capital gains tax charge was therefore not applicable and the taxpayer concerned has, in effect, been granted a full exemption from that charge, including in respect of the 12% recapture taxation that would have been due, if the transferor had been a French tax resident. As a result, the EU non-resident taxpayer obtained a better treatment than a French taxpayer in the same position.
Even though it is likely that the French tax authorities will try to amend the relevant legislation in the context of the current discussions of the 2021 Finance Bill, EU (and eligible EEA) taxpayers who have been subject to this capital gains tax, at least in 2018 or 2019 (and maybe even in 2020, depending on the wording of the amended provision), need to carefully and rapidly review their position to assess whether they have arguments to claim a refund.
Only the legislator is allowed to rectify a legal provision which is contrary to EU principles.