Reserves authorized related to long term agreements providing for the maintenance and renewal of equipments
(Supreme Court dated June 21, 1995, no 144450)
Three remarks could be made after this significant decision taken by the Supreme Court:
1. Understanding of the case law of the State Council:
The first question which could be raised is linked to the ability of the Administrative Courts of Appeal to deal with the subtle case law of the Supreme Court. Indeed, the Administrative Court of Appeal of Nantes did not seem to understand what had been understood by most of the well-informed tax men.
In 1983, the Supreme Court to which a question similar to that raised in the present case has been submitted, made a mistake. It made a confusion (decision dated June 22, 1983, no 21.662) between the reserve for charges and the reserve for loss, and thus authorized a company, which was concluding with its clients long term agreements (20 years) for the supply of heat with a complete guaranty of the equipments, to set up a reserve only to the extent of the loss that could be forecasted as a result of the application of the agreement.
The Supreme Court ordered an expert appraisal to valuate the loss. Four years later, the Supreme Court to which the expert appraisal had been submitted, realized through the examination of the expert findings that it had made a mistake. However, the Supreme Court could not cancel it (CE, February 16, 1987, no 21.662), since it was bound by the authority of the case judged, even if it is was wrong, by its former decision. Nevertheless, the Government Commissioner, Mr. B. Martin-Laprade, had revealed, in tremendous conclusions, the nature of the mistake which had been made by the High Juridiction, and justified the principle of the reserve for charges, reminding at the same time that the Supreme Court was indeed bound by the authority of the judged case.
There was no doubt on the change of opinion of the Supreme Court linked to the principle of the reserve. The Assembly decision (CE, June 28, 1991, no 77.921, St' G'n'rale) asserted again the distinction to be made between the reserve for charges and a reserve for loss. Thus, there was a high degree of astonishment when the reader of the Government Commissioner's conclusions to the Administrative Court of Appeal of Nantes which had annulled the judgment on June 21, 1995, realized that in 1987, the Supreme Court, repudiating its Government Commissioner, confirmed its case law of 1983. Does it mean that the Supreme Court case law can only be understood within the geographic limits of Paris/France?
2. A service linked to guaranty is a continuous service
An exceptional decision of the Supreme Court no 131.940 dated February 1st, 1995, ruling on the question to know whether a security service had the same nature as a continuous service under the meaning of Article 38-2 bis of the French General Tax Code, had troubled people, and especially bankers, because it considered that the security given by a mutual guaranty company to a borrower which in return paid a fixed remuneration, was an instantaneous service. Some people had then concluded that a service linked to guaranty was an instantaneous one.
The present decision reverses the order of the factors: a service linked to guaranty is in principle a continuous service, except in cases like that dated February 1st, 1995 with an exceptional legal layout. Then the charging to the financial years of the remuneration of such a service should be spread out on the duration of the agreement, whatever the actual date of payment of this remuneration.
3. The long term guaranty agreements may give rise to the setting up of reserves for charges. In relation to the wrong solution of 1983, the Supreme Court confirms that long term agreements, the purpose of which is to ensure the maintenance and the replacement of equipments if necessary, in return for the payment of a yearly fee at a fixed amount, may give rise to the setting up of reserves depending on the risk of replacement, within the limit of the accrued amount of fees paid or due at the date of the setting up. The decision specifies that the risk could be valued through a statistical method.
The following example could be used: let us imagine a company which concludes long term agreements (20 years) with its clients and which statistically estimates the life duration of new equipments of 15 years. The company will have to determine inside the fees it yearly receives, part A remunerating the maintenance service and part B remunerating the renewal warranty.
It may book a reserve for the risk corresponding to the cost of renewal of the equipments corresponding to the accrued amount of part B of the fee. Thus the remuneration of the service of warranty will in principle be neutralized over the first years of the agreement.
Moreover, the average life duration of the equipments being inferior to that of the agreement, the company will have to assess the risk it runs to have to replace a second time the equipments which have already been replaced once, before the end of the agreement.
It should be noted that the French Tax Legislation Department ("Service de la Legislation Fiscale") by a letter dated January 20, 1989 sent to the President of the National Union for the companies in charge of the management of thermic and air conditioning equipments, had already accepted the principle of a reserve allocated to the covering of expenses linked to the replacement of equipments and had recommended to fix the yearly allocation for the reserve at "the figure obtained by the division of the replacement price at the closing of the tax year involved by the number of years to be spent between the date of the beginning of the agreement and that forecast to incur the expenses". The letter was also mentioning: "when an equipment is replaced, no reserve can no longer be set up for the subsequent tax years, except if another replacement must be contemplated before the termination of the agreement".
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