France: A Person Exempted From Tax Does Not Qualify As A "Resident" Under A Tax Treaty

Last Updated: 5 January 2017
Article by Christophe Flaicher, Bertrand Hermant and Michael Jaffe

A person is entitled to claim treaty benefits if that person could be considered as a resident under a tax treaty. The criteria to be met to qualify as a tax resident were not clear for some individuals or entities who were subject to tax but did not actually pay tax, as a result of their status or the availability of a tax holiday in their home country. This issue most commonly arises when dealing with foreign pension funds or non-profit organisations with respect to entities or individuals who do not pay any income tax in their home country, as is the case in some Middle Eastern countries.

The French Supreme Court1 stated that a company that does not pay any taxes in its home country, because of its status or activity, cannot be considered as a resident under a tax treaty. The Court considered that the fact that the person falls within the scope of the tax is not sufficient.

However, the question remains open for entities or individuals who are subject to tax on a specific basis, such as a forfeit basis. It is expected that this issue will be resolved soon in a case that is pending before the Administrative Court of Appeal. The case will have to determine whether taxation on a specific basis could be viewed as being "liable to tax" pursuant to a tax treaty and, accordingly, could be sufficient for the entity or individual to qualify for the right to benefit from tax treaty provisions.

It is worth noting that these cases dealt with the tax treaties signed by France with Germany, Spain and Lebanon. The analysis is dependent on the relevant tax treaty provisions.

Our recommendation

These recent decisions may have an impact on certain restructurings, if they rely upon tax treaty provisions. Therefore, we would recommend reviewing such structures, and the tax status of individuals, in order to check whether they may still rely upon tax treaty provisions following these recent decisions.

Acquisition of predominant real estate company's shares – end of the tax-free revaluation of the real estate held through an SCI?

When a company acquires a transparent vehicle (such as an SCI) holding a real estate asset, the acquisition price of the shares usually takes account of the latent capital gain at the level of the transparent vehicle. This means that the purchaser will be subject to tax on this latent capital gain at the time of the sale of the shares or the building.

For instance, assume that an SCI owns an asset with a tax basis equal to 50 and a fair market value of 100. The SCI shares are bought for 100 by an investor. The investor realises a step-up at the level of the SCI: the tax value of the asset will increase from 50 to 100. The investor will then be allowed to amortise the asset on the revalued basis, but he will also be subject to tax on the revaluation gain as the SCI is a transparent entity.

However, it is possible to eliminate the taxation of such latent capital gain by winding-up the transparent entity following the share acquisition. In such a case, the revaluation gain resulting from the step-up will increase the tax value of the shares (i.e. from 100 to 150, in our example). The winding-up would result in a capital loss (i.e. 150-100= (50)) for the shareholder which will be offset against the revaluation gain (i.e. 50).

The tax treatment of such operation has been confirmed by a ruling published by the French tax authorities in 2007 and, since then, many operators have taken advantage of this tax-free revaluation.

However, a recent decision dated 6 July 2016 (Sté Lupa) shone a light on this scheme, stating that this operation is only possible when there is effective double-taxation at the level of the SCI partner, which is not the case for a revaluation made immediately after the acquisition. That being said, this decision might be based on the specific fact-pattern of an intra-group restructuring involving a Luxembourg company.

In any event, operators should still be able to rely upon the ruling, but the French tax authorities may decide to revoke it at any time. In addition, there are some alternative strategies that may be implemented in order to eliminate the risk of the purchaser being taxed on this latent capital gain.

Our recommendation

Operators in the process of acquiring French real estate property or who have already purchased such properties through transparent vehicles such as an SCI should rethink their tax strategy following this recent decision.


1 French Supreme Court, 9 November 2015, n°370054 and n°371152

2 French Constitutional Court, 22 July 2016, n° 2016-554

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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