A series of new measures have been introduced through the 2018 draft budget bill. They are generally viewed as investment and business friendly. The final bill should be adopted into law by the end of December 2017, with a Constitutional Court review in January 2018.
Concerning personal taxes, this note focuses on two key measures. Other measures exist increasing social surtaxes from 15.5% to 17.2% (CSG, CRDS, etc.); lowering by several points social charges for companies and individuals; as well as further changes to equity based compensation. No significant modifications have been brought to gift and estate taxes.
In a fundamental tax policy shift, the government proposed to abolish this tax and replace it with a more limited tax based on real estate. Taxpayers will need to re-look at their real estate assets since rules on deductible debts and excludable assets would change.
- The taxable basis would be limited to real estate properties and real estate based rights:
- French tax residents would be liable to the new tax on their French and non-French property assets
- Non-French tax residents would only be liable to the tax on their French property assets
- Existing favorable tax regimes would be abolished:
- Favorable tax regime applicable to business transfers – “Dutreil” regime (partial exemption of 75%)
- Favorable tax regime applicable to shares held by employees and corporate officers (partial exemption of 75%)
- Favorable tax regime applicable to SMEs shares (total exemption)
- New favorable tax regimes would be created:
- Shareholding of less than 10% in an operating companies would be excluded from the taxable basis
- Assets allocated to a business activity would be excluded from the taxable basis
- Deductible debts would be limited, in particular:
- In fine loan are only partially deductible
- A deduction limit is created when the taxable basis exceeds 5 million €
- Should not be deductible: “family” loans
- Tax credits should no longer be available for investments made in SMEs as from January 2018
- Reporting obligations should be unified for all taxpayers: all filings should be made through the French annual tax return instead of a separate wealth tax return
What should NOT change?
- Individuals regarded as non-French tax residents for the 5 years preceding their arrival in France should be exempt from this French tax on property assets on their non-French property assets until 31st December of the fifth year following the year of arrival in France
- The taxable threshold remains at 1.3 million€
- Rates remains the same: After an allowance of 800K€, progressive from 0.50% to 1.5%
- The main residence continues to benefit from a tax rebate of 30%
- The principal that professional assets are excluded, and loans to acquire real estate are deductible remains valid, subject to a new set of conditions
- The tax credit granted for qualified charitable donations is maintained, within limits: a government amendment adopted on 19 October 2017 has specified that gifts made between the interval of two annual filing deadlines remain eligible
- Investments made in SMEs until 31 December 2017 should remain eligible for a tax credit
- The new tax remains limited for French tax residents when under certain conditions the amount of tax, added to income tax, exceeds 75% of income received the preceding year
- The French tax authorities should continue to benefit for a period of 3, 6 or 10 years to audit taxpayers
30% Flat tax
Taxation of investment income will generally be reduced, and simplified at the same time. Taxpayers receiving income from outside of France will have the personal obligation to comply with monthly filings in order to secure the benefits.
Summary of the current tax system
Under current rules, investment income (interest, dividends, capital gains, etc.) are added to other taxable income received during the French fiscal year and taxed at the progressive French income tax rates. The highest marginal rate is 45%. Additionally, it is subject to 15.5% social surtaxes (CSG/CRDS) and exceptional contribution on high income (“CEHR”) from 3% to 4%. The existence and level of allowances depend on the type of income.
Proposed flat tax
The new flat tax rate of 30% would be applicable to investment income as of January 1st, 2018. The 30% rate is comprised of a proportionate income tax rate of 12.8% and social surtaxes (CSG, CRDS, etc.) at an overall rate of 17.2%. It will remain subject, in addition, to CEHR of 3% and/or 4% respectively.
The income covered by the new flat tax would, in particular, be:
- All interest, dividends, and assimilated distributions.
Dividends would no longer be subject to the 40% deduction, unless an election is made for taxation at the progressive income tax rates.
- The income from life insurance contracts related to premiums paid as from September 27, 2017 will mandatory be subject to the new flat tax when the total in the contract exceeds € 150,000 €. It is optional when under the threshold.
Distributions further to the cash-out of life insurance contracts related to premiums paid before September 27th 2017 is still treated according to current legislation (favorable lower rates).
- Capital gains resulting from the sale of securities and assimilated gains
The rebate on progressive rates of 50% after a 2-year holding period, and 65% after an 8-year holding period will no longer be applicable.
Nevertheless, some specific situation could still benefit from the previous legislation (i.e., sales of shares in a PME subscribed to within ten years of the creation, which benefit from a “reinforced” reduction for the holding period if the shares were acquired before January 1, 2018).
- Real estate income (rental) or capital gain are not subject to the 30% flat tax and will remain subject to the current applicable tax regime (with the increase in the social surtax rate to 17.2%).
Non-residents with French source investment income would also benefit from the new flat tax. Starting 2018, investment income will be subject to the rate of 12.8%, lower than many treaty rates.
French situs Payers and banks will have a withholding obligation on the 30% flat tax.
In other cases, the individual taxpayer will have a personal obligation to file and pay over the tax in the following month. This significantly complicate personal tax compliance. Failure to comply with this obligation could result in loss of the 30% flat tax on, potentially, all otherwise eligible income.
Even if the flat tax rate will automatically apply to in-scope income, taxpayers will still have the possibility to elect for the progressive tax rate (rate from 0% to 45%) through their annual income tax return. If chosen, the option will be applicable to all investment income subject to the flat tax rate.
Trusts remain subject to strict reporting obligations. The changes in wealth tax and the flat tax will have an impact in the tax management of trusts with a nexus to France.
Depending on the structure, trust income is either taxed as it accrues or when it is distributed. In any event, the income is assimilated as a distribution. The new flat tax may or may not, apply to trust income, depending on the drafting and interpretation of the adapted provisions.
In any event, trusts remain subject to a reporting obligation. A specific declaration is due whenever a special event occurs (such as constitution, modification, extinction or any changes in the terms and contents of the Trust). Additionally, the market value of the Trust’s content has to be declared on a yearly basis.
Recently, the penalties for non-filing have been reduced since the 12.5% penalty on global assets was considered unconstitutional. Nevertheless, the trust tax of 1.5% remain due in the event of non-compliance, unless wealth tax has been paid on that same asset. The change in wealth tax will therefore lead to more exposure on undeclared trust assets to the trust tax.