In the context of the current COVID19 economic crisis, the improvement of the cash position of the operating companies becomes a critical need. The 2021 draft French finance bill includes provisions specifically designed to support the economic recovery and a number of its provisions relate to the real estate sector and to taxes directly related to the ownership and/or the use of real estate assets for business purposes. The reinstatement of an old measure allowing the spread of the taxation of capital gains deriving from a sale & lease back transaction is one of the major provisions in this respect. Other important provisions are included in the draft finance bill and will be addressed in upcoming dedicated tax alerts.
Operating companies owning real estate assets allocated to their business activity have usually significant unrecognised reserves that can be mobilised through certain specific transactions amongst which sale & lease backs prove to be very efficient.
Regarding the cash position of an operating company, a sale & lease back would allow it to improve its cash position by mobilizing the latent value of the operating building while keeping its legal use as well as the opportunity to repurchase it once the overall financial situation is improved.
From a tax perspective such transactions remain however quite costly as the capital gain on the sale of the asset is fully subject to tax at the standard corporate income tax rate.
To mitigate this tax downside, especially during the current economic crisis, the draft finance bill for 2021 reinstates a spread of the capital gain taxation over the leasing period for a maximum period of 15 years. As a reminder, a similar provision was introduced into the French legislation during the financial crisis back in 2018 and was applicable to sale and lease backs implemented until 31 December 2012.
The spread of the taxation of the capital gain aims at achieving tax neutrality for operating companies which will have a portion of the capital gain added-back each fiscal year, compensated by the amount of tax-deductible rents.
This mechanism is only applicable to real estate assets allocated to business activities. Real estate assets allocated to pure investment properties are hence excluded. That means that such a provision will not benefit to landlords engaging in pure rental activities.
It is also worth mentioning that this mechanism only applies to sale & lease backs executed under a financial lease agreement (contrat de credit-bail immobilier). This should in practice reduce the scope of application of the provision as a significant number of potential purchasers on the French market do not qualify as entities allowed to enter into this type of financing arrangement and thus can rather only offer standard lease agreements.
It will be interesting to follow-up the parliamentary discussions about this new measure as amendments could be proposed to extend the scope of this measure as currently proposed.
It is worth noting that this new measure would come to complete the current beneficial real estate transfer tax treatment applicable to sale and leasebacks as provided by article 1594 F quinquies H of the French tax code (reduced transfer tax rate).
The new provision should apply to transactions for which the deed of sale or at least an enforceable promise to sell has been executed between 28 September 2020 to and 31 December 2022.