The ownership of a French residential property through a foreign company/entity triggers 3% tax issues that purchasers are often unaware of. These issues must be taken seriously as the consequences for not complying with the 3% tax legislation can be extremely unpleasant and costly. Here we highlight the main traps to avoid in practice.
Background
Under French tax law, French or foreign companies and entities (such as trusts and private foundations) which own French real estate, directly or indirectly, are subject to an annual 3% tax applied on the market value of the real estate.
However, a number of exemptions apply, particularly for EU companies/entities and foreign companies/entities located in a country which has signed a treaty with France which either provides an appropriate administrative assistance provision to prevent fraud and tax avoidance between both countries, or contains a non-discrimination clause. This concerns more than 100 countries around the world.
Companies/entities located in one of these countries are not subject to taxation provided that they comply with certain filing requirements. Indeed the exemption is not available as an outright right.
Broadly speaking, the company/entity must either provide, or undertake to provide at the request of the French tax authorities, certain information regarding the real estate, the name and address of all shareholders, partners or other members of the company/entity. The information can be provided either by submitting a 3% tax return each year or by giving the undertaking to provide this information at the request of the French tax authorities.
In both cases it is crucial to comply strictly with these filing obligations in order to avoid taxation.
Traps to avoid
The main traps we see in our practice are as follows:
- When the company/entity which has not complied with the formalities receives a formal request/notice from the French tax authorities to regularise its situation within 30 days, it is crucial not to ignore this request and provide the returns within the deadline. If the company/entity fails to respond to the letter then the 3% tax charge become due, plus a penalty of 40%;
- When filing the 3% tax returns it is important to provide the right information at the right place. Failure to provide the right information and errors in the return might give rise to the payment of the 3% tax charge;
- The information provided in the 3% tax returns must be genuine and accurate. A false declaration might give rise to the payment of the 3% tax charge plus penalties;
- In respect of entities which do not have owners as such (e.g. trusts, foundation etc), the concept of a beneficial owner becomes relevant when making the declaration. Failure to disclose the beneficial owner might give rise to the payment of the 3% tax charge;
- When details of the beneficial owner do not appear anywhere, steps must be taken in advance to ensure that it would be possible to provide to the French tax authorities, at their request, good evidence that a certain individual can truly be regarded as the beneficial owner of the entity (this might occur in respect of trusts and foundations when the person seen as the settlor is not the beneficial owner). Failure to comply with these principles might give rise to the payment of the 3% tax charge;
- In respect of bearer shares companies, it might be difficult to prove that someone is the owner/shareholder of the company. Internal processes must be in place to ensure that it would be possible to provide good evidence to the French tax authorities that the individual in question is truly the bearer of the shares. Failure to put in place and keep these records in advance might give rise to the payment of the 3% tax charge;
- When the property is owned through a chain of shareholding ownership, all entities within the chain are potentially liable to the 3% tax (the number of entities within the chain is irrelevant). Each entity within the chain must therefore strictly comply with its own filing requirements. Failure to comply with these principles might give rise to the payment of the 3% tax charge.
Having said this, it should be noted here that when no 3% tax return has been filed or no undertaking has been given, leniency may be shown to companies/entities eligible for exemption but who have not complied with the formalities. A spontaneously late declaration would not raise the payment of the 3% tax charge.
Rules regarding the location of the company/entity
A company is deemed to be located where it is effectively managed and not necessarily where it is incorporated.
In respect of trusts, "fiduciaries" and funds, the French tax authorities appear to consider them to be established in the state or territory whose law applies to them. Indeed, it is the law which governs the trust which therefore determines the location of that trust.
It should be noted that in respect of trusts or other entities which do not have a legal personality, not all the tax treaties signed by France which contain administrative assistance provisions or non-discrimination clauses may be of benefit to them, since entities which do not have a legal personality are generally outside the scope of these treaties.
The situation would depend on the scope of the relevant treaty and whether the wording of the relevant provision was drafted widely enough to cover such entities.