Personal taxation in France: Mind the step at the end of the red carpet!

Let’s be honest, France has never been an award-winner in the field of taxation. Yet, in the past two years, the French government has rolled out the red carpet to newcomers. However, the new tax incentives should not distract them from other taxes lurking in the background.

Dimitar Hadjiveltchev and Rosemary Billard-Moalic, Attorneys-at-law at CMS Francis Lefebvre Avocats, Paris, give an overview of the tax rules of interest applied to newcomers to France, should they stay or should they go…

Key words : newcomers - income tax – wealth tax – real estate – exit taxation – capital gains

Taking up French tax residence

Income tax incentives

France provides for a specific tax incentive where a newcomer (i) takes up employment in France – either as they are directly hired by a French company or assigned to a French affiliate by their foreign employer; (ii) has not been a French tax resident at any time for the previous five calendar years; and (iii) becomes so upon taking up employment.

This tax incentive entitles newcomers to an eight-year income tax exemption of both a yearly “inward bonus” -which may be a contractual “welcome bonus” or a flat 30% rebate of yearly standard salary if more profitable- and income received as compensation for days worked abroad on behalf of the French company. In practice, a newcomer who takes up employment in 2019 will be granted the tax exemption until the end of 2027. There are limitations which will need to be reviewed with a legal adviser, but this tax incentive may lead to income tax being cut in half, and consequently to a maximum 26.5% effective tax rate.

For the same eight-year period, newcomers are granted a 50% tax relief on investment in foreign financial assets (and foreign copyrights). This tax relief can be partially combined with the newly implemented 30% flat tax on investment income, resulting in a rather friendly 23.6%.

Finally, taxation of foreign carried interest income received by new French tax residents has been recently improved. For the record, foreign carried-interest which did not comply with all French criteria to be qualified as such used to be taxed as salaries under the income tax progressive schedule (up to 49% plus 17.2 % social taxes). As of 1st January 2019, foreign carried interest income is to be taxed at a 30% rate, be it compliant or not, provided that the beneficiary becomes a French tax resident before the end of 2022 and keeps receiving compensation from the foreign fund (which must be and EU fund or a fund located in a tax treaty jurisdiction).

A temporary wealth tax exemption of foreign assets under the new real estate wealth tax

France is quite infamous for taxing personal wealth. Yet, the scope of wealth taxation has recently been narrowed down to real estate assets (where it used to include all personal assets except business assets and works of art). Real estate assets refer to buildings and land held either directly or through French or foreign entities. Real estate used for business purposes is excluded from the scope of the new wealth tax.

Individuals are liable to wealth tax where the net value of their taxable real estate assets exceeds € 1.3 million. Liabilities attached to a real estate asset, a bank loan for example, may be set off against its fair market value. Personal circumstances will have to be thoroughly reviewed though as deduction of liabilities is restricted in some situations. Taxation will rank from 0.5% up to 1.5%, starting from € 800.000. Basically, a €4 million Parisian flat (net value) will give rise to a €26.000 wealth tax.

As an incentive to come and invest in France, newcomers are entitled to a five-year exemption on their non-French real estate assets. For example, settling in France in 2019 will lead to the exclusion of the taxpayer’s foreign real estate assets from wealth tax base until the end of 2024.

Beware of the PUMa

Unfortunately, newcomers to France should also consider some drawbacks. One of them relates to the universal healthcare (so-called PUMa) introduced in 2016 and which is funded by a specific tax which targets French tax residents who mainly live off capital income.

This tax was reviewed by the French Constitutional court in September 2018. Though it was ruled consistent with the Constitution, constitutional judges concluded that both the tax rate and the lack of an upper cap to final taxation were issues that needed to be addressed urgently. As a result, as of 1st January 2019, the tax is levied at as 6.5% rate (instead of prior 8% rate) and the taxable is capped to 318.000 €, resulting in a maximum €21,000 tax.

As this PUMa tax targets French residents whose professional income is less than € 8,000 a year, newcomers may consider starting or boosting a professional activity in France (or pay the PUMa tax…).

As it is applied to French residents only, foreign investors who decide to leave France, while keeping investment there, will not be liable to the PUMa tax.

Leaving France

Exit taxation

After 6 years or more spent in France, investors could be liable to exit taxation where they transfer their residence outside France. They would then be taxed on unrealized capital gains where they hold more than 50% in a company or where the global value of their stock exceeds 800.000 €.

Payment of the tax (30%) may be deferred depending on the State in which residence is transferred.

Taxpayers may be relieved from exit taxation if they keep stock or shares for 5 years following the transfer of residence or if they transfer back to France. The holding period is even reduced to 2 years in case the shares subject to exit tax is lower than €M 2.57. This restriction is significantly lower than the one in force until the end of 2018 – i.e. a fifteen-year period. This is welcome news for the free movement of capital.

Social taxes and non-residence

Non-residents are currently liable to social taxes on French-sourced real estate income they receive–i.e. rental income or capital gains derived from the sale of French real estate. In 2015, the European Court of Justice (ECJ) ruled that one should not be liable to French social taxes on capital income where one contributes to a social security scheme in another EU Member State (here, EU is to be understood as the EU per se, EEA and Switzerland). For example, a resident of the United Kingdom shall not be liable to social taxes on his French capital income if he contributes to a social security scheme under UK law.

Following this ruling by the ECJ and the thousands of claims it brought in its wake, hopes were high that social taxes on French-sourced real estate income would finally be repealed. Unfortunately, social taxes applied to French real estate income earned by EU non-resident taxpayers were only cut down to 7.5% (better than 17.2% though…).

As for non-EU residents, where they contribute to a social security scheme in a State outside the EU, they remain liable to social taxes (17.2%) on their French capital income. The ECJ ruled as such in early 2018 as it considered that a non-EU resident could not claim the protection of the EU regulation for he had not made use of freedom of movement within the EU.

Exemption of capital gains derived from the sale of former French primary residence

Non-residents are liable to a 19% tax (plus 17.2 % social taxes) on capital gains derived from the sale of French real estate. Yet, and this is another good omen for the free movement of capital, the Finance Act for 2019 introduces a full exemption of capital gains derived by a non-resident from the sale of his former primary residence in France. Until now, a non-resident who sold his former home in France could be exempted from capital gain tax only up to € 150.000, which was far from satisfying.