Defense programs involve services spread over several financial years, taking the form of long, technical, multi-year contracts, and pose major tax and accounting challenges.
The legal classification of services, the method of recognizing revenue, and the differences between statutory accounting treatment, tax treatment, and IFRS treatment in consolidated financial statements, where applicable, are all points to be monitored.
For companies in this sector, poor analysis can lead to significant adjustments or even the risk of double taxation. It is therefore essential to anticipate and document the accounting and tax treatment of these sensitive transactions.
1. Correctly identifying the nature of contractual obligations
Services spread over several financial years can fall into three categories.
1.1. Long-term contracts: a single, indivisible project carried out over several fiscal years
Commenting on the definition given by the French Accounting Plan (Article 622-1) of these contracts, the Accounting doctrine (CNC), in Opinion 99-10 of September 23, 1999, emphasized three essential criteria:
- the criterion of “complexity” linked to the combination of successive phases and various techniques or know-how with a view to achieving a single objective;
- the criterion of “specific negotiation,” taking the form of work to be carried out on the basis of unique characteristics required by the buyer and substantially adapted to the buyer's needs.
- This criterion explains why so-called “turnkey” contracts are generally long-term contracts, and why the sale of mass-produced goods and the sale of goods with a choice of options within a range based on a basic model are generally excluded;
- The combination in a single project of different contracts negotiated globally and executed simultaneously or successively. Conversely, if a contract covers the production of several goods or services, if the production of each of these goods or services has given rise to a separate negotiation, and if the result attached to each of these goods or services can be identified, they must then be treated as separate contracts.
In the defense sector, research contracts or development contracts co-financed by the State are not considered long-term contracts if the results remain the property of the company.
1.2. Continuous services: regular performance over time
Continuous services differ mainly from long-term contracts in that their performance is divisible. For these contracts, performance and consumption are simultaneous (e.g., rent, suretyship, guarantee, and maintenance) and the beneficiary receives a regular benefit throughout the term of the contract.
1.3. Discontinuous services: split and independent performance
These services are performed in distinct and individualizable phases. It is on this basis that the Council of State recently ruled (CE, 05/20/2025, No. 496756, SARL Comboire Minceur) that a series of slimming treatment sessions, spread over a period of 15 to 20 months and invoiced in advance upon signature of the contract, constituted a discontinuous service with successive due dates.
Thus, the description of the work to be carried out (successive phases, whether divisible or not), the terms of acceptance (single or multiple acceptance), invoicing and payment (single or by phases/technical milestones) will all be factors that will determine the classification of the contracts.
However, classification is essential. It determines the accounting method and tax treatment of revenue.
2. Accounting: separate rules depending on the nature of the contracts
In corporate accounting, continuous services and discontinuous services with successive due dates must be recognized “as earned,” as they are performed:
- for continuous services, progress is assessed in principle, according to accounting doctrine, “by revenue” (with a proportional allocation of expenses);
- for non-continuous services with successive due dates, progress is measured, according to accounting doctrine, “by expense,” based on the costs of the work performed at each closing (compared to the total costs estimated to be necessary to complete the contract).
Long-term contracts offer a choice: accounting on a percentage-of-completion basis (generally by expense) or on a completed-contract basis.
In practice, based on our experience, defense companies favor progress, in particular to smooth out results and more accurately reflect the economic reality of programs, which are in principle marked by technical milestones validated by the contracting authority (and to avoid late recognition, at the very end of the project, of results that have been generated over several years).
Under IFRS, the method for recognizing revenue associated with all services received and consumed over time (which is the case for long-term contracts, continuous services, and discontinuous services with successive due dates, except in exceptional cases) is the percentage-of-completion method, measured by expenses or based on results achieved.
3. Taxation: persistent differences, particularly for long-term contracts
3.1. For tax purposes, income from services rendered is in principle attributed to the financial year in which they are completed; as an exception, progress payments are permitted for continuous and discontinuous services with successive deadlines (Article 38-2 bis of the General Tax Code).
The Council of State ruled (CE, 12/28/2012, No. 339927, SARL The Race Event) that revenue associated with a contract covering continuous or discontinuous services with successive deadlines could, for tax purposes, be spread out according to progress based on revenue (based on invoices issued) or progress based on costs, if this method proved to be more relevant.
The Versailles Administrative Court of Appeal ruled (July 22, 2017, No. 15VE01900, SA Sofinel ingénierie électronucléaire), in a decision that has become final, that the exception provided for in Article 38-2 bis of the FTC was not applicable to long-term contracts of a single-service nature.
The situation examined related to an engineering contract in the nuclear field, considered to be a single-service contract. The revenue relating to this contract had been recognized on a “cost-to-date” basis (independent of invoices issued), measured on the basis of the volume of work and services actually performed at the end of each financial year (using the number of man-days worked in relation to the number of man-days budgeted for the entire contract). The revenue corresponding to the difference between the revenue invoiced according to the contractual schedule and the revenue calculated according to actual progress was reversed through a deferred income account.
The tax authorities argued that the deferred income should be taxed in the fiscal year in which it was recorded, considering that the invoices issued reflected the actual progress of the services rendered.
The court ruled that the accounting choice was not compatible with the tax rule and that the revenue associated with the contract should be taxed in full upon completion.
As a concession, the authorities accepted the percentage-of-completion method for long-term contracts, for the benefit of construction and public works companies (BOI-BIC-PDSTK-10-10-10 No. 180) and shipbuilding companies (BOI-PDSTK-20-10 No. 30).
3.2. It follows from the principles set out above that:
- the percentage-of-completion method is required for accounting and tax purposes for continuous services and discontinuous services with successive due dates. However, the administration may wish to claim, or companies may wish to apply, for tax purposes, a percentage-of-completion method based on revenue rather than the percentage-of-completion method based on expenses used for accounting purposes, or vice versa;
- if the percentage-of-completion method is applied to long-term contracts, companies in the defense sector must make off-balance sheet adjustments (to reflect the completed contract method) when calculating their taxable income.
- Otherwise, there is a risk that the tax authorities may, in the course of an audit, claim taxation of the entire revenue covering the single service for the year in which the contract was completed. Such a situation could also give rise to a double taxation issue if the deadlines for claiming a refund of corporate income tax on incorrectly spread revenue have expired.
4. Anticipate tax and accounting discrepancies and secure the chosen tax treatment
4.1. In our experience, the tax authorities challenge the chosen accrual method during audits, based on their perception of the reliability of the monitoring.
4.2. Therefore, when using the percentage-of-completion method (if this method is required or proves to be more advantageous), companies would benefit from including technical milestones/regular work status reports in new contracts in advance, in order to justify the percentage of completion (and therefore the amount billable).
The validity of the cost-based progress method will depend on being able to demonstrate that it better reflects the economic benefits provided to the beneficiaries of the services during the various financial years in question.
In our experience, this requires, in particular, the company's ability (a) to identify precisely the main work carried out, the deadlines and the related costs incurred, (b) to have reliable IT systems, and (c) to document a projected result and margin.
4.3. The question of how to calculate the percentage-of-completion method may arise even more acutely in companies that are required to publish consolidated financial statements in accordance with IFRS.
IFRS 15, which specifies the revenue recognition methodology to be followed in situations involving the transfer of control of a good or service on a continuous basis, requires companies to select the method of measuring progress “that best reflects the progress made in transferring control of the goods and services promised to the customer.”
These situations must lead to the consideration of consolidated financial statements in the choice of the method for measuring progress, even if this means managing a potential distortion between the two accounting standards.
4.4. For these reasons, in complex situations, which are generally high-stakes, it may be in companies' interests to secure the position taken in a request for a ruling.
1. CE, 03/08/2002, No. 199468.
2. CE, 06/21/1995, No. 144450.
3. And which, in our opinion, takes precedence as the final decision over the decision of the same court of November 17, 2016 (CAA Versailles, No. 14VE02672, AREVA NP Company).
4. This does not exclude certain other tax and accounting differences, particularly in the assessment of the margin generated for each financial year.
5. And all other sectors of activity, with the exception of construction and shipbuilding companies.
