The French CFC Regime

Transcription

1 The French CFC Regime By Daniel Gutmann 1 and François Meziane 2 France introduced a CFC legislation into domestic law in the early 1980 s. In its thirty years of existence, the CFC regime has experienced numerous modifications. This article focuses on the present version of the regime, its scope, its mechanism and the consequences of its utilization by French Tax Authorities ( FTA ). However, since the present version of the French CFC legislation may only be understood in the light of the former legislative versions, a look back cannot be avoided to get a better understanding of both the origins of and the rationale for this French anti-avoidance provision. 1. The Context of the French CFC Rule: An Overview of the French Territorial System of Corporate Taxation With its original territoriality principle to tax corporations, French tax law stands as an exception not only within the group of developed countries, but more generally in the world. As will be described below, the need for a CFC regime seems at first sight much less acute than for countries where corporations are subject to corporate income tax on their worldwide income. Among the rules which concur to this impression stand not only the territoriality principle of corporate taxation, but also the taxation of worldwide passive income of domestic enterprises, the single entity taxation principle and the participation exemption regime which apply to foreign dividends in a similar way as to domestic dividends. - Territoriality Principle of Corporate Taxation France is one of the very few countries over the world which applies in its domestic law the principle of territoriality to assess the amount of tax due by corporations and other companies subject to corporate income tax. As stated by section 209 I of the French Tax Code ( FTC ), French companies are subject to corporate income tax on their income derived from enterprises operating in France and on their income the taxation of which is attributed to France by a bilateral tax treaty. This method for taxing corporations has never been seriously contested by French groups and remains one of the cornerstones of French corporate income tax system. The territoriality principle is only subject to two statutory exceptions. Firstly, a handful of large French multinational companies used to benefit from a worldwide corporate taxation regime and were allowed to consolidate the income (or the tax losses) of their foreign establishments with their French taxable income (or losses). This specific regime was referred to as the worldwide taxation regime and its benefit was granted to large multinational groups on a case by case basis by the French Tax Authorities ( FTA ). It has however been abolished by a statute adopted in September 2011, after many criticisms were raised concerning the heavy budgetary losses that it entailed for the French State and equity concerns were expressed in relation to the beneficial treatment granted to multinational companies only. Secondly, small and medium enterprises ( SMEs ) are allowed to offset their foreign tax losses against their French taxable profits provided that they recapture of the amount of the foreign tax losses previously offsetted during their next profitable years 3. - Taxation of Worldwide Passive Income Derived by French Enterprises The reception of foreign passive income by a French enterprise does not usually constitute by itself a trade or a business conducted outside of France. Therefore, in most cases, foreign source interest, dividends and royalties derived by French enterprises are subject to corporate income tax in France at 1 Professor at the Sorbonne Law School, Partner at CMS Bureau Francis Lefebvre. 2 Lawyer, CMS Bureau Francis Lefebvre 3 Sect. 209 C of the French tax code (FTC). 1

2 the standard rate of 33,33% 4. However, no corporate income tax is due in France when said passive income are effectively connected to an enterprise carrying out a business outside of France. - Single Entity Taxation Principle Another cornerstone of French corporate tax system is the absence of any tax consolidation between the taxable income (or the tax losses) derived by a French company and the taxable income (or the tax losses) derived by a foreign subsidiary. Only a handful of large French multinational companies (in practice, the same companies as those which have been delivered a worldwide taxation ruling) have been legally allowed by the FTA to consolidate their French income with the taxable results of their foreign subsidiaries held at 50%. Another limited exception exists for small and medium enterprise 5. The optional French tax consolidation regime created in 1988 only allows a French enterprise subject to corporate income tax in France 6 to consolidate its taxable results with those of its 95% held domestic subsidiaries (or with the tax result of the French permanent establishments of its 95% held foreign subsidiary), but do not extend to the foreign tax result of its 95% held foreign subsidiaries. - Participation Exemption Regime on Foreign Source Dividends The French participation exemption regime on dividends has been in force, albeit not always in its current form, since the 1920 s. Upon election, the regime allows a French parent company subject to French corporate income tax (as well as most French permanent establishment of foreign companies) to receive tax free dividends from both its domestic and its foreign subsidiaries held at 5% for a continuous period of two years. Companies which elect to benefit from the participation exemption regime are merely required to recapture a lump sum of 5% of the dividend received into their taxable result. Contrary to most other countries with a similar regime, the French participation exemption on dividends is not restricted to domestic or to EU companies. Most importantly, it does not contain any subject to tax condition either. A French parent company may therefore benefit from the participation exemption regime for inbound dividends incoming from a subsidiary established in a low tax jurisdiction 7. The four rules and principles presented above have remained largely unchanged for several decades. As such, they may be considered as principles of modern French corporate taxation. Their combination explain both the rationale and the limits of the French CFC regime and the various issues that it raised over the time. 2. The Evolution of the French CFC Regime The French CFC regime has been introduced in Since then, the mechanism has been modified several times and has been completely rewritten in 2005 after the former version was ruled incompatible with bilateral tax treaties concluded by France and after growing concerns had started to raise about its compatibility with EU legislation. 2.1 The origins of the French CFC legislation 4 The effective rate is set at 34.43%. The effective rate will exceptionally be raised to 36.1% for large companies (i.e. companies the turnover of which exceeds EUR 250 M) closing their fiscal year in 2012 and In the same way as for the exception to the territoriality principle, the SMEs consolidation regime is only provided for tax foreign tax losses and provides for a recapture of the advantage during the next profitable years. 6 i.e. a French corporation or a French permanent establishment of a foreign company. 7 As from 1 st January 2011, a limitation exists for dividends received by French parent companies from companies established in Non-Cooperative States or Territories within the meaning of the French tax legislation. But this restriction does not call into question the rule according to which dividends received from low tax jurisdiction may also benefit from the participation exemption regime. 2

3 At the time when the French CFC regime was introduced in 1980, France became the fourth State to introduce such an anti-avoidance device into its own tax legislation after the United States, Canada and Germany. But contrary to these three countries, which taxed the worldwide income derived by their domestic corporations and thus had a clear incentive to discourage the setting up of subsidiaries incorporated in low tax jurisdictions to the detriment of foreign permanent establishments, France did not (and still does not) tax foreign direct exploitations carried out by French companies. The introduction of a French CFC regime therefore did not find its rationale in the erosion of the domestic taxable base caused by the replacement of foreign direct exploitations with foreign subsidiaries located in low tax jurisdictions. The main purpose of the enactment of the CFC was instead to give a clear legislative response to the abusive use of the French participation exemption regime applicable to dividends 8. The French CFC regime enacted in 1980 provided for the immediate taxation in France of the profits derived from foreign subsidiaries located in a low taxed jurisdiction held at 25% by companies subject to corporate income tax in France even in the absence of any distribution 9. The law stated that profits deriving from the foreign company had to be reassessed by using the French corporate tax rules and had to be taxed separately. In practice, the rule meant that French tax losses incurred by the French enterprise could not be offset against the CFC s profit. The law however contained a safe harbour clause according to which foreign subsidiaries carrying out an effective trade or business on the local market were left outside the scope of the French mandatory taxation. Most of these characteristics except for the separate taxation rule are still present under the current version of the French CFC rule. The original French CFC rule did not intent to deviate from the tax deferral of foreign income, but rather to restrict the application of the participation exemption regime for dividends incoming from untaxed income. In the early days, the French CFC regime did not derogate from the territoriality principle of corporate taxation, contrary to a common interpretation of this provision 10.In the light of the context, the introduction of the French CFC legislation into French law was therefore not technically unavoidable. The same purposes could easily have been satisfied by a provision restricting the scope of the French participation exemption regime on dividends to situations where the underlying profits had been subject to tax abroad. This latter route has however not been explored and the broad lines of all the subsequent versions of the French CFC rule found their place on the French corporate taxation s landscape. 2.2 Subsequent Evolution of the French CFC Legislation and Qualification Issues The Finance Law for 1993 introduced a major evolution of the French CFC legislation (i) by extending the scope of the regime to foreign direct exploitations of French entities established in a State or a Territory where they benefit from a favourable tax regime and (ii) by reducing the minimum participation threshold in foreign subsidiaries to 10% Parliament found inacceptable that domestic enterprises had the possibility to locate profits in low tax jurisdictions by setting up a subsidiary and to repatriate these accumulated stock of gross income by way of a distribution of dividends which bear only a limited level of taxation in France. 9 The reason why the regime only dealt with foreign subsidiaries held at 25% is not clear, since the participation exemption regime on dividends was eligible upon election for companies holding more than 10 % of both the voting rights and the financial interest of the foreign company. A 25% stake was also not enough for the French shareholder company to decide whether or not dividends should be distributed. The holding threshold was lowered to 10% only as from 1993 to align it with the level of participation required by parent companies to benefit from the participation exemption regime. 10 It did not derogate from the single entity taxation principle either since (i) only the foreign profits - as restated by applying French taw law provisions were taxed in France (and not the foreign losses) and since (ii) this foreign tax result was taxed separately. 11 By extending its scope to foreign direct exploitation or foreign permanent establishments, the CFC regime acquired its nature as an exemption to the territoriality principle. The exemption is however limited to profits and, at least in the beginning, it did not result in the summing up of the foreign profits with the French taxable results. 3

4 Whereas the alignment of the CFC rule with the 10% threshold then required to benefit from the participation exemption regime was inevitable given the rationale of the French CFC legislation, the extension of the CFC rule to foreign direct exploitations was more questionable since France did not tax such income. This innovation has however introduced in the name of the necessity to discourage French enterprises to take any interest in low tax jurisdictions whatsoever, except for sound business reasons. The dual application of the French CFC rule to both foreign subsidiaries and to foreign permanent establishments has constantly remained since then. Twenty-two years after its introduction into French law, the issue of the compatibility of the French CFC regime with the provisions of the bilateral tax treaties concluded by France arose before the judge within the context of the France-Switzerland bilateral tax treaty. The issue as to whether the income deemed attributed to the parent company constituted business income within the meaning of article 7 of the tax treaty or whether it should instead be given the qualification of a deemed dividend which would fall within the scope of the other income provision of the tax treaty had not received any definitive answer before the Conseil d Etat (the Supreme Administrative Court for direct taxation and VAT matters in France) ruled, in the famous Schneider Electric case, that article 7 of the France- Switzerland bilateral tax treaty prevented the application of the presumption provided for by section 209 B FTC 12. In other words, the income deemed realized by the French enterprise holding an interest in a low tax subsidiary was considered similar as the business income derived from a direct Swiss business of the French parent company. By this decision, the Conseil d Etat ruled in favour of the letter of the law 13 rather than in favour of the rationale that lay behind the creation of the French CFC regime. As described below, the current version of the French CFC legislation does not retain this solution anymore where the application of section 209 B of the FTC is triggered by the existence of an interest in a foreign subsidiary. To discard any possible doubt regarding the compatibility of section 209 B with tax treaties, France has recently entered into the practice of introducing specific provisions into its newly approved bilateral tax treaties in order to retain the possibility to apply the provisions of section 209 B of the FTC 14. Further to the issue of the compatibility of the French CFC legislation with the bilateral tax treaties concluded by France, the issue of the compatibility of these provisions with EU law was also raised more directly. To prevent the French CFC regime from being challenged in the light of the freedom of establishment protected by the Treaty on the Functioning of the European Union, the French Parliament took the initiative to rewrite the legislation, even before the ECJ ruled out in its Cadbury Schweppes case that the application of a CFC rule within the EU was contrary to the provisions governing Freedom of establishment, except where its application relates to the circumvention of French domestic legislation through a wholly artificial arrangement Current CFC rule In its present form, section 209 B of the FTC states that if an entity subject to French corporate income tax operates an enterprise outside France or holds, directly or indirectly, more than 50% of the shares, interest shares, financial rights or voting rights in a company or an entity established outside France and the said enterprise, company or entity benefits from a privileged tax regime, the profits of the 12 Conseil d Etat, Ass. 28 juin 2002 n , Schneider Electric. 13 Literally the provisions of section 209 B FTC, as then in force, stated that Where an enterprise subject to corporate income tax in France holds [ ] a 25% interest in a company established in a foreign State or in a foreign Territory where it benefits from a favorable tax regime [ ], this enterprise is subject to corporate income tax in France on the profits of the foreign company in proportion to the interest that it holds in said company. 14 Most of the recent bilateral tax treaties concluded by France contain such a provision. It should also be noted that the FTA published in its administrative guidelines concerning the mechanism of section 209 B of the FTC (as modified by the Finance Law for 2006) a list of bilateral tax treaties containing provisions which allow France to apply this provision in the context of foreign direct exploitations (BOI 4 H-1-07, Appendix 3). The list is however not immune from criticism, especially in the case of the France-Switzerland tax treaty. 15 CJUE, 12 September 2006, C196/04, Cadbury Schweppes. 4

5 enterprise, company or entity are taxable in France in proportion to the shares, interest shares or financial rights which that entity, directly or indirectly, holds in the foreign entity. The details of this rule should be explained. - Nature of the French Entities Concerned The French entity should be a legal person subject to corporate income tax. Conversely, any legal person subject to corporate income tax may fall within the scope of the French CFC legislation. The law does not provide for any exception for small companies or for listed companies. There is no such thing as a minimum turnover or a minimum income to realize in order to fall within the scope of the regime. Since the law does not require that the French entity should effectively pay corporate income tax, the CFC provisions may apply to French entities which are subject to corporate income tax but which benefit from a temporary exemption. The regime may also apply to French entities which belong to a tax consolidated group, although subsidiaries do not effectively pay corporate income tax to the French treasury during the period of their tax consolidation Nature of the Foreign Entities Concerned The CFC regime applies to direct foreign exploitations or permanent establishments as well as to any other entity with or without legal personality (companies, partnerships, foundations, legal entities, consortium, trusts 17, fiduciary agreements, etc.). - Minimum Participation Threshold The CFC rule applies to foreign entity in which the French entity holds more than 50% of the shares, share interest, voting rights or financial rights. The minimum participation threshold of 50% is consistent with the fact that the foreign income is deemed to be distributed to the French parent and thus relies on the assumption that the French entity exercises full control over the distribution policy of the foreign entity. The minimum participation threshold of 50% may be direct or indirect. The shares, share interest, voting rights or financial rights hold (i) by employees or legal representatives of the French entity (or even by family members of these persons), (ii) by another entity which is controlled by a controlling entity of the French company or (iii) by a trading partner of the French company if their economic relation characterize economic dependency, are taken into account for the purposes of the determination of the indirect participation threshold. The existence of a minimum participation threshold of 50% is appreciated either as on the day of the closing of the financial year of the foreign entity 18 or by reference to a 183-day period. In order to avoid certain artificial schemes, an anti-abuse provision reduces the participation threshold to 5% in situations where more than 50% of the shares in the foreign entity are owned by French entities directly or indirectly controlled by a French company The amount of corporate income tax due by the companies forming part of the tax consolidated group is legally due by the consolidating company only. Tax consolidated subsidiaries remain nonetheless jointly liable for the payment of the tax due by the parent company on behalf of the group. 17 The FTA s guidelines include trusts and other foreign arrangements in the list of the foreign entities concerned. However, the existence of a 50% interest in said entities may be difficult to prove for the FTA in practice. 18 When the foreign entity does not close its fiscal year during a specific year, the threshold is appreciated as on the day when the French company closes its annual accounts. 5

6 - Foreign Privileged Tax Regime Section 209 B of the FTC only applies provided that the controlled foreign entity or the foreign direct exploitation of the French company subject to corporate income tax is located in a foreign jurisdiction where it benefits from a privileged tax regime within the meaning of section 238 A of the FTC. According to these provisions, an entity benefits from a privileged tax regime locally if it is subject to a taxation on its profits or on its income which is less than 50% of the tax on profits or income that the foreign entity would have paid under the French standard corporate taxation rules had it been a French entity subject to corporate income tax in France 20. The comparison with the French tax regime should be made by applying the French standard corporate taxation rules. Temporary corporate income tax exemptions from which French companies may benefit under certain conditions should therefore not be taken into consideration. However, the favourable regimes made available to French taxpayers upon election (such as the participation exemption regime for dividends) or automatically (such as the participation exemption regime for certain capital gains) are taken into consideration and form part of the French standard corporate taxation rules. This is the reason why the application of section 209 B of the FTC has been less stringent over the last few years for French entities controlling a foreign holding company which benefits locally from a more generous participation exemption regime than its French equivalent legislation 21. The territoriality principle should be applied when comparing the amount of tax paid in the foreign country with the amount of tax that a similar entity would have paid had it been subject to corporate income tax in France. Thus, the amount of tax paid by the foreign entity relating to a permanent establishment located in a third country should not be taken into consideration when examining whether the foreign territory where the entity is established is to be considered privileged or not 22. However, the amount of the withholding tax borne by the foreign entity on the income received from other foreign territories should be taken into account 23. The determination of a favourable tax regime is made by reference to the effective corporate income tax or business tax applicable to the foreign entity or to the foreign direct exploitation in the foreign country. A short analysis of the tax system of the country of establishment does not constitute 19 For the purposes of this provision, a control may either result from legal considerations (voting rights) or from factual considerations ( de facto control). 20 Before the enactment of the Finance Law for 2005, the law considered that a privileged tax regime existed where foreign companies were subject to taxes on their profits or income which were substantially less significant in amount than those which would have been due in France. This criterion was not very clear. The administrative guidelines indicated that a privileged tax regime means a local regime where the profits and income of the foreign entity were subject to a taxation that was less than two-thirds of the amount of the French taxation which would have been due in France under the same circumstances. Given the practical importance of the application of the CFC regime for French entities, this situation was not very satisfactory. The modification introduced by the Finance Law for 2005 was therefore largely praised by companies and by tax practitioners. 21 As from 1 st January 2007, capital gains derived by French entities which are subject to corporate income tax from the disposition of shares (representing a participation for accounting purposes or benefiting from the participation exemption regime for dividends) held for a continuous period of two years are exempt from corporate income tax, except for a 5% recapture. For fiscal years open after 1 st January 2011 and not closed before 21 September 2011, the recapture is however raised to 10% of the amount of the capital gain realized upon the disposition of the shares. 22 Conseil d Etat, 21 November 2011, n , Société SIFA. 23 Conseil d Etat, 21 November 2011, n , Compagnie des Glénans. 6

7 sufficient evidence that the foreign entity benefits locally from a privileged tax regime 24. The burden of proof is evidently easier for the FTA where the foreign territory does not levy any taxes at all. - Consequences of the Application of the CFC rule French entities subject to CFC legislation are assessed to tax in France on a pro rata amount of the income received, or deemed received, from such entity or permanent establishment. The corporate income tax is therefore computed in France on the profits in their entire amount for a foreign direct exploitation or for a 100% held subsidiary. For a foreign affiliate, the corporate income tax on profits incoming form the entity is computed in proportion to the shares, interest shares or financial rights that the French enterprise holds directly or indirectly in the foreign entity. The French entity is taxed on the income derived by its controlled foreign entity only if that entity realizes a taxable profit once the French corporate income tax rules have been applied to reassess the taxable result: the application of the CFC legislation does not lead to the aggregation of foreign tax losses with French taxable profits, nor does it lead to the aggregation of foreign tax losses with French tax losses 25. The income received by the French entity is recalculated by applying French corporate tax provisions. All the rules contained in the FTC apply for the purposes of this recalculation, except for the provisions concerning the French tax consolidation regime which is viewed as being a tax incentive and should not be available for the purposes of an anti-avoidance scheme. Aside from this exclusion, all the rules contained in the French legislation apply to the determination of the taxable result of the foreign entity, in the same way as if the foreign entity was located in France 26. Income derived by the foreign entity is deemed to constitute business income of the French entity if the foreign entity is a foreign branch or a foreign permanent establishment of the French entity. The amount of the income is aggregated with the other income of the French entity and not taxed separately anymore. Income derived from a foreign company or a foreign entity other than a foreign direct exploitation is deemed to constitute a dividend income for tax purposes. The reception of this dividend may not benefit from the participation exemption regime 27. This dual qualification mechanism has been introduced by the Finance Law for 2005 in order to circumvent the solution adopted by the Conseil d Etat in the Schneider Electric case under the former version of the CFC legislation. 24 For an example of this analysis, see the opinion of M. Fouquet in a case decided by the Conseil d Etat on 21 March 1986, n , Auriège, according to which the comparison must be precise and may not be limited to the comparison between average rates. 25 But since taxation of the foreign profits is not taxed separately anymore, the French tax losses may be carried back by using the foreign tax profits to calculate the amount of tax receivable. However, the practical interest of this is possibility has decreased with the reduction of the possibility to carry tax losses back for a one-year period only. 26 As a consequence, French anti-avoidance rules (transfer pricing rules, CFC rule, thin capitalization rules, etc.) are applicable to the determination of the French taxable income which will be deemed attributed to the French entity. An issue may arise for the anti-avoidance rule contained in the French tax Procedure Code ( FTPC ), since the provisions contained in the FTPC are not expressly referred to in the law when addressing the issue of the calculation of the foreign taxable profits. The issue is especially important to determine whether the general anti-avoidance rule provided for in the FTPC (which is referred to as the abuse of law procedure or abus de droit ) applies when calculating the profits realized by the foreign entity. Since sanctions and penalties applicable in case of an abuse of law are provided for by the FTC, it could be argued that the abuse of law provisions apply to the calculation of the foreign entity s taxable profits. On the other hand, it could be argued that rules provided for by the FTC should only include the rules governing assessment of the French corporate income tax and not the rules governing the procedure of taxation, but the exact nature of the general anti-avoidance rule may give rise to contestation. 27 This solution is coherent since the nature of the French participation exemption regime for dividends is a direct cause of the introduction of the French CFC regime. 7

8 Profits attributed to the French entity subject to corporate income tax in France therefore receive a dual qualification according to the legal nature of the foreign establishment. This solution should lead to a clear distinction for the purposes of the application of bilateral tax treaty provisions. Where the establishment of the French entity takes the form of a subsidiary or any other local entity other than a direct exploitation, the foreign profits are legally deemed to be income distributed to the French parent company. In a tax treaty situation, this domestic qualification should lead to the application of the dividend clause or of the other income clause of the tax treaty depending on the scope of the treaty definition of the term dividends 28. French entities which fall within the scope of the CFC rule have to take into account spontaneously the fraction of the profits incoming from a foreign entity subject to a privileged tax regime. The FTA may in principle reassess the incorrect application of the CFC regime by the French entity at the latest on 31 st December of the third year following the year for which the CFC legislation should have been applied. But when the required formalities have not been filed and the State or Territory where the foreign entity or the foreign exploitation is located has not concluded any tax treaty with France providing for the exchange of information for tax purposes, the limitation period extends to 10 years. Double taxation at the level of the French entity is avoided by taking into account both the amount of the foreign tax paid by the foreign entity in its country of residence or in third countries and the amount of tax due in France by the French entity on the amount of the revenues effectively received by way of dividends when the foreign entity carries out an effective distribution of its profits. The foreign tax due on the profits falling under the CFC legislation is credited against the corresponding French tax, provided that the foreign tax paid is comparable to French corporate income tax due. The amounts of withholding taxes on passive income received by the foreign entity and levied by third countries which are not considered as non cooperative jurisdictions for French tax purposes 29 may be credited against the French tax due on such income up to the amount provided for by the treaty with that third country. - Safe Harbor Clause French CFC rules do not apply in several situations. First of all, an exception to the application of the CFC rule is provided for entities established or constituted within the EU. Article 209 B of the FTC does not apply if the foreign enterprise or the foreign legal entity is established or constituted in another EU Member State, except where the EU structure can be regarded as constituting a artificial arrangement intended to circumvent French tax law. The notion of artificial arrangement should be interpreted in the light of the subsequent case law of the European Union Court of Justice, especially in light of the Cadbury Schweppes case 30. Great consideration should therefore be taken to the fact that the EU entity should actually exist in terms of premises, staff and equipment. 28 If the term «dividends» includes income treated as a distribution by the taxation laws of the contracting state of which the company making the distribution is a resident, then the provisions dealing with dividends apply. Conversely, if the definition of the term dividends does not extend to income treated as a distribution according to the taxation laws of the contracting state of which the company making the distribution is a resident, the provisions of the tax treaty dealing with other income will apply. 29 The concept of Non-Cooperative States or Territories ( NCSTs ) has been introduced into French tax law in A black list of NCSTs is published yearly. The list for 2011 includes the following States and territories: Anguilla, Belize, Brunei, Dominique, Grenade, Saint-Vincent and the Grenadines, Turk and Caicos Islands, Liberia, Monteserrat, Nauru, Niue, Marshall Islands, Cook Islands, Oman, Costa Rica, Guatemala, Philippines, Panama. Since a bilateral tax treaty containing a clause providing for mutual exchange or information for tax purposes has been in force between Panama and France as from December 1 st 2011, Panama should leave the French black-list of NCSTs as from Notwithstanding the fact that (i) the Cadbury Schweppes case was delivered after France modified its CFC legislation and (ii) the European Union Court of Justice refers to the notion of wholly artificial arrangement and not to the notion of artificial arrangement which is the wording chosen by French law. 8

9 Secondly, another exemption may apply where the profits of the foreign enterprise or of the legal entity derive from an effective industrial or commercial activity exercised in the territory in which the enterprise is established or in which the legal entity has its seat. Contrary to the former CFC provisions, the current CFC legislation does not require that the turnover of the foreign entity should have arisen from operations carried out on the local market anymore. However, this exemption is not absolute and does not encompass situations where the profits of the foreign entity arise for more than 20% from the management, holding or increase of shares, debt claims or similar assets on its own account or for enterprises belonging to a group of companies with which the French company has a relationship of dependence or control, or from the sale or licence of intangibles relating to industrial, literary or artistic property. The exception does not apply either where the profits of the foreign enterprise or of the foreign legal entity derive for more than 50% from operations referred to above and from the provision of services, including financial services, to a group of enterprises with which the French company has relations of dependence or control. When the foreign entity is located outside the EU and may not benefit from the exception provided for the exercise of an effective industrial or commercial activity, a last possibility of exemption applies if the French entity may demonstrate that the main effect of the operations of the foreign enterprise or of the foreign legal entity is not to locate profits in a territory where it benefits from a privileged tax regime. This exemption is laid down in the law but is more clearly expressed in the Administrative guidelines published by the FTA to comment the CFC provisions after the modification enacted by the Finance Law for In practice, that demonstration is not simple to produce for companies and it is always better to rely on the other exemption criteria provided for by the law. 3. Final Remarks and Conclusion As one would suspect by the description presented above, the current French CFC legislation does not constitute a major constraint for French companies in practice. There are numerous reasons to explain this situation, among which may be retain (i) the practical importance of the exceptions provided for by the law, (ii) the clarification of the way bilateral tax treaties could eventually impede the application of the CFC rules, (iii) the increase of the minimum participation threshold in the foreign entity required to trigger the application of the regime, (iv) the characterization of the existence of a privileged tax regime when the effective taxation of the foreign enterprise or entity is at least 50% lower than that of France (instead of one-third previously) and (v) the introduction of a domestic competitive participation exemption regime on the disposition of certain shares. Another reason for the lack of real practical effect is the possibility given to French companies to reduce their exposure to the consequences of the CFC regime by holding more than 50% of the voting rights of a foreign entity whereas the financial rights of said company would be overwhelmingly held by another company of the group located abroad. However, in a tense budgetary situation and with the possible perspective of an increase of corporate taxation in a near future, the CFC rule could regain practical importance for French and international groups. Another concluding remark concerns the issue of the qualification of the revenues deemed received by the French company under current CFC legislation. Despite the modifications of the law and the solution found out by the French Parliament to circumvent the practical conclusions of the Schneider Electric case, all the issues regarding the applicable provisions of the bilateral tax treaties concluded by France are not settled yet. Indeed, the FTA currently maintains in its administrative guidelines that where the foreign entity is a company (or any other legal entity which distributes dividends), the income which is deemed received by the French company pursuant to the provisions of article 209 B of the FTC do not qualify for the dividend clause provided for by tax treaties but only qualify for the 31 Instr. 16 January 2007, BOI 4 H-1-07 n 225 to n 230. These guidelines relate to the assessment of the tax and, as such, their content may be opposed by taxpayers to the FTA in the context of a tax audit. 9

10 other income provisions of the tax treaty because said income is not effectively paid 32. This view is debatable and could in our view give raise to contestation before the courts 33. All the issues raised by the French CFC legislation have therefore not been settled yet. But the limited practical impact of the current French CFC provision does not require urgent statutory adjustments. The introduction of the CFC concept into French legislation has already strongly contributed to the progress of domestic and international tax science. It is time for it to rest for a while. 32 Instr. 16 January 2007, BOI 4 H-1-07 n The fact that this contestation has not been brought so far is in itself strong evidence that the current CFC regime is not a major constraint for French companies in practice. 10