Focus on private equity: French tax reforms getting carried away

The Loi de Finances 2013 introduces a number of measures likely to impact French private equity firms. Greg Gille talks to Herbert Smith Freehills’ Jérôme Le Berre (pictured) to find out what the implications are for future investments.

Greg Gille: GPs are mainly concerned about the treatment of carried interest, with some claiming the new budget will see carry taxed at nearly 100% – is that likely to be the case?

Jérôme Le Berre: The initial draft submitted to the French Parliament by the government provided for an alignment of the tax and social security treatment of carried interest with that applicable to salary income, so that gains derived from carried interest could no longer benefit from the flat income tax rate of 19% (plus social contributions of 15.5%). The combination of this new measure with the introduction by the draft bill of higher income tax rates and new social contributions potentially led to an overall tax rate of around 95%.

Following protest by some entrepreneurs and representatives of the VC sector, the government has agreed to modify the initial draft.

The text adopted by the National Assembly now provides that, subject to certain conditions, carried interest should continue to be treated as capital gains but will be subject to income tax according to the progressive bracket like any other capital gains from 2013 (with a top marginal rate of 45%), whereby the final tax liability upon exit may be reduced by abatements based on years of ownership. Similarly, carried interest will continue to be subject to social contributions at the rate of 15.5%.

GG: How will that compare with the situation in other European countries, and do you think this will complicate fundraising efforts for French PE houses?

JLB: Although PE houses and fund managers are not particularly targeted by the government, they will clearly be impacted by the new proposed legislation.

While the amendment proposed by the government is an improvement, the new tax regime applicable to carried interest should generate a significant increase in the tax liability of fund managers going forward.

If one combines the new proposed top marginal rate of 45% with the applicable social contributions, this may lead to an overall tax liability for fund managers of around 60%, which is significantly higher than that applicable in Luxembourg, the UK, Switzerland or Germany.

Moreover, the new proposed legislation is a further illustration of the instability of the legal and tax landscape in France in recent years, which may prevent certain investors from coming to France.

GG: What are the options available to French GPs?

JLB: As regards existing fund structures, they will need to be reviewed in light of the new legislation to measure its impact on the tax position of the management. It is difficult at this early stage to know with certainty which changes should be made to achieve the same results as today.

A transfer of the tax residence abroad may be an option, but to be efficient from a tax perspective, such a move must be real. This does not only mean to relocate for professional purposes but also implies that personal links with the relevant jurisdiction be significantly loosened.

Furthermore, a few years ago France implemented certain mechanisms to avoid tax-driven relocations – including an exit tax that is levied on latent capital gains existing at the time when the taxpayer transfers its tax residence abroad. Such a transfer should therefore be considered carefully.


This article first appeared on Unquote

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