Real estate investments in France

Investments via Luxembourg - the end of the golden age

French source real estate income and gains realised by foreign investors are generally taxable in France at a rate of 34.43 per cent unless a double taxation treaty between France and the country from which the foreign investors are acting provides otherwise.

Until recently, Luxembourg was seen by foreign investors as the main gateway for real estate investments in France. Structuring their investments in France through Luxembourg companies allowed them to take advantage of the favourable double taxation treaty between France and Luxembourg, and to benefit from a full French and Luxembourg tax exemption on income and gains realised upon exit.

Luxembourg and France have, however, progressively put an end to these tax loopholes:

• the first amendment to the double taxation treaty entered into force on 1 January 2008 and gave France the right to tax income derived by Luxembourg companies from French real estate and gains realised by Luxembourg companies from the sale of French real estate; and
• the second amendment, signed on 5 September 2014, gives France the right to tax capital gains realised by Luxembourg companies upon sale of shares of "companies predominantly invested in French real estate". This amendment should be ratified by France and Luxembourg this year so that it should apply to all transfers made as from 1 January 2016.

Although taxation in France could still be avoided where the sold company does not fall within the definition of "companies predominantly invested in French real estate" within the meaning of the new double taxation treaty between France and Luxembourg, most of the investors seeking a tax exemption upon exit will need to use alternative structures.

Structuring investments via other jurisdictions?

There are still other double taxation treaties (e.g. with Belgium, the Netherlands, Ireland, Lebanon) which deprive France from the right to tax capital gains realised upon sale of companies predominantly invested in French real estate.

However, the local treatment in these jurisdictions of gains and income also needs to be carefully reviewed. Some of these jurisdictions may not allow for a tax exemption locally or the repatriation of income from these jurisdictions may not be tax-efficient. Local substance is also a key constraint that needs to be taken into account by foreign investors.

Most importantly, most of these treaties are or will soon be renegotiated so as to ensure that capital gains derived from French real estate assets remain taxable in France. Structuring through these countries is therefore unlikely to be tax-efficient in the long term.

Using a French specific real estate investment vehicle?

An alternative route which can be considered is the setting up of a French Organisme de Placement Collectif Immobilier (OPCI). OPCIs are vehicles which can be used by a group of investors, or by a single investor, to make direct or indirect investments in French or foreign real estate assets.

OPCIs can be set up either as a Société de Placement à Prépondérance Immobilière à Capital Variable (SPPICAV), which is a company with legal personality, or as a Fond de Placement Immobilier (FPI), which is a co-ownership without legal personality. In practice, almost all OPCIs take the form of SPPICAVs.

The main advantage of the OPCI is that it benefits from a full corporate income tax exemption in France on both rental income and capital gains derived from real estate assets. This exemption is, however, subject to certain distribution requirements, under which an OPCI must annually distribute 85 per cent of its rental income, 50 per cent of its capital gains, and 100 per cent of the dividends received from certain of its subsidiaries.

Although such distributions made to foreign investors fall within the scope of the French withholding tax levied in principle at a rate of 30 per cent, its rate may be reduced by application of double taxation treaties concluded by France, notably when the OPCI takes the form of a SPPICAV (e.g. five per cent under the double taxation treaty between France and Luxembourg).

Investing in France via an OPCI is, however, more stringent and more expensive than a direct investment.

Being regulated vehicles, OPCIs have to be approved by the Autorité des marches financiers and are subject to certain investment requirements and ratios, which are however less burdensome in case of OPCIs open to a limited number of professional investors only. Running costs are also higher than those of a non-regulated entity due to the requirement to appoint a management company, auditors, depositaries and valuation experts.

As a result, as long as the Luxembourg route was available, an OPCI was typically only used where the contemplated investments exceeded a certain threshold.

With the Luxembourg route now closed, the OPCI, which offers a French tax exemption on capital gains but also on real estate income, should experience a strong surge in popularity among foreign investors.

Please click on the links below for the other articles in the February 2015 tax newsletter:

• Diverted Profits Tax
• Disguised investment management fees
• Project Blue: SDLT avoidance
• Hybrid mismatch proposals
• BEPS discussion draft on interest deductions