The French tax authorities have always had a problem with the taxation of trusts because a trust does not exist in French law and it is very difficult to assimilate to a French vehicle. So in its own pragmatic way the French government decided to ignore the legal refinements of a trust and treat all trusts the same for taxation purposes whether they are revocable or irrevocable, or whether the rights of the beneficiary are discretionary or absolute. The result is contained in a law which was published on the 29 July 2011, coming into force on the 31 July 2011. It is called the Loi de Finances rectificative 6 July 2011.

A trust is subject to French tax law where either the trust contains a French situated property, or when any one of the settlor, trustee or beneficiary is tax resident in France.

Income tax

Income distributed by a trust to a French tax resident beneficiary is taxable as investment income irrespective of its source - income from land, from financial investments, capital gains. The important modification regarding the taxation of income is that only distributed income is taxable and not undistributed income.

Inheritance and gifts tax

Assets in a trust must now be declared as part of the estate of the settlor. These assets are deemed not to have left the settlor’s estate even in the case of an irrevocable trust.

The laws of territoriality as defined in article 750 of the French Tax Code apply, which mean that:

i) where the deceased or donor is tax resident in France all assets situated in France or outside France belonging to the testator or donor must be declared in France;ii) where the deceased or donor is resident outside France only French situated assets must be declared in France.iii) where the donee, legatee or the beneficiary under a trust is resident in France provided that the donee, legatee or beneficiary of a trust has been resident in France for at least six years out of the 10 years preceding the year in which he receives the gift.

The above is subject to the provisions of any bilateral tax convention on estates between France and the other country.

The rates of gifts tax and inheritance tax will be those applicable under the general law i.e: they depend on the relationship which the deceased or donor bears to the legatee or donee.

Where it is not possible to determine whether the transfer of assets is a gift or an inheritance because the assets remain in the trust on the death of the settlor the law introduces a totally new tax regime which will be applicable on the death of the settlor.

Two situations are dealt with:

i) where the share due to the beneficiary is identifiable the relationship which the deceased bore to the beneficiary will dictate the rate of tax applicable. The tax is payable by the trustee. Failure by the trustee to pay the tax or where the trustee is subject to the law of a non-cooperative country or of a country which has not signed a tax convention containing a clause of mutual assistance relating to the recovery of tax with France the beneficiaries and trustees are jointly liable for the tax.

ii) where it is not possible to identify the share due to the beneficiary because, for example, the trust provides that the assets will pass to the settlor’s descendants in general the rate of tax will be the highest applicable to beneficiaries of the direct line i.e: 45%. The burden of paying the tax falls on the trustees.

iii) where the trustee is subject to the law of a non-cooperative country or where the trust was created after 11 May 2011 and the settlor was tax resident in France the applicable rate of inheritance tax is 60% which is the rate between unrelated persons.

iv) successive gifts - where there are successive gifts within a trust, e.g: settlor to children then to grandchildren, the beneficiary is deemed to be the settlor for the purposes of the application of the taxation rules, whether by way of death or lifetime gifts.

Wealth tax

Wealth tax is an annual tax levied on the net value of person’s assets as at 1 January of the year concerned. Where an individual is tax resident in France their worldwide assets are taken into account. Where an individual is not tax resident in France it is French situated assets which are taken into account except for French financial investments.

The new law provides that assets placed in a trust are to be considered as part of the settlor’s assets irrespective of whether the trust is irrevocable or revocable, discretionary or not. Furthermore a beneficiary resident in France will be considered a 'settlor' where the latter is deceased. The assets in the trust will be added to the settlor’s other assets to determine whether he is subject to wealth tax. The current threshold for wealth tax is 1.3m euros.

The rate of wealth tax is 0.25% where the net value of the assets is between 1.3m euros and 3m euros. The tax is assessed from the first euro. Where the assets exceed 3m euros the rate of tax is 0.5% on the whole value. The filing date for wealth tax declarations is 15 June of the year concerned. These new tax laws do not apply to trusts established for charitable purposes provided certain conditions are fulfilled or to pension fund trusts managed by an employer created.

Bilateral tax conventions

The above obligations are subject to the provisions of any bilateral tax conventions which France has. For example in the Franco/British treaty dated 19 June 2008 individuals with British nationality, who do not also have French nationality, who take up residence in France after 1 January 2010 do not have to declare the value of their assets situated outside France for wealth tax purposes for a period of five years from the 1 January following the beginning of their residency in France. So if a British person takes up residence in France on 31 March 2010 he does not have to declare his assets outside France for wealth tax purposes until 2016.

The new law relating to wealth tax does not apply to trusts established for charitable purposes or to pension fund trusts managed by an employer created provided certain conditions are fulfilled.

Special tax

The law introduces a new tax on trusts as an incentive on the settlor or beneficiaries of a trust to comply with any appropriate wealth tax declaration filing obligations. The rate of this new tax is 0.50% of the value of the assets in the trust and is payable by the trustee. If the latter does not pay the French resident beneficiary is liable.

This tax will not due in two cases:

i) where the settlor or the beneficiary declares the trust assets as part of his annual wealth tax return, orii) where the settlor or the beneficiary is not subject to wealth tax.

Declaratory obligation

In addition to a wealth tax declaration all trusts must now be declared to the French tax authorities where either the settlor or at least one of the beneficiaries has his tax residence in France or the trust comprises assets situated in France.

This declaratory obligation falls on the trustees or where the trustee fails to declare the obligation is on the settlor and/or the beneficiary resident in France.

It is necessary to declare the market value of the assets and any capitalised income in the trust as at the 1 January of the year concerned. The filing date is the 15 June of the year concerned. There is no obligation to declare in respect of trusts established for charitable purposes or to pension fund trusts managed by an employer provided certain conditions are fulfilled.

Sanctions - if this declaration is not filed the sanction is a fine of 10,000 euros or 5% of the value of the assets in the trust whichever is the higher will be levied. The details of the method of declaration have yet to be published in a 'décrêt d’application'. It is not known when publication will occur.

The above is an outline of the new tax laws in France relating to trusts. It is not meant to be a complete explanation but an introduction of a new offensive in the French fiscal armoury. The new laws are totally divorced from the legal reality of trusts but the French legislature has not tried to understand the legal framework of a trust because such an instrument falls outside the French realm of comprehension. For the French it is a question of money, money, money...!

Roslyn Innocent is an avocat and solicitor at AxiomAvocats, Toulouse, France