When shall your clients purchase a French property via an SCI?
The purchase of a French property via a French property holding company, called Société Civile Immobilière, in short, SCI, was often recommended to British nationals before the application of Brussels IV to avoid the application of French forced heirship rules. By holding a French property via an SCI, the buyer owned the company shares, hence movable assets, which were governed by the succession laws of the shareholder’s last domicile or lex domicilii. The SCI shareholding held by a British national domiciled in England (or Wales) at the time of death was governed by English succession law, hence outside the scope of French forced heirship rules. In other words, the use of an SCI was a way for British nationals to disinherit some or all their children from their French property, which French succession law would not otherwise allow.
Since the first application of the Brussels IV in August 2015, the benefit of using SCIs to avoid French forced heirship rules has been considerably reduced since the application of English succession law to French assets can now be achieved by a careful drafting of a Will with a valid professio Juris.
In this context, clients now often question the relevance of setting up an SCI to buy a French property. The purpose of this article is to summarise the scenarios when, to our mind, an SCI remains a suitable structure to buy or transfer French properties.
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An SCI can facilitate the transfer of a French property to the next generation
Many parents want to give away part of their estate in advance of their death. The most traditional way of giving away a French property to the children without depriving the parents of the right to use and occupy the property during their lifetime is that of a donation en démembrement de propriété i.e. a gift of the nue-propriété (the underlying capital value or remainder interest) to the children, while the parents keep the usufruit until their death. At the time of the parents’ death, the children recover the parents’ usufruit free from French IHT. This structure is similar, although not identical, to our interest in possession structure.
This option, although certainly tax efficient, is not without flaws. One major drawback is that the parents must share the ownership of the property with the children and no management decision can be taken without all parties’ agreement. Also, the parents are not free to sell the property if one of the children disagrees and the value of the usufruit decreases the older they become, thus decreasing their share of proceeds on sale.
If the property is held via an SCI, the parents can gift their children a shareholding without necessarily losing control over the property. An SCI is a very flexible structure and its memorandum and articles of association can be drafted with appropriate management options. The parents can be appointed as the managers of the company (gérants)with large powers of administration such as the granting of leases, voting building/renovation works, managing occupation of the property by each shareholder, etc. The parents could also be granted increased voting rights for key-decisions, such as the sale of the property, to allow them to retain enhanced control over the property during their lifetime.
The shareholding given away to the children can be limited to the children’s nil rate band allowance (€100,000 per child and per parent) and a gift of further shares can be made every 15 years to avoid the application of French gift tax. Therefore, each child can receive a shareholding worth up to €200,000 every 15 years free from French gift tax.
The gift of a shareholding will also have tax consequences in the UK, such as being subject to the potentially exempt transfer rules and, potentially, capital gains tax. A gift made shortly after the purchase of the property by the SCI will reduce the risk of taxable gain.
The SCI can help preserve assets in the family
On the death of both parents, the property will, in many cases, revert to the children in equal shares. The French property ends up being held by the children en indivision.
Indivision is the default French ownership structure whereby each co-owner, although owning a distinctive share of the property, is also jointly and severally liable for all liabilities on the property. In an indivision, no management decision can be taken on the property without the agreement of at least a qualified majority of two-thirds. Some decisions require the unanimity of co-owners, such as the sale of the property. If one co-owner disagrees, then the other co-owners must take legal action via the local Court to unblock the situation. This is not only time-consuming but also an expensive legal process with uncertain outcome.
Likewise, French law provides that no-one can be forced to remain in an indivision (article 815 French Civil Code). Hence any co-owner can request to be bought out by the other co-owner, or, if not possible, trigger the sale of the property to receive his/her share of the sale proceeds.
To avoid these conflicting scenarios, the children could set up an SCI after their parents’ death and transfer the inherited property to the company. Once again, the company’s articles and memorandum of association can be adapted to give the management of the property to one of the children, without depriving the other children of the property’s use and share the sale proceeds.
With an SCI, no shareholder can, on his own, trigger the sale of the property. If one shareholder wants to leave the company, the articles of association are drafted such as to allow the agreement of the new shareholder by the remaining shareholders and/or cater for the conditions of share buy-back.
The shareholders can later transfer all or part of their shareholding to their own children, hence allowing the property to remain in the family generations after generations.
The SCI used as a joint-venture
The flexibility of the SCI explains why some people use it to purchase a French property as a joint venture. The most common scenario is that of friends who wish to invest in a French holiday home.
We have seen above that a purchase under the usual ownership structure of indivision can become a problem if co-owners later disagree on the management of the property. By purchasing the property via an SCI, the joint owners can organise the rules of management of the property as they wish via the company’s by-laws, hence avoiding the cumbersome rules of indivision.
However, in this scenario, the SCI can be problematic if one joint-owner wishes to exit the company or sell his shareholding. The remaining shareholders may have to buy him out or agree a new shareholder via the company’s new shareholder’s accreditation rules, failing which the shareholder may have to stay in the SCI against his will. Taking legal advice on the most appropriate drafting of the related company’s by-laws will be necessary.
The tax treatment of an SCI
An SCI is a civil legal entity which is fully transparent for French tax purposes. It means that the shareholders are taxed directly on any income or gains, in proportion to the value of their shareholding.
Hence any rental income received by the company will be taxed directly in the hands of the shareholders and calculated as if the latter had owned the property directly. This is irrespective of whether the net rental income has been distributed to the shareholders or kept in the company’s reserves.
Likewise, when the property is sold, the gain is calculated under CGT rules applicable to individuals (e.g. application of taper relief for period of ownership, deduction of sale expenses such as building work, acquisition costs) and subject to the CGT rates applicable to individuals (CGT at 19% and French social contributions at 17.20%).
However, the SCI loses its tax transparency if it carries on a commercial activity. The typical scenario is that of furnished lettings, either directly or via a commercial lease, as letting a property furnished is regarded as a commercial activity for French tax purposes. The company will automatically become subject to Corporation Tax and will be required to file annual accounts and be subject to the same bookkeeping rules as any commercial entity. The net profits, if distributed, will be taxed in the shareholders’ hands as dividends, hence double taxation.
It is also important to bear in mind that HMRC, in its international manual (INTM180030) consider SCIs as opaque for UK tax purposes and, notably, for the purposes of deciding how a shareholder is to be taxed on the income they receive from their interest in the entity.
Therefore, a UK-resident shareholder in receipt of his share of the French rental income will be taxed in France on the income as a rental income, irrespective of whether the net rental income is indeed distributed or reinvested in the SCI. In the UK, the shareholder should be taxed only on a distribution of the net income. In lack of an effective dividend distribution decided by the shareholders, the income would be taxed as any other income from foreign entities at the usual UK income tax rates. Instances of double taxation may arise.
Winding up an SCI can also be expensive and generate further taxation issues both in France and in the UK: CGT, taxation of boni of liquidation, droit de partage, etc. In other words, an SCI cannot be used as a temporary structure or a structure to lodge a property that shareholders intend to sell quickly.
Although SCIs have lost their appeal to avoid French forced heirship rules, they remain an efficient structure of transfer of French properties between family members and a good alternative to the management issues often encountered with indivision. Your clients intending to give away a French property whilst retaining control of the property may want to consider a purchase through an SCI. Similarly, children inheriting a French property may also consider its transfer to an SCI to streamline its general management between them.
Legal advice must however be obtained notably for the drafting of company’s by-laws that clearly match the shareholders’ management requirements and long-term common intention regarding the use of the property.
Both the UK and French tax implications of the SCI must also be understood if the shareholders are UK tax residents.
If the SCI’s objective is to let the property, the structure is certainly not suitable for any furnished or commercial lettings. Only unfurnished letting should be allowed to avoid the company becoming subject to commercial rules and corporation tax.
The other aspects that must be factored in deciding if an SCI is an adequate structure are the costs of setting up the SCI and the on-going management costs (regular shareholders meetings, filing of tax returns, etc) and, as mentioned above, the tax implications on termination of the company.
 EU Succession regulation 650/2012
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