The Finance Amendment Law for 2005 has modified certain rules applying to the participation exemption regime. Details of the changes, which apply from 1 January 2006, are summarized below.

Background

A 95% participation exemption is optionally available for resident parent companies in respect of dividends received from their resident and non-resident subsidiaries. To qualify for the regime, the parent company must hold at least 5% of the shares and the voting rights of a subsidiary for at least 2 years or must commit itself to hold the shares for at least 2 years. The Finance Amendment Law for 2005 amended the participation exemption regime following the introduction of a new category of capital shares (preference shares) into French company law by Ordinance No. 2004-604 of 24 June 2004, which allows, inter alia, the creation of participation shares without voting rights attached.

Amendments to the participation exemption regime

Details of the three amendments to the participation exemption regime are summarized below.

(a) Extension of the participation exemption regime to shares without voting rights. Under the previous regime, investment in a subsidiary only qualified for the participation exemption regime solely in respect of shares including voting rights and financial rights. The participation exemption did not apply to dividends received on shares without voting rights. The Finance Amendment Law for 2005 abolishes the voting right requirement attached to the participation shares, provided that the parent company holds at least 5% of the capital and the voting rights in the subsidiary company. Consequently, under the new regime, if, for example, a parent company holds 5% of the shares in the subsidiary, which constitute voting and financial rights, and 4% of the preference shares (without voting rights), the parent company benefits from the participation exemption in respect of all the dividends paid by the subsidiary company. In contrast, under the previous regime, only the dividends paid out on the 5% participation in the capital and the voting rights of the subsidiary qualified for the participation exemption.

(b) Abolition of formal commitment to hold participation shares. Under the previous regime, the participation shares had to be either acquired by the parent company on their issue by the subsidiary or subject to a formal holding commitment of at least 2 years. The Finance Amendment Law for 2005 maintains the 2-year holding requirement, but repeals the formal commitment. Consequently, the exemption is granted as from the acquisition date of the shares, but will be definitive only after the 2-year holding period has elapsed. If the parent company disposes of the shares before the 2-year holding period has elapsed, the parent company will have to pay the amount of tax unduly unpaid to the tax administration.

In addition, the Finance Amendment Law for 2005 abolishes, within the framework of a transfer of assets placed under the favourable merger regime of Art. 210 A of the General Tax Code (Code General des Impts, or CGI), the possibility for the absorbing company to take over the holding commitment of the absorbed company by an explicit declaration. This condition is replaced by a new method of computing the holding period. Accordingly, the 2-year holding period starts from the acquisition date of the shares by the absorbed company and ends on the date of the transfer of the shares by the absorbing company.

(c) Extension of entities excluded from the participation exemption regime. French Real Estate Investment Companies Quoted on the French Stock Exchange (Socit d[rsquo]Investissement Immobiliers Ctes (SIIC)) are excluded from the benefit of the participation exemption regime. The Finance Amendment Law of 2005 extends this exclusion to dividends distributed by foreign companies the activities of which are similar to those of an SIIC. This provision is intended to exclude dividends distributed by, for example, a Belgian real estate company (SICAFI) and a Netherlands real estate company (BI) from the benefit of the French participation exemption regime.

Guideline on tax treatment of assets (valuation and depreciation) published

The French tax administration published Guideline BOI 4 A-13-05 of 30 December 2005 on the valuation and depreciation of assets. Guideline 4 A-13-05 provides for the tax consequences of the modifications made to the General Accounting Plan (Plan Comptable General, (PCG)) due the harmonization of the French accounting rules with the International Financial Reporting Standards (IFRS). The most important features of the Guideline are summarized below.

Background

Every company is subject to the new accounting rules from accounting years starting on or after 1 January 2005, even though the entry into force of such rules varies. The amortization method "per components" (mthode de comptabilisation par composants) is applicable from 1 January 2005 whereas the new valuation rules in respect to assets applies to taxable periods starting on or after 1 January 2006.

Content of the Guideline

(a) Application of the new IFRS rules. According to Guideline 4 A-13-05, the new IFRS rules apply to every company regardless of its legal form; amongst others:

-		legal entities, including partnerships, subject to corporate income tax; and
-		French permanent establishments of companies established abroad

(b) New definitions for tax purposes.

(i) Definition of fixed assets. Under Arts. L.211-1 and L.311-1 of PCG, fixed assets must fulfil the following requirements:

-		they must be identifiable. With respect to the intangible fixed assets (Art. L. 211-1 PCG), such assets are identifiable provided that (i) they are dissociable from the company's activities, (ii) can be sold, or (iii) derived from a "legal protection" (by law or contractual arrangement);
-		they must have a positive economic value, so as to provide future economic benefits characterized by future and potential cash flows;
-		they must be controlled by the company. The previous criterion of legal ownership is substituted by a control requirement, so that the company must bear the risks and be the beneficiary of the income arising from the assets; and
-		they can be valued with a sufficient reliability

(ii) Definition of acquisition costs of fixed assets. The acquired fixed assets must be accounted for in the balance sheet for their acquisition costs. Decree 2005-1702 of 28 December 2005 provides for a new definition and a complex computation of acquisition costs, which is further defined in the Guideline.

(c) Conditions of application of the method "per components". According to Guideline BO 4 A-13-05, the main elements of a tangible fixed asset are deemed to be "components" provided that:

-		the components have a "real time of use" which differs from the fixed asset to which the component is attached; and
-		the components are renewed during the real time of use of the fixed asset

Guideline BO 4 A-13-05 defines the fixed asset itself as the "structure" and provides for conditions to identify the components to the structure. Accordingly, such component must be identified only if it represents a substantial element of the fixed asset according to several criteria provided by the Guideline, as follows:

-		the component must have a significant value. Components, the value of which does not exceed EUR 500, do not have to be identified as such;
-		the component must also have a relative significant value compared to the structure. Thus, components, the value of which is less than (i) 15% of the structure value for movable property and (ii) 1% for immovable property, may not be identified as components; and
-		even though the components may not be characterized as such according to the two above-mentioned criteria, companies may identify components provided that they own a great number of such components.

In case the main "components" of a fixed asset, the real time of use, which is equal to or exceeds 80% of the real time of use of the fixed asset, may not be identified as components. Furthermore, elements of the asset which may be considered as components because of their value, but the time of use of which is less than 12 months, will not have to be identified as components.

(d) Determination of the depreciation period. Art. 322-1 of PCG provides that the depreciation period for accounting purposes, for the non-decomposed assets, is computed on the basis of the real time of use (previously, the criteria of standard period of use applied). However, the depreciation period of the asset for tax purposes will remain based on the standard period of use as provided by Art. 39, 1-2 of CGI. Hence, the Tax Administration repealed its previous position which provided that the depreciation periods were necessarily identical for accounting and tax purposes.

Consequently, in case the depreciation period for accounting purposes exceeds the depreciation period for tax purposes, companies will be allowed to book an exceptional depreciation up to the difference between the tax and accounting depreciation. In contrast, in case the depreciation for accounting purposes is less than the depreciation for tax purposes, companies will have to add back in their taxable income the fraction of the depreciation for accounting purposes which exceeds the deductible depreciation fiscally admitted.

In respect to decomposed fixed assets, the normal time of use will determine the depreciation period.

(e) Consequences of the depreciation method per components on tax provisions. In respect to capital gains, a transferred fixed asset is subject to the reduced capital gain tax provided that, amongst others conditions, it is held for at least 2 years. In order to determine the holding period, Guideline BO 4 A-13-05 provides that the period starts from the acquisition date of the whole asset (structure and components). However, if only one component of the asset is transferred, the holding period will start from the acquisition date of the component which may correspond in some cases to the renewal date of such component.