Interim report on new French trust law; angst and action

The worrisome new French law that sets out a comprehensive set of rules with respect to the reporting and taxation of trusts, has already partially taken effect and will be in full force and effect on 1 January 2012.   The new rules are still not totally clear; we are awaiting clarification on some points by the tax administration.  Despite scattered reporting in the press and a raft of website commentaries, as well as my own detailed Memo distributed to clients and others whom I felt would be interested, there has been relatively few inquiries from clients with existing trusts (or who are beneficiaries of trusts or future beneficiaries of testamentary trusts created, for example, in their parents’ will), concerning how the new law will impact on their French reporting and tax obligations as from 1 January 2012.  An explanation for this may be that the law slipped by them during the halycon days of summer and, additionally, I intuit that many are just not ready to consider its full implications.   For those who have responded, actions being considered range from unwinding the family trust entirely (to the extent possible or practicable), requesting parents or others to revise their wills to take out any trust provisions that would affect a French fiscal resident, to simply disregarding the new rules (not recommended), and even to leaving France if there is no other alternative.  There are not many viable alternatives at this point.  Hopefully, as we give more thought to the new law, as clients discuss their own unique fact situations (which may help us to conjure up some creative ideas) and, just possibly, if the French legislature  design some safe havens or other options, ways of dealing with this impending disaster will emerge.  For now, though, no one affected by the new law should hesitate to take appropriate.   Again, you may request a copy of my Memo concerning the new law at mail@okoshken.com.

New Capital Gains Law in France – Sale of Secondary Residence

The French tax rule, that sale of a secondary residence owned for 15 years or more is exempt from capital gains tax, has been changed.   The French legislature has just extended that holding period to 30 years!  The new rule (except for transfers to an SCI which is owned by one or more of the original owners of the propertty being transferred) is effective as from February 1, 2012.   Thus, to achieve total tax exemption, your period of ownership must be at least 30 years at the time of the sale.   If the property is, or shares of a property holding company are, transferred to a French real estate holding company (SCI), the applicable date for initiation of the new rules is August 25, 2011.  

Summary of the how the new rules will apply: 

During the first 5 years of ownership, the full gain is taxed.   

Between 6 – 17 years, the reduction is 2% per year. 

Between 18 – 24 years of holding, the reduction is 4% per year. 

During the last five years, the reduction in 8% per year. 

Ownership of the property through an SCI does not affect this rule, i.e., the SCI shreholders benefit from the capital gain reduction benefits that are listed above. However, if the SCI engages in furnished rentals and is thus treated for tax purposes as a commercial company, the property does not qualify at all for the exemption.    

N.B.:  U.S. citizens are nevertheless taxable in the U.S. on such sale.  The I.R.S. does not follow the French taxing rules.  Of course, if you owned the property for less than 30 years at the time of sale and consequently must pay some French capital gains tax, you may claim an offset of that French tax against any U.S. tax paid on the same gain.   The offset is referred to as the foreign tax credit. 

The new law came into effect on 20 September 2011.

Recent French Tax Laws

On July 6, 2011, the French legislature enacted a sweeping law that affects:  (1) wealth tax, (2) gifts and inheritance, and (3) trusts, (4) taxation of life insurance.  If you wish to receive our recent detailed memo discussing the first three items, please contact mail@okoshken.com to request it.  It will be sent to you by email. 

The most sweeping and problematical changes are contained in the new trust law.  They affect non-residents as well as fiscal residents of France.  Practically speaking, the French law does not provide for the creation of trusts.  However, French courts as well as the “fisc” (the French tax authorities), have accepted their existence, but have sought to work out a way of dealing with them for property purposes but, more importantly, for tax purposes.   This portion of the new law, effective as of 2012, makes some dramatic changes to how trust holdings are taxed, including the timing of the tax as well as the rate of tax, and also creates reporting requirements by trustees to the French fisc.  Some standard tax planning techniques are now in jeopardy, and in some cases, those who are beneficiaries of large trusts may have to re-think whether to become French fiscal residents and certainly have to think twice about setting up a trust once they have already become French residents.

The changes in the wealth tax rules (ISF) will result in lower wealth tax for most and no wealth tax for some.  However, reporting requirements are tightened and penalties will be applied for failure to report.   A major change:  shareholder loans to a real estate holding company (SCI, LLC, S-Corp, etc.) are no longer taken into account in valuing the holding company shares for wealth tax purposes.

Gifts and inheritances see some dramatic changes, including an increase in the top rate between parents and children (as well as in the direct line of descent and ascent), from 40% to 45%.  Other changes result in certain gifts being taxed at 60% when in the past they would have been taxed at lower rates.    

Another tax change which, at this writing, has been enacted but not yet published, is the capital gains law that would increase the period for obtaining total exemption from the capital gains tax on the same of a secondary residence in France from 15 years to 30 years.

Be wary of making anonymous political contributions in excess of $13,000

This is a letter from the IRS to a taxpayer (name redacted), indicating that ananymous gifts (or any gifts) in excess of $13,000 to a 501(c)(4) organization may be subject to US gift tax.

“The Internal Revenue Service has received information that you donated cash to [REDACTED], an IRC Section 501(c)(4) organization,” the agent wrote to a donor. “Donations to 501(c)(4) organizations are taxable gifts and your contribution in 2008 should have been reported on your 2008 Federal Gift Tax Return (Form 709).”

Avoiding French wealth tax with the use of an irrevocable discretionary trust.

A Swiss colleague notified me today that the Swiss Federal Administrative Court recently held that the beneficiary of an irrevocable discretionary trust is not the beneficial owner of the trust’s assets. Based on that holding, the Swiss Federal Administrative Court ruled that the Swiss tax authorities would not give administrative assistance to the IRS under the US-Swiss treaty.

This is consistent with a 2005 decision by a French court, which denied the French fisc the right to tax the assets of an irrevocable discretionary trust set up by the father of a US national residing in France. The basis of the holding was that the beneficiary did not have sufficient control over the trust assets to make them taxable.

This has led to tax planning for incoming Americans, who are advised to create such trusts prior to taking up residence. Naturally, this requires skillful drafting and the determination of who should be the settlor of the trust and the trustee.

NOTE: THE REFERENCE IN THIS POST TO THE USE OF A DISCRETIONARY TRUST TO POSSIBLY AVOID FRENCH WEALTH TAX HAS BEEN MADE MOOT BY THE LAW OF JULY 6, 2011.  YOU MAY WISH TO SEE MY RECENTLY-CREATED MEMO CONCERNING THE NEW LAW, BY REQUESTING IT AT MAIL@OKOSHKEN.COM.  SEE MORE RECENT POSTS FOR UPDATES ON THIS IMPORTANT SUBJECT.

Buying French Real Estate — NYC talk by Okoshken

 

http://www.youtube.com/watch?v=54Y1vkekUIg

Reprint from BNA — New Tax Amnesty and the ‘Accidental American’

‘Accidental Americans’

One element of the new [IRS Tax Amnesty] that is different from IRS’s 2009 the amnesty scheme is a provision for so-called “accidental Americans”. These are individuals who became American under unconventional circumstances, such as having been born in the US to non-American parents and who were subsequently raised in another country, unaware in many cases that they even are US citizens, and thus obliged to report to the IRS each year for their entire adult lives.

Under this scheme, such individuals – who some believe account for a large percentage of the estimated 1 million or more American expats who do not file Foreign Bank and Financial Account reports annually that authorities think ought to – may qualify for a 5% ‘in lieu of’ penalty rather than being hit with the full 25%.

Five percent may be much less than 25%, but as Krause notes, it is still likely to come as a major shock to many people, who were not even aware that they were Americans, that they owe the IRS a twentieth of their assets.

“There are thought to be thousands of these people in the UK and across the globe,” says Krause.

“Most are under the mistaken impression that not holding a US passport means that they are not US citizens. Unfortunately that is not the case.”

Adds Paul Hocking, chairman of Frank Hirth, a tax firm specialising in looking after Americans and others with US tax issues: “The 5% penalty for accidental Americans is so narrowly drawn it will only help a tiny handful of [them], as it expressely excludes those people who ‘knew’ they were a US person — [such as because they hold] a US passport — but didn’t understand they had a tax filing requirement. This is a large proportion of the non-filers we see, and the penalties for these individuals can be very high.”

“For someone who knew they were American [but] didn’t understand they had to report their income, to face a minimum of $10,000 per bank account per year penalty is too harsh, let alone someone who falls foul of the asset-based penalties, which can be as high as 25% of the value.”

Capital gain on sale of principal residence in France?

Taken from BNA:     Sarkozy Opposed to Taxing Capital Gains On Sale of Principal Residence in France

PARIS — French President Nicolas Sarkozy said Feb. 10 that he opposes a tax on capital gains from the sale of a principal residence, a tax proposal that came from within his own political party.

Currently, such gains are completely exempt in France, although the French do pay property and residence taxes on a yearly basis.

The idea of taxing capital gains from the sale of a principal residence was first floated in a January report with recommendations for a planned tax reform, produced for the government by Jerome Chartier, a National Assembly

 deputy from Sarkozy’s center-right UMP (Union pour un Mouvement Populaire) party.
Long sacrosanct, removal of the capital gains exemption is certain to meet opposition.   The big question: Will budget needs triumph over convention?

Stay tuned.

Gifting French Real Estate Before December 31, 2010

Many Americans are concerned that the Bush Estate and Gift rates will revert at the end of 2010 to the rates existing prior to the 1991 tax cuts, meaning a $1,000,000 exemption for both estate and gift taxes, and a top rate of 55%.   As most know, there is no US estate tax for estates arising in 2010, and a current top gift tax rate of 35%. 

Consequently, there is a rush, especially among older clients, to transfer assets to the next generation  prior to the end of 2010. 

We have been retained by several clients whose object is to gift France-based real estate.  In such case, there is the French gift tax to consider, as well as the US gift tax.  For children, there is an exemption of €156,974 per donor per child.  So, if both parents are involved in the gift, a total of €313,948 may be given tax-free to each child (reduced by gifts made during the 6-year period prior to the current gift).  The US exemption is $1,000,000 (less prior gifts reported in IRS Form 709).    A technique often used is to make a ”net gift”, where the recipient of the gift (donee), agrees to pay the gift tax.  The gift is thereby reduced by the amount of gift tax paid.  The net gift approach is equally valid in France.  Gift taxes paid in France, over and above the exemption, are also eligible for the foreign tax credit against US gift tax.  There are numersous twists and turns that must be considered, especially if the gift of the real estate is being made to one of two or more children (even if all parties are non-residents of France).  In one complex case, we worked with the notaire for more than 3 months to finalize such a gift. 

Needless to say, if the lower gift tax rates are to be availed of, the closing of the gift transaction in France must occur before December 31, 2010.

Expiring Bush Tax Cuts

It is generally agreed that Congress will not enact legislation in 2010 to affect the estate, gift, and generation-skipping transfer tax picture – in particular the estate tax holiday. We are hoping that something comes through before the end of the year, as has been discussed endlessly. But now that Congress has adjourned though the November elections, and given the lack of initiative and conflicting interests, it is clear that clients should review their estate plan before the 55 per cent rate of estate tax is reinstated on 1 January 2011.   Already many high-asset individuals are making gifts before the end of 2010 to take advantage of the soon-to-close window of 35% for gifts in excess of the $1,000,000 lifetime exemption (double for married individuals).  For those living in France, the French estate and gift planning rules add to the complexity.