(regarding two decisions: French Administrative Supreme Court, Jul. 8, 2015, no. 370656 and no. 365850, SA Peugeot)

In these two cases, the French Administrative Supreme Court handed down decisions about categorizing two reorganization transactions, performed within the same tax group and using very similar modalities, as an abuse of right through evasion of the law.  The Administrative Supreme Court ruled that the first transaction constituted an abuse of right, whereas the economic and financial grounds of the second transaction allowed it to avoid this category.

As a reminder, an abuse of rights through evasion of the law is proven when the following two criteria are satisfied: (i) the taxpayer attempts to seek the benefit of a literal application of legislation, which is contrary to the objectives sought by the legislation's drafters, and (ii) an absence of any grounds other than avoiding or decreasing the tax burden that would have existed if the taxpayer had not made the disputed operations.

In this particular case, these two reorganizations took place by reclassifying the depreciated shares of a subsidiary under another subsidiary, followed by the absorption of the first subsidiary by the second one.  This took place in the same tax group and over the course of two successive fiscal years.  The tax advantage of this solution resulted from the application of the provisions of Articles 223 D and 223 F of the FTC and from the long-term capital gains regime in force at the time.  Indeed, the application of these provisions neutralized the recaptureof a provision related to the depreciated subsidiary's shares at the time it was transferred, i.e., in fiscal year N, while at the same time allowing the "de-neutralization" of the long-term capital losses on the absorbed subsidiary's shares in fiscal year N+1, permitting it to be wound up and to exit the tax group.

The tax authorities disputed the prior share transfer transactions, arguing that they constituted an abuse of right because the sole purpose of the complexity of the transactions performed over two successive fiscal years, as compared with a simple merger between the depreciated subsidiary and its initial parent company, was to allow the company to neutralize the provision recapture.  Indeed, the recapture could not have been neutralized if one of the two companies, either the one holding the depreciated shares or the subsidiary, had left the tax group in the fiscal year during which the recapture took place.

In the first case (decision no. 370656), the Pontoise Administrative Court first judged that there had been an abuse of right because the two criteria listed above had been satisfied.  In a decision on May 30, 2013, the Versailles Administrative Court of Appeal reversed the lower court's decision.  In the end, the French Administrative Supreme Court overturned the Court of Appeal's decision, first ruling that, by transferring the subsidiary's shares then, within a few days, merging the subsidiary in two separate fiscal years, the company had acted contrary to the objective of neutrality provided by the legislature in its wording of Articles 223 D and 223 F of the FTC.  The French Administrative Supreme Court then ruled that the grounds asserted by the company were, in reality, only fiscal by nature and, therefore, the Supreme Court ruled that the transactions constituted an abuse of right.

In the second case (decision no. 368510), the tax authorities, then the Minister of Finance, disputed the prior transactions transferring the depreciated subsidiary's shares, for the same reasons.  Yet, this time the company pointed to other than purely fiscal grounds, which convinced the Administrative Court and Administrative Court of Appeal. This decision by the French Administrative Supreme Court upheld the Court of Appeal's analysis. Indeed, although it did not make a ruling on the company's literal application of the legislation, the French Administrative Supreme Court found that the economic and financial reasons argued by the company (need for cash and the group's reorganization) proved the need to carry out a transfer prior to the merger and prevented the transaction from being categorized as an abuse of right.

Although these two decisions by the French Administrative Supreme Court have opposite outcomes, they perfectly illustrate the need to be able to prove the economic grounds for performing the relevant transactions involved in any sequence of transactions where the precise timing lowers the tax burden--subject to running the risk of a challenge pursuant to Article L. 64 of the BTP.

Fully in line with the position staked out nearly 30 years ago in the Auriège case regarding the meaning of mergers, the French Administrative Supreme Court reaffirmed the principle that the sequence of reorganization transactions--even if they are carried out so as to be more fiscally favorable to the taxpayer--is of little import insofar as the economic grounds of such transactions are indisputable.  On the other hand, companies must be careful when they cannot prove any economic purpose.