The French Administrative Tribunal of Montreuil delivered, on 1 July 2011, its judgements in which it referred, to the EU Court of Justice, the question of the incompatibility of the French withholding tax levied on dividends paid to foreign investment funds with the free movement of capital.

Withholding tax levied by France on dividend payments made to foreign pension and investment funds has, since last year, been subject to taxpayer challenge before the Tribunal of Montreuil on the basis that it contravenes the EU’s free movement of capital provision. It should be noted that in May 2011, the European Commission referred France to the EU Court of Justice for discriminatory taxation of foreign pension funds and foreign investments funds.

The (long) procedure launched by foreign investments funds led to the commented judgements of the Administrative Tribunal of Montreuil.

By way of background, in December 2010, the Tribunal requested the non binding advice of the Conseil d’Etat on the compatibility of the French tax regime with EU free movement of capital. On 23 May 2011, the Conseil d’Etat considered that several questions should be referred to the ECJ.

Following the French Supreme Court’s approach, the Administrative Tribunal of Montreuil focused on the question of how to determine whether discrimination had occurred: does it require consideration of solely the fund’s position, or does the analysis need to extend to the fund and the unit holders and, in such a situation, on what bases would it be possible to show that the French withholding tax was compliant with the free movement of capital.

According to the Tribunal, if only the investment fund’s position itself is taken into account, foreign and French funds would have to be considered as being in a comparable situation. This would, therefore, lead to discrimination unless the applicable Tax Treaty enables French withholding tax to be fully offset without any cash flow disadvantage.

However, should it be necessary to also take into account the tax treatment of the unit holders, the Tribunal states that the French withholding tax could comply with the free movement of capital whenever the situations could not be considered as comparable or when the discrimination could be justified by the argument of the “efficiency of the tax audits”.

With regard to the tax treatment of both EU and non-EU investment funds, the Administrative Tribunal of Montreuil has therefore referred the following two short questions to the ECJ:

  • Should the situation of the unit holders be taken into account in addition to that of the investment funds?
  • In such a case, what would be the conditions in which the withholding tax could be considered as compatible with the free movement of capital?