The 2018 French Finance bill took effect from 1 January 2018. We look at the main tax changes relating to wealth management, and life insurance in particular, brought about by the bill. An interview with Christophe Bréchignac, Wealth Structuring Solutions Manager.
Life insurance policies can be a useful succession planning tool as they benefit from favourable civil and tax treatment upon payment of a death benefit.
The 2018 Finance bill took effect from 1 January 2018. What are the main tax changes relating to wealtz management, and life insurance in particular, brought about by the bill?
One of the objectives of the 2018 Finance bill, voted into law in December last year, was to simplify the tax rules applicable to income and the holding of financial securities . The key changes within the bill relate to income tax and wealth tax.
Previously taxation depended on the nature of an asset's income with specific rules for interest income, dividends, capital gains and life insurance income.
From the beginning of 2018, the surrender income of a life insurance policy as well as the income derived from a directly held securities portfolio is subject to taxation at a fixed rate of 30% (including 17.2% social contributions). A taxpayer can however elect for the usual progressive tax rate within their annual tax return. This option is to be exercised only if the marginal progressive income tax rate, plus 17.2% social contributions, is lower than the 30% fixed rate, and this option will apply to all income from securities, including income on life insurance, realised during the same year.
Regarding the taxation of surrendered income, the following tax rules must also be considered:
The fixed tax rate is only applicable to the surrendered income derived from premiums paid as from 27 September 2017, while the surrendered income derived from the premiums paid before that date is subject to the previous taxation rate, depending on the holding period (24.7% after eight years).
For existing contracts of more than eight years, subject to the new taxation rules, as the case may be, for additional premium paid as from 27 September 2017, surrender income derived from the paid premium up to €150 000 is subject to the previous taxation rate of 24.7%. Any surrender income derived from paid premium exceeding €150 000 is subject to 30% tax.
Wealth tax has been abolished and replaced by a new real estate wealth tax (IFI for “Impôt sur la Fortune Immobilière”) which is due to be paid by French tax residents and non-residents holding French real estate, either directly or indirectly via a company or a life insurance policy, for a value of more than €1.3 million as at 1 January each year. The previous rules in terms of allowances, tax rate , and the tax ceiling mechanism are still applicable to the new real estate wealth tax.
Practically, life insurance policies are no longer subject to wealth tax, with the exception of any part of the surrender value represented by underlying investments in French real estate. This condition will mainly apply to commonly used French real estate funds, such as a “Société Civile de Placement Immobilier” (SCPI) or an “Organisme de Placement Collectif en Immobilier” (OPCI). For non-resident policyholders, taxation will vary depending on the double tax treaty (DTT) in place between France and the country of residence of the policyholder.
The new rules will add complexity, as dirrerent tax rates will apply depending on when the premium from which the income is derived was paid? Are there any strategies for policyholders to avoid tax complexity or optimise their tax situation?
Taking out a new policy should also be considered for the following reasons:
- It allows a policyholder to clearly identify which tax rate is applicable to the surrendered income, rather than splitting the surrendered income into two portions subject to different tax rates, as the case may be.
- It avoids diluting the surrendered income derived from an old policy that benefits (if subject to the previous tax rules for more than eight years) from a lower taxation rate, i.e. 24.7% including social contributions.
- It enables a partial surrender of a new contract which is subject to a lower taxable basis and income tax rate during the first years.
- It allows the policyholder to choose making the surrender from the contract which is subject to the less favourable inheritance tax regime, as the case may be.
The choice between paying additional premiums on an existing policy or taking out a new policy should take into account the client’s objectives, the existing policy value and the tax treatment upon payment of the death benefit.
Are there other changes concerning the French market on the horizon?
We expect a number of changes for 2019.
A new draft law relating to the action plan for growth and transformation of French companies (or PACTE law) is expected to be presented by the Minister of Economy by the summer and should be adopted by year-end with implementation in 2019. The objective of the law is to create conditions that support the growth of French companies.
One of the topics is the financing of French small-to-medium-sized companies. The strategy is to push life insurance savings to finance the real economy.
The main measures impacting life insurance will be:
- For capital and return guaranteed euro-denominated funds, the guarantee could be modulated by the insurer depending on the holding period of the life insurance policy.
- The payment of premiums in cash will be mandatory, forbidding the payment in specie by transfer of an existing securities portfolio. How this change will apply to Luxembourg insurers needs to be confirmed.
No changes to the taxation of life insurance are expected.
Earlier this year, the Luxembourg prime minister was on official visit in France. During this visit, a new double tax treaty (DTT) has been signed replacing the current DTT dated 1958. The new DTT could take effect as of 1 January 2019, subject to ratification by the parliaments of both countries by year end.
The objective of the DTT, which is compliant with the OECD Model Tax Convention and BEPS rules, is to avoid double taxation and to prevent tax avoidance and fraud.
The new DTT does not directly impact French-resident policyholders of a Luxembourg policy, who are only liable to personal income tax in France, while benefiting from tax neutrality in Luxembourg. However, the DTT determines the tax treatment applicable to income derived from French source assets underlying Luxembourg policies.
The main changes will be:
- The definition of tax residency has been clarified. Only individual or legal entities subject to personal or corporate income tax based on their tax residency can claim the DTT benefit.
- Dividends payable by a company resident in one contracting state within the DTT, to a company with a shareholding of more than 5% for 365 days which is a tax resident in another contracting state, are exempt from withholding tax in the source country. Otherwise, 15% withholding tax is applicable.
- Dividends payable by real estate investment vehicles that are exempt from corporate income tax such as French OPCI (“organismes de placement collectif en immobilier”) and SIIC (“sociétés d’investissement immobiliers cotées”) are subject to 30% withholding tax in the source country if the beneficial owner directly or indirectly holds a participation representing at least 10% of the capital of the funds. Otherwise, the dividends are subject to 15% withholding tax in France.
- Interest is exempt from withholding tax in the source country.
- Capital gains realised by an individual upon the disposal of a substantial shareholding, representing at least 25% of the rights to the benefit, are subject to income tax in the country of residence of the company, provided that the seller was a tax resident of the same country during the last five years.
- A general anti tax avoidance mechanism has been included, excluding from the DTT schemes or transactions which are “mainly motivated by tax reasons”. This approach is less restrictive than that in France currently which targets schemes only motivated for tax avoidance.
Given the tax changes, are there any advantages to life insurance policies compared to a portfolio of directlyheld assets for French residents?
Depending on the objective of the policyholder, which could be wealth management or succession planning, there are a number of benefits to life insurance policies:
- Tax deferral of the capitalised income within the policy until the surrender is made. The policyholder retains control over the timing and the tax associated with it.
- Only the income portion of a partial surrender is taxable.
- If the policyholder relocates abroad, the life insurance policy is not subject to exit tax. This exit tax could however be abolished as announced by President Macron in April 2018.
- Life insurance policies are a useful succession planning tool as they benefit from favourable civil and tax treatment upon payment of a death benefit.
Are there advantages to taking out a Luxembourg policy compared to a French policy?
A French tax resident with a Luxembourg or a French policy is liable to personal income tax in France. There is no difference in tax treatment between a Luxembourg and French policy. The only difference concerns the taxation of the income derived from the policy’s underlying assets, which will depend on the DTT in place between Luxembourg and the source country of the income.
The main advantages of holding a Luxembourg policy are:
- Luxembourg policies have long been used as a tailored management solution due to the investment flexibility offered by Luxembourg’s investment framework.
- Luxembourg policies offer a portable solution in cases for policyholders relocating abroad due to the tax neutrality in Luxembourg and the capacity of Luxembourg insurers with their cross-jurisdictional expertise in making contracts compliant in the new country of residency.
Luxembourg policies can also be used as an asset protection solution due to the segregation of policy assets held by the custodian bank, as well as the super-privilege of the policyholder having priority in claiming the redemption of the policy value should the insurer default.
Christophe Bréchignac Wealth Structuring Solutions Manager