The contribution-assignment: a tax optimization mechanism for entrepreneurs.

The entrepreneur who plans to sell his company can use the mechanism of thecontribution-assignment allowing to avoid the immediate taxation of the capital gain on the contribution of securities.

 WHAT IS A CONTRIBUTION-ASSIGNMENT AND WHY USE IT? 

When a partner decides to sell all or part of the shares he holds in a company, he realizes a capital gain that is taxable under the flat tax. The mechanism of the contribution-assignment allows the partner who sells his shares to freeze the amount of the taxable capital gain and to postpone the taxation to a later date.

This tax optimization strategy, provided for in article 150-0 B ter of the French General Tax Code (the " CGI "), consists of a partner contributing the securities of a company X to another company Y controlled by him or his family group in order to benefit from the tax deferral regime. 

 Illustration of the mechanism

Mrs. X wishes to sell the shares of a startup she created in 2016 with a capital of € 5,000. Her company is valued at € 1,000,000 in 2020. The capital gain on the shares would amount to € 995,000. 

If Mrs. X sells her shares directly, she would be liable to pay taxes on the capital gain amounting to approximately : 995,000 € * 30% or 298,500 €.

If Mrs. X opts for the contribution-transfer mechanism by creating a holding company subject to corporate income tax to which she contributes the shares of her company, the capital gain related to this contribution will automatically be carried forward and may provide Mrs. X with tax-free cash to reinvest in another activity (see below).

I. TAX DEFERRAL

THE CONDITIONS OF APPLICATION OF THE DEFERRAL OF TAXATION OF CAPITAL GAINS

In order to benefit from the preferential regime of thecontribution-transfer, the partner who contributes his or her securities (the " Contributor ") to a transferee company (the " Holding Company ") must meet the following conditions:

1. The contributed securities are transferable securities, corporate rights, securities or rights relating thereto as defined in article 150-0 A of the CGI,
2. The contribution of securities is made in France or in a Member State of the European Union or in a State or territory that has entered into a tax treaty with France containing an administrative assistance clause with a view to combating tax evasion and avoidance,
3. The Holding Company is subject to corporate income tax or an equivalent tax, and
4. The Holding Company is controlled by the Contributor (this condition is assessed at the date of the contribution).

  The company is controlled by the Contributor when:

• The Contributor or his family group hold the majority of the voting rights or rights in the company's profits.
• The Contributor alone has a majority of the voting rights or rights to the company's profits by virtue of an agreement concluded with other partners or shareholders.
• The Contributor has actual decision-making authority.

OPERATIONS LEADING TO THE END OF THE TAX DEFERRAL

The following transactions result in the end of the tax deferral on the capital gain realized on the contribution of the securities:

• the sale of the contributed securities less than 3 years after their contribution and if no sufficient reinvestment is made;
• the transfer of the tax residence outside France, except when the Contributor can benefit from a deferment of payment; or
• the sale for valuable consideration of the securities received as consideration for the contribution of securities of the commercial company (i.e., the sale of the securities of the Holding Company) results in the expiration of the deferral of taxation of the capital gain on the contribution and, consequently, the immediate taxation of such capital gain.

TAX DEFERRAL IN CASE OF TRANSFER OF THE SECURITIES CONTRIBUTED TO THE HOLDING COMPANY 

The contributed securities are sold by the Holding less than 3 years after their contribution: The deferral of taxation is called into question in the event of transfer for valuable consideration of the contributed securities, within a period of 3 years as from the contribution of the securities except if the associate reinvests at least 60% of the amount of this proceeds of transfer in the financing of a commercial, industrial, craft, liberal, agricultural or financial activity.

The contributed securities are sold by the Holding more than 3 years after their contribution: The deferral is definitively acquired and the capital gain calculated at the time of the contribution of the securities is not taxed.

 Taxation of the capital gain on the sale of the securities contributed to the holding company: At the level of the holding company, a capital gain is realized when the sale value of the securities is higher than the value of their contribution. The taxation will depend on the duration of the holding; 

• capital gains realized on equity securities held for less than two years are subject to corporate income tax;
• capital gains realized on equity investments held for more than two years are exempt from corporate income tax. However, a share of costs and expenses equal to 12% of the amount of the capital gain is added back for tax purposes and is subject to corporate income tax.

II. THE DEFERRAL OF TAXATION 

When the Contributor does not control the Holding Company to which he has contributed his securities (see above), the deferral of taxation provided for in Article 150-0 B-ter of the CGI does not apply and the transaction therefore falls within the scope of the suspension of taxation provided for in Article 150-0 B of the CGI.

THE CONDITIONS OF APPLICATION OF THE DEFERMENT OF TAXATION OF CAPITAL GAINS

1. The contribution of securities is made in France or in a Member State of the European Union or in a State or territory that has entered into a tax treaty with France containing an administrative assistance clause with a view to combating tax evasion and avoidance.
2. The contribution of securities is made to a company subject to corporate income tax or an equivalent tax.
3. The Holding Company is not controlled by the Contributor.

TAX DEFERRAL IN CASE OF TRANSFER OF THE SECURITIES CONTRIBUTED TO THE HOLDING COMPANY

As regards the taxation of the capital gain at the level of the holding company, the rules applicable are the same as those applicable to the deferral of taxation.

THE DEFERRAL OF TAXATION IN THE EVENT OF THE SALE OF SECURITIES RECEIVED AS CONSIDERATION FOR THE CONTRIBUTION

 The sale of the securities received as consideration for the contribution of the securities of the commercial company (i.e. the sale of the securities of the holding company) leads to the expiry of the deferral of taxation of the capital gain on the contribution and, consequently, to the immediate taxation of this capital gain.

WHAT ARE THE DIFFERENCES WITH TAX DEFERRAL?

The fundamental difference between the deferral and the suspension of taxation is the notion of control of the holding company. In practice, it is not possible to choose between the two. The deferral is carried out by right, as soon as the conditions of eligibility are met. If the conditions for tax deferral are not met, then the tax deferral regime will apply.