In three decisions dated 13 July 2021 (nos. 428 506, 435452 and 437 498) and a ruling of 17 November 2021 (no. 439 609), the Conseil d’Etat (French Supreme Administrative Court) has clarified the tax treatment of gains from incentive plans that offer managers an equity interest in the companies they work for (“management packages”).
The decisions concerned warrants, stock purchase options and stock subscription options awarded under non-qualified plans.
They conclude, in summary, that the advantages thus conferred on managers – including the gains of acquisition, of exercise of option, or of sale – must be taxed as wages and salaries if they are essentially granted in return for the performance of their duties as chief executives or employees.
Regarding the year of taxation, the Conseil d’Etat considers that the gains of acquisition, exercise of option and sale are taxable respectively in the year of acquisition of the option, the year of exercise of the option and the year of sale of the warrants.
When applied to an international context, such as when the management packages concern managers in an international mobility situation, these decisions could raise certain difficulties.
Traditionally, manager equity incentive plans, whether “qualified” stock option or free share plans or “non-qualified” plans, fall within the scope of (i) Article 15 of the OECD model tax convention for gains taxable as salaries (or Article 16 covering certain corporate officers) and (ii) Article 13 for capital gains (or Article 21 on other income).
In most cases, therefore, salary-type gains are taxed in the State where the work was performed, and capital gains are taxed in the State where the beneficiary resides.
This principle was adopted by the French tax administration (BOI-RSA-ES-20-10-20-60, no. 1 referring to the OECD Committee on Tax Affairs’ report of 16 June 2004).
A reclassification of gains arising from a management package could therefore modify not only the State of taxation of the gain but also the means of collection of the tax and, of course, the amount of tax due.
For example, income which, as a capital gain, would have been taxable in the beneficiary’s State of residence may become taxable in the State where the work was performed.
From now on, for management packages whose gains would be reclassified, it will be necessary to determine the activity for which the advantages were granted – generally the activity performed during the vesting period – before determining the State in which the work was performed by the beneficiary manager and in which the wage gain will thus be taxed.
In its comments on non-qualified plans for migrant employees (BOI-RSA-ES-20-10-20-60, no. 410 s.), the tax administration indicates that the advantage should be taxed in France in proportion to the performance of the activity in France.
While the impact of this situation can be heavy for the employee, it can also be heavy for the employer or granting company, which should then withhold – or should have withheld, as the case may be – the tax on the salary benefits thus granted to the managers.
If the advantage is granted to a non-resident for work performed in France, the specific withholding tax provided for by Article 182 A ter of the French Tax Code for French-source gains arising from employee shareholding mechanisms should, in principle, apply (see BOI-IR-DOMIC-10-20-20-30, no. 120).
It is therefore conceivable that, upon a reclassification of the advantages arising from a management package, the tax administration could require the French company to pay the above-mentioned withholding tax and apply the corresponding penalties and late-payment interest.
Other issues that could arise from this Conseil d’Etat case law include:
- potential conflicts of classification between France, which for example could classify the gain as salary taxable in France, and the State of residence of the beneficiary, which would classify it as a capital gain taxable in said State,
- potential time differences in the triggering events of the tax, depending on the classification applied by each of the States concerned: taxation in the year of exercise of the option (gain classified as salary) or in the year of the sale (capital gain)?
These Conseil d’Etat decisions on the reclassification of management package gains as salary must also be viewed in light of a decision issued on 4 April 2019 by the Cour de Cassation (French Supreme Court).
Under the latter decision, the courts may also reclassify gains arising from these packages as additional salary, thereby consequently subjecting these gains to standard social security charges and prohibiting them from qualifying for the favorable regime provided for by Articles L 137-13 and L 137-14 of the Social Security Code.
Such a reclassification occurs when the courts consider that managers are offered equity warrants in consideration for or in connection with their work and thereby acquire them on preferential terms.
Contrary to the Conseil d’Etat, the Cour de Cassation set the triggering event of the contributions for the three types of gains at the date on which the manager had free disposal of the warrants, i.e. the possibility to sell them, and not at the date of their acquisition. The purpose of this time lag is to allow the administration to avoid being time-barred.
For an employee in international mobility, the social security contributions would be owed in situations where the employee was subject to French social security on the date when he or she acquired the possibility to sell the warrants and not on the date of their acquisition or sale.
In this context, one can imagine that some managers may wish to expatriate to States where the tax treatment of gains arising from management package is more attractive.
However, other factors obviously enter into play as well.
Any transfer of tax residency will have to be real and motivated by other reasons, in order not to be found abusive. It will also be necessary to check whether the transfer falls within the scope of the French exit tax.
Lastly, depending on the job duties of the persons’ concerned, a transfer of the managers’ tax residency outside of France could also raise the question of a possible relocation of the company’s effective seat of management to the their new State of residence, or at least of a possible creation of a local permanent establishment.
