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The Impact of French Tax Law on Dual U.S. French Residents that Utilize U.S. Trusts for Estate Planning

U.S. estate planning often involves the use of trusts to minimize the U.S. federal estate and gift tax. Trusts are also utilized in the U.S. to avoid going through probate. Trusts do not exist as a concept in French law. At one time, it was unclear how France would treat beneficiaries of trusts. In 2011, France enacted a law that significantly impacts French citizens and residents that establish or are beneficiaries of trusts. This law impacts dual U.S. French residents and Americans moving to France. This article discusses the potential French tax and reporting consequences French citizens and residents must consider if they have established a U.S. trust or are a beneficiary of a U.S. trust.

Potential French Reporting Requirements of U.S. Trusts

In 2011, France introduced special reporting obligations applicable to non-French trusts. The special reporting obligations are applicable where a trust has a connection with France. This will be the case when the settlor, trustee, or the trust’s beneficiaries are French residents, or when the trust owns French assets. Under French law, an individual is considered to be domiciled or a resident of France if at least one of the four criteria listed below is met.

1. The habitual abode of the person or family is in France.

2. France is the principal place of sojourn (more than 183 days in a calendar year).

3. Professional activities are carried out in France.

or

4. France is the center of economic interests.

If a U.S. trust has any of the following: 1) at least one settlor or beneficiary with a French domiciliary; or 2) holds French assets other than securities listed on a national stock exchange, the U.S. trust may need to file a Form 2181-Tl or 2181-T with the French tax authorities. The report typically must be filed within one month of the creation, modification, or termination of the trust. The trust must also file a report with the French tax authorities annually. Failure to timely file a report with the French tax authorities will trigger a flat 20,000 Euro penalty.

The French Gratuitous Tax

France has enacted a tax on gratuitous transfers by reason of gift or inheritance. The tax is generally payable by the recipient, who is also responsible for filing a return. Tax rates are based on the type of relationship between the direct descendants, spouses and domestic partners are taxed at lower rates (at graduated rates from 5 percent to 45 percent, depending on the net taxable value) than transfers to brothers and sisters (at 35 percent or 45 percent), to other family members up to the fourth degree of relationship (at 55 percent) and to more remote family members and non-relatives (at 60 percent).

All worldwide assets are generally fully subject to the French gratuitous transfer tax as long as: 1) the worldwide assets are generally fully subject to the French gratuitous transfer tax, or 2) the inheritor, donee or legatee has his fiscal domicile in France and has had his fiscal domicile in France for at least six of the 10 years preceding the year of the transfer. If a French domiciliary establishes a U.S. trust and the U.S. trust makes a transfer during the settlor’s lifetime, the assets of the trust could be subject to the French gratuitous tax.

France Income Tax

French residents that receive income from a trust are taxed on any distributions from the trust. U.S. citizens that become domiciled in France may also be subject to French income tax on distributions from a U.S. trust. Under French law, an individual is considered to be domiciled in France if at least one of the four criteria is satisfied: 1) the habitual abode of the person or family is in France; 2) France is the principal place of sojourn (more than 183 in a calendar year); 3) professional activities are carried out in France; or 4) France is the center of economic interests.  

French Inheritance or Succession Tax

France has an inheritance or succession tax. This is a tax on the transfer of assets from a deceased person to their heirs. The amount of inheritance tax owed by the heirs depends on their relationship to the deceased person and the value of the asset inherited. The French inheritance or succession tax may be taxed at a 60 percent rate. The inheritance tax may be assessed on the worldwide assets of the decedent. If a U.S. citizen becomes a resident of France could be subject to the French inheritance or succession tax. U.S. citizens that are beneficiaries of U.S. trusts or establish U.S. trusts may be subject to the French inheritance or succession tax.

How French Law Treats U.S. Trusts?

France does not have the concept of trusts in its domestic law. However, France has enacted laws to provide specific tax laws that are applicable to trusts that have a nexus with France. Under French law, trusts are considered opaque entities and tax the trust when there is a distribution to a French beneficiary of the trust. The U.S. taxes taxes trusts differently. Under U.S. tax law, trusts are classified as either a “grantor trust” or “non-grantor trust.” A grantor trust is a trust in which the grantor retains some level of control over the trust’s assets or income. A grantor is treated as the owner of the trust’s assets. Under the U.S. grantor trust rules, a settlor or individual that establishes a grantor trust will be taxed on the assets of the trust. A “non-grantor trust” is a trust where the grantor relinquishes control over the trust property once the trust is established. A non-grantor trust is treated as a separate entity from the individual that established or settled the trust.

The differences in the way trusts are taxed under U.S. and France law has resulted in uncertain French tax treatment on distributions from U.S. trusts. In 2023, an American couple appealed the French tax authority’s decision on the income from their U.S. trust. The French tax authority treated U.S. trusts as “pass-through” entities for purposes of French taxes and ignored that the assets were in trust. At the request of the French Minister of the Economy, the French Administrative Supreme Court was asked to decide on whether, under the provisions of the United States-France income tax treaty, income distributed by a non-discretionary revocable trust established in the United States should be considered to be directly derived by U.S. citizens who are French tax residents and who are settlor, trustees, and beneficiaries of the trust. The French Administrative Supreme Court was asked to determine whether under French law a U.S. trust should be considered tax transparent. The French Administrative Supreme Court rendered its opinion on April 18, 2023. The opinion of the French Administrative Supreme Court stated as follows:

1) French domestic law does not recognize the transparency principle applicable to certain U.S. trusts. Under French law, U.S. trust income is taxed only when it is effectively distributed from a U.S. trust to a French tax resident. Such income will be taxed as a foreign dividend, regardless of the nature of the assets held in trust. As a result, income that is not distributed by the trust is not subject to income tax. However, when the income is distributed from a trust, it will be taxed as investment income at a rate of 30% “flat tax” rate (34% in certain cases).

2) The purpose of the U.S.-France income tax is to allocate the right of taxation between the two nations and not to modify the substantive domestic tax rules of the contracting state. In the absence of any explicit provision in the tax treaty preventing the French domestic taxation of distributed trust income as dividends, the domestic rules continue to apply.

3) More specifically, Article 7 Section 4 of the tax treaty, which provides for a transparency principle regarding the income from “partnership” does not apply to trusts and trusts are not treated as partnerships. 

4) The French Administrative Supreme Court avoided discussing the issue of whether or not tax credits may apply in France for U.S. taxes paid in trust distributions. Thus, U.S. citizens receiving trust distributions that reside in France may be subject to double taxation.

What the French Supreme Court Opinion Means For U.S. Settlors and Beneficiaries of U.S. Trusts That Become French Residents

The French Supreme Court Opinion means that U.S. beneficiaries of domestic trusts will likely pay French taxes on income from a U.S. domestic trust only when distribution is made from the trust. The French Supreme Court Opinion does not seem to distinguish between grantor and non grantor trust for purposes of French income tax. Consequently, if a brokerage account was placed in a U.S. trust and earned $30,000 in dividends, but the dividends were not withdrawn from the trust, the U.S. beneficiary would not be subject to French income tax on the dividends. The income distribution from the U.S. trust will also be taxed as a dividend from a closely-held entity for French tax purposes. (This type of dividend is taxed at a relatively high rate in France).

The French Supreme Court opinion did not address the issue as to whether income received from U.S. trusts already taxed in the U.S. can be reduced under the U.S.-France income tax treaty. In addition, U.S. settlors and beneficiaries of U.S. trusts will be required to file annual Form 2181 with the French tax authorities.

Potential Application of the U.S. Estate and Gift Tax Treaty

The United States-France estate and gift tax treaty provides for a marital deduction which would have been eligible for such a deduction had the decedent been domiciled in the U.S. at his death. Under the United States-France estate and gift tax treaty,, individuals residending in France can claim a valuable marital deduction for purposes of U.S. estate or gift taxes as if they were U.S. citizens. This offers a significant planning opportunity for mitigating the consequences of the U.S. estate and gift tax.
U.S. settlors of domestic trusts that become residents of France may transfer up to $13.61 million (in 2024) in worldwide assets to his or her French spouse without being subject to the U.S. estate and gift tax. The U.S.-France estate and gift tax treaty permits $13.61 million marital deduction to a French spouse without triggering a U.S. estate or gift tax. Whether or not the U.S.-France estate and gift tax can be utilized to mitigate the French tax on gratuitous transfers and the French succession tax will depend on the particular facts of each. Any U.S. person considering becoming a French resident should carefully consider the U.S. and French tax consequences of becoming a French resident.

Conclusion

There are many Americans living in France. Any American that has settled a U.S. trust or is a beneficiary of a U.S. trust that resides in France should consult with a qualified international tax attorney to determine the trust’s cross-border reporting and tax obligations.

Anthony Diosdi is an international tax attorney at Diosdi & Liu, LLP. Anthony focuses his practice on domestic and international tax planning for multinational companies, closely held businesses, and individuals. Anthony has written numerous articles on international tax planning and frequently provides continuing educational programs to other tax professionals.

He has assisted companies with a number of international tax issues, including Subpart F, GILTI, and FDII planning, foreign tax credit planning, and tax-efficient cash repatriation strategies. Anthony also regularly advises foreign individuals on tax efficient mechanisms for doing business in the United States, investing in U.S. real estate, and pre-immigration planning. Anthony is a member of the California and Florida bars. He can be reached at 415-318-3990 or contacted here.

This article is not legal or tax advice. If you are in need of legal or tax advice, you should immediately consult a licensed attorney.

Anthony Diosdi

Written By Anthony Diosdi

Partner

Anthony Diosdi focuses his practice on international inbound and outbound tax planning for high net worth individuals, multinational companies, and a number of Fortune 500 companies.

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