France Tax: French Supreme Court rules on sourcing of stock option income

Background

On March 17, 2010, after years of litigation regarding the sourcing of stock option gains of mobile employees for purposes of French income taxation, the French Supreme Court issued a ruling that provides definitive guidance on this issue. Prior to the Court's ruling, the French Tax Administration (FTA) had not provided a clear position regarding the agency's view of sourcing of stock option income between France and any other country where the employee-optionee resided prior to the point of taxation. In some cases, the FTA disregarded the application of any tax treaty between France and the relevant foreign country. In other cases, the FTA determined that it was appropriate to source the gain realized at exercise between France and a foreign country based on the number of days the employee worked in the foreign country in the year of exercise.

While these positions could not be reconciled, different jurisdictions in France were free to choose one FTA approach or another. Until now, many French jurisdictions have imposed French income tax on stock option gains even where the option award was granted while the employee was resident in a country other than France and/or was working outside of France. As such, employees residing or working outside of France at the time of grant, who returned to France prior to the time of exercise, were subject to double taxation if the stock option award was subject to tax at the time of grant in the foreign country.


Supreme Court decision

On March 17, 2010, the French Supreme Court ruled that, for purposes of French income taxation, in the event an employee's stock option award cannot, by its award terms, be exercised before a prescribed time (i.e. prior to vesting), the gain realized at exercise will be apportioned between France and a foreign country based on the number of days worked by the optionee in each country between the date of grant and the date of vesting. The Court held that this uniform position is consistent with the language found in Article 80 bis of the French Tax Code. Since the taxpayer at issue was a French resident who had been on assignment to Belgium, the Court also confirmed that the sourcing methodology outlined above is consistent with the terms of the France-Belgium tax treaty. The Court's ruling also conforms to the position adopted by the Committee on Fiscal Affairs of the Organization of Economic Cooperation and Development (OECD), in its report published in August 2004. Generally, this ruling is expected to be applicable to income resulting from stock option exercises as of March 17, 2010; however it may be possible to argue this position in cases which are currently under audit. Of note, this ruling does not apply to French social tax.

The Court added that, in the absence of a vesting period (i.e. the stock option award is immediately vested and exercisable), the gain at exercise would be sourced completely to the country in which the employee was performing services at the date of grant.

While the Court did not separately address other types of equity awards, and this ruling is only binding on tax authorities and other French courts in the case of stock options, it is possible that this ruling and sourcing methodology may be extended to, as an example, restricted stock, restricted stock units, and cash-settled awards. However, further analysis would be required with respect to inbound employees arriving in France from, or outbound employees headed to, a country with which France does not have an income tax treaty currently in force.


Action

- Employers should review their sourcing methodology to ensure that equity income is apportioned in accordance with the French Supreme Court's ruling.
- Employers should consider the Court's ruling when operating tax withholding on equity income realized by French non-resident employees.
- Taxpayers who are currently under audit or in a tax dispute with the FTA should consider to what extent, if any, the Court's ruling is applicable to their fact pattern.