In a decision on 13 July 2012, the French Administrative Supreme Court (Conseil d’Etat) ruled that it is not possible to deduct VAT borne on expenses incurred by a company for the sale of its shareholdings in its subsidiaries, when the company has distributed the income from the sale or when such expenses were included in the determination of the share sale value.
Of particular note concerns a holding companys’ right to deduct the VAT it incurred on expenses paid to handle litigation arising before the sale of the shares. That is, where the financial consequences of the litigation were to be borne by the seller under a seller’s guarantee against claims granted to the purchaser.
In this particular case, SA Entreprises Franque had sold shares in some of its subsidiaries and had granted the purchaser a guarantee against claims, as is customary practice. The guarantee was intended to cover any litigation costs that arose after the sale, but which had their source before the sale. In this case, SA Entreprises Franque knew about a dispute with an automaker which had, at the date of the sale, brought legal action against the subsidiaries it intended to sell. SA Entreprises Franque eventually settled with the automaker and paid the settlement amount, pursuant to the seller’s guarantee against claims it had granted to the purchaser. In drafting this settlement agreement, it incurred lawyers’ fees subject to VAT.
The Supreme Court held that the VAT borne in drafting the agreement could not be recovered by a mixed holding company which provided services to its subsidiaries, as the company had not proven that the fees were related to anything other than the sale of the shares in the subsidiaries. To establish the ‘direct and immediate’ link between the fees and the sale of the shares, the Supreme Court appears to have adopted the following reasoning: the fees are linked to a settlement amount paid in connection with a dispute, the financial consequences of which were included in the scope of a seller’s guarantee granted upon a share sale.
Presented in this way, the link does not appear to be so ‘direct and immediate’. The Supreme Court has again chosen to limit the possibility for a company to deduct VAT on expenses incurred for a transaction which is only loosely linked to a share sale.
This position is sharply demonstrated by the very limited extent to which the court considered evidence on the direct link between the fees and the taxable activity. Indeed, the only evidence that would appear to be admissible in defense are elements demonstrating that the law firm’s services were not related to the settlement amount paid in the scope of the litigation. Yet, in this case, the company had acknowledged that these fees were incurred to manage the settlement of the dispute.
Therefore, the Supreme Court dismissed the idea that these fees were general costs incurred by a company during the course of its holding activity providing services to its subsidiaries or during the course of the restructuring of the group. This was despite the fact that the dispute was of a commercial nature, that it related to a period during which the holding company was providing VATable services to the subsidiaries, and that lawyers’ fees are usually borne by holding companies, which then pass them onto their subsidiaries through management fees.
Lastly, in considering only the direct and immediate link between the lawyers’ fees incurred and the seller’s guarantee against claims, the Supreme Court did not refer to the possibility offered by the CJEU of allowing a right to deduct the VAT borne for amounts incurred after the discontinuation of a taxable activity, provided there is a direct and immediate link between such expenses and the taxable activity that was being performed (Fini H decision).
Indeed, in light of the Fini H decision, the Supreme Court could have considered that SA Entreprises Franque incurred the lawyers’ fees after the discontinuation of its activity on the basis of the taxable activity it was performing on behalf of its subsidiaries (e.g. management services, handling litigation on their behalf, managing the group’s relations with the lawyers).