French law recognises two different ownership rights in property:
-
Usufruit – the right to use and enjoy the ‘fruits’ of the property.
-
Nu-propriété – the reversionary interest in property.
The first of these is equivalent to a life interest in the property, whilst the second is the bare ownership, with the right of complete ownership on termination of the life interest, normally on death.
Ordinarily these interests are merged, meaning an owner has both rights, ie the full freehold of the property, called plein propriété in French.
It is, however, possible, either on purchase, or later as a gift, to divide ownership between two or more persons, a process known as the démembrement de propriété.
In other cases dismemberment is not chosen, but is imposed by French inheritance law. This occurs, for example, when a surviving parent becomes the usufructuary of all or part of the estate of their deceased spouse, with their children receiving the nu-propriété.
The interest in the voluntary division of legal interests is primarily fiscal, used in connection with inheritance planning.
It is possible for a family to purchase or to transfer property so that parents hold the usufruit and the children the nu-propriété. The parents continue to occupy the property (or receive any rental proceeds from it) and when they die the children obtain full freehold ownership of the property with no inheritance taxes to pay.
This arises because on death the two interests are automatically merged, so do not form part of the parents’ estate.
Although there is a potential gift tax liability on the transfer of nu-propriété to offspring, tax is calculated only on the discounted rate of the nu-propriété.
The discount varies according to the donor's age. If the transfer is made when the parents are aged between 41 and 50 years, the value of the usufruit is 60%, and the value of the nu-propriété 40%. At 61 years old the figures are reversed, as shown on the graphic below.
As the liability for gift tax is only assessed on the value of the usufruit, and children have an €100,000 gifts tax allowance from each parent, it is possible to transfer real estate without any gift tax becoming payable.
If the transfer is likely to be in excess of the gift allowance, there will be around 2.5% for stamp duty and notaire fees. So, there may be an immediate cash cost to this approach, but this may be more than recovered by lower inheritance taxes.
On the donor's death the children would also be exempt from any French capital gains tax that may have accrued between the date of the transfer and the death. The tax would only be payable on the sale of the property, on the difference between the value of the gift and the sale value. During their lifetime the parents could also finance further improvements to the property, which would also escape gift tax. The permutations of such a transfer will depend on the value of the property, the number of children and the age and number of donors.
Take the example a surviving parent aged 70 who wishes to transfer to her daughter the nu-propriété of a house valued at €200,000, whilst retaining the usefruit. In view of her age the usufruit is valued at 40% (€80,000) and the nu-propriété at 60% (€120,000). After deduction of the gift allowance to a child of €100,000 gifts tax is payable on €20,000, amounting to a little over €2,000. That compares with gift tax of around €18,000 were the full freehold to be gifted.
Nevertheless, there is a potential sting in the tail, as gifts made within 15 years of death are added to the total value of the estate, meaning inheritance tax could still be payable on death.
Clearly, therefore, the tax advantage is maximised the earlier the transfer is made, but making such an important decision with the expectation of a long life ahead requires a lot of confidence in your children!
If your circumstances later meant that you needed to sell the property, this would not be possible without the agreement of your children. Tax savings are not the only factor to consider.
In addition, if, given the allowances available, the liability of your children to inheritance tax will be low or non-existent, there may be no need to consider it at all.
For non-resident donors the approach is not necessarily a sensible one as they will need to consider the tax implications of such an arrangement in their home country.
In Belgium, for instance, even though the law recognises a spilt of ownership, the transfer of property with reservation of the usufruit is taken as if it was transfer of the full ownership of the donated property. There is therefore no tax advantage to pass on during one's lifetime in this approach.
The issue is a similarly complicated one for British and US non-residents, where there is no recognition of the spilt of ownership as occurs in France.
In the US the creation of spilt ownership creates a potential liability to gift tax if the tax authority consider it 'achieved' or, later, estate taxes if the gift is considered 'not achieved', i.e. executable at death and revocable during the donor's lifetime, with no allowance for life interest. That said, the threshold for gifts tax is very high, so should not be a concern for the overwhelming majority of buyers.
In the UK, for inheritance tax purposes a usufruit is considered equivalent to full ownership.
This means that if the parents’ estate is of sufficient value to attract inheritance tax in the UK, then there will be an extra tax to pay, up to 40% of the value of the French property.
In addition, while in France the gift allows the capital gain to be purged, the situation is different in the UK (and potentially elsewhere) where the donee is deemed to have acquired the property at the value at which it was acquired by the donor, thereby generating a large capital gain.
If you are non-resident, you therefore need to ensure you take good professional advice before setting out on this path.
Whether resident or non-resident, if you need such assistance you can contact us at editor@france-insider.com.
Related Reading:
