Tax optimization is essential for business leaders operating internationally.
What tax strategies and arrangements are recommended to minimize the tax burden? To begin with, a company that is tax resident in France and generates profits in Dubai must take specific steps to optimize its income. It is important to note that any company that is tax resident in France is required to declare all of its worldwide income, as tax residency is determined by the company’s registered office.
Let us take the example of a company headquartered in France: this company must declare all of its income, including income generated in the United Arab Emirates. From a tax perspective, a company’s profit is defined as the difference between taxable income and deductible expenses. In other words, profit represents the amount on which the company will be taxed, demonstrating the viability of its business activity.
Prerequisites: ensuring economic substance for your Dubai subsidiary
In international tax law, the concept of “economic substance” is essential to ensure proper tax compliance. For a subsidiary in Dubai, this means establishing real and significant economic activities in the country where the company is registered. This includes setting up various tangible elements such as local employees, physical assets, generated revenues and expenses related to the company’s operations. To build strong economic substance, it is crucial for the company to engage in genuine commercial activities. This may take the form of selling products or services, hiring local staff, acquiring assets necessary for operations and investing in local projects. Although the tax treaty between France and the United Arab Emirates does not explicitly mention economic substance, it requires the creation of an autonomous permanent establishment, ensuring that the subsidiary has sufficient physical and functional presence to be considered an independent entity. This requirement is essential for the subsidiary to meet international standards related to a fixed place of business. Once this economic substance is established, two methods can be considered to optimize the company’s profits for tax purposes.
Parent-subsidiary tax optimization
In France, all companies are subject to corporate income tax. However, it is possible to optimize a company’s tax position by implementing an appropriate financial structure. The “Parent-Subsidiary” regime is an attractive option for companies that are tax resident in France but operate internationally, such as in the United Arab Emirates. Under French tax law, the “parent company” is exempt from tax on dividends received from its subsidiary, provided that it holds at least 5% of the subsidiary’s share capital. This system avoids double taxation of profits (corporate income tax) on received dividends. To benefit from this exemption, several conditions must be met:
- The subsidiary must be at least 5% owned by the parent company.
- The subsidiary must be subject to corporate income tax.
- The subsidiary must be established in the European Union or in a country that has signed a tax treaty with France (the United Arab Emirates meets this criterion).
- There must be no cross-shareholdings between the companies, meaning they must not hold shares in each other.
For example, if a parent company is tax resident in France, it may own a subsidiary abroad, such as in the United Arab Emirates. This structure allows the parent company, which is tax resident in France, to avoid paying tax on dividends received from the subsidiary. Profits generated by the subsidiary, subject to corporate income tax in the country of origin (except in the UAE, where corporate tax was historically not applied), can be transferred as dividends to the parent company. These dividends are then taxed at 5% only on the portion corresponding to costs and expenses, in accordance with Articles 145 and 216 of the French General Tax Code (CGI). This exemption must be declared on the parent company’s tax form 2058-A.
Tax consolidation
The tax consolidation system allows a group of companies to file a consolidated tax return. This means that the companies within the group are not considered separate tax entities, but a single taxpayer in the eyes of the tax authorities.
Under this system, the profits and losses of each group company are consolidated, resulting in specific accounting entries. This process makes it possible to determine the total amount of corporate income tax due by the group. Tax consolidation is particularly advantageous for reducing tax costs, notably by avoiding double taxation and optimizing tax deductions. To benefit from this regime, the parent company must hold at least 95% of the share capital of each consolidated company, either directly or indirectly (through a company owned by the same shareholders).
In addition, sales of fixed assets within the group are exempt from corporate income tax, although sales of shareholdings are subject to a 12% tax on the portion related to costs and expenses. Dividends distributed between consolidated companies are also exempt from corporate income tax, but are subject to a 1% portion of costs and expenses. This regime facilitates tax management for corporate groups by consolidating financial results and optimizing tax charges, while complying with the required ownership and consolidation conditions.
Make the most of your tax advantages
A company can implement a tax optimization strategy by adopting the approaches described above. However, it is crucial that these strategies are based on real and effective economic substance. Without such substance, an abuse of rights may be identified, leading to unfavorable tax consequences. To ensure effective and compliant tax optimization, it is therefore essential that the company’s operations are substantial and tangible. In other words, tax strategies must reflect genuine economic activity and not merely tax-driven arrangements. Ensuring economic substance mitigates the risk of reclassification by tax authorities and maximizes the benefits of your tax optimization strategy.