The French IP Box, an innovative scheme for software creators

Thu 27 Jul 2023

The “new” regime of Article 238 of the French Tax Code (FTC) applies to patents in the strict sense, to other industrial property titles such as utility certificates and supplementary protection certificates attached to a patent, but also to software.

As such, the regime of article 238 of the CGI applies to software protected by copyright, including their successive versions, as long as this software meets a condition of originality.

The regime of the article 238 of the FTC covers disposal, grant, or sub-grant. When the contract relates to a set of elements of which only some can benefit from the preferential regime, it is up to the company to break down the overall price to determine the part of the price corresponding to the assets eligible for preferential treatment.

The intangible assets referred to must have the character of fixed asset elements. This condition is met when the common destination of these assets is to be used by the company for its ongoing operations. The assets in question do not need to be actually capitalised.

An option (or election) that needs to be formalised

The regime applies at the option of the company directly by applying it in the corporate income tax return. The option is not global and must be applied either per asset, or for each good or service, or for each family of goods or services.  Once made, the option requires the associated computations to be made (see below).  The option continues in effect until revoked, after which it cannot be reinstated for the particular asset, product or service for which it was made.

In the event of a tax audit, the company must be able to provide the authorities with a dedicated documentation to justify the determination of the net profit subject to the favourable regime and the originality of the software.

A net result subject to the reduced rate

Pursuant to this regime, the net income from disposals, grants or sub-grants benefits from reduced tax rates i.e., a reduced corporate tax rate of 10% (instead of the standard 25% rate).

For the determination of the net result, only the income relating to the eligible assets must be considered. If these assets are present in contracts relating to a set of elements (know-how, services, etc.), the company must apply distribution keys in order to apportion the income relating to the eligible assets.

For the determination of the net result which can benefit from preferential rates, only research and development expenses which are directly related to the assets concerned and are carried out directly or indirectly by the company (thus including the outsourced expenses), can be considered. As a matter of principle, overhead costs are not eligible expenses. The expenses to be considered are those incurred by the company during the financial year.

A “nexus” ratio is then applied to this net result to determine the amount that can qualify for relief.

The “nexus” ratio to be applied to net income is calculated as the ratio between:

• numerator: 130% of R&D expenses directly related to the creation and development of the intangible asset carried out directly by a member company of the group or by independent companies

• denominator: expenses appearing in the numerator as well as expenses outsourced to affiliated companies

In principle, all expenses incurred since the origin of the asset must be taken into account for the calculation of the result subject to the regime of article 238 of the FTC. The ratio is thus calculated for each fiscal year and considers the expenses incurred by the company for this fiscal year as well as those incurred for previous fiscal years.

If the net patent box result is profitable, the ratio determined as above is applied to it and the result obtained will be separately treated from remaining taxable profits and subject to the reduced rate of 10%. The net profit after application of the ratio can also, by decision of the company’s management, be set off against the tax loss of the financial year from other activities. 

If the net result of the grant is a loss, it is carried forward and must be offset against future net profits eligible to the IP Box, not other types of profit.

A limited interest but which should not be ruled out for loss-making companies

It is possible to offset the net income eligible for the favourable regime with the tax losses under common law. The administrative guidelines give an example of application and makes it possible to anticipate cases of profit reversal, in comparison with the common law regime (without IP Box).

In practice, it would be appropriate to estimate the savings generated by this system with regard also to the tax credits available, the available losses carried forward and the impact on employee profit-sharing of the increase in the taxable base at the normal rate.