France’s anti-avoidance rules face fresh scrutiny after two landmark supreme court rulings

France’s anti-avoidance provisions continue to generate significant litigation, particularly where French tax residents hold interests in foreign companies.

Article 123 bis of the French Tax Code allows the tax authorities to tax individuals on income earned by certain foreign entities, even where no profits have been distributed.

The regime generally applies where a French tax resident directly or indirectly holds at least 10% of a foreign entity whose assets are predominantly financial and that benefits from a preferential tax regime.

Income accumulated within the foreign entity may become immediately taxable in France as deemed investment income, potentially with a 25% increase in the taxable base, irrespective of whether the shareholder has received any distribution.

Although originally designed to target offshore financial structures, the provision may also affect legitimate holding arrangements established in jurisdictions with ordinary participation exemption regimes.

Recent decisions of the French supreme administrative court (Conseil d’État) have clarified the scope of these rules, while revealing new uncertainties.

In a decision dated July 6 2026 (No. 501276), the Conseil d’État clarified the treatment of foreign entities comparable to French partnerships.

Under French tax law, foreign entities must first be classified by reference to the French legal form to which they are most closely comparable, taking into account their legal characteristics, organisation, and operation.

The court held that where a foreign entity is comparable to a French partnership falling within Article 8 of the French Tax Code, Article 123 bis cannot apply to its profits.

Instead, the French resident partner is directly taxable on their share of the entity’s profits under the ordinary rules applicable to the relevant category of income.

This distinction matters. While both regimes may result in taxation without an actual distribution, they do not necessarily produce the same tax treatment, particularly regarding the characterisation of income and the calculation of the taxable base.

The decision provides greater certainty for individuals investing through foreign partnerships and comparable entities.

However, it should not be interpreted as a general exemption for foreign tax-transparent vehicles. The relevant test remains their classification under French law, rather than their tax treatment or designation in their jurisdiction of establishment.

For internationally mobile families, investment managers, and private investors, this ruling highlights the importance of reviewing foreign entities through the lens of French tax classification, particularly when establishing French tax residence.

Just six days earlier, on June 30 2026 (No. 496618), the Conseil d’État delivered another decision on Article 123 bis in the Level One case, this time involving a Luxembourg holding company.

The dispute concerned comparing the taxation of dividends received by the Luxembourg company with the tax that would have arisen had it been established in France.

Under the French participation exemption regime, qualifying dividends are exempt from corporate income tax, subject to the add-back of a fixed proportion of expenses, generally equal to 5% of the dividends received, reduced to 1% in certain circumstances.

The Conseil d’État held that this expense add-back has a dual nature. Up to the amount of actual expenses relating to the shareholdings, it merely neutralises their deduction. Any excess, however, constitutes a partial taxation of the dividends.

Consequently, where the fixed add-back exceeds the actual expenses incurred, the resulting French tax must be taken into account when determining whether the foreign company benefits from a preferential tax regime.

Here, the Luxembourg holding company’s actual expenses exceeded the fixed add-back. The shareholders therefore successfully escaped taxation under Article 123 bis.

Yet the ruling’s broader implications may be less favourable.

A foreign holding company benefiting from a full dividend exemption, without an equivalent expense add-back, could potentially be regarded as enjoying a preferential tax regime compared with France, even where that exemption is fully consistent with the EU Parent-Subsidiary Directive.

This creates an unusual situation in which a foreign holding company operating with limited expenses could face greater French tax exposure than a comparable company incurring higher expenses.

The consequences for individual shareholders may be substantial, as Article 123 bis can trigger taxation on undistributed profits.

The decision also raises questions regarding EU freedom of establishment and the proportionality of anti-avoidance measures, particularly where the French tax theoretically avoided is minimal.

Interestingly, the French tax authorities adopted a different approach in their June 10 2026 guidance concerning Article 209b, the comparable anti-avoidance regime applicable to corporate taxpayers. They expressly accepted that a foreign participation exemption without an expense add-back does not, by itself, constitute a preferential tax regime.

No equivalent clarification has yet been introduced for Article 123 bis.

These decisions follow another important ruling of November 12 2025 (No. 501567), in which the Conseil d’État clarified that image rights do not constitute financial receivables for Article 123 bis purposes and that the predominantly financial nature of an entity’s assets must, in principle, be assessed at fair market value.

Taken together, these rulings demonstrate the increasing importance of the legal classification, economic characteristics, and actual activities of foreign entities when assessing their French tax exposure.

The recent case law offers both opportunities and risks for cross-border structures.

Foreign partnerships may fall outside Article 123 bis altogether, while holding companies benefiting from ordinary dividend exemptions may face unexpected exposure depending on their actual expenses and the comparison with French taxation.

The existence of a preferential tax regime does not automatically establish liability. Article 123 bis contains safeguards, notably for qualifying structures that are not artificial arrangements designed to circumvent French tax legislation.

For international families, private investors, and businesses with French-resident shareholders, these developments warrant reviewing existing holding arrangements.

As the Conseil d’État continues to define the boundaries of Article 123 bis, the key challenge will be distinguishing legitimate international structures from arrangements genuinely designed to avoid French taxation. Until further guidance emerges, careful analysis of foreign entity classification, asset composition, applicable exemptions, and economic substance will remain essential.