New measures stimulate investment in French start-ups

16 February 2004

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A report from SJ Berwin has reported on a variety of measures that have been aimed at stimulating investment in innovative start-ups in France in recent months. The centrepiece of the reform is a package of generous tax breaks for Â‘young innovative enterprisesÂ’ (jeunes entreprises innovantes or JEIs) that will apply from 2004 onwards. To qualify for these, companies must meet various conditions. First and foremost, the new rules only apply to SMEs. For these purposes, that means businesses with less than 250 employees and a turnover below EUR 40m or net assets of less than EUR 27m. In addition, conditions only apply to independent companies: at least 50% of the company's share capital must be held at all times, directly or indirectly, by individuals or certain eligible institutional investors (including most French venture capital funds). Also, the company has to be 'young' - its activity must have been created within the last eight years - and 'innovative' - its research and development (R&D) expenses must account for at least 15% of total annual costs.

Qualifying companies will enjoy a number of significant new tax benefits. Firstly, a JEI is exempt from French minimum corporate tax (which is normally payable even in the absence of taxable profits). It will also escape French corporate tax during its first three profitable tax years. In addition, during the following two profitable tax years, the company will enjoy 50% tax relief, provided it continues to comply with the criteria set out above. But the new regime has one significant condition: owing to EU rules, the total tax benefit granted under the JEI tax regime may not exceed a EUR 100,000 reduction in tax during any 36-month period.

A decree to be published later this year should allow JEIs to avoid payment of employer social charges on salaries paid to certain research personnel. Also, an individual investor in a JEI may elect to be exempt from tax on the capital gains resulting from the disposal of his shares in the company if that investor has never held more than 25% of financial and voting rights in the company, and has held the shares for at least three years. The exemption from capital gains tax applies so long as the company qualifies as a JEI and for a period of five years afterwards. A ruling process is available to investors so that they will know in advance whether a potential investment will qualify.

Two other measures have further enhanced the attraction of investing in innovative French SMEs. First, the Finance Act for 2004 significantly expanded the types of R&D expenses giving rise to a credit for corporate tax purposes. Beginning in 2004, French companies will be entitled to a tax credit equal to 5% of all R&D expenses up to EUR 8m per year (instead of EUR 6.1m in 2003). In July 2003, the Economic Initiative Act also increased the income tax credit available to individual investors who subscribe to shares in French SMEs (that is, companies meeting the turnover and ownership criteria mentioned above for JEIs). Under French tax rules, individuals are entitled to a tax credit equal to 25% of the amount subscribed. The tax credit is now capped at EUR 20,000 per year (EUR 40,000 for married couples), instead of EUR 6,000.

SJ Berwin concluded that with the right fiscal incentives, more innovative French start-ups should see the light of day. Improving dealflow should renew investors' interest after years of hesitation and disappointment.