Taxation of royalties

The taxation of royalties refers to all the tax rules applicable to sums paid in consideration for the exploitation of an intellectual property right, from the perspective both of the licensor receiving them and of the licensee paying them. It involves corporate income tax or personal income tax, withholding tax on payments abroad, value added tax and transfer pricing rules. The French General Tax Code is the main source, supplemented by international tax treaties and EU law. The concept of royalty is given a broad meaning.

Taxation of the licensor

Royalties received by a company subject to corporate income tax are in principle included in its taxable profit at the standard rate. Article 238 of the General Tax Code, however, allows a reduced rate to be applied to the net income from licensing patents, utility certificates, supplementary protection certificates, certain copyright-protected software and other eligible assets, in proportion to the research expenditure incurred by the company itself. This patent tax regime requires precise documentation of expenditure and income per asset or per family of assets.

Deduction and withholding tax

For the licensee, the royalty is a deductible expense if it corresponds to genuine consideration and a normal amount. The deduction of royalties paid to an associated enterprise established abroad is reviewed in the light of the arm’s length principle laid down in Article 57 of the General Tax Code, and Article 238 A subjects payments to States with preferential tax regimes to stricter conditions. Royalties paid to a non-resident recipient may be subject to withholding tax, which tax treaties usually reduce or eliminate. Directive 2003/49/EC also exempts, subject to conditions, royalties paid between associated companies of different Member States.

Value added tax and transfer pricing

The grant of a licence is a supply of services. Between taxable persons, it is subject to value added tax in the customer’s State, which leads to the reverse charge of the tax by a licensee established in France where the licensor is established abroad. Within groups, the determination of the royalty rate must comply with the arm’s length principle and be based on an analysis of the functions of development, enhancement, maintenance, protection and exploitation of the asset, in line with the OECD principles. Reassessments frequently concern royalties deemed excessive or lacking consideration.

Key points

An intellectual property royalty has tax consequences for the licensor, for the licensee and, in international relations, between States. Its amount and the location of the assets are scrutinised by the tax authorities, particularly within groups. The value of the royalty should be documented, the application of a tax treaty or of the directive checked before any payment abroad and the eligibility of the income for the reduced tax regime examined.

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This glossary entry is general in scope and does not constitute legal advice.

Dhenne Avocats is a patent litigation firm. Matters outside that field, such as trade marks, designs, copyright and IT contracts, are handled by practitioners the firm works with regularly, and by the firm itself when they arise in a patent dispute.

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