Penalties for late payment of trade receivables
The Tax Authorities have just given their decision concerning the tax regime applicable to penalties for late payment and has adopted a strict position based on the legal rules to which they are submitted. The French Tax Authorities indeed considered that insofar as Article 3 of the law no. 92-1442 dated December 31, 1992 linked to the payment time-limits between companies, modifying the ruling no. 86-1243 dated December 1st, 1986, makes it compulsory to indicate in the agreement the computation modalities and the conditions of application of the penalties for late payment, then the non-respect by the client of these payment time-limits provided in the agreement leads to a receivable for the benefit of the seller or the supplier of the service.
As this receivable is definite in its principle and amount, it should, by application of Article 38-2 of the French General Tax Code, be taken into account in the taxable income of the tax year during which the payment time-limit has ended. Correlatively, the late client, may record, up to the amount of the latter receivable, a debt towards its supplier. Should it be justified by commercial interests, the cancellation of these penalties may give rise to the recording of a charge deductible from the taxable income (Ministry Answer De Gaulle, July 29, 1996).
1. In the present Ministry answer, the Tax Authorities do not agree with the widespread practice of some companies, consisting in the non recording, as well in their accounting result as in their tax result, of the late payment penalties of invoices normally due by their clients, insofar as they have already been cancelled at the date of closing of the tax year or will probably be so in the future.
Therefore, the Tax Authorities have chosen a quite legal approach of the treatment of penalties on trade receivables, considering that the creditor must in any case record a taxable product equal to the amount due in this respect, as well as an exceptional charge in case of cancellation.
2. The strict position retained by the Tax Authorities is thus based on an analysis similar to that adopted by the French High Court in a case linked to a receivable resulting from guarantee commitment. Basing itself on the legal case law according to which such a receivable products full right interests, the High Court indeed considered that the interests accrued at the closing of the tax year should be included in the taxable income, subject to the capacity to book a provision, if necessary (French High Court, January 1st, 1991).
3.If the adopted solution appears to be legally justified, practical difficulties may arise from its setting up. Indeed, it requires that the companies be able to follow and determine at the closing of each tax year the amount of the receivables for which the payment time-limit has elapsed and those which gave rise, during the tax year, to a late payment exempt from penalties.
4. In addition, the fact that the Tax Authorities request a record of these penalties in the income allows them to maintain an increased control over the decisions of cancellation and their normality.
5. Although the Tax Authorities do not mention this situation in the answer, it appears that the late payment penalties included in the taxable profits of a company are likely to give rise to the recording of provisions in the common law conditions. Especially, when the exceeding of the payment time-limits results from financial difficulties of the debtor, the amount of penalties normally due may be booked like the capital amount of the receivable. In this respect, a company should be able to distinctly consider the risk of non-payment of its receivables and the corresponding penalties on the basis of statistics withdrawn from the experience.
However, it has been judged that the sole exceeding of the payment time-limits does not justify the booking of a provision for bad debt when it comes from solvent clients (Administrative Court of Appeal of Paris, January 29, 1991), and therefore the provisioning of penalties could be excluded in this situation.
6. Lastly, it appears that the application of the position recommended by the Tax Authorities should not, as a whole, penalize companies from a tax point of view, but includes significant constraints linked to management, insofar as it requires a strict follow-up of the clients accounts and all exceedings of contractual payment time-limits.
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