VAT — Distinct business sectors

Distinct business sectors:
the key tool for optimising mixed-activity VAT

For taxpayers carrying on several distinct economic activities, article 209 of annex II to the French Tax Code provides a sectorisation mechanism that allows the right to deduct to be calculated sector by sector, instead of applying a single overall coefficient. This mechanism is almost always favourable to the taxpayer because it prevents the dilution of the deduction coefficient. Article 209 of annex II now covers the entire regime (both mandatory and optional cases); the former article 213 of annex II has been repealed.

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— In brief
Governing text
French Tax Code, annex II, art. 209 (former art. 213 repealed)
Mandatory sectorisation
Buildings let under an option to tax (French Tax Code, art. 260, 2°), local-authority services taxed by election (art. 260 A), non-profit bodies, land development schemes run by local authorities, each member of a single taxable person
BOFiP
BOI-TVA-DED-20-20
Benefit
A taxation coefficient specific to each sector
Conditions
A genuine plurality of activities that are not subject to identical VAT rules — neither an election nor the tax office's approval, but a declaration filed with the tax office within fifteen days (French Tax Code, annex IV, art. 40, 2) and separate accounting for each sector
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Sectorisation: the most powerful optimisation lever in mixed-activity VAT

For a taxable person carrying on multiple activities, calculating the right to deduct using a single overall coefficient can produce economically absurd results. Example: a property company deriving 80% of its turnover from taxed activities (offices, retail) and 20% from exempt activities (residential housing) would apply an overall coefficient of 0.80 to all of its input VAT, including the VAT on works carried out on the offices, which should in fact be deductible in full.

Sectorisation (French Tax Code, annex II, art. 209) solves this problem by allocating input VAT to each sector. VAT on office works: 100% deductible (taxed sector). VAT on residential works: non-deductible (exempt sector). VAT on general overheads (head office, accounting): deduction proration across the two sectors. Depending on the structure of the activities, the benefit can reach 10 to 30% of additional recoverable VAT.

Our conviction: all mixed property companies, active holding companies, training organisations and partially taxable public bodies should be sectorised. The initial complexity (declaring the newly created sectors within fifteen days, setting up sector-by-sector accounting) is largely outweighed by the additional VAT recovered, often a six-figure amount in the very first year for significant groups.

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A case handled by the firm

EUR 45m hotel property company: sectorisation, EUR 480k of VAT recovered over 3 years

A property company holding a portfolio of 6 hotels (turnover EUR 12m, 10% VAT) and 4 residential buildings (turnover EUR 3.5m, exempt), historically structured without sectorisation and applying an overall coefficient of approximately 0.77. An internal audit revealed a loss of deduction rights on the major hotel fit-out works carried out in 2022-2024 (approximately EUR 12m of input VAT). Our strategy: (1) implementing a retroactive sectorisation, which applies as of right without any approval from the tax office and which is declared to it within fifteen days (French Tax Code, annex IV, art. 40, 2), (2) rebuilding the accounting allocation of expenses by sector (hotels subject to VAT / exempt residential / overheads), (3) obtaining the full deduction of VAT on the hotel works (initially deducted at 77%, now at 100%), a differential of 23% x EUR 2.4m, approximately EUR 550k. Outcome: a net recovery of EUR 480k after taking into account, where applicable, the moratory interest provided for by article L. 208 of the French Tax Procedure Code — which is due where the conditions of that provision are met, namely relief granted on a claim or by the courts — at the late-payment interest rate of article 1727 of the French Tax Code.

— 02

5 typical sectorisation cases

1. Mixed property company (non-VAT residential + VAT retail/offices)

The most frequent case. Sector 1: residential housing, exempt (French Tax Code, art. 261 D, 2°), input VAT non-deductible. Sector 2: retail units, offices and car parks subject to VAT, 100% deductible. Sector 3: general overheads (head office, accounting, audit), prorated on the turnover of sectors 1 and 2. Sectorisation makes it possible to maximise the deduction on fit-out and maintenance works relating to the taxed assets.

2. Mixed active holding company

A holding company that manages a securities portfolio (an out-of-scope or exempt activity) AND invoices services to its subsidiaries (a taxed activity) must sectorise. Sector 1: portfolio management, non-deductible. Sector 2: services to subsidiaries, deductible. Sector 3: general overheads, prorated. The interaction with the VAT group (single taxable person) regime (French Tax Code, art. 256 C) must be analysed if the group has opted for VAT grouping.

3. Training organisations and non-profit entities

Professional training organisations covered by the exemption in art. 261, 4°, a, that also carry on ancillary commercial activities (sale of course materials, consulting, private services) must sectorise. Sectorisation may allow them to recover VAT on the capital expenditure dedicated to the commercial activity (equipment, premises). Condition: keeping separate accounts.

4. Partially taxable public bodies

Local authorities and public bodies are in principle outside the scope of VAT (French Tax Code, art. 256 B), except for their economic activities carried on in competition with the private sector: the transactions listed in article 256 B of the French Tax Code — including the supply of water in communes of at least 3,000 inhabitants — are taxable in any event, whereas the supply of water below that threshold, sanitation, public slaughterhouses, national-interest wholesale markets and refuse collection financed by a fee are taxable only if an election is made (French Tax Code, art. 260 A). Sectorisation distinguishes out-of-scope activities (schools, roads) from taxed activities. The FCTVA compensation mechanism applies to non-taxable persons.

5. Mandatory sectorisation (French Tax Code, annex II, art. 209)

Paragraph I of article 209 of annex II lists the activities that constitute distinct sectors: (a) each building whose self-supply is taxable (French Tax Code, art. 278 sexies, II) or in which improvement, conversion or fit-out works on housing are carried out whose self-supplies are taxable (art. 257, I, 3, 1°), (b) buildings whose letting is taxed under an option (art. 260, 2°), (c) local-authority services subject to VAT by election (art. 260 A), (d) for non-profit bodies, on the one hand their transactions outside the scope of VAT and their sales to members above 10% of total receipts, on the other hand each fundraising or charity event whose receipts are taxable, (e) each land development or zoning scheme carried out by local authorities, (f) each member of a single taxable person (art. 256 C). To these are added activities falling, by law or by election, within the simplified agricultural regime of article 298 bis (BOI-TVA-DED-20-20, § 100). Where no sector has been set up, the tax authorities may, within the recovery period, impose the application of article 209 from the date the activity concerned began (BOI-TVA-DED-20-20, § 120).

— Frequently asked questions

What are the conditions for a valid sectorisation?

Two conditions (BOI-TVA-DED-20-20): (1) a genuine plurality of activities carried on by the same taxable person (§ 20), (2) activities that are not subject to identical VAT rules (§ 30). Sectorisation then applies as of right: it does not result from an election and setting up a sector does not have to be authorised by the tax authorities (§ 120). That absence of a prior formality does not remove the filing obligation laid down by the French Tax Code, annex IV, art. 40, 2: a business that has set up distinct sectors must, within fifteen days, declare this to the tax office, as it must any change resulting in the creation of an exempt sector. Keeping separate accounts (§ 130) is the obligation that attaches to a sector once it exists. Where the conditions are met, the sector split applies even if the taxable person has not organised it: the tax authorities may reconstitute it. Where they are not met, the right to deduct is governed by the general rules on allocation and coefficients (French Tax Code, annex II, art. 206).

Can sectorisation be revoked?

No. Where it is required, sectorisation is neither an election nor a revocable decision: it applies as of right and binds the tax authorities just as much as the taxable person (BOI-TVA-DED-20-20, § 10). The doctrine reserves one case of optional sectorisation, that of ancillary financial income absorbing more than one tenth of the goods and services bearing VAT (§ 70). Sectorisation ceases when its conditions are no longer met (an activity disappears, an option to tax is abandoned), with no election to exercise and no approval from the tax office — subject to the filing obligations: the fifteen-day declaration for the creation or modification of sectors (French Tax Code, annex IV, art. 40, 2) and the one specific to a single taxable person under article 41-0 bis of the same annex. Caution: the disappearance of a sector or the transfer of a capital asset between sectors may trigger an adjustment of the VAT previously deducted (twentieths for buildings, fifths for other capital assets). In practice, the sector split is almost always kept in place: the administrative burden is marginal and the economic benefit is recurring.

Can a distinct sector be created purely for optimisation purposes?

The BOFiP requires economically distinct activities: a purely accounting split of a single activity designed to optimise the coefficient may be recharacterised by the tax authorities. However, where activities are genuinely distinct (residential vs offices, portfolio management vs services to subsidiaries), sectorisation is entirely legitimate and the tax authorities cannot refuse it. The boundary is assessed case by case, which makes a prior analysis essential.

Are sectorisation and the VAT group regime compatible?

The single taxable person regime (French Tax Code, art. 256 C, in force since 2023) consolidates the VAT of a group at the level of the head entity. Within that single taxable person, each member constitutes a business sector as of right (French Tax Code, art. 256 C, III, 3; annex II, art. 209, I, 6°), and the sectors already set up within a member survive as sub-sectors (BOI-TVA-DED-20-20, § 100; BOI-TVA-AU-40). The combination is complex to structure: sectorisation and VAT grouping are complementary tools, not substitutes.

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