LBO taxation: interest deduction and the Charasse rule

Quick answer. LBO taxation relies on deducting the interest on the acquisition debt, which tax consolidation (CGI article 223 A) lets the target's profits absorb. Three limits frame this leverage: the Charasse rule against buying from yourself, the ATAD cap (30% of tax EBITDA or 3 million euros), and the rate ceiling between related parties.

You are structuring the buyout of a company through an acquisition holding, and both your banker and your advisers mention the LBO tax leverage. The idea looks simple: the holding takes on debt, deducts the interest, and tax consolidation pushes the target's profits up to offset it. In practice, LBO taxation and acquisition interest deduction follow strict rules. Depending on who buys, from whom, and with what debt, the leverage can be fully effective or largely neutralised. This article sets out the mechanism and the three limits to anticipate before signing.

In an LBO (leveraged buy-out), an acquisition holding is created to buy a target company. This holding takes on debt to finance the purchase of the shares. The interest on this acquisition debt is, in principle, deductible financial expense.

The usual problem: the holding alone has no turnover, hence no profit against which to offset that interest. This is where tax consolidation (CGI article 223 A) comes in. By consolidating the group's result, it lets the holding's interest be absorbed by the target's operating profits. The overall result is reduced accordingly, and the group's corporate income tax falls.

That is the core of the LBO tax leverage. But this is precisely the mechanism the legislator chose to frame, to prevent it from serving purely tax-driven arrangements.

Three separate rules can reduce, or even cancel, the deduction. They stack: clearing the first does not exempt you from the other two.

1. The Charasse rule: anti buying from yourself#

The Charasse rule (CGI article 223 B) targets a specific situation: a company buys, from persons who control it (or from companies controlled by those same persons), the shares of a company that then joins the same consolidated tax group. In that case, a fraction of the group's financial expense is added back to the overall result.

The aim is clear: to prevent a director from selling their own company to themselves, through a debt-laden holding, in order to deduct interest on a loan that actually finances their own cash exit. The Treasury does not want to fund, through a tax saving, a transaction with no genuine change of ownership.

The add-back applies to the acquisition year and the eight following years, that is nine years in total. This is a long period, which weighs on the deal's profitability well beyond the year of purchase.

The amount added back each year is calculated as follows:

In other words, the higher the price paid for shares bought from yourself relative to the group's total debt, the larger the share added back.

2. The general ATAD cap#

Independently of Charasse, the general cap on financial expense (CGI article 212 bis, transposing the ATAD directive) limits the deduction of the group's net financial expense. The cap is the higher of these two amounts:

• 30% of tax EBITDA;
• or 3 million euros.

This cap applies to everyone, not only to LBOs. But an LBO, heavily geared by design, is typically the deal where this cap bites. A target whose tax EBITDA contracts (a bad year, a heavy investment) mechanically sees its deductible envelope shrink.

3. The related-party rate ceiling#

When interest is paid to partners or to related companies (CGI articles 39-1-3 and 212-I), it is deductible only up to a ceiling rate. Beyond that, the excess fraction is non-deductible. This applies notably to partner current accounts and intra-group financing, both common in buyout structures.

In the buyout files we support, the instinct is often to think bank financing first, then tax. On one specific point you should do the opposite: the Charasse classification is decided the moment you choose who sells the shares. If the seller is, directly or indirectly, the person who will control the acquisition holding, the tax leverage can be curtailed for nine years. This does not make the deal impossible, but it changes the profitability calculation.

The underestimated risk is discovering the Charasse rule once the structure is set. Reorganising ownership after the fact is costly and exposes you to other tax frictions. LBO taxation is framed before signing, not after.

Before validating a structure, we systematically check the following chain:

1. Who sells? Identify whether the seller controls, or will control, the buying company. That is the Charasse trigger.
2. Consolidation scope. Confirm the target can join the tax group (ownership conditions, options to be formalised within the deadlines).
3. Absorption capacity. Estimate the target's forecast tax EBITDA to test the 30% / 3 million euros cap over several years, not just the first.
4. Intra-group financing. Check the rate on current accounts and related-party loans against the ceiling rate.
5. Documentation. Keep evidence of the acquisition price, the group's debt and any add-back calculation.

This framing is led with your chartered accountant for the figures and follow-up, and with a tax lawyer for securing the legal structure and the share transfer deed.

A few configurations call for heightened attention:

• Buyout by the existing director (MBO). The management buy-out, where the management team buys the company it runs, is the prime Charasse watch zone if the sellers keep control of the acquisition holding. Each case is classified individually.
• OBO (owner buy-out). The owner sells the company to a holding they control in order to cash in part of the value while staying at the helm. By design, this is the very scheme the Charasse rule targets first. Interest is rarely fully deductible here.
• Already-geared or volatile-EBITDA target. The ATAD cap can bite as soon as a year deteriorates, even outside any Charasse issue.
• Mixed bank plus current-account financing. Combining bank debt with partner current-account contributions means watching both the global cap and the related-party rate ceiling.

None of these situations is handled by an automatic rule: the precise structuring (who buys, from whom, with what debt) determines the actual deductibility.

The LBO remains a powerful buyout tool, but a tightly framed one. Three points carry most of the tax risk:

• the Charasse classification, which depends on the seller's identity and can run for nine years;
• the ATAD cap, which tracks the health of the target's tax EBITDA;
• the rate on related-party financing, to document from the outset.

A structure that looks attractive on paper can lose much of its tax interest once these three filters are applied. Hence the value of testing the real leverage, not just the theoretical one, before committing the financing.

To dig into financing and structuring, see our analyses on the criteria for bank financing of an LBO, on what banks look at in an LBO buyout and on the case for setting up an acquisition holding. On intra-group financing, our guide on the taxation of the partner current account details the ceiling rate. For the accounting follow-up of the tax group, see our bookkeeping and review services in Paris and our outsourced CFO for SMEs.