France’s highest appeals court dismissed Lagarde’s challenge against the decision to try her for negligence in her handling of a dispute between a state-owned bank and businessman Bernard Tapie.
Tapie walked away with a staggering €404 million ($445 million) in compensation in 2008 after Lagarde ordered the long-running row over the sale of sports gear giant Adidas to be resolved by arbitration.
Friday’s ruling means the 60-year-old IMF chief will go before a special tribunal that hears cases against government ministers accused of wrongdoing in the discharge of their duties.
The ruling is a blow to the IMF boss, who has long been touted as a potential future French president.
She insists she acted in France’s best interests in the case, and the IMF expressed firm backing for her as it was confirmed she would face trial.
The Washington-based lender “continues to express its confidence in the Managing Director’s ability to effectively carry out her duties,” said IMF spokesman Gerry Rice.
Her lawyer Patrick Maisonneuve said he was “convinced” that Lagarde would be “absolved of all responsibility”.
Lagarde will be the third successive IMF chief to face trial.
Her predecessor, compatriot Dominique Strauss-Kahn, was acquitted of pimping by a French court last year, four years after he resigned his IMF post to fight separate sexual assault allegations.
Spain’s former IMF chief Rodrigo Rato has also been ordered to stand trial for misusing funds when he was head of Spanish lender Bankia.
Lagarde was placed under formal investigation in 2014 over her handling of a long-running dispute with Tapie, who claimed he was defrauded by the state-controlled bank Credit Lyonnais in its handling of his sale of Adidas in the 1990s.
The case against Lagarde stems from her decision to allow the row be settled by arbitration instead of by the courts, which would likely have resulted in a much smaller bill for the state.
Prosecutors have also questioned her failure to challenge the massive award.
A court has since found the arbitration to be fraudulent because one of the arbitrators had links to 73-year-old Tapie, a flamboyant figure who served as cities minister in the 1990s and has also dabbled in acting.
Lagarde has denied any wrongdoing or that she acted on orders from then president Nicolas Sarkozy, of whom Tapie was a supporter.
In an interview with AFP in Washington earlier this month she insisted she had a “clear conscience”.
“I’ve always acted in accordance with the law, and I’ve always had in mind the public interest.
“It was not my duty to select the arbitration panel, to investigate their past and history, and I had no reason to doubt their probity and honesty,” she said.
Investigating magistrates however found evidence of “serious negligence on the part of a minister tasked with conducting affairs of state” and in December ordered the case go to trial.
Lagarde appealed the decision, but her challenge was struck out Friday.
The former corporate lawyer became the first woman to head the IMF when she replaced Strauss-Kahn in July 2011.
The ruling comes just days after she began her second term as head of the institution, where she has been hailed as both a tough negotiator and a skilled consensus-builder.
If tried and convicted, she risks up to a year in prison and a fine of €15,000.