Corporate Tax

Company Tax 2021 – Luxembourg – Tax

Overview of corporate tax work

Luxembourg continues to be a global leader as a platform for
international business, investment funds and cross-border
financing. As the pandemic endured through 2020, Luxembourg
continued to apply COVID-19 measures as well as OECD guidance with
respect to pragmatic emergency measures to facilitate Luxembourg
investment funds and companies to operate effectively. Luxembourg
also continues to update its tax laws in harmony with ongoing
changes to EU and OECD policies while maintaining its competitive
tax regimes, including the enactment of the EU’s DAC6 mandatory
disclosure rules and issuing guidance on applying the complex
anti-abuse rules found in the EU’s Anti-Tax Avoidance
Directives (“ATAD”). Luxembourg tax litigation has
continued with a slight increase over the past 12 months with the
majority relating to transfer pricing. The Luxembourg Court has
also issued several decisions, which addressed challenges by the
Luxembourg tax authorities of periods following the entry into
force as of 1 January 2015 of the formal ruling procedure.

The importance of economic substance and business purpose for
Luxembourg structures also continues to grow as seen in recent EU
Member State Tax Court cases involving Luxembourg holding companies
and the European Commission’s (“EC”) recent
announcement on curtailing the use of “shell
companies”.

Luxembourg transfer pricing continues to expand its relevance
and is now more than ever intertwined with Luxembourg tax planning
to achieve robust and sustainable structures for multinationals,
alternative investments and cross-border financing.

Significant deals and themes

With respect to alternative investment funds (“AIFs”),
the Special Limited Partnership (“SCSp”) continues to be
the favoured investment vehicle, and the Reserve Alternative
Investment Fund (“RAIF”) also continues to be the most
popular regulatory regime, while Luxembourg Specialised Investment
Funds (“SIFs”) and Luxembourg investment companies in
risk capital (commonly referred to as “SICARs”) are less
frequently chosen. Over the past year, AIFs focused in particular
on opportunistic/special situations investments and real
estate.

Over the past 12 months, Luxembourg has experienced phenomenal
double-digit growth in financing transactions. During this very
busy period, a huge volume of new securitisation schemes and
financing arrangements have been implemented. We can also confirm a
sustained surge of refinancing for existing arrangements, accession
of new borrowers, renegotiation of extended terms, higher advance
rates and technical provisions, as well as the creation of new
compartments.

We have also witnessed a significant recovery of the real estate
finance market, after a significant slowdown at the start of
COVID-19. In 2021 to date, the real estate financing boom has
resulted in a substantial increase in cross-border acquisitions and
renovation development projects being financed via Luxembourg
structures. Notably, there is also a market trend to increasingly
use the “securitisation fund” vehicle (tax transparent)
in light of the impact of recent anti-abuse rules, such as the
impact of ATAD II’s interest limitation rules
(“ILRs”) on certain securitisation vehicles in corporate
form.

For multinational corporate groups, the level of M&A
activity has steadily risen over the past 12 months and the use of
Luxembourg “special-purpose acquisition companies”
(“SPACs”) has manifested and are expected to grow in
transaction volume.

As with 2020, COVID-19 has not had a direct disruptive effect on
the organisation and management of structures set up and
established in Luxembourg, mainly due to the government responses
in 2020 that continue to apply as of the writing of this
update.

Key developments affecting corporate tax law and practice

COVID-19 updates

COVID-19 crisis: Exceptional corporate governance measures for
Luxembourg companies The Grand Ducal Decree of 20 March 2020
introduced temporary exceptional measures to maintain and
facilitate the effective ongoing governance of Luxembourg companies
during the pandemic and adapt these rules to the restrictions on
travel and social distancing. Notably, the exceptional measures
overrule the normal requirement for physical board and shareholder
meetings. The governing bodies of any Luxembourg company are still
allowed, notwithstanding any provision to the contrary in the
articles of association, to hold board and shareholder meetings
without requiring the physical presence of their members. These
emergency measures authorise such meetings to be validly conducted
by way of written circular resolutions, video conference or other
telecommunication means so long as the identification of the
members of the corporate body participating in the meeting can be
documented.

These emergency measures continue to override anything to the
contrary in the Luxembourg Company Law Code (Law of 10 August 1915)
as well. The emergency measures also authorise electronic
signatures for validating corporate governance documents. As of the
submission of this update, these measures are expected to continue
into the foreseeable future.

Cross-border workers

The Luxembourg tax authorities have confirmed extensions of the
existing tax agreements for cross-border workers working from their
countries of residence without adverse tax implications. These
COVID-19 waivers are extended for both French and Belgian resident
cross-border workers until 30 June 2021, whereas Germany and
Luxembourg agreed to automatically renew the COVID-19 waiver on a
monthly basis as from 1 January 2021 until such time as one party
may object to any further automatic renewals.

As of the writing of this update, Luxembourg’s political
leaders continue to meet and plan for continued emergency measures
as the pandemic continues deep into 2021. We expect these measures
also to remain in force for the foreseeable future.

VAT zero rate for COVID-19 vaccines and testing

Intra-community acquisitions and importations of approved
COVID-19 vaccines, medical devices and related services should
benefit from VAT at a 0% rate until 31 December 2022. This is based
on an EU Directive of 2020 covering the VAT treatment of COVID-19
vaccinations and related products and services.

DAC6 updates

On 25 March 2020, Luxembourg enacted the law transcribing
Council Directive (EU) 2018/822 related to Administrative
Cooperation (commonly known as “DAC6”), which introduced
disclosure obligations for intermediaries and taxpayers of certain
reportable cross-border arrangements (“DAC6 Law”).
Pursuant to the DAC6 Law, information on certain cross-border
arrangements that meet defined hallmarks must be reported to the
Luxembourg tax authorities.

The DAC6 Law requires intermediaries and, in some cases, even
taxpayers (if there is no intermediary or if the intermediary is
bound by professional secrecy) to report certain cross-border
arrangements to the Luxembourg tax authorities. A reportable
cross-border arrangement must involve at least one EU Member State
(with or without a third country) and meet one or more hallmarks,
which can be either “generic” or “specific”
hallmarks.

All “reportable arrangements” must be reported within
30 days as from when the transaction is available, ready or
implemented (whichever is sooner). Failure to comply with the scope
of the reporting obligations, pursuant to Luxembourg’s DAC6
Law, can result in penalties of up to EUR 250,000, varying
according to the intentional nature of the fault.

Domestic laws and regulations

On 19 December 2020, Luxembourg’s Parliament enacted the
2021 budget law, which included the following notable changes:

  • Introduction of a 20% levy on income derived from Luxembourg
    real estate held by investment funds in corporate form including
    undertakings for collective investment (“UCIs”), SIFs and
    RAIFs (SIF tax regime). Generally, tax-transparent entities are
    outside the scope of the levy including limited partnerships (i.e.,
    SCS and SCSp) and common placement funds (“FCPs”). It is
    worth mentioning that even if the 20% levy will apply for 2021, a
    reporting obligation is introduced for 2020 and 2021 for all UCIs,
    SIFs and RAIFs (SIF tax regime) even in the absence of Luxembourg
    real estate income. In the future, the filing obligation of the 20%
    levy return will not apply to vehicles that do not have any
    Luxembourg real estate income.
  • Luxembourg private wealth management companies
    (société de gestion de patrimoine familial, or
    “SPFs”) are no longer authorised to indirectly hold real
    estate assets through one or more partnerships (established in
    Luxembourg or abroad), FCPs, or foreign taxtransparent entities.
    However, SPFs indirectly holding real estate through joint-stock
    companies continue to be allowed.
  • As from 2021, the stock option and warrant plan tax regime is
    repealed and replaced with a new bonus that allows employees to
    benefit from a premium of up to a 50% tax exemption on qualifying
    compensation. However, the new bonus scheme is subject to several
    conditions, including that premiums cannot exceed 5% of the
    company’s profits from the prior year and the premium per
    employee cannot exceed 25% of the total compensation (excluding any
    bonus paid under the premium).
  • Updates to the “impatriate tax regime” granting tax
    incentives to encourage high-value executives and workers to
    relocate to Luxembourg.
  • Expanding Luxembourg’s fiscal unity regime allowing a
    vertically integrated fiscal unity group to expand into a
    horizontally integrated group without triggering the dissolution of
    the prior fiscal unity group. The new law comes in the wake of a
    recent European Court of Justice (“ECJ”) case, which
    ruled in favour of such a transition of a Luxembourg fiscal unity
    group.
  • A reduced rate of subscription tax for qualifying UCIs
    investing primarily in sustainable investments. The rate of the
    reduced subscription tax ranges from 0.01% to 0.04% depending on
    the percentage of net assets invested in the qualifying sustainable
    economic activities.

New law disallowing interest and royalty deduction for EU
non-cooperative tax jurisdictions entered into force

A new anti-abuse rule entered into force on 1 March 2021 that
disallows the tax deductibility of interest and royalties payable
to related corporate entities located in the EU’s list of
non-cooperative jurisdictions for tax purposes. The new anti-abuse
rules should generally not impact transparent entities, such as
limited partnerships, and in such case would require a look through
to the limited partners of such entities for their application.
These new rules come as part of the European Council’s
guidelines encouraging all EU Member States to implement
legislative defensive measures with respect to jurisdictions on the
Annex I list (currently comprising American Samoa, Anguilla,
Dominica, Fiji, Guam, Palau, Panama, Samoa, Seychelles, Trinidad
and Tobago, US Virgin Islands and Vanuatu).

New circular confirming Gibraltar does not benefit from the
EU Parent Subsidiary Directive

On 1 December 2020, Luxembourg tax authorities confirmed, via a
tax circular, the exclusion of Gibraltar companies from benefitting
from the EU Parent Subsidiary Directive (“PSD”) under
Luxembourg domestic law as from 1 January 2021. The position is in
line with a recent decision by the ECJ, which ruled that the PSD
concepts of “companies incorporated in accordance with the
law of the UK” and of “corporation tax in the
UK” do not apply to companies incorporated in Gibraltar
and which are subject to Gibraltar corporation tax. It is worth
noting that Gibraltar companies may still be eligible under
Luxembourg tax law for certain domestic exemptions for dividends
received, capital gains, and net worth tax (conditions apply
including being subject to a “comparable” corporate
income tax to Luxembourg’s).

New circular providing guidance on ATAD I’s
ILRs

On 8 January 2021, the Luxembourg tax authorities issued a
circular providing guidance on ATAD I’s ILRs. In particular,
the circular provides detailed clarifications on how to interpret
certain definitions and apply the rules with several examples.

Pursuant to ATAD I, Luxembourg implemented the ILRs with effect
as of 1 January 2019. The ILRs provide that the deduction of
exceeding borrowing costs of a taxpayer is limited to 30% of
taxable EBITDA or EUR 3,000,000, whichever is higher. The exceeding
borrowing costs correspond to the amount by which the deductible
borrowing costs of a taxpayer exceeds taxable interest revenues and
other economically equivalent taxable revenues.

The circular includes a detailed expansion and clarification of
the examples of borrowing costs. It also specifies in particular
that only foreign exchange gains or losses relating to the interest
of a debt are included in the definition of borrowing costs,
whereas foreign exchange gains and losses arising from the
principal amount are not taken into account. The circular also
elaborates that deductions related to the impairment of receivables
does not trigger any borrowing costs for the creditor.

While ILRs do not define the notion of taxable interest income
and other economically equivalent taxable revenues, the circular
now confirms that this concept should be interpreted consistently
and symmetrically with the notion of borrowing costs. From this
perspective, at least in a pure domestic context, amounts that are
not considered borrowing costs at the level of the borrower are, in
principle, not to be considered interest income and other
economically equivalent taxable revenues.

The circular notably includes the following guidance as
well:

  • The grandfathering clause, which states that exceeding
    borrowing costs related to loans contracted before 17 June 2016 are
    excluded from the ILRs. However, this exclusion does not extend to
    any subsequent changes in these loans. The circular provides
    guidance on what would constitute a disqualifying subsequent
    modification. For example, it clarifies that subsequent
    modifications of the debt instruments terms and conditions would
    constitute a disqualifying amendment, whereas simply calling for
    additional drawdowns of an existing facility loan would not.
  • Other provisions of the law denying the tax deductibility of
    expenses (e.g., interest expense in relation to exempt dividends or
    expenses no longer deductible under antihybrid rules) have to apply
    before the ILRs to identify deductible borrowing costs. Similarly,
    tax adjustment of profits (up and down) under transfer pricing
    rules also has to first be taken into account before applying the
    ILRs.
  • Confirmation that the EUR 3,000,000 limitation cap is available
    per each 12 month accounting year, though for short accounting
    years the entire EUR 3,000,000 is still available (i.e., no pro
    rata reduction in the limit).

Luxembourg ATAD II reverse anti-hybrid rules enter into
force for tax years ending in 2022

Pursuant to ATAD II, Luxembourg’s ATAD II “reverse
hybrid rule” becomes applicable to Luxembourg entities for tax
years ending in 2022. Luxembourg’s adaptation of this law
provides that a Luxembourg transparent entity (such as an SCS or
SCSp) can be recharacterised as being subject to Luxembourg
corporate income tax if the following conditions are fulfilled:

  • one or more associated entities hold in the aggregate a direct
    or indirect interest in 50% or more of the voting rights, capital
    interests, or rights to profits in the Luxembourg transparent
    entity;
  • these associated entities are located in jurisdictions that
    regard the Luxembourg transparent entity as tax opaque; and
  • to the extent that the profits of the Luxembourg transparent
    entity are not subject to tax in the jurisdiction of the associated
    enterprises or any other jurisdiction.

However, there is an exception to this reverse hybrid rule,
which applies when the transparent entity is a “collective
investment vehicle”, which is defined as an investment fund
that is widely held, holds a diversified portfolio and is subject
to investor protection regulation in Luxembourg. The Luxembourg
legislative notes suggest that Luxembourg regulated funds (UCITS,
SIFs) and funds under regulated management (RAIFs), as well as AIFs
within the meaning of the EU Directive, should qualify for this
exemption.

New circular on mutual agreement procedures

A tax circular providing guidance on the process for initiating
the mutual agreement procedures (“MAP”) under double tax
treaties was issued by the Luxembourg tax authorities on 11 March
2021. The MAP aims to provide a mechanism to resolve, by means of a
non-judicial procedure, cross-border tax disputes arising from the
interpretation or application of a double tax treaty provision. The
MAP is based on specific provisions of double tax treaties, which
are generally aligned with Article 25 of the latest OECD Model Tax
Convention.

Domestic cases and litigation

Luxembourg case on the treatment of revaluation
reserves

On 10 December 2020, the Luxembourg Administrative Court
overturned a decision by the Administrative Tribunal, which had
previously ruled in favour of a Luxembourg default tax assessment,
which included revaluation reserves in the company’s taxable
profits. The Administrative Court ruled that only actually realised
capital gains should be included in the taxable income and thus
disallowed the revaluation reserve amount to be included in taxable
income.

Luxembourg Court rules in favour of information exchange by
Belgian tax authorities (Transfer Pricing Audit)

On 16 December 2020, a Luxembourg Court agreed with the
Luxembourg tax authorities to dismiss a challenge by a Luxembourg
company related to requests of tax information and exchange.
According to the request made by the Belgian tax authorities, there
were several inconsistencies in the transfer pricing documentation
and remuneration of the Luxembourg company in question.
Accordingly, the Luxembourg tax authorities sent information
requests to the Luxembourg entity in question. The Luxembourg
company argued that the Belgian tax authorities’ request lacked
sufficient motivations and reasons for the request. Ultimately, the
Luxembourg Court dismissed the objection raised by the Luxembourg
company for lack of sufficient grounds and ordered the requested
exchange of information heavily focused on transfer pricing to
proceed.

This case illustrates how transfer pricing-based audits by EU
tax authorities are increasing and demonstrates the Luxembourg tax
authorities’ willingness to cooperate with such information
requests from neighbouring tax authorities.

Luxembourg Court rules on tax treatment of hybrid
instruments (MRPS)

On 10 May 2021, the Luxembourg Administrative Court rendered a
decision related to mandatory redeemable preferred shares
(“MRPS”) where the Luxembourg tax authorities refused
their debt qualification for income and net wealth tax purposes.
The MRPS are preferred shares treated as equity from a Luxembourg
legal and accounting perspective. However, for tax purposes, they
were usually issued with characteristics to be treated as debt. The
Court concluded in favour of the equity qualification of the MRPS
at hand based on their legal features but also on the grounds that
an equity funding of the investment was economically consistent and
that the taxpayer had failed to demonstrate that a different
qualification for tax purposes was motivated by considerations
other than tax considerations. Finally, the Court noted that the
taxpayer was not entitled to rely on past tax administrative
practice and that tax treatment of the instruments was not covered
by a tax letter.

This case, which focused on the hybrid analysis (debt vs equity)
of the MRPS, demonstrates that use of hybrid instruments may become
increasingly the focus of tax litigation and scrutiny by the
Luxembourg tax authorities.

Luxembourg Court

On 11 May 2021, the Administrative Court refused to respect the
contributions made by a shareholder to an equity account without
issuing shares (“account 115”) of a Luxembourg company
for the purpose of determining whether its parent company held a
participation representing an acquisition price of at least EUR
1,200,000 (as an alternative to the minimum shareholding
representing at least 10% of the share capital of the subsidiary)
under the Luxembourg withholding exemption regime for
dividends.

This case demonstrates the importance of having solid accounting
and business purpose supporting positions taken for Luxembourg tax
purposes such as having the minimum amount of equity for purposes
of applying Luxembourg’s domestic tax exemption regimes.

Tax treaty updates

New Russia-Luxembourg Protocol to the double tax treaty
(“Protocol”)

Russia and Luxembourg negotiated a new Protocol to the existing
double tax treaty, which entered into force on 5 March 2021. The
new Protocol notably increases withholding tax rates for dividends
and interest and is consistent with recently renegotiated tax
treaties that Russia has with Cyprus and the Netherlands.
Conversely, Russia’s tax treaty with Ireland has not been
renegotiated (as of the submission date of this update) and still
has comparably lower withholding taxes on interest.

The Protocol increases the withholding tax on dividends from 5%
of the gross amount to a new rate of 15%. However, the lower 5%
rate may still be applicable to certain beneficial owners
including: insurance undertakings; pension funds; listed companies
on a stock exchange (conditions apply) directly holding 15% of the
capital of the dividend payer for 365 days; governments (including
subdivisions thereof); and central banks.

It is worth highlighting that Luxembourg has a domestic
withholding tax exemption on dividends available to corporate
shareholders resident in a tax treaty jurisdiction (conditions
apply) and this domestic exemption should still be available for
qualifying Russian corporate shareholders despite the treaty’s
increase in withholding tax rates.

The new Protocol introduces a withholding tax of 15% on the
gross amount of interest paid, whereas the prior rate had provided
for no withholding tax on interest (only residents’
jurisdiction had taxation rights). A reduced 5% rate applies on
certain interest payments made to beneficial owners who are listed
companies on a stock exchange (conditions apply) holding directly
15% of the capital of the interest payer for 365 days. Also, a
withholding on interest exemption may still be applicable to the
following beneficial owners: insurance undertakings; or pension
funds. Furthermore, certain securities are excluded including
Eurobonds, government or corporate bonds.

It is also worth highlighting that Luxembourg generally does not
impose withholding tax on interest (exceptions apply) and this
domestic exemption will continue to apply in Luxembourg regardless
of the treaty’s increased withholding tax rates.

Other tax treaty developments

As of 31 May 2021, Luxembourg’s tax treaty network has
expanded to 84 tax treaties in force, six pending ratification and
eight under negotiation. The new double tax treaty concluded with
Botswana entered into force during 2021. Treaties currently under
negotiation include Chile, Mali and Kyrgyzstan. Tax treaties
pending ratification include Kuwait and Albania.

OECD and EU developments

Amazon wins appeal against the EC’s State Aid
accusations

On 12 May 2021, the General Court of the European Union
(“General Court”) ruled in favour of Amazon on its appeal
against EU State Aid charges citing that the EC had failed to prove
any specific tax advantage in its transfer pricing-focused
charges.

The case relates to tax years 2006 to 2014, where the Amazon
group had a Luxembourg transparent limited partnership
(“LuxSCS”) that held valuable IP rights related to
technology, trademarks, and customer lists. The LuxSCS received
substantial royalty payments from its wholly owned Luxembourg
tax-resident subsidiary (“LuxOpCo”).

These royalty payments caused a large portion of Amazon’s
European-related profits to be outside of Luxembourg taxation due
to the transparent nature of the LuxSCS. The core of the EC’s
arguments included the following:

  • the LuxSCS did not have any physical presence or employees in
    Luxembourg and had only one function, which was to passively hold
    the IP rights;
  • the LuxOpCo functioned as the European headquarters of the
    Amazon group with a robust physical presence and several key
    functions including operating Amazon’s European online retail
    and sales business and managing inventory;
  • Luxembourg should have applied more appropriate transfer
    pricing methodologies, which, if so applied, would have resulted in
    lower royalty payments and a thus higher taxable base for the
    LuxOpCo;
  • the LuxSCS was only providing a mere “intermediary
    function” and thus Luxembourg should have applied the
    “transactional net margin method” (i.e., costs plus a
    percentage mark-up);
  • the Luxembourg tax authorities agreed erroneously via a
    Luxembourg tax letter on applying inappropriate methods of transfer
    pricing including the comparable uncontrolled price and the
    residual profits split method;
  • as a result, Luxembourg conferred on the Amazon Luxembourg
    entities an unfair selective tax advantage by excessively eroding
    the LuxOpCo’s tax base and thereby shifting too much profit to
    the tax-transparent LuxSCSp in violation of the arm’s length
    standard; and
  • the EC also relied heavily on applying the 2017 OECD transfer
    pricing guidelines even though the tax years in question were
    related to prior years before such updated guidelines had been
    issued.

After a detailed analysis of the EC’s arguments, the General
Court ruled that the EC simply did not provide a convincing case
based on its challenges of transfer pricing methods that Luxembourg
awarded a selective tax advantage to the Amazon Luxembourg
entities.

It is worth highlighting that the General Court stated that
“the mere fact” of setting up a structure solely
for the purpose of tax optimisation via an intragroup royalty
structure is not sufficient in itself to support a conclusion that
there is a selective tax advantage constituting State Aid.

The Amazon appeal is particularly relevant going forward for the
following reasons:

  • it highlights the ever-increasing importance of applying OECD
    transfer pricing methodologies correctly to all related party
    transactions;
  • the EC will continue to investigate State Aid cases where EU
    Member States grant selective tax advantages (unlike Amazon, the
    General Court has found State Aid in transfer pricing-focused tax
    rulings such as with Fiat); and
  • the General Court rejected the EC’s “ex post
    facto” application of 2017 OECD transfer pricing
    guidelines and instead applied the OECD 1995 transfer pricing
    guidelines.

It is worth noting that Amazon’s Luxembourg structure was
reorganised in 2017. The use of such a transparent Luxembourg
limited partnership now would likely result in adverse tax
consequences by application of more recent anti-abuse measures
found in ATAD I and II. Notably, ATAD II’s reverse hybrid rule
may trigger Luxembourg corporate income tax at the level of the
otherwise transparent LuxSCS if such a structure existed into 2022
given its hybrid nature (the LuxSCS was tax transparent for
Luxembourg tax purposes but tax opaque from a US tax point of view,
the jurisdiction of its shareholder in the Amazon Group).

ENGIE loses appeal on EC’s State Aid findings

Also on 12 May 2021 (the same day Amazon won its appeal), the
General Court upheld the EC’s State Aid charges against the
ENGIE Group (formerly GDF Suez). The ENGIE case is particularly
unique because the State Aid charges focused on Luxembourg’s
domestic general anti-avoidance rules, as well as its
interpretation that Luxembourg had inconsistently applied its
participation exemption rules.

The ENGIE case involved a series of Luxembourg tax rulings
covering multiple Luxembourg entities, which included the use of
mandatory redeemable convertible bonds (a.k.a. “ZORAs”)
and forward sale contracts of shares, which resulted in
tax-deductible amortisations on the ZORA but no corresponding
taxable income pick-up within ENGIE’s Luxembourg corporate
group.

The European Court agreed with the EC’s charges of State Aid
by taking the “economic approach” and linking the various
seemingly separate transactions, which, when taken together,
resulted in the mismatch of taxable deductions and exempt income
elsewhere. The resulting exemption was due to Luxembourg’s
domestic rules at the time, which did not tax the appreciation of
convertible debt when converted into equity.

This case demonstrates that the EC has a variety of avenues of
attack when launching State Aid charges.

It is worth noting that, as part of the ATAD I tax reforms,
Luxembourg has already amended its tax laws, which now consider a
conversion of debt into equity as a deemed taxable sale of the debt
at the market value followed by a conversion into equity (i.e., the
mismatch that occurred in the ENGIE case would be fully taxable if
the conversion of the ZORAs were to occur in 2021).

Italian Supreme Court affirms Luxembourg holding company
benefits from EU PSD

In its decision dated 10 July 2020, the Italian Supreme Court
rejected the Italian tax authorities’ argument that a
Luxembourg holding company (“LuxHoldCo”) was merely a
conduit entity and thus subject to Italian withholding tax at 26%
rather than the withholding tax exemption under Italy’s
adoption of the EU Royalty and Interest Directive. The judgment
hinged in particular on whether LuxHoldCo was the beneficial owner
of interest payments received from its Italian subsidiary.

The decision is quite relevant as the Italian Supreme Court
applied the criteria for beneficial ownership and economic
substance as elaborated in the so-called ECJ Danish Holding Cases,
which laid out criteria on whether intermediate EU holding
companies can benefit from EU Directives providing withholding tax
exemptions. The Italian judges cited the following as the basis for
the beneficial ownership test being met and thus favourably
applying the EU Directive-based withholding tax exemptions to
LuxHoldCo:

  • the mere fact that LuxHoldCo engaged only in carrying out group
    holding and intragroup financing was not enough to automatically
    consider it a conduit company;
  • LuxHoldCo made independent management decisions regarding its
    activities and items of income (including the Italian source
    interest in question);
  • its functions were for the benefit of the group (not only for
    the Italian subsidiary) noting that there were loans to multiple
    group entities;
  • there was no binding legal obligation for LuxHoldCo to pay
    onward any interest it had received from the Italian subsidiary;
    and
  • the net commercial profits of LuxHoldCo earned from its group
    holding and intragroup financing activities were adequate from a
    transfer pricing point of view given its specific
    functionalities.

This case is particularly relevant as it demonstrated that
EU-based intermediate holding companies (Luxembourg, Ireland,
Netherlands, etc.) can still benefit from EU Directives on
withholding tax exemptions by application of the ECJ’s tests
found in the Danish Holding Cases. It also reinforces the
increasing importance of economic substance, transfer pricing and
beneficial ownership criteria in international tax structures.

OECD BEPS 2.0

On 12 October 2020, the OECD published two reports in connection
with the ongoing project on addressing the tax challenges arising
from the digitalisation of the economy (BEPS 2.0). These reports,
referred to as “blueprints”, address what have come to be
known as Pillar One and Pillar Two of BEPS 2.0. They do not reflect
an agreement as no consensus has been reached but the OECD launched
a consultation period with a view to reaching consensus by
mid-2021.

Pillar One seeks to introduce a new international framework
under which more of the profits of global multinationals
(“MNCs”) would be allocated to market jurisdictions.
Pillar Two intends to implement a global minimum tax rate for MNCs
on a jurisdictionby-jurisdiction basis.

Proposed new framework for business taxation in the
EU

On 18 May 2021, the EC adopted a Communication on Business
Taxation for the 21st Century (the “Communication”),
which takes into account the G20/OECD discussions on global tax
reform and sets out a long-term and short-term vision to support
the EU’s recovery from the COVID-19 pandemic. The framework
focuses on several aspects, which could impact Luxembourg corporate
taxation. The Business in Europe: Framework for Income Taxation has
an objective of attaining a single corporate tax rulebook for the
EU. Secondly, the Communication also defines a tax agenda for the
next two years with measures that focus, inter alia, on
greater transparency for large corporate groups within the EU and
the curtail of “shell companies” via additional
anti-avoidance measures. The Communication suggests the future
possibility of legislative measures defining substance requirements
for corporate entities within the EU.

OECD released Multi-Lateral Instrument (“MLI”)
Guiding Principles

On 3 May 2021, the OECD released an opinion approved by the
Conference of the Parties to the MLI setting out “Guiding
Principles” on the interpretation of the MLI by the various
participating jurisdictions. The main principles focus on
interpreting the MLI in light of the BEPS-related measures.

European Parliament establishes a “Tax
Subcommittee” aimed at tax abuse and avoidance

In 2020, the European Parliament recently established a
Subcommittee on Tax Matters (“FISC”) and its objectives
including curbing tax avoidance and abuses within the EU. As of the
writing of this submission, the FISC so far has not produced any
recommendations or reports to the public.

The year ahead

As we have already witnessed into 2021, EU Member State tax
authorities continue to focus attention on beneficial ownership,
business purposes, economic substance and transfer pricing with
respect to cross-border structures and financing arrangements.
Prudent international tax planning should include a high-priority
focus on such aspects.

DAC6 should now become an integral part of the initial planning
of any international corporate, investment or financing structure
to assess what mandatory reporting obligations could be
applicable.

With respect to the coming year, the AIF space should continue
to prosper with particular focus on alternative asset classes and
the suitability of the SCS/SCSp and RAIF structures for such
investment vehicles.

We also expect to see a significant increase in Luxembourg as
the location of SPAC transactions and increasing M&A activity
as the post COVID-19 economy progresses.

Lastly, we should expect to see the OECD BEPS Pillar 2.0 start
to materialise in shape and policy as 2021 progresses, with
particular focus on how the global minimum tax would apply to
Luxembourg structures within the EU and beyond.

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