Luxembourg tax update

comment - 02 June 2014

Luxembourg tax update

The new government has made clear its commitment to maintaining and improving the competitiveness of the Financial Place while demonstrating a responsible approach to ensuring the proper collection of international tax. This position seems to be reflected in a series of recent developments. We also include a word of warning about tax agreements.

Tax commitment
The Finance Minister, Pierre Gramegna, gave at commitment at a recent meeting of the Luxembourg Private Equity Association that the new government would not increase taxation on industry during its current term (LPEA). He specifically stated that this commitment included the rather controversial minimum taxation of companies introduced by his predecessor, Luc Frieden.

Formerly, holding companies could generally register for VAT under the simplified regime (even if they did not make a taxable supply). This meant that these companies had no right to recover any input VAT incurred; however, this VAT was incurred in Luxembourg (i.e. the place of supply) at an advantageous marginal rate. This position seems to have been revisited by the tax authorities that now take the view that holding companies are no longer registrable and to do so ‘delocalises the place of supply‘. The consequences of this are:

- VAT costs will increase on supplies provided by EU suppliers
- No VAT will attach to supplies from non-EU jurisdictions that do not apply a sales’ tax regime
- There will be a reduction in the overall amount of VAT collected by the Luxembourg authorities

Transfer pricing
The Luxembourg government is planning a new law on transfer pricing to replace the ill-defined circular published by the tax authorities. This defined transfer pricing in overly broad terms and focussed unnecessarily on substance issues. It is hoped that the government dispenses with substance concerns and focuses solely on situations where there is actual cross-border base erosion or transfer pricing. This should simplify current practice and reduce the burden of reviewing ‘APA’ requests.

The Luxembourg authorities will no doubt take direction from the transfer pricing decree recently published in the Netherlands (No. IFZ2013/184M). This decree anticipates the re-categorisation of loans as equity to the extent that they exceed arms’ length principles. In a back-to-back investment context, however, where deductibility is ultimately determined at a portfolio level, then we would hope that the new Luxembourg law recognises the non-abusive nature of a financing company and any loans provided to it by a private equity fund. The only real question, which is not a transfer pricing one, is the level of taxable margin in Luxembourg that the tax authorities will demand on?

Tax agreements – please be careful!
Taxation is determined by law. Tax agreements are obtained simply to clarify the meaning of law or simplify its operation in smaller jurisdictions that lack the resources of larger Member States. This practice is non-abusive (contrary to what some maintain) and can achieve greater operational transparency and efficiency. Tax agreements, however, must be negotiated with a proper understanding of the commercial context in which they are being sought or risk giving rise to significant tax liabilities (e.g. by disallowing tax deductible losses and recognising accounting gains). Draft agreements should always be carefully reviewed before submission as we continue to come across errors within these documents.

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