On 9 March 2022, the Ministry of Finance brought Bill 7974 before Parliament, which amends the current interest deduction limitation rule (IDLR) by removing EU-regulated securitisation vehicles (SVs) from the exemption provided for financial undertakings.
The Luxembourg IDLR was introduced by the law dated 21 December 2018, which implemented the EU Anti-Tax Avoidance Directive (Council Directive (EU) 2016/1164) (ATAD 1). Under this rule, the list of financial undertakings that benefit from an exemption also includes SVs governed by EU Regulation 2017/2402 of the European Parliament and the European Council of 12 December 2017, which established a general framework for securitisation and creating a specific framework for simple, transparent and standardised securitisation (SVs covered by the EU Regulation).
When implementing ATAD 1 into its domestic law, Luxembourg took the position to extend the list of financial undertakings that fall under the scope of ATAD 1 to SVs covered by the EU Regulation, thereby derogating them.
In practice, this means that interest expenses or economically equivalent costs that are incurred by SVs under the EU Regulation can be deducted without limitation.
In May 2020, the European Commission sent a letter of formal notice to Luxembourg requesting an amendment of this rule. The European Commission argued that ATAD 1 included an exhaustive list of entities that are considered as "financial undertakings" for the purpose of the exemption. By including SVs covered by the EU Regulation into the list of "financial undertakings", the European Commission considered that Luxembourg rules went beyond the range of exemptions allowed by ATAD 1.
Since Luxembourg failed to amend its domestic legislation within the required deadline mentioned in the formal notice, in December 2021, the European Commission sent a reasoned opinion to Luxembourg for incorrect implementation of ATAD 1. Luxembourg was called again to amend its legislation to correctly transpose the IDLR set out by ATAD 1 to avoid the case to be brought before the Court of Justice of the European Union. It is, therefore, in this context that the Luxembourg government has introduced this new bill.
Once the bill is adopted, Luxembourg SVs that are covered by the EU Regulation will become fully subject to the IDLR. Therefore, exceeding borrowing costs that are incurred by Luxembourg SVs (covered by the EU Regulation or not) will be deductible up to the higher of €3 million or 30% of the undertaking's earnings before interest, taxes, depreciation and amortisation for each financial year (unless any other exception applies). The bill does not currently provide for a retroactive effect of the amendment. Therefore, it is questionable whether the European Commission will consider this amendment sufficient.
The new bill amending the IDLR was proposed at the same time as the new Luxembourg securitisation law was adopted. Among the most relevant features, this recent legislation now allows SVs to be incorporated under the legal form of a partnership. As a tax-transparent entity for corporate income tax, a partnership should be an alternative in the future to fall out of the material scope of the Luxembourg IDLR, subject to the application of the reverse hybrid rules.
Finally, while ATAD 1 does not include SVs covered by the EU Regulation as exempt vehicles, the recent draft of ATAD 3 includes such entities as those carved out from the scope of the draft directive (for further details please see "ATAD 3: how will the EC's proposal targeting shell companies play out in Luxembourg?").
If the amended IDLR provision is adopted, it should become applicable from 2023. Consequently, corporations should evaluate their tax structures to assess any potential risks.
For further information on this topic please contact Frédéric Feyten, Alejandro Dominguez, Vicente Chapa or Delphine Danhoui at CMS Luxembourg by telephone (+352 26 27 53-1) or email ([email protected], [email protected], [email protected] or [email protected]). The CMS Luxembourg website can be accessed at www.cms.law.