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Policy, trends and developments
Describe the general government/regulatory policy for transfer pricing in your jurisdiction. To what extent is the arm’s-length principle followed?
The legal framework for transfer pricing in Luxembourg is derived from, and thus in line with, the guidelines of the Organisation for Economic Cooperation and Development. Accordingly, the arm’s-length principle is a key aspect of the transfer pricing framework in Luxembourg. The Luxembourg tax administration can therefore make adjustment to transactions between associated enterprises that deviate from the arm’s-length principle.
Trends and developments
Have there been any notable recent trends or developments concerning transfer pricing in your jurisdiction, including any regulatory changes or case law?
Luxembourg amended its legislation on transfer pricing in December 2016 in order to include explicitly the arm’s-length principle in Luxembourg tax law and the comparability analysis as the method of choice to determine compliance therewith. Circular 56/1–56bis/1 of December 27 2016 provides additional guidance regarding the application of such concept to intra-group financing activities (www.impotsdirects.public.lu/content/dam/acd/fr/legislation/legi16/ circulairelir561-56bis1-27122016.pdf). The trend is clearly evolving towards stronger requirements for the taxpayers in terms of transfer pricing documentation, which will also receive more scrutiny from the Luxembourg tax authorities.
Domestic legislation and applicability
What primary and secondary legislation governs transfer pricing in your jurisdiction?
The Luxembourg Income Tax Law is the main primary legislation governing transfer pricing. The key provisions of the primary legislation are Articles 56, 56bis and 164(3) of the Income Tax Law and Paragraph 171(3) of the General Tax Law. Secondary legislation consists of Circular LIR 56/1–56bis/1 of December 27 2016. Since the release of Action 13 of the Base Erosion and Profit Shifting (BEPS) Report of the Organsation for Economic Cooperation and Development (OECD), Luxembourg enacted a law on December 23 2016 on country-by-country reporting. Administrative notices complete this law, transposing into national law EU Directive 2016/881 on the mandatory automatic exchance of information in the field of taxation and, for practical details, the recommendations of BEPS Action 13 (www.impotsdirects.public.lu/fr/echanges_ electroniques/CbCR.html).
Are there any industry-specific transfer pricing regulations?
Luxembourg does not have specific transfer pricing regulations for different sectors. The general provisions are applicable to all taxpayers involved in intra-group transactions. Circular 56/1–56bis/1, however, provides specific additional guidance to taxpayers involved in intra-group financing activities. This circular includes a list of factors that must be taken into account when preparing a transfer pricing analysis (the determination of the minimum capital-at-risk and the return on said capital). It also provides certain simplification methods, if applicable.
What transactions are subject to transfer pricing rules?
Transfer pricing rules apply to all transactions involving associated companies as defined in Article 56 of the Luxembourg Income Tax Law.
How are ‘related/associated parties’ legally defined for transfer pricing purposes?
The term ‘associated/related parties’ is defined in Article 56 of the Luxembourg Income Tax Law. Two entities will be deemed to be related parties if :
- one entity participates directly or indirectly in the management, control or capital of the another entity; or
- the same persons participate directly or indirectly in the management, control or capital of two entities.
Are any safe harbours available?
Luxembourg tax law has no specific safe harbour rules. The taxpayers should endeavour to find comparable transactions to support the arm’s-length aspect of intra-group transactions. Although the issue has not yet been specifically mentioned or tested in the Luxembourg courts, the authors believe that the proportionality principle that exists in the relevant OECD transfer pricing guidelines (OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax administrations, July 2017, p236, D1, 5.28) should apply under Luxembourg law (ie, the cost and administrative burden to justify the arm’s-length aspect of a transaction should be proportionate to the amounts at stake in a transaction). For entities rendering financial services to group companies and acting as a simple intermediary, a simplification method is however provided in Circular 56/1–56bis/1. In this case, a minimum return of 2% after tax will be deemed to respect the arm’s-length principle. The minimum return of 2% will be reassessed regularly by the Luxembourg tax authorities on the basis of the market conditions. The use of this simplification methodology must be mentioned in the tax return and will automatically result in an exchange of information by the Luxembourg tax authorities with the other relevant tax authorities.
Which government bodies regulate transfer pricing and what is the extent of their powers?
When reviewing a taxpayer’s tax files, the tax departments within the Luxembourg Inland Revenue also verify that transactions with related parties comply with the arm’s-length principle. There is therefore no specific department in charge of transfer pricing. The tax departments, however, obtain advice and assistance from the Economic Department, which is a specific section at the head/management level of the Inland Revenue. The headcount in that department increased significantly over the past few years in parallel with the strengthening of the transfer pricing rules in Luxembourg.
Which international transfer pricing agreements has your jurisdiction signed?
Luxembourg signed the Country-by-Country Reporting Agreement elaborated by the OECD. Further, most of the double tax treaties signed by Luxembourg include a specific provision regarding transfer pricing adjustment.
To what extent does your jurisdiction follow the Organisation for Economic Cooperation and Development (OECD) Transfer Pricing Guidelines?
Luxembourg legislation is in line with the OECD Transfer Pricing Guidelines through the inclusion of their key principles in Article 56bis of the Luxembourg Income Tax Law. This provision transposes in domestic tax law Actions 8 to 10 of the OECD BEPS (see Parliamentary discussion on Article 3 of the Draft Bill 7050/00 pp67-69, www.chd.lu/wps/portal/public/Accueil/TravailALaChambre/Recherche/RoleDesAffaires?action=doDocpaDetails&id=7050).
While the OECD Transfer Pricing Guidelines are not part of the national legislation, Luxembourg issued no reservation in their regards; consequently, the legislator and the courts frequently refer to their principles.
Transfer pricing methods
Which transfer pricing methods are used in your jurisdiction and what are the pros and cons of each method?
Luxembourg tax law is aligned with the Transfer Pricing Guidelines of the Organisation for Economic Cooperation and Development (OECD). As a result, the global formulary apportionment is not considered an appropriate method to determine an arm’s-length price. The five methods detailed in the OECD guidelines (the comparable uncontrolled price method, the resale price method, the cost plus method, the transactional net margin method and the transactional profit split method), which can be split into two categories (the traditional transactions methods and the transactional profit methods), are accepted and acceptable provided, of course, that the taxpayer is able to justify that the method chosen for the determination of an arm’s-length price is the most appropriate in the case at hand.
Ultimately, the burden of proof is with the taxpayers; accordingly, the use of, for instance, the comparable uncontrolled transactions should be substantiated by the availability of comparable transactions without significant differences (geographical location, quantities, transport conditions, insurance, payments modalities…). Likewise, using this method in a market involving few companies, intangible assets or high-value added services would have to be substantiated as well, as it is generally more complicated or it requires significant adjustments to take into account differences with the comparable transactions at hand. In such cases, a different method may be more suitable, depending on the characteristics of the services and the result of the functional analysis.
Preferred methods and restrictions
Is there a hierarchy of preferred methods? Are there explicit limits or restrictions on certain methods?
There is no hierarchy of preferred methods. The method used should be the most appropriate one. The comparable uncontrolled price method is the most commonly used one.
What rules, standards and best practices should be considered when undertaking a comparability analysis?
The comparability analysis should identify the commercial or financial relations between the associated companies and determine the economically significant circumstances attached to those relations to delineate accurately the controlled transaction. The comparability analysis should then compare the conditions and the circumstances of the intra-group transaction with the ones of comparable transactions of unrelated companies.
Are there any special considerations or issues specific to your jurisdiction that associated parties should bear in mind when selecting transfer pricing methods?
There are no such special considerations or issues in Luxembourg.
Documentation and reporting
Rules and procedures
What rules and procedures govern the preparation and filing of transfer pricing documentation (including submission deadlines or timeframes)?
Save for country-by-country reporting, there is no compulsory filing requirement for transfer pricing documentation in Luxembourg. The taxpayer may therefore decide to join the transfer pricing document to its tax return or to wait until it is requested by the tax administration, on the basis of Paragraph 171(3) of the General Tax Law, to justify the arm’s-length price of the transactions with related parties.
What content requirements apply to transfer pricing documentation? Are master-file/local-file and country-by-country reporting required?
There is no specific content requirement in Luxembourg. The transfer pricing documentation should be in line with the rules set out in the Transfer Pricing Guidelines of the Organisation for Economic Cooperation and Deveopment (OECD). As regards, specifically, country-by-country reporting, the information that must be provided is that requested in EU Directive 2016/881 on the mandatory automatic exchange of information in the field of tax and Action 13 of the Base Erosion Profit Shifiting (BEPS) Report – that is, for each tax jurisdictions:
- the amount of revenue, profit before income tax, and income tax paid and accrued;
- the number of employees, stated capital, retained earnings and tangible assets; and
- each entity within the group doing business in a particular tax jurisdiction and an indication of the business activities that the entities are engaged in.
Luxembourg entities that are part of a ‘MNE Group’ (multinational entreprises, as defined in BEPS Action 13), but that are not the reporting entity, are subject to a notification requirement.
Luxembourg has currently no primary legislation regarding the filing of the ‘Master File’ and ‘Local File’ as defined in BEPS Action 13.
What are the penalties for non-compliance with documentation and reporting requirements?
Luxembourg taxpayers have a general duty of cooperation with the Luxembourg tax authorities. In case the taxpayer is not able to justify the arm’s-length aspect of the transactions that it entered into with related parties, the tax administration should proceed, based on Article 56 of the Luxembourg Income Tax Law, to an adjustment of the tax base.
What best practices should be considered when compiling and maintaining transfer pricing documentation (eg, in terms of risk assessment and audits)?
Taxpayers should keep the relevant documentation for at least 10 years and the transfer pricing documentation should be reviewed on a regular basis in order to ensure that:
- it is still up-to-date; and
- it can be provided within a short timeframe in case of tax audit or information request from the tax administration.
As a general rule, the level of detail, description, comparable analysis, etc in the transfer pricing documentation should be commensurable with the tax amount at stake.
Advance pricing agreements
Availability and eligibility
Are advance pricing agreements with the tax authorities in your jurisdiction possible? If so, what form do they typically take (eg, unilateral, bilateral or multilateral) and what enterprises and transactions can they cover?
Luxembourg law provides the possibility to request a ruling from the Luxembourg tax authorities and this includes rulings on transfer pricing issues (ie, advance pricing agreement or APA). Most APAs are unilateral and deal with the tax treatment in Luxembourg of transactions involving tax resident enterprises. There is no limitation as regards the enterprises and transactions that can be covered by an APA.
Bilateral and multilateral APAs should be available through a mutual agreement procedure. The Luxembourg tax authorities issued in August 2017 Circular LG–Conv DI 60 (www.impotsdirects.public.lu/content/dam/acd/fr/legislation/legi17/lg-convdi-60.pdf) providing additional guidelines related to the mutual agreement procedure. This circular specifically refers to transfer pricing issues.
Rules and procedures
What rules and procedures apply to advance pricing agreements?
The procedure related to APAs is set in Paragraph 29a of the General Tax Law and in a Grand-Ducal decree of December 23 2014. Circular LIR 56/1–56bis/1 of December 27 2016 provides further details regarding enterprises involved in intra-group financing activities. The rules and procedures applicable to any ruling requests also apply to APAs.
The APA request should include a transfer pricing analysis that is compliant with the Transfer Pricing Guidelines of the Organisation for Economic Cooperation and Development (OECD), as well as:
- a precise designation of the taxpayer;
- the parties involved;
- their respective activities; and
- a detailed description of the envisaged operations that have not yet produced their effects.
How long does it typically take to conclude an advance pricing agreement?
The timeframe depends on the complexity of the APA, but a taxpayer can generally expect to conclude an APA within a couple of months of the ruling committee receiving all the relevant information and the filing fee is paid.
What is the typical duration of an advance pricing agreement?
The APA is granted for a maximum period of five years, unless the economic circumstances have changed or if the APA subsequently no longer complies with domectic, EU or international laws.
What fees apply to requests for advance pricing agreements?
The filing fees for an APA range from €3,000 to €10,000. The amount will depend on the complexity of the APA.
Are there any special considerations or issues specific to your jurisdiction that parties should bear in mind when seeking to conclude an advance pricing agreement (including any particular advantages and disadvantages)?
The main advantage of concluding an APA is to ensure more certainty in the tax treatment of transactions between related parties. A taxpayer seeking to conclude an APA should be aware that the APA will be automatically exchanged with all the affected jurisdictions (Action 5 of the OECD Base Erosion Profit Shifiting Report).
Review and adjustments
Review and audit
What rules, standards and procedures govern the tax authorities’ review of companies’ compliance with transfer pricing rules? Where does the burden of proof lie in terms of compliance?
There is no specific procedure for the review of compliance with transfer pricing rules: the general procedure of the General Tax Law (Paragraphs 171(3) and 205) is applicable. On the basis of the principle that each party should be heard (adversarial principle), the tax authorities have to request further information on the transactions between related parties if the authorities consider that the arm’s-length principle included in the Luxembourg tax code is not respected. Taxpayers should collaborate with the tax authorities and provide them with the transfer pricing documentation. If needed, the tax administration should request further documentation or clarification. If, ultimately, the tax authorities consider that the information provided by the taxpayer does not demonstrate that the price of the transaction between related parties was at arm’s length, then the authorities will adjust the taxable profit/loss. The burden of proof lies with the taxpayer.
Do any rules or procedures govern the conduct of transfer pricing audits by the tax authorities?
There are no specific rules or procedures for the conduct of transfer pricing audits.
What penalties may be imposed for non-compliance with transfer pricing rules?
Specific penalties related to transfer pricing non-compliance apply only for country-by-country reporting. The penalty for a resident constituent entity of an multinational group or for the reporting entity amounts to maximum €250,000.
What rules and restrictions govern transfer pricing adjustments by the tax authorities?
Transfer pricing adjustments by the Luxembourg tax authorities are based on Article 56 of the Luxembourg Income Tax Law: adjustments are made in order to achieve the profit that unrelated enterprises would realise.
How can parties challenge adjustment decisions by the tax authorities?
Once the tax assessments are issued, the standard procedure is applicable: the taxpayer will first have to file a claim with the head of the Inland Revenue. In case of a negative answer and in the absence of an answer after six months, the taxpayer can introduce a claim before the Lower Administrative Court. An appeal against the Lower Administrative Court decision must be made before the Higher Administrative Court.
Mutual agreement procedures
What mutual agreement procedures are available to avoid double taxation arising from transfer pricing adjustments? What rules and restrictions apply?
The mutual agreement procedure is available only when a double tax treaty has been signed with the other jurisdiction and a specific mutual agreement provision is included in the treaty. In August 2017 the Luxembourg tax authorities issued Circular LG–Conv DI 60 (www.impotsdirects.public.lu/content/dam/acd/fr/legislation/legi17/lg-convdi-60.pdf), which provides additional guidelines on the mutual agreement procedure. This procedure is available in three cases:
- a disagreement between the tax administration and a taxpayer, who considers that the action of one or both of the contracting states results, or will result, in taxation for such taxpayer that is not in accordance with the provisions of the relevant double tax treaty;
- difficulties or doubts arising as to the interpretation or application of a double tax treaty requiring a common action of the contracting states; and
- a consultation between the contracting parties to eliminate double taxation in cases not covered in the double tax treaty.
What legislative and regulatory initiatives has the government taken to combat tax avoidance in your jurisdiction?
Luxembourg tax law includes several provisions to combat tax avoidance – mainly, a general ‘abuse of law’ provision and a ‘substance over form’ provision.
Recently, Luxembourg has amended its participation exemption regime in order to introduce the general anti-abuse rule (GAAR) and the anti-hybrid provision of the EU Parent Subsidiary Directive.
It has also increased the penalties for tax evasion and tax fraud.
Luxembourg will also implement EU Directive 2016/1164, whose aim is to ensure a coordinated implementation in the European Union of the principles set out by the Base Erossion Profit Shifting Report of the Organisation for Economic Cooperation and Development (OECD) as regards hybrid mismatches (Action 2), controlled foreign corporations rules (Action 3), limitation of interest deductions (Action 4) and GAAR (Action 6).
To what extent does your jurisdiction follow the OECD Action Plan on Base Erosion and Profit Shifting?
Luxembourg has signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting.
Luxembourg has also implemented several measures regarding the automatic exchange of information and, among others, the US Foreign Account Tax Compliance Act Rules, the OECD Common Reporting Standard and the OECD Country-by-Country Reporting Agreement.
Is there a legal distinction between aggressive tax planning and tax avoidance?
Under Luxembourg tax law, a taxpayer remains entirely free to choose the most tax-efficient route (tax planning) for the purpose of carrying on its business. The tax authorities will, however, be entitled to challenge a structure from the moment that it constitutes an abuse of law (tax avoidance) – that is, when the structure is legal but no longer respects the spirit of the law. Case law has identified four cumulative criteria that must be met for a situation to be considered an abuse of law:
- private law forms and institutions are used;
- taxes are reduced;
- an inappropriate path is used; and
- there are no non-tax reasons justifying the use of the chosen path.
Luxembourg tax law differentiates situations of abuse of law (tax avoidance) from situations where there is a breach of law. In the latter case, penalties and, in some cases, criminal penalties are applicable.
What penalties are imposed for non-compliance with anti-avoidance provisions?
There are no specific penalties for an abuse of law, but the tax authorities will adjust the amount of tax to the amount that would have been payable under a ‘non-abusive’ structure.
Tax evasion (Paragraph 396(1) of the General Tax Law – ‘fraude fiscale’) can lead to a tax increase equivalent to 50% of the avoided taxes. Aggravated tax evasion (Paragraph 396(5) of the General Tax Law – ‘fraude fiscale aggravée’) can lead to a fine of at least €25,000 and up to six times the avoided taxes. In cases of tax fraud (Paragraph 396(6) of the General Tax Law – ‘escroquerie fiscale’), the tax increase can amount to 10 times the avoided taxes. In addition to the penalties and increase of the tax amount, aggravated tax evasion and tax fraud are punishable by between one month and three years and one month and five years’ imprisonment, respectively.