LUXEMBOURG Law and Practice Contributed by: Romain Tiffon and Marie Bentley, ATOZ Tax Advisers
mum of 95% by the same non‑integrated parent enti - ty. The integrating and integrated entities may be fully taxable Luxembourg companies or Luxembourg per - manent establishments of foreign companies subject to a tax comparable to Luxembourg CIT. The non‑inte - grated parent may be a fully taxable Luxembourg company, a Luxembourg permanent establishment of a foreign company, a foreign company resident in an EEA member state and subject to a compara - ble tax, or a permanent establishment located in an EEA member state of such a foreign company. Even though the parent is not part of the consolidation, the 95% shareholding requirement must still be met. All integrating and integrated entities must share the same financial year‑end. Where the 95% shareholding is held indirectly, all intermediary companies must themselves be corpo - rate entities fully subject to a tax comparable to Lux - embourg CIT. Tax consolidation takes effect only upon written request to the Luxembourg tax authorities and applies retrospectively from the start of the fiscal year in which the request is filed. Once elected, the regime must be maintained for at least five tax years. 5.5 Thin Capitalisation Rules and Other Limitations In the absence of statutory thin‑capitalisation rules under Luxembourg tax law, the principles set out in Chapter X of the OECD Transfer Pricing Guidelines on financial transactions, released on 11 February 2020, serve as the primary reference point. Consequently, a Luxembourg company’s debt‑to‑equity ratio must, in practice, be supported by a debt‑capacity analysis carried out as part of a transfer pricing assessment. Where the level of indebtedness is considered exces - sive, related interest payments may be recharacter - ised as hidden profit distributions, resulting in the denial of the tax deduction and potentially triggering Luxembourg dividend withholding tax. Historically, the commonly used 85%/15% debt‑to‑equity ratio for shareholding activities has not been systematically challenged, although the Luxem - bourg tax authorities have, in certain cases, requested formal debt‑capacity analyses. More recently, how -
ever, the Administrative Court has clarified that this 85/15 practice does not have any legally binding force. 5.6 Transfer Pricing Luxembourg’s transfer pricing framework is anchored in Article 56 of the Income Tax Law, which empow - ers the tax authorities to adjust a company’s taxable income when transactions between associated enter - prises diverge from arm’s length conditions. This may lead to an upward adjustment where a Luxembourg entity confers an undue advantage on a related party – for example, by paying interest at a rate above arm’s length – or, conversely, to a downward adjustment where the Luxembourg entity is the beneficiary of such an advantage. Separately, Article 164 (3) of the Income Tax Law pro - vides that hidden dividend distributions – meaning benefits granted to a shareholder that would not have been provided absent the shareholding relationship, such as interest charged at a rate above arm’s length – are not deductible for tax purposes. These rules governing hidden distributions operate alongside the transfer pricing framework and may, in certain cases, take precedence over arm’s length adjustments. 5.7 Anti-Evasion Rules Luxembourg rarely challenges the application of tax treaties. Nonetheless, domestic legislation includes a general anti‑abuse rule (GAAR), as well as the anti‑abuse provision of the EU Parent–Subsidiary Directive, under which treaty or directive benefits may be denied when an arrangement is primarily designed to obtain a tax advantage. Since 1 January 2019, Luxembourg’s domestic GAAR has been aligned with the wording of ATAD 1, intro - ducing the concept of a “non‑genuine arrangement”. Under this rule, a transaction may be disregarded or recharacterised when all of the following conditions are met: • the arrangement involves the use of one or more legal forms or legal structures; • the main purpose, or one of the main purposes, of using such legal forms or structures is to obtain a tax benefit that defeats the object or purpose of the applicable tax law; and
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