ATAD 1 - Amendments to Luxembourg draft law

The Draft Law introduces a new Article 168bis into the text of the principal legislation (the Income Tax Law of 4 December 1967 (“LITL”)), setting out new interest deduction limitation rules in line with Article 4 of ATAD 1.

The limitation will apply to “exceeding” borrowing costs. These are defined as the tax deductible borrowing costs that are in excess of the taxable interest revenues and other economically equivalent taxable income of the taxpayer.

The exceeding borrowing costs of a taxpayer will be deductible in a tax period only up to the higher of i) 30 % of the taxpayer’s net revenues before interest, tax, depreciation and amortisation (“EBITDA”) or ii) 3 million euros.

The initial Draft Law provided for a grand-fathering of loans concluded before 17 June 2016. The amendments revert to the exact wording of ATAD 1 and thus clarify that said exclusion will not extend to any subsequent modification of the loans.

The tax unity option has still not been included meaning that there is no possibility to apply those limitations on a consolidated basis for companies being part of a tax unity.  Also, no other prior questions have been addressed, for example, definition of stand-alone entities (relevant for securitisation vehicles) or clarification of definitions of interest-equivalent income and borrowing costs. 

The draft law introduces a new Article 164ter into the LITL, setting out new controlled foreign company (“CFC”) rules in line with Articles 7 and 8 of ATAD 1.

Luxembourg has opted for option B, as foreseen by Article 7 (2) (b) of ATAD 1, thus targeting non-distributed income of CFCs arising from non-genuine arrangements which have been put in place for the essential purpose of obtaining a tax advantage.

The amendments clarify that the notion of non-distributed income is to be assessed by reference to the taxpayer (i.e. entity where the inclusion has to be done). Distributions from the CFC to a subsidiary of the taxpayer (not a CFC itself) would therefore be of no relevance.

As a reminder, the draft law contains ATAD 1 anti-hybrid provisions (i.e. covering only intra-EU hybrid instruments and hybrid entity mismatches) in a new Article 168ter LITL. The hybrid mismatches measures of ATAD 2, covering a wider range of intra-EU mismatches, but also mismatches with third countries, will be included in a subsequent law expected in the course of 2019, and having effect from 1 January 2020 (which is hence expected to replace, as from that date, the provisions that will be applicable on 1 January 2019).

Article 168ter LITL closely follows Article 9 of ATAD 1. A “hybrid mismatch” is defined as arising when differences in the legal characterisation of a financial instrument or entity in an arrangement structured between the taxpayer and a party in another Member State, or when the commercial or financial relations between a taxpayer and a party in another Member State, give rise to the following consequences:

a) A deduction of the same expenses or losses occurs both in Luxembourg, and in another Member State where the expenses or losses originated (“double deduction”); or

b) There is a payment in Luxembourg in which the deduction has its source, without a corresponding inclusion of the corresponding income in the total net revenues in the other Member State (“deduction without inclusion”).

Amendment was made to item (b) above to revert to the wording of ATAD 1, thus clarifying that this type of mismatch may arise from payments.

For taxpayers within its scope, the provision of the draft law will apply for tax years starting as from 1 January 2019 except for the provisions relating to:

• exit tax, which apply to tax years starting as from 1 January 2020
• modifications to §6 (General Anti-Abuse Rules) of the Luxembourg Adaption Law which apply as from the 2019 tax year to the extent that the taxpayer realises certain types of income (i.e. salary, pension, income from movable assets, rental income and income listed in article 99 LITL)

 Only the last dash is a change compared to the initial draft law.

These amendments are a clear indication of the new Luxembourg government’s willingness to try to formally have an adoption of the draft law still before year-end in order to comply with EU requirements.