| Direct
Corporate Taxation |
In
Luxembourg there are three main taxes impinging on businesses:
Corporate Income Tax, the Municipal Business Tax on Profits,
and the Fortune Tax (a wealth tax). Of course there is also
VAT, and there are withholding taxes.
Scope
of Income Tax
Corporate
Income Tax, or Impot sur le Revenu des Collectivites (IRC),
was introduced during the German occupation in 1940/41 as
Korperschaftssteure. In accordance with the general rule that
a tax once introduced never dies, the Luxembourg tax authorities
decided to keep this interesting German innovation after the
war, although it was substantially modified by the Loi du
4 decembre 1967 portant sur l'impot sur le revenu.
Resident
companies are taxed on their world-wide income. Residence
for this purpose means that the business has its main establishment
in Luxembourg, that is, the place from which it is managed,
where it holds its general meetings, and where it performs
central administrative functions. Non-resident companies having
a 'permanent establishment' in Luxembourg (defined as a place
of business or fixed equipment, which would normally include
branches) pay income tax on their income originating in Luxembourg.
IRC
applies to corporate entities, which includes SAs, SARLs,
and Partnerships Limited by Shares (Societes en Commandites
par Actions). Other types of partnership are considered fiscally
transparent, here as elsewhere, so that tax is assessed directly
on the partners rather than the partnership as such.
There
are some tax incentives available for investors who are considered
to be supporting the economic development of the country under
the laws of 28th July 1923, 27th July 1972, and the Tax Reform
Law of 6th December 1990. These apply to specified industries
and investment situations, and apply equally to Luxembougeouis
and foreign investors.
NB:
A Luxembourg 'holding' company, which is the form normally
used for offshore operations, is not subject to IRC. See
Offshore Legal and Tax Regimes
for details of the taxes payable by 'holding' companies. See
Forms Of Company for details
of the European Commission's attempt to reduce the tax benefits
offered to holding companies.
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Income
Tax Rates
The
rate of tax 20% for income lower than 10,000 EUR, 2,000 EUR
+ 26% of the income included between 10,000 EUR and 15,000
EUR, and 22% of the income beyond 15,000 EUR.
There
is a 5% employment fund surcharge and a charge of about 7.5%
in respect of municipal services (see below). This latter
component can vary according to location, and in Luxembourg
City it fell to 6.75% in 2006, taking the top corporate rate
to 30.63%.
Calculation of Taxable Base
For companies,
IRC is normally assessed for income arising in the previous
fiscal year, which is the calendar year unless a company has
chosen otherwise.
For
resident Luxembourg companies 'income' for the purposes
of the IRC is calculated by comparing the net worth (net balance
sheet assets) of the taxable entity at the beginning and end
of the period concerned. Businesses with turnover below LUF
2 million (subject to some other limits) may be able to use
a simplified 'receipts and expenses' method of calculation,
but this is not pursued further here.
The
normal accounting principles applied in the formation of a
company's 'commercial' balance sheet in Luxembourg are those
of the 4th EU Company Law Directive (but there are special
regimes for most types of financial institution); the 'fiscal'
balance sheet used for calculating IRC is based on the commercial
balance sheet, but some types of income and expense are treated
differently for fiscal purposes.
NB:
Although for general information some very brief details are
given below about the calculation of IRC, this is not a full
treatment of what is a complex subject and requires appropriate
professional advice.
Allowable
expenditure needs to be incurred exclusively and directly
for the business; certain types of expense are not deductible,
of which the most important are directors' fees, self-insurance
provisions, foreign taxes and expenses connected with 'exempt'
income. The 'foreign taxes' rule would seldom operate in practice,
either because of a Double Taxation
Treaty, or because of Luxembourg unilateral tax credit
provisions. 'Exempt income' is income qualifying under the
Luxembourg Participation-Exemption system, meaning dividends,
interest, capital gains or royalties income received from
another company in which the receiving company has a share
interest greater than 10%, providing the paying company is
in a jurisdiction levying at least 15% tax on such payments.
Note that the interest costs on debt finance of such a exempt
share interest would only be deductible up to the level of
the exempt income received.
Profit
distributions in the course of a year (widely defined) are
added back to net worth at the end of the year prior to calculation
of IRC.
Evidently,
rules for asset valuation are particularly crucial in a 'net
worth' income tax system. In Luxembourg there are rules dealing
with what assets are to be included, their valuation, and
permitted depreciation. The rules cover land and buildings,
leased assets, goodwill, participation in other companies,
inventory etc. The treatment of provisions is likewise important
and is covered by a set of rules. Foreign exchange gains and
losses can also have a major impact on valuation of foreign
assets, and are dealt with under rules that provide for their
'neutralisation' (deferral) in many circumstances.
There
are some tax credits available for certain types of investment
into assets for use inside Luxembourg itself.
Losses
at the taxable income level can be carried forward, but not
back. Group relief exists under 'fiscal integration' provisions,
applying subject to permission from the Minister of Finance
with some differences to 99% and 75% participation. The rules
for valuation of 'substantial participation in other companies'
would have the same effect as group relief up to a point since
a reduction in the net worth of a subsidiary would be reflected
in a reduced valuation in the parent balance sheet.
For
non-resident corporate entities, IRC applies to:
- Income attributable
to a Luxembourg permanent establishment (but see Double
Taxation Treaties regarding the definition of such);
- Passive
Luxembourg-sourced income such as dividends, interest,
royalties and capital gains (see Withholding Taxes below
as regards the taxability of income under this heading);
- Income from
immovable property in Luxembourg;
- Interest
on loans secured by immovable property in Luxembourg.
The
calculation of taxable income is the same as it is for a Luxembourg-resident
corporation. This means that if the non-resident operation
does not fall under the LUX 2 million turnover limit, allowing
the simplified 'receipts and expenses' calculation, then it
will have to keep 'normal' accounts and tax will be calculated
on a net worth basis as described above.
It
follows that any foreign company doing business in Luxembourg
should either use a 'holding
company' structure, or else should be extremely careful
not to create a permanent establishment in the country. With
exceptions under Double Taxation
Treaties, 'permanent establishment' is defined to
include 'branches, factories, warehouses, place of purchase
and sale, landing areas, offices or any other place of business
which the entrepreneur uses to carry out its business'. The
definition is looser under OECD-model Double Tax Treaties,
which would for instance not count warehouses as constituting
permanent establishment. E-commerce servers used for sales
purposes would however probably amount to permanent establishment
in either case, and this might be the case whether or not
the server was owned by the company doing the selling. It's
not a risk to take.
In
July, 2006, the
European Commission called on Luxembourg to comply with the
judgement of the European Court of Justice in the case of
Commission v. Grand-Duché de Luxembourg, delivered
on 8 December 2005.
In
this Judgment, the European Court of Justice declared that
Luxembourg has failed to fulfil its obligations to transpose
Directive 2001/65/EC on accounting rules into its national
legal order.
Directive
2001/65/EC amends Directives 78/660/EEC, 83/349/EEC and 86/635/EEC.
These Directives define which types of companies have to produce
accounts, establish which format should be used for the profit
and loss account and the balance sheet and lay down which
valuation principles should be applied. The Directives also
impose requirements to disclose the accounts.
Directive
2001/65/EC brought EU accounting requirements into line with
modern accounting theory and practice. It allows for certain
financial assets and liabilities to be valued at fair value.
This will enable European companies to report in conformity
with current international developments.
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Municipal Business Tax on Profits
The legislative
origins of the Municipal Business Tax on Profits (MBTP) are
similar to those of the IRC. However it applies to all types
of partnership engaged in commercial activity as well as to
companies, whether resident or non-resident.
The
calculation of taxable income for the MBTP is identical to
that for the IRC, with certain specified additions and deductions
which are mostly but not entirely concerned to remove the
activities of foreign permanent representations (ie those
outside Luxembourg), this being a tax paid to the municipality
for its services.
The
rate of the MBTP varies depending on the municipality; in
Luxembourg City it is 6.75% as from 2006; the tax is payable
on taxable income over EUR17,500. The MBTP is no longer, as
it used to be, counted as an expense in its own calculation.
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The Fortune Tax
The Fortune
Tax (Net Worth Tax) is levied on resident and non-resident
corporate entities (so excluding fiscally-transparent partnerships).
For businesses, the two main components of Net Worth are Real
Estate Unitary Value (in effect, the value of buildings in
1941 when the Germans imposed the tax!) and Business Net Worth
which is an adjusted version of net worth as calculated for
the Corporate Income Tax.
The
rate of tax is 0.5%. However, for most companies the amount
of Fortune Tax payable is offsettable against Corporate Income
Tax subject to some balance sheet reserve requirements.
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Taxation of Partnerships
For
all partnerships engaged in commercial activity, the Municipal
Business Tax on Profits is payable. For Societes en
commandites par actions only among partnerships (Partnership
Limited by Shares), the Corporate Income
Tax (IRC) and the Fortune Tax are payable in addition.
For
fiscally transparent partnerships, see Personal
Taxation as regards the taxation of individual Luxembourg-resident
partners.
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Filing Requirements and Payment of Tax
Entities
subject to Corporate Income Tax or the Municipal Business
Tax on Profits should submit corporate tax returns by 31st
May of the year following the end of the financial year, and
the tax is due for payment within one month of the receipt
of the resulting tax assessment. However, advance tax payments
have to be made on a quarterly basis (10th March, 10th June
etc) and these are based on the tax assessment of the preceding
tax year, with adjustments in either direction made at the
time of final assessment. Fortune Tax payments also have to
be made quarterly, but on 10th February, 10th May etc.
Withholding Tax
Until 2004,
the withholding tax regime required companies to deduct withholding
tax from payments made in respect of dividends (25%), profit
shares (variable), royalties (10% to 12%), directors' remuneration
(20%), management fees (28.2%) and auditors fees (39.7%).
However the rate of withholding on interest payments is nil.
Under
the EU participation exemption rules, dividends paid to a
company having at least a 25% share in the paying company
are exempt from withholding tax (the stake must have been
held for 12 months before the end of the accounting period
in respect of which the dividend is being paid; and the paying
company must be subject to a 'high-tax' corporation tax regime,
which of course includes Luxembourg).
Changes
to the parent/subsidiary directive in 2004 have reduced the
holding requirement to 20% for 2005-06; to 15% for 2007-08;
and to 10% for 2009 onward. Under the EU's Directive on Interest
and Royalties, also in effect from 2004, both types of payment
are exempt from withholding tax if they are between associated
companies (rules as for the participation exemption).
Luxembourg
has actually gone even further, meaning that there is no withholding
tax on royalties paid to non-resident companies, and Luxembourg
holding companies incorporated according to the terms of the
law of 1929 are not subject to such withholding tax either.
In line with the directive, the laws came into force retrospectively,
with effect from January 1st 2004.
It
isn't all good news, however. Luxembourg is being forced to
comply with the EU's Code of Conduct Committee's campaign
against 'harmful tax practices' by modifying the dividend
taxation regime for 1929 holding companies. Currently, 1929
holding companies are exempt from all Luxembourg taxes, with
the exception of the annual subscription tax levied on their
net asset value and the capital contribution tax. Thus, a
1929 holding company can receive dividends from a foreign
subsidiary and claim an exemption, even if the distributing
subsidiary is not subject to tax or is subject to a tax regime
that is notably more advantageous than the regime applicable
to fully taxed Luxembourg resident subsidiaries.
Under 2005 legislation, a 1929 holding company loses its tax-exempt
status if at least 5% of its dividends received relate to
foreign participations that are not subject to tax at a rate
comparable to the Luxembourg corporate income tax rate. An
effective tax rate is considered to be comparable if it is
at least 11%, equating to approximately one-half of the current
corporate income tax rate that applies to regular resident
taxpayers and is in line with the tax rate generally applicable
to dividends received from participations that do not qualify
for a full exemption.
Further,
the taxable base needs to be determined under a method similar
to the methods used in Luxembourg. An auditor or accountant
is required to certify annually that the eligibility requirements
have been met. A 1929 holding company that loses its tax-exempt
status is subject to the normal corporate income tax regime.
For
newly incorporated 1929 holding companies, the amendment applied
as from 1 January 2004. For existing 1929 holding companies
(i.e. those incorporated under the law applicable before 1
January 2004), the new rules will apply as from 1 January
2011.
In
2006, the European Commission attacked the holding company
tax regimes in total, and it is likely that the existing regimes
will be terminated, with a 'sunset' period until 2010 for
companies already in existence.
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