Luxembourg tax authorities have issued a circular issued on 9 January 2015 that clarifies the tax status of income earned by Luxembourg limited partnerships (LP). The Circular implements the AIFM Directive (AIFMD) into Luxembourg law, and by doing so, it creates the special limited partnership (société en commandite spéciale, SCSp), and changing the corporate and tax laws applicable to the normal Limited Partnership (société en commandite simple, SCS).
Tax treatment of Luxembourg Limited Partnerships (LPs)
While SCS and SCSp are tax transparent entities, they are not subject to Luxembourg corporate income tax (CIT). However, if they effectively perform a commercial activity or if their activity is commercially tainted, their business may be considered commercial and thus subject to Luxembourg municipal business tax (MBT), which is levied at a rate of 6.75 percent in Luxembourg-city) provided that the general partner of the SCS or SCSp is a joint stock company which owns a partnership interest of at least 5 percent ).
The AIFM Law, enacted in 2013, made it easier to apply commercial tainting to Luxembourg limited partnerships. Prior to 2013, the presence of a minimum partnership stake wasn’t a requirement. Thus, to make the SCS’s income commercial, the presence of a general partner established as a joint-stock company was enough.
Promoting Luxembourg private equity, hedge funds and real estate investment funds
The AIFM Law’s modification was welcomed by the alternative investment fund industry since it made setting up private equity funds, hedge funds, and real estate funds as a Luxembourg Limited partnership more appealing, decreasing the number of instances when their income would be subject to MBT. Still, because their revenue could be subject to MBT if a commercial activity is successfully carried out, it was unclear whether this activity required to be classified as a commercial activity or as a private wealth management activity exempt from MBT.
Application to AIFs set up as Luxembourg LPs
The Circular discusses the criteria to be used to distinguish between management of commercial activity and private wealth, citing Luxembourg and German case law. According to the Circular, whether a SCS or SCSp engages in commercial activity (or not) must be determined on a case-by-case basis, based on the fund’s individual investment strategy. The size of the fund’s assets and the fact that certain assets must only be held for a short period of time before being sold are important factors to consider, however it is important to note that these aren’t the only factors to consider while determining if the activity qualifies as commercial under Luxembourg tax law.
Regulated AIFs are never subject to MBT because their tax regime provides such exemptions, these includes AIFs that are established as SIF (specialised investment fund), SICAV/SICAF, or SICAR (risk capital investment company).
This also applies to AIFs that are based outside of Luxembourg that are exempt from Luxembourg net wealth tax, MBT, and CIT under the AIFM Law.
In the case of other AIFs that fall under the AIFM Law but are not regulated under the SICAR, SIF, or UCI Law, the tax authorities clarify that their activity is not a commercial activity by definition, given the investment requirements they must meet and the guidelines issued by the European Security and Market Authority. It means that, with the exception of a general partner having a minimum 5% partnership stake in the AIF, an AIF as defined by the AIFM Law is never subject to Luxembourg MBT, implying that the establishment of this form of investment vehicle is tax-free.
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