Circular L.I.R. No. 168quater/2, issued by the directeur des contributions on 12 August 2025 (the “Circular”), which has been recently published, clarifies the definition of “undertaking for collective investment” within the meaning of Article 168quater, paragraph 2, of the (the “ITL”).
Background
Article 168quater, paragraph 2 of the ITL was introduced by a law of 20 December 2019 in the context of the transposition of Article 9bis of the ATAD Directive (Council Directive (EU) 2016/1164 of 12 July 2016), on combating tax avoidance practices.
This provision concerns the tax treatment of reverse hybrid entities, incorporated or established in the Grand Duchy of Luxembourg, which are considered fiscally transparent under Luxembourg law, provided that one or more affiliated companies within the meaning of Article 168ter, paragraph 1, number 18 of the ITL:
· are non-residents,
· hold directly or indirectly 50% or more of the voting rights, capital, or profit-sharing rights in these entities, and
· are located in a jurisdiction or jurisdictions that consider these hybrid entities to be taxable persons in the Grand Duchy of Luxembourg.
This article applies to entities covered by Article 175 of the ITL (partnerships – i.e. sociétés en nom collectif – , limited partnerships, special limited partnerships, economic interest groups…) and arrangements set up or established in the Grand Duchy of Luxembourg, whose income is considered to be the income of one or more other natural persons or entities within the meaning of Articles 159, 160 or 175 of the ITL: this refers to most companies, whether or not they have a legal personality separate from that of their partners/shareholders.
In this context, the reverse hybrid entity is deemed to be a tax resident in the Grand Duchy of Luxembourg and corporate income tax will apply to its income that is not taxed under the ITL or under the law of any other jurisdiction.
Finally, a law dated 23 December 2022 specified in this article that the non-taxation of net income earned by the unit holder through the fiscally transparent entity must result from a difference in qualification between Luxembourg law and the law of the jurisdiction of this unit holder. This will not be the case if the unit holder benefits from a subjective exemption in their country of residence.
Article 168quater, paragraph 2 of the ITL provides for a specific exclusion for undertakings for collective investment (“UCI”), to which Article 168quater, paragraph 1, discussed above, does not apply. The Circular specifies the conditions under which an entity may be classified as a UCI in this context.
- Automatic qualification
The Circular first specifies that the activity of an undertaking or mutual fund must, by definition, be limited to the pursuit of an investment objective, to the exclusion of any commercial activity within the meaning of Article 14 of the ITL. According to the Circular, this notion therefore covers the same entities as those mentioned in the comments on the draft law that introduced Article 168quater into the ITL:
· Luxembourg undertakings for collective investment within the meaning of the Law of 17 December 2010 relating to undertakings for collective investment,
· specialized investment funds (“SIFs”) within the meaning of the Law of 13 February 2007 relating to specialized investment funds (“SIF Law”) and
· reserved alternative investment funds within the meaning of the Law of 23 July 2016 on reserved alternative investment funds.
- Qualification based on cumulative criteria
If the undertakings or mutual funds (the “Entities”) do not fall into any of the categories referred to in the previous paragraph, the Circular sets out the interpretation to be given to the conditions set out in Article 168quater, paragraph 2 of the ITL, which are:
· A broad participation
· A diversified securities portfolio
· Subjection to investor protection rules in the State where it is established.
- Broad participation
The shares or partnership interests of the Entities must be marketed for distribution to several unaffiliated investors, it being understood that in the case of master entities held by one or more feeder funds, the criterion is assessed in relation to the investors in the feeder fund(s).
(i) Plurality of investors
This criterion is not absolute, insofar as, for example, a transitional period of 36 months may be allowed during the launch phase.
(ii) Absence of links between these investors
The Circular specifies that two investors are considered affiliated when:
· one holds, directly or indirectly, at least 50% of the voting rights or capital of the other, or a natural person or other entity holds, directly or indirectly, such a participation in the voting rights or capital of both investors
· there is a family relationship, this concept being interpreted broadly and including, in particular, a civil partner, a related person, or the civil partner of a related person
· taking into account all relevant facts and circumstances, one controls the other or both are controlled by the same natural persons or entities.
This condition is generally presumed to be met when no investor who is a natural person owns or controls, directly or indirectly, more than 25% of the capital or voting rights of that entity, or controls it by other means.
The competent office may, where appropriate, refer to the Register of Beneficial Owners.
- Diversified securities portfolio
The Circular states that the term “securities” includes:
· Shares, partnership interests, and other similar securities giving or potentially giving access to the capital of a legal person
· Profit-sharing interests
· Bonds and other debt instruments
· Shares or partnership interests in undertakings or mutual funds
· Deposits with credit institutions
· Derivative financial instruments, provided that the underlying asset consists of securities.
The diversified nature of the securities portfolio is assessed on the basis of:
· The investment policy as set out in the constitutional documents and
· Exposure to market risk, as specified in the comments on the draft law that introduced Article 168quater into the ITL, including direct and indirect counterparty risk and taking into account the investment policy followed.
However, the Circular specifies that an entity does not meet this condition when the risk diversification does not comply with the requirements for SIFs within the meaning of the SIF Law. Therefore, in principle, an entity does not meet this condition if:
· it invests more than 30% of its assets or commitments to subscribe in securities issued by the same issuer, unless adequately justified or
· the use of derivative financial instruments is not subject to appropriate diversification of the underlying assets.
- Subjection to investor protection rules in the State where it is established
In general, this condition is presumed to be met by:
· Authorized entities subject to prudential supervision by the CSSF (commission de surveillance du secteur financier, which supervises the professionals and products of the Luxembourg financial sector).
· Alternative investment funds within the meaning of the amended law of 12 July 2013 on alternative investment fund managers (“AIFM”), managed by an AIFM duly authorized in accordance with EU Directive 2011/61/EU.
Important note
The Circular states that the clarifications provided on the concept of undertaking for collective investment are only valid in the context of Article 168quater of the ITL.
Furthermore, pursuant to paragraph 3 of Article 168quater of the ITL, at the request of the tax authorities, taxpayers must be able to provide any relevant information, in order to prove that they are eligible for the exemption provided for in paragraph 2 of that article, such as:
· tax returns,
· other tax documents, or
· certificates provided by the tax authorities of another State.
