Change To The Tax Treatment Of US Branch Structures Under US-Luxembourg Tax Treaty

On 22 June 2016, a draft law was submitted to the Luxembourg Parliament anticipating an upcoming amendment to the US-Luxembourg double tax treaty (DTT).

The aim of this amendment is to stop situations of double non-taxation resulting from different interpretations of the permanent establishment (PE) concept in Luxembourg and the United States.

Example: Status quo

US-source income is paid to a Luxembourg resident company that is exempt under Luxembourg tax law and the applicable DTT as it is considered to be attributable to a PE located in the US; At the same time, under US tax law, no taxable presence exists and the income is exempt in the US; Under these circumstances, neither the US nor Luxembourg would tax the income realised through the activities performed by the PE. This situation would result in double non-taxation. Under the amended DTT rules, the US will be allowed, under certain conditions, to deny DTT benefits and in particular to levy withholding tax in accordance with US tax law on interest, royalty and dividend payments deriving from US sources to a Luxembourg company if the income is not taxed in Luxembourg (because for Luxembourg tax purposes the income is attributable to a PE located in the US or a third country).

However, taking the example of a Luxembourg resident Company with US source income, the denial of treaty benefits by the US will only be possible if:

The income which is considered as attributable to the foreign PE is taxed at a combined aggregate effective tax rate which is lower than the lesser of either 15%, or 60% of the Luxembourg statutory rate; OR Under Luxembourg tax law, the income is attributable to a PE which is located in a third country that does not have a comprehensive DTT with the US, unless Luxembourg includes the PE income into the taxable basis...

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