Luxembourg's New Transfer Pricing Rules: Some Compliance Required!

On 22 December 2016 the Luxembourg Parliament passed article 56bis of the Luxembourg Income Tax Law (LITL). This provision gives taxpayers and tax authorities more guidance on how to apply the arm's-length principle. The new article can be seen as a transposition of OECD BEPS reports (actions 8-9-10) released in late 2015 into national law.

Par. 7 of Art 56bis1 will affect future transfer pricing work because taxpayers must now be prepared to be able to document the commercial rationale behind intercompany transactions as part of transfer pricing documentation. Attention will need to be paid to this in pre-structuring documentation. Therefore, a description of the Luxembourg value chain should take any non-tax reasons into account.

The new Circular

On 27 December 2016, in light of the above mentioned article, the Luxembourg Tax Authorities published a new transfer pricing circular2 aiming to clarify the transfer pricing rules for companies principally performing intra-group financing transactions.

The scope of application of the new Circular remains the same as under the 2011 transfer pricing circulars; holding activities remain out of its scope. Rather, in this new Circular, strong emphasis is put on the analysis of the risks assumed by companies performing intra-group financing transaction.

The Circular further provides that if the companies have a similar functional profile to the entities regulated under EU Regulation n° 575/2013, which transposes the Basel Accords, and such companies have an amount of equity complying with the solvency requirements under this regulation, then it is considered that these companies have enough capital to support the risks assumed. Moreover, as a safe harbour it is considered that these companies comply with the arm's length principle if their remuneration corresponds to a return on equity equal to 10% after taxes. In practice, it is not expected that many Luxembourg companies will fall into the above-described category due to the particular nature of the required functional profile.

All other companies should perform an analysis to determine the necessary capital at risk using methodologies widely accepted in this area. These companies must have the financial capacity to assume such risks. The level of capital at risk should correspond to the functional profile under review. It must be noted that there is no reference anymore to the minimum required capital at risk of 1% of the financing volume (capped...