Although the word 'executives' does not have a legal definition, the Luxembourg Labour Code makes a significant difference between upper-level employees (cadres supérieurs who may be assimilated to executives) and non-managerial employees:
a non-managerial employees cannot exceed a certain number of working hours per day and week. The limitation on working hours does not apply to executive employees;
b non-managerial employees are entitled to compensation for overtime, either by paid rest time, by 1.5 hours of free time per additional hour worked, or through the payment of their salary plus 40 per cent. The executive employee is not entitled to payment for overtime work; and
c executives do not fall within the scope of application of certain collective bargaining agreements. They are not entitled to any remuneration for work on Sundays, whereas non-executive employees are paid for hours worked on Sundays, at the request of the employer with an increase in salary of 70 per cent.
Executives are considered to have a salary that is significantly higher than that of non-managerial employees, taking into account the time required for the performance of their duties. That is, the higher salary is in consideration for the performance of real power for effective management; or the nature of the executive's tasks includes well-defined authority, a large amount of independence in the organisation of work and a wide freedom in working hours and in particular the absence of constraints in their schedule.
i Income tax for employees
From a Luxembourg tax law perspective, an individual is considered a tax resident of Luxembourg provided that he or she has:
a a tax domicile in Luxembourg (i.e., a permanent place of residence in Luxembourg that is actually used and that he or she intends to maintain); or
b a usual abode in Luxembourg (a usual abode is deemed to exist after a continuous presence in Luxembourg of six months, which can overlap two calendar years).
Determining whether an individual taxpayer is a Luxembourg tax resident or not is of importance in assessing the Luxembourg taxpayers' liability. Luxembourg tax residents are taxable on their worldwide income (i.e., they have to report their worldwide income irrespective of its source) whereas non-Luxembourg tax residents are only taxable on their Luxembourg source income.
Luxembourg tax scale is progressive and currently ranges from 0 to 42 per cent, with a surcharge of 7 per cent for contribution to the employment fund and 9 per cent for a taxable income exceeding €150,000 (€300,000 for a household of two persons), so that the marginal income tax rate is of 45.78 per cent.
On 29 November 2017, the Luxembourg tax authorities released a new circular letter (the New Circular LIR No. 104/2), which has replaced the circular letter issued on 20 December 2012 and the one issued on 28 December 2015 (as well as the service notes LIR/NS 104/3 of 22 May 2013 and 104/4 of 12 January 2015). The New Circular sets out amendments in relation to the tax treatments of transferable options.
While for options granted to employees prior to 1 January 2018 that are not listed nor are valued in line with a recognised financial method, the taxable basis is calculated via a lump-sum valuation method (17.5 per cent of the value of the underlying shares on the grant date), this will vary where the granting of options is made on or after 1 January 2018 (30 per cent of the value of the underlying shares). The lump sum valuation method is, however, excluded when options are granted for compensation of legal indemnities in the context of an employment relationship termination, such as those set out by law, in a contract, through a settlement agreement or following a court order.
ii Social taxes for employees
Both employees and employers are subject to social security contributions. Since 1 January 2018, the annual maximum salary for contributions has been €119,915 (except for the insurance dependence, which is not subject to the Luxembourg social security ceiling).
iii Tax deductibility for employers
Salary costs as well as social security contributions paid by an employer are expenses fully deductible from a corporate income tax perspective.
Remuneration paid by a Luxembourg company to its board members in the form of director's fees is not tax deductible from the corporate income tax basis.
iv Other special rules
Luxembourg tax and social security treatment of termination payments
According to the Luxembourg Income Tax Law, employment income includes all income derived from the performance of a salaried activity (i.e., all remuneration, benefits and annuities granted by the employer prior to or after the termination of the employment relationship). However, the Luxembourg Income Tax Law foresees an exemption for the following termination payments:
a the statutory severance indemnity as provided for in the Labour Code or in a collective bargaining agreement;
b the indemnity established by a labour court for unfair dismissal;
c the indemnity agreed upon in a settlement agreement for wrongful termination of an employment contract; and
d the voluntary layoff indemnity paid in the event of termination of an employment contract by the worker or by mutual agreement of the parties.
The termination payment as defined in point (a) above is fully exempt from tax. The termination payments specified in points (b), (c) and (d) above are exempt from tax up to €23,983.08 (at index 794.54) that is, 12 times the monthly minimum wage applicable as of 1 January of the tax year concerned. In the event that the indemnity is divided over a number of tax years, the monthly minimum wage to be taken into consideration is the one related to the tax year in which the indemnity is first paid.
The above tax exemption is not granted if the recipient is entitled to a retirement or an early retirement (regardless of the nature of the termination payment). If the recipient is (1) 60 years of age or older at the time of termination, (2) does not qualify for retirement or early retirement and (3) earns an annual taxable income exceeding €150,000, the termination allowances are exempt up to €7,994.36 (at index 794.54), that is, four times the monthly minimum wage in force on the date of payment.
In principle, the termination payments described in points (a), (b) and (c) above are not subject to Luxembourg social security contributions. In certain cases, the termination payment specified in point (d) may be subject to Luxembourg social security contributions.
iii TAX PLANNING AND OTHER CONSIDERATIONS
In accordance with a circular letter of the Luxembourg tax authorities applicable as from 1 January 2014, certain expenses and allowances paid by a Luxembourg employer in connection with an inpatriate worker shall not fall within the scope of employment income or benefits in kind for the inpatriate worker.
The regime applies to inpatriates coming to Luxembourg, such as employees who are part of an international group and who are assigned to a Luxembourg office belonging to the group or employees directly hired abroad.
Hence, reasonable assignment-linked benefits and expenses are tax exempt provided certain conditions are met.
General conditions at the level of the inpatriate worker are that:
a the inpatriate worker must be resident in Luxembourg;
b he or she should not have been resident or subject to income tax in Luxembourg for the five years preceding the application of the inpatriate regime, nor have lived at a distance of fewer than 150km from the Luxembourg border;
c in case of intra-group assignment, the inpatriate must:
• have five years' seniority within the international group or sector concerned;
• be in an employment relationship between the sending company and the employee;
• have the right to return to the home company on the expiry of the secondment period; and
• have a contractual arrangement between the sending company and the host company; and
d in case of a recruitment, the inpatriate should be able to evidence an in-depth specialisation in a sector or profession for which it is difficult to recruit in Luxembourg.
Conditions concerning the Luxembourg employer are that:
a the Luxembourg employer must employ (or undertake to have in the mid-term) at least 20 full-time employees; and
b the number of inpatriate workers should not exceed 30 per cent of the total number of full-time employees.
Conditions relating to employment are that:
a the employment activity should not consist of temporary work; and
b the annual gross remuneration must be at least €50,000.
The New Circular provides for a list of 'exempt' assigment-linked benefits such as the one-off expenses linked to the transfer of residence, home staging expenses, travel expenses on special occasions (e.g., births, weddings), certain housing expenses up to the lower of €50,000 (€80,000 for couples) and 30 per cent of the inpatriate worker's total annual fixed remuneration, certain school fees and cost of living allowances.
Expenses and allowances paid by the Luxembourg employer remain deductible from the Luxembourg company's taxable basis for corporate income and municipal business tax purposes.
The inpatriate regime applies for a maximum period of six years and ceases to apply when the relevant conditions are no longer met. By 31 January of each year at the latest, the Luxembourg employer must provide the Luxembourg tax authorities with a list of the inpatriate workers it employs. Failure to respect the New Circular's provisions will lead to revocation of the inpatriate regime.
IV EMPLOYMENT LAW
i Restrictive covenants
As a general principle, a balance has to be struck between the freedom of occupation, which is a fundamental right enshrined in the constitution, and the legitimate interest of the employer to protect its business. Luxembourg courts recognise non-solicitation and non-compete covenants, provided that they comply with applicable law, they are reasonable in time, scope and geographical coverage.
Non-compete clauses are regulated by the Labour Code. In accordance with Article L125-8 of the Code, in order to be valid, a non-compete clause must fulfil the following conditions:
a it must be in writing;
b it must apply only to employees who go on to run their own company after leaving their employer;
c the employee signing the employment contract or any modification containing a non-compete clause must be at least 18 years old;
d the employee must earn an annual salary of at least €55,518.22 (value based on Index 814.40) on the day that the employee leaves the company;
e it must refer to a specific professional sector and professional activities that are similar to those performed for the former employer;
f it must be limited to 12 months, beginning on the day that the employee's employment contract ends; and
g it must be limited geographically to Luxembourg.
A non-compete covenant is not enforceable against the employee in case the employer has terminated the employment relationship for gross misconduct while not authorised to do so, or if, upon termination, the employee has not been granted the legal notice period.
Non-solicitation covenants are not expressly provided for in the Labour Code but are rather based on civil law principles.
They are generally enforceable provided that they are reasonable (i.e., not broad or ambiguous).
Usually, if a court decides that a restrictive covenant is unreasonable or uncertain, it has two alternatives:
a strike down the whole restrictive covenant (i.e., declare the voidance of the clause); or
b sever the offending parts of the restriction, if the language permits, and save the rest (as for illegal clauses in order to most appropriately cure the illegality while preserving as much as possible the parties' intentions).
ii Release of claims
The employee's release of claims can be foreseen either:
a in a separation agreement between an employer and a departing employee specifying terms of the employee's separation from employment, including a release of claims against the employer in exchange for a benefit; or
b in a settlement agreement between an employer and an employee who has asserted certain claims against the employer based upon his or her employment, through which it is intended to settle and resolve all the disputes and claims, including a release of claims against the employer in consideration for the payment of a settlement amount.
iii Unfair termination of employment
Unfair termination of employment refers to the process of dismissing the employee in the absence of a real and serious cause.
In determining whether an employee has been unfairly terminated, the labour courts consider the cause of termination and whether the employer had a sufficient and justifiable reason to terminate the employment contract. If an employee is found to have been terminated unfairly, he or she will be awarded a compensation for the financial or moral damages suffered following the termination.
Any unfairly dismissed employee is under a duty to mitigate his or her loss, such as, for example, actively searching for a new job. If they fail to comply with this duty, the court will consider that their losses are not directly linked to the termination, and will reduce the damages accordingly.
The compensation for damage is not confined by the Labour Code. Judges in the labour courts have a broad discretion to decide on the amount of said compensation.
iv Severance payments
Only employees dismissed with notice are entitled to a severance payment calculated according to their length of service. Severance payments are calculated as follows:
a from five up to 10 years of employment – one month's salary;
b from 10 up to 15 years of employment – two months' salary;
c from 15 up to 20 years of employment – three months' salary;
d from 20 up to 25 years of employment – six months' salary;
e from 25 up to 30 years of employment – nine months' salary; and
f over 30 years of employment – 12 months' salary.
v Change of control
There are no specific rules applying to terminations of employment in connection with a change in control. Termination of employment must be for real and serious cause and cannot occur just because a different owner takes over the management control of a company.
vi Transfer of employment in connection with a corporate transaction
There are no specific rules on severance payment that apply to a transfer of employment in connection with a corporate transaction.
Under Article L127-1 et seq. of the Labour Code, there is an automatic transfer of the employment contract in case of a modification in the employer's legal situation (e.g., sale or merger) and provided the criteria set by case law are met, meaning that it is a transfer of a stand-alone business that maintains its identity within the transferee.
In share deals, there are no specific employment law provisions setting any requirements.
In case the transfer of employment is made on a voluntary basis, the consent of the employee concerned is required.
V SECURITIES LAW
Pursuant to the law of 10 July 2005 on prospectuses for securities, as amended (the Prospectus Law), no offer of securities shall be made to the public within the territory of Luxembourg without the prior publication of a prospectus duly approved by the Commission de Surveillance du Secteur Financier (CSSF) or, as the case may be, approved by the competent authority in another EU Member State and duly passported in Luxembourg. The offer of shares or securities to directors and employees in Luxembourg customarily falls within the scope of the Prospectus Law. That said, the Prospectus Law foresees a number of exemptions to the obligation to draw up a prospectus.
This will be the case for offers of securities addressed to fewer than 150 natural or legal persons in Luxembourg, other than qualified investors (as defined in the Prospectus Law, which cross-refers to the definition of professional clients under Directive 2014/65/EU of 15 May 2014 on markets in financial instruments (MiFID II)) or, alternatively in the event this exemption cannot apply, to offers of securities offered allotted or to be allotted to existing or former directors or employees by their employer or by an affiliated undertaking provided that the issuer has its head office or registered office in one of the Member States and a document is made available to the interested parties containing information on the number and nature of the securities offered and the reasons for and details of the offer. The new prospectus rules set out under Regulation (EU) 2017/1129 of 14 June 2017 on prospectuses, which will replace the former regime, save for certain exceptions, as from 21 July 2019, has maintained these exemptions, which will therefore continue to apply going forward.
Depending on the circumstances, directors or employees who were offered securities may in turn be subject to certain disclosure obligations. This will notably be the case where said securities are admitted to trading on a stock exchange within the European Union. Indeed, pursuant to Regulation (EU) No. 596/2014 on market abuse (the Market Abuse Regulation), persons discharging managerial responsibilities (PDMRs) within an issuer whose securities are admitted to trading on a regulated or a multilateral trading facility (both in the sense of MiFID II), and persons closely associated to PDMRs, are required to notify the issuer and the CSSF of every transaction conducted on their account relating to the securities issued by the issuer. This notification must be made as soon as possible and no later than three trading days following the transaction. PDMRs typically include members of the administrative, management or supervisory body of the issuer but also senior executives who have regular access to inside information (in the sense of the Market Abuse Regulation, that is, broadly, price-sensitive information) and power to take managerial decisions affecting the future developments and business prospects of the issuer. Persons closely associated to PDMRs – that includes a spouse or a partner considered to be equivalent to a spouse in accordance with national law, a dependent child, a relative who has shared the same household for a certain period of time, and a legal person, trust, partnership, the managerial responsibilities of which are discharged by such PDMR or a person closely associated to him or her – will also be subject to the same disclosure requirements. The Market Abuse Regulation sets out a de minimis threshold of €5,000 per calendar year so that no notifications are required in case the cumulative value of the transactions remains below that threshold per calendar year.
It is worthy of mention that the Market Abuse Regulation also prohibits any person to make use of inside information, that is, non-public price-sensitive information relating to the issuer or its securities admitted to trading it may hold, to acquire or dispose of, for its own account or for the account of a third party, directly or indirectly, financial instruments to which that information relates, as well as any attempt thereto (commonly referred to as insider dealing). In addition, it is prohibited for any person to disclose inside information to anyone else (except where the disclosure is made in the normal exercise of an employment, profession or duties) or, while in possession of inside information, to recommend or induce anyone to acquire or dispose financial instruments to which the information relates.
Directors or employees holding securities also need to consider the disclosure obligations deriving from the law of 11 January 2008 on transparency requirements in relation to information about issuers whose securities are admitted to trading on a regulated market, as amended (the Transparency Law). Under the Transparency Law any person acquiring or disposing of a shareholding in an issuer whose shares are admitted to trading on a regulated market must notify the issuer and the CSSF of the proportion of voting rights held by that person where following an acquisition or disposal said proportion reaches, exceeds or falls below one of the thresholds of 5, 10, 15, 20, 25, 33.3, 50 or 66.6 per cent of the total voting rights outstanding within the issuer. The Transparency Law further extends this disclosure requirement to persons who are not directly shareholders but can either exercise the voting rights attached to the relevant shares or hold financial instruments that on maturity give the right to acquire shares of the issuer or in the absence of any such physical settlement have a similar economic effect. The notifications must be made as soon as possible and no later than four trading days following the transaction by the relevant shareholder.
While there are generally no legal requirements for executive employees to hold stock of their employer, nor any limitations in respect of the number of securities that employees may hold, the articles of association of the issuer may however contain certain limitations or specific disclosure requirements.
Several other rules and guidelines can apply to Luxembourg companies offering shares to their employees. Notably, companies that are subject to the Ten Principles of Corporate Governance issued by the Luxembourg Stock Exchange (those will, as a rule, be the companies whose shares are admitted to trading on the regulated market operated by the Luxembourg Stock Exchange) need to comply with certain principles on directors' remuneration and 'comply or explain' recommendations with respect to the offering of shares to directors (e.g., guidelines on share allocations, share options and other rights to acquire shares, vesting rules).
Additionally, entities (credit institutions and investment firms) subject to Directive 2013/36/UE on capital requirements (CRD IV) as transposed in the law of 5 April 1993 on the financial sector, as amended, will further need to comply with the limitations on remuneration set out therein in accordance with their regulated status. More generally, regulated entities of the financial sector will also need to bear in mind the rules and guidelines issued by the CSSF with respect to remuneration policies for regulated entities. Notably, the CSSF recently confirmed the adoption of the guidelines on sound remuneration policies issued by the European Banking Authority (EBA/GL/2015/22) in circular CSSF 17/658 applicable to credit institutions and investment firms.
CSSF Circular 10/437 implementing Commission Recommendation 2009/384/EC of 30 April 2009 establishes guidelines regarding the remuneration policies in the financial sector (the Circular). This Circular applies to financial undertakings: all entities, legal and natural persons, subject to the CSSF's prudential supervision. These financial undertakings include, but are not limited to, credit institutions, investment firms, managers of pension funds and of collective investment schemes. Branches set up abroad as well as branches of similar entities set up in Luxembourg whose registered office or central administration is located outside the European Economic Area are included in the scope of the Circular.
The Circular requires financial undertakings to establish, implement and maintain a remuneration policy that is consistent with and promotes sound and effective risk management and that does not induce excessive risk-taking. The structure of the remuneration policy shall follow a set of rules established therein. Once designed, the remuneration policy has to be submitted to the CSSF as part of the supervisory review process, as an element of internal governance and disclosed to the public either in the form of an independent remuneration policy statement, a periodic disclosure in the annual financial statement or in any other form.
Disclosure requirements under the Circular apply on an individual and on a consolidated basis. They apply to the remuneration of (1) members of the administrative and management bodies and (2) categories of staff whose professional activities have a material impact on the risk profile of financial undertakings. Remuneration granted only on a fixed basis is exempted from disclosure requirements.
Information that shall be disclosed to the public is the following:
a information concerning the decision-making process used for determining the remuneration policy, including if applicable, information about the composition and the mandate of a remuneration committee, the name of the external consultant whose services have been used for the determination of the remuneration policy and the role of the relevant stakeholders;
b information on the link between pay and performance;
c information on the criteria used for performance measurement and risk adjustment;
d information on the performance criteria on which the entitlement to shares, options or variable components of remuneration is based; and
e the main parameters and rationale for any annual bonus scheme and any other non-cash benefits.
Regarding the level of the disclosed information, the nature, size and specific scope of activities of the financial undertaking concerned may be taken into account.
Moreover, credit institutions and investment firms that maintain a website shall explain therein how they comply with the remuneration policy requirements.
VII CORPORATE GOVERNANCE
Luxembourg companies whose shares are admitted to trading outside of Luxembourg may voluntarily decide to comply with the Ten Principles of Corporate Governance of the Luxembourg Stock Exchange, which set out certain corporate governance guidelines and recommendations with respect to the implementation of a fair remuneration policy for directors and members of the executive management.
From a corporate perspective, compensation paid to a company's directors or officers and executives is generally determined by the board of directors and approved at a general meeting of shareholders.
Additional requirements may apply with respect to incentive plans, such as stock option plans, warrants schemes, long-term incentive plans, restricted stock units agreements, which should, in principle, be approved by the company's board of directors.
Luxembourg companies of a certain size and belonging to an international group usually have a remuneration committee that establishes a remuneration policy outlining guidelines for determination of the remuneration of management members and key personnel.
VIII SPECIALISED REGULATORY REGIMES
The law of 23 July 2015 (the 2015 Law) implementing, inter alia, CRD IV has brought about changes that mainly relate to the access to financial sector activities, corporate governance and remuneration, prudential rules, capital buffers and administrative penalties. These changes are now reflected in the amended law of 5 April 1993 on the financial sector (the New FSL).
The provisions of the 2015 Law apply in particular to CRR institutions, which are defined in the New FSL as 'institutions within the meaning of article 4(1)(3) of the CRR' (i.e., credit institutions or investment firms within the meaning of the CRR).
The main provisions regarding remuneration introduced by the 2015 Law in the New FSL are briefly outlined below
i Identified staff
The new rules on remuneration apply to staff members who have a material impact on an institution's risk profile.
ii Fixed or variable remuneration
The 2015 Law makes a distinction between fixed and variable remuneration:
a the basic fixed remuneration (salary) must reflect the relevant professional experience and organisational responsibility as set out in an employee's job description as part of the terms and conditions of employment; and
b variable remuneration (bonus) must reflect a sustainable and risk-adjusted performance as well as performance in excess of that required to fulfil the employee's job description as part of the terms of employment.
iii Bonus cap
For variable remuneration, the following two principles now apply:
a the variable component may not exceed 100 per cent of the fixed component of each individual's aggregate remuneration; and
b the shareholders of the institution (excluding staff concerned by the ratio) may approve a higher maximum level of the ratio between the fixed and variable components of remuneration provided that the overall level of the variable component does not exceed 200 per cent of the fixed component of the aggregate remuneration for each individual.
iv Malus and clawback
Up to 100 per cent of the total variable remuneration must be subject to malus or clawback arrangements. Institutions must set specific criteria for the application of malus and clawback that may apply in particular situations.
It is foreseen that at least 50 per cent of the variable remuneration must consist of a balance between (1) shares (or equivalent equity interests) and (2) instruments that reflect the credit quality of the institution as a going concern. Equally, the New FSL now expressly states that at least 40 per cent of the variable remuneration must be deferred over a period of not less than three to five years. When the amount of the variable remuneration component is particularly high, at least 60 per cent must be deferred.
IX DEVELOPMENTS AND CONCLUSIONS
The New Circular (as mentioned above) amends the tax treatment of the warrants for any grant to employees as from 1 January 2018, and imposes reporting obligations for employers.
Warrants may be offered to employees provided that: (1) the employees are considered as executives (cadres supérieurs) within the meaning of the provisions of the Labour Code (see Section I); (2) the portion of remuneration paid in warrants may not exceed 50 per cent of the total yearly gross remuneration of the executive; and (3) the face value of the warrants does not exceed 60 per cent of the value of the underlying asset.
Any warrant scheme implemented as of 1 January 2018 must comply with the grant notification to be sent to the Luxembourg tax authorities in a timely manner, in particular, at each granting date of the warrants.
The New Circular provisions complete the initiatives taken by the Luxembourg tax authorities aiming at creating a favourable tax environment for attracting highly-skilled workers.
1 Annie Elfassi and Cédric Raffoul are partners, and Kheira Mebrek and Arnaud Barchman are senior associates, at Loyens & Loeff Luxembourg.
2 Regulation (EU) 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No. 648/2012 (CRR).
3 Directive 2006/48/EC of the European Parliament and of the Council of 14 June 2006 relating to the taking up and pursuit of the business of credit institutions.
4 Directive 2006/49/EC of the European Parliament and of the Council of 14 June 2006 on the capital adequacy of investment firms and credit institutions.