The Asset Management Review: Luxembourg
Overview of recent activity
Luxembourg combines a diverse fund offering with a depth of expertise developed over many years as Europe's leading investment fund centre. The second-largest fund servicing jurisdiction in the world after the United States is a favourite of investment fund managers (IFMs) and investors alike, thanks to its stable political and social environment, versatile fund products, robust investor protection, and experienced and responsive regulator and service providers.
Although the covid-19 pandemic has tested the resilience of financial institutions in Luxembourg – prompting a review of continuity plans, working arrangements and office space needs, and accelerating the digital transformation of the industry – the immediate effects of the crisis have largely subsided, and the country now seems ready to take advantage of the recovery ahead.
The assets under management of Luxembourg-regulated investment funds hit €5 trillion in January 2021, owing to the continuous growth in alternative investment funds (AIFs) – a category that includes private equity, real estate, infrastructure, debt and hedge funds. Luxembourg has continued to grow its fund finance activity, and has significantly contributed to the emergence of environmental, social and governance (ESG) and impact investing funds, becoming the leader for sustainable funds in Europe.
Luxembourg has confirmed its position as the leader in cross-border distribution, as domestic investment funds are distributed in more than 70 countries around the globe.
Lately, government efforts have been mainly directed at developing sustainable finance, increasing anti-money laundering and tax compliance, transparency, protecting market stability and preventing the build-up of systemic risk in the financial system. These large-scale reforms have been, to a large extent, driven by international and European initiatives, and are expected to continue in the years to come.
General introduction to the regulatory framework
Luxembourg's comprehensive legal and regulatory system lies at the core of its success as an investment fund centre.
The Commission de Surveillance du Secteur Financier (CSSF), a public institution with legal personality and financial autonomy, is entrusted with the supervision of the financial sector.2 It operates under the authority of the Ministry of Finance.
As regards the fund industry, the CSSF is the prudential regulator of IFMs, and of the regulated investment funds they manage. The main duties of the CSSF in this respect include:
- licensing Luxembourg IFMs and regulated investment funds;
- supervising Luxembourg-regulated IFMs and investment funds based on periodic reporting, on-site inspections, and regular or ad hoc requests for information;
- imposing fines and disciplinary sanctions on regulated IFMs and investment funds, and finance professionals; and
- overseeing the marketing of domestic and foreign investment funds in Luxembourg.
In addition to those supervisory duties, the CSSF issues regulations, circulars and guidance papers in accordance with existing laws.
ii Regulations applicable to investment funds
Fund initiators can choose between the following categories of investment funds:
- funds that are subject to a specific regime (product law) or not; and
- regulated or unregulated funds.
The main product laws are:
- the Law of 17 December 2010 on undertakings for collective investments (the UCI Law), which implemented EU Directive 2009/65/EC (the UCITS Directive);
- the Law of 13 February 2007 on specialised investment funds (the SIF Law);
- the Law of 15 June 2004 on investment companies in risk capital (the SICAR Law); and
- the Law of 23 July 2016 on reserved alternative investment funds (the RAIF Law).
Regulated investment funds
Regulated funds are subject to CSSF supervision and must (or their IFM must on their behalf) be licensed by the CSSF before they start operating.
The CSSF supervises:
- UCITS subject to Part I of the UCI Law;
- other undertakings for collective investment (UCIs) subject to Part II of the UCI Law;
- specialised investment funds (SIFs) subject to the SIF Law;
- investment companies in risk capital (SICARs) subject to the SICAR Law;
- European venture capital funds (EuVECA) subject to Regulation (EU) 345/2013;
- European long-term investment funds (ELTIF) subject to Regulation (EU) 2015/760;
- European social entrepreneurship funds (EuSIF) subject to Regulation (EU) 346/2013;
- pension savings companies with variable capital (SEPCAVs) and pension savings associations (ASSEPs) subject to the Law of 13 July 2005 (the Pension Law); and
- securitisation undertakings subject to the Law of 22 March 2004 (the Securitisation Law) when they offer their securities to the public on a continuous basis.
UCITS are subject to complex asset eligibility, liquidity and diversification rules. They may only invest in transferable securities and other liquid financial instruments authorised under the UCI Law.
Part II UCIs may in principle invest in all types of assets, subject to diversification requirements and borrowing restrictions. Those rules depend on the assets in which the UCI invests, and are further detailed below.
SIFs are not restricted as to their eligible assets either but must in principle comply with a risk-spreading requirement of maximum 30 per cent of their assets or commitments in securities of the same type issued by the same issuer.3 This rule is subject to exceptions and, when appropriately justified, to derogations granted by the CSSF.
SICARs may in principle only contribute their assets to 'risk capital', that is, to entities in view of their launch, development or listing on a stock exchange.4 They are not subject to diversification requirements.
Unregulated investment funds
Investment funds that are not subject to CSSF supervision include:
- reserved alternative investment funds (RAIFs) subject to the RAIF Law;
- standard commercial companies subject to the Law of 10 August 1915 on commercial companies (the Companies Law);
- limited partnerships subject to the Companies Law; and
- securitisation undertakings subject to the Securitisation Law, except when they offer their securities to the public on a continuous basis.
RAIFs are in principle subject to the same asset eligibility and risk-spreading requirement as SIFs, except for RAIFs investing in risk capital, which are not subject to diversification rules.
RAIFs must be managed by an external authorised alternative investment fund manager (AIFM) and comply with the requirements of the Law of 12 July 2013 on alternative investment fund managers (the AIFM Law).
They benefit from the AIFM Directive5 passport to be marketed to professional investors (and to other investors where permitted) in the EEA.
Standard commercial companies (SOPARFIs)
SOPARFIs are ordinary commercial companies whose purpose is to hold participations in other companies. While they may take any corporate form available under the Companies Law, in practice they are incorporated as companies with share capital.
SOPARFIs are not subject to any risk-spreading requirements, and may invest in any asset class. They may also manage their financial participations and conduct commercial activities that are directly or indirectly connected to the management of their holdings, including the debt servicing of their acquisitions.
Limited partnerships (LPs)
Luxembourg LPs typically take the form of common or special limited partnerships. They are not subject to any risk-spreading requirements or restricted as to the assets in which they may invest.
iii Regulations applicable to IFMs
Regulated IFMs include:
- UCITS management companies subject to Chapter 15 of the UCI Law; and
- authorised AIFMs subject to the AIFM Law.
Commencing business as a regulated IFM in Luxembourg is subject to prior approval by the CSSF. IFMs may apply for authorisation under the UCI Law or the AIFM Law, or both.
In accordance with CSSF Circular 18/698, the application for authorisation must detail, in relation to the IFM:
- its organisation (shareholding structure, own funds, team and substance); and
- its operations (internal policies and processes, external control and reporting).
The CSSF reviews in particular the portfolio management and risk management duties, the anti-money laundering procedures, and any delegation arrangements. Once granted, the authorisation as a regulated IFM covers all EEA countries.
Some IFMs established in Luxembourg do not need to seek CSSF authorisation prior to carrying out the management of a Luxembourg investment fund,6 when they manage either directly or indirectly:
- AIFs that are not leveraged and have no redemption rights for a period of five years, and whose aggregate assets under management do not exceed €500 million; or
- AIFs whose assets under management, including any assets acquired through leverage, do not exceed €100 million.
Those AIFMs must however register with the CSSF, disclose to the CSSF the AIFs they manage and their investment strategies, and report regularly on the investments they hold and their related exposure.
Registered AIFMs do not benefit from the AIFM Directive passport. They may, however, opt to use the European marketing passport regime offered by the EuVECA Regulation and the EuSEF Regulation. The passport under those two regulations only applies if the AIF uses the denomination EuVECA or EuSEF, registers with the competent authority and complies with the applicable regulation.
iv Regulations applicable to depositaries
Under the AIFM Directive and the UCITS Directive, the duties of Luxembourg depositaries in relation to investment funds include:
- safeguarding the assets they have been entrusted with;
- monitoring cash flows, in particular ensuring that all payments made by or on behalf of investors upon the subscription of securities of a fund have been received, and that all cash of the fund has been booked in cash accounts opened in the name of the fund; and
- overseeing the fund's operations to ensure that they comply with Luxembourg laws and the constitutional documents of the fund.
Directive 2014/91/EU broadly aligned the role and responsibilities of UCITS depositaries with the regime applicable under the AIFM Directive. Those two regimes, however, differ in that the AIFM Directive allows the contractual transfer of liability from a depositary to a sub-depositary (including a broker acting as sub-depositary) and extended possibilities for rehypothecation of assets.
Investment funds subject to a product law and AIFs managed by an authorised AIFM must appoint a single depositary to supervise and monitor their assets. The appointment and replacement of the depositary of a regulated investment vehicle must be approved by the CSSF.
UCITS and retail Part II UCIs are subject to the UCITS V Directive depositary regime.7 Their depositary must be a credit institution with its registered office in Luxembourg or a Luxembourg branch of a credit institution with its registered office in another EEA country.
Non-retail Part II UCIs are covered by the AIFM Directive depositary regime.8 SIFs, SICARs, RAIFs and other AIFs managed by authorised AIFMs, and internally managed AIFs that are subject to the AIFM Law, are also subject to the AIFM Directive regime. They must appoint a Luxembourg credit institution or a Luxembourg branch of an EEA credit institution, a Luxembourg investment firm, a Luxembourg branch of an EEA investment firm, or – under certain conditions detailed below – a Luxembourg professional depositary of assets other than financial instruments.
Professional depositaries of assets other than financial instruments may only be used by AIFs that have no redemption rights for a period of five years from the date of the initial investments, and either do not invest in financial instruments that must be held in custody in accordance with the AIFM Law (typically real estate funds) or invest in issuers or non-listed companies in order to potentially acquire control over such companies under the AIFM Law (typically private equity and venture capital funds).
Marketing of foreign UCITS in Luxembourg
EEA-based UCITS may be freely marketed in Luxembourg, on the condition that:
- they (or their IFM on their behalf) have been approved by their national regulator; and
- their national regulator has notified the CSSF of their intention to market the securities of those UCITS in Luxembourg.
Where a foreign UCITS is marketed to retail investors in Luxembourg, it must appoint a Luxembourg credit institution as paying agent, and one or more correspondents in Luxembourg to make payments to investors and redeem their securities.
Marketing of foreign AIFs in Luxembourg
Any marketing at the initiative or on behalf of an EAA AIFM of an EAA AIF it manages in Luxembourg requires prior notification to the CSSF.
A notification to the CSSF is also required before any marketing of a foreign or Luxembourg alternative investment fund by a non-EU IFM to Luxembourg investors.9
Foreign AIFs may only be marketed to retail investors in Luxembourg if they comply with the rules laid down in CSSF Regulation 15-03.
Finally, the CSSF has issued guidance on reverse solicitation and marketing in respect of AIFs in Luxembourg.10
Marketing of other funds
Where the securities of a closed-end foreign investment fund that does not qualify as an AIF are offered to the public in Luxembourg, a prospectus must be published in compliance with Regulation 2017/1129/EU on the prospectus to be published when securities are offered to the public or admitted to trading on a regulated market (the Prospectus Regulation) and the Law of 16 July 2019 on prospectuses for securities (the Prospectus Law).
Common asset management structures
Investment funds can generally opt for the mutual funds (FCP) or the investment company form. The choice of legal form depends on the applicable product law, corporate governance or tax requirements among other considerations.
An FCP is similar to a unit trust in the United Kingdom or a mutual fund in the United States. It is organised as an incorporated co-proprietorship whose joint owners are only liable up to the amount they have committed or contributed to the FCP. Because it has no legal personality, an FCP must be managed by a Luxembourg management company.
UCITS, Part II UCIs, SIFs and RAIFs may be formed as FCPs.
ii Investment companies
All investment funds subject to a product law structured in corporate or partnership form may be established as:
- investment companies with variable capital (SICAVs); or
- investment companies with fixed capital (SICAFs).
In a SICAV, the share capital increases and decreases automatically as a result of the subscriptions and redemptions of the investors. Increase and decrease of share capital in a SICAF, on the other hand, requires a formal decision and, where applicable, a notarial deed, which makes SICAFs less attractive, and less common.
The legal forms typically used by investment companies subject to a product law are:
- the public limited company (SA);
- the private limited company (Sàrl);
- the simplified limited company (SAS);
- the partnership limited by shares (SCA);
- the co-operative company in the form of a public limited company (Coop-SA);
- the common limited partnership (SCS); and
- the special limited partnership (SCSp).
While SIFs, SICARs and RAIFs may opt for all these legal forms, UCITS and Part II UCIs established as SICAVs may only be set up as SAs. Part II UCIs set up as SICAFs may also be incorporated as SCAs.
A SOPARFI is usually organised in one of the forms under (a) to (e) above, and may only operate with fixed or authorised capital features.
Limited partnerships, such as the SCS and the SCSp, allow more flexibility in relation to capital variations. Both partnerships must be formed between one or more general partners who are liable for all the debts and obligations of the partnership, and one or more limited partners whose liability is limited to the amount of capital that they contribute or commit to the partnership. The SCSp – unlike the SCS – does not have separate legal personality. However, all contributions, acquisitions and dispositions of assets can be made in the name of the SCSp rather than in a general partner's or the limited partners' name.
iii Umbrella form
Another feature frequently considered in practice in the choice of the applicable regime is the umbrella form.
All funds subject to a product law may be formed as standalone vehicles, or as umbrella structures composed of one or more sub-funds. Each sub-fund comprises a specific portion of assets and liabilities of the investment fund segregated from the assets of the other sub-funds. The assets of a sub-fund may in principle not be used to satisfy the debts and obligations of other sub-funds.
The sub-funds may have different investment strategies, or be closed-ended or open-ended within the same umbrella fund. Under certain conditions, cross-investments between sub-funds are allowed.
Investment funds not subject to a product law, on the other hand, may not be formed as umbrella funds.
Main sources of investment
Assets under management in Luxembourg funds amounted to €5.332 trillion at the end of May 2021.11 UCITS provide the majority of assets under management in Luxembourg, contributing to 84 per cent of total funds. In recent years, AIFs have grown steadily.
In parallel, the total number of investment fund entities has continued to consolidate, due to a preference to create umbrella structures. There were 3,547 regulated entities at the end of June 2021, representing a decrease of 139 entities over 12 months.12
Luxembourg's fund centre has a strong international orientation: over 97 per cent of funds under management in Luxembourg are from overseas.13 In addition, 93 per cent of the UCITS management companies and 78 per cent of alternative investment fund managers in Luxembourg are owned by overseas investors. Twenty out of the 50 largest IFMs in Europe are established in Luxembourg and manage 40 per cent of the largest 50 investment funds.14
Luxembourg funds are distributed to investors in more than 70 countries, making the cross-border dimension of Luxembourg's fund centre unequalled.15 Nearly 60 per cent of the funds authorised for cross-border distribution are domiciled in Luxembourg.16
The share of assets under management of regulated AIFs managed by authorised IFMs is more modest in terms of managed assets (€843.7 billion). IFMs established in other EEA countries and managing Luxembourg UCITS or AIFs under UCI Law or AIFM Law hold €770.9 billion of assets combined.17
Luxembourg continues to strengthen its ranking as the world's second-largest fund domicile after the United States. Interest in regulated funds remains strong, in particular those that pursue alternative strategies. Assets under management of regulated real estate investment funds increased by 7.2 per cent in 2020, while those of sustainable funds already amounted to €371 billion.18 In addition, since the implementation of the AIFM Directive, non regulated AIFs – typically private equity, real estate and private debt – and, more recently ESG funds have been the leading force for growth across Luxembourg IFMs with dedicated products such as the RAIF and the SCSp.
The RAIF continues to attract investors (especially professional investors) who perhaps see it as a viable alternative to the SIF (and to a lesser extent to the SICAR) in terms of structure and flexibility but without an add-on regulation of the product itself. Since July 2016, 1,403 vehicles have been registered in Luxembourg with a variety of different investment policies,19 and two-thirds of Luxembourg IFMs now manage at least one RAIF.20
There also has been robust demand for unregulated AIFs structured as partnerships (SCS or SCSp), especially for illiquid asset classes, mostly private equity, private debt and, to a lesser extent, real estate.
Debt and credit funds are increasingly present in Luxembourg thanks to the flexible legal and regulatory environment that allows them to implement all types of debt and credit strategies, such as mezzanine, distressed and origination strategies. The assets under management of private debt funds increased by 36.2 per cent in 2020 to reach a total of €108.4 billion.21
Heightened awareness of climate change and the European Commission's Sustainable Finance initiative are important drivers of ESG and sustainable funds in Luxembourg, which are expected to increase in importance compared to other regions.
In addition to circular letters issued by the CAA, insurance companies in Luxembourg are governed by:
- the amended Law of 7 December 2015 on the insurance sector;
- the amended Grand Ducal Regulation of 14 December 1994 specifying the conditions for the approval and practices of insurance companies; and
- the Grand Ducal Regulation of 5 December 2007 establishing the terms and conditions of the supplementary supervision of insurance and reinsurance undertakings that are part of an insurance or reinsurance group.
These provisions detail the authorisation procedure and business conduct of insurance and reinsurance companies, the mission and procedural methods of the CAA, and the free provision of services by Luxembourg insurance companies in other EEA countries.
Insurance contracts are governed by the amended law of 27 July 1997 on insurance contracts.
Traditionally, life insurance companies offer guaranteed return products where premiums are managed in the insurer's general fund (or in that of its parent company). In addition, Luxembourg insurance companies propose a wide range of unit-linked products22 established as external investment funds managed by third-party asset managers; internal collective funds that operate like UCITS and that allow discretionary management tailored to the risk profile of the investors; or internal dedicated funds that allow discretionary management that takes the subscriber's personal objectives into account. Several dedicated funds can be grouped within the same life assurance contract.
Pension funds regulated by the CSSF
Pension savings companies with variable capital (SEPCAVs) and pension savings associations (ASSEPs) are two legal entities created by the Law of 8 June 1999. They are governed by the Law of 13 July 2005 on institutions for occupational retirement provision, which implements Directive 2003/41/EC on the activities and supervision of the institutions for occupational retirement provision.
SEPCAVs have a corporate structure similar to that of SICAVs, in which the members and beneficiaries are shareholders who will receive a share of a fund's profits when retiring. SEPCAVs can only be used for defined contribution schemes.
ASSEPs, on the other hand, work like associations that can be used for both defined contribution and defined benefit schemes. In an ASSEP, the rights of the members and beneficiaries are debt claims that, when the members and beneficiaries retire, will be paid out either as a lump sum or as an annuity. ASSEPs may also cover additional benefits on the death or disability of their members.
SEPCAVs and ASSEPs must be authorised by the CSSF to conduct their business.
Pension funds regulated by the CAA
Pension funds supervised by the CAA are subject to the Grand Ducal Regulation of 31 August 2000. CAA pension funds offer flexibility in the form of the vehicle and can finance either defined benefits or defined contributions schemes, and can offer additional benefits on the death or disability of their members.
Four legal forms can be chosen, but in practice the not-for-profit association form is the most used vehicle.
iii Real estate
Real estate funds are typically formed as Part II UCIs, SIFs, SICARs, RAIFs, SOPARFIs or limited partnerships.
Part II UCIs must comply with CSSF Circular 91/75, which requires that the fund invests no more than 20 per cent of their net assets in a single property, subject to a ramp-up period of up to four years. In principle, Part II UCIs may not borrow more than 50 per cent of the value of all the properties. Their net asset value must be calculated at least once a year, and an independent valuer must be appointed to assess the value of the properties.
Real estate SIFs are subject to CSSF Circular 07/309, which restricts investment in a single property to 30 per cent of their assets, but they may in practice take advantage of the four-year ramp-up period. Although borrowing restrictions are more flexible than for Part II UCIs, the AIFM Law requires that their AIFM determines the maximum leverage levels for the fund.
SICARs may also invest in real estate to the extent that they:
- demonstrate an element of risk capital, such as the objective of developing the target asset, or specific risks associated with the property that are beyond the common level of real estate risk; or
- are acquiring the property to sell at a capital gain in a relatively short time frame.
Depending on their strategy, real estate RAIFs follow the same rules as those detailed for SIFs and SICARs above.
Finally, SOPARFIs and limited partnerships can also be used to set up unregulated real estate funds and are not subject to investment restrictions.
v Hedge funds
Although a limited number of UCITS employ hedge fund strategies, hedge funds are usually set up as Part II UCIs, SIFs or RAIFs.
CSSF Circular 02/80 details specific investment rules applicable to regulated investment funds pursuing hedge fund strategies.
SIFs and RAIFs are not in principle subject to any asset restrictions, and are, therefore, best suited to accommodate all sorts of hedge fund strategies. They are both, however, required to diversify their investments to 30 per cent of their assets (subject to exceptions) as further detailed in CSSF Circular 07/309.
CSSF Circular 08/372 specifies the rules on the appointment of prime brokers, the relationship between the depositary and the appointed prime brokers, and the liability of the depositary in that respect.
vi Private equity
Private equity funds may be established as Part II UCIs, SICARs, SIFs, RAIFs, and other types of unregulated companies or partnerships. In practice, the SCSp, the SCS or the SOPARFI are typically used.
In addition, regulated and unregulated vehicles can be set up as EuVECA funds. These are restricted to equity instruments issued by or loans granted to qualifying portfolio undertakings, meaning undertakings that are at the time of the first investment by the fund in that undertaking not admitted to trading on a regulated market or multilateral trading facility, and that employ up to 499 persons. Small and medium-sized enterprises (SMEs) that are listed on SME growth markets will also be allowed under the revised EuVECA Regulation.
EuVECA funds are also subject to specific rules in respect of fund portfolio composition, investment techniques and own funds. In particular, these funds must intend to invest at least 70 per cent of their aggregate capital contributions and uncalled committed capital in assets that are qualifying investments and, as a consequence, not use more than 30 per cent for the acquisition of assets other than qualifying investments. One of the defining features of the EuVECA regime is that it does not require the appointment of a depositary.
The EuVECA Regulation applies to EEA managers that are subject to registration with the competent authorities of their home country in accordance with the AIFM Directive and manage qualifying venture capital funds with total assets under management of less than €500 million.
The use of the revised EuVECA label is now also open to above-threshold AIFMs that continue to be subject to the requirements of the AIFM Directive while complying with certain provisions of the EuVECA Regulation (those on eligible investments, targeted investors and information requirements).
EuVECA managers can also manage and market AIFs that are not EuVECA funds. However, the EuVECA passport does not apply to these funds.
vii Other sections
Luxembourg also provides an appropriate legal, regulatory and tax environment for microfinance, ESG and other sustainable funds. It is also home to a number of investment funds compliant with shariah principles.
The tax regime applicable to Luxembourg investment funds depends on the legal form of the fund and whether it is subject to a specific product law or not.
i Corporate income tax (CIT), municipal business tax (MBT) and net wealth tax (NWT)
Investment funds subject to a product law
UCITS, Part II UCIs and SIFs are exempt from corporate income tax (CIT), municipal business tax (MBT) and net wealth tax (NWT), but are subject to subscription tax on their net asset value. The annual subscription tax rate is 0.05 per cent for a UCITS and Part II UCIs, and 0.01 per cent for a SIF. The tax is computed and payable quarterly, and there are certain reductions and exemptions, notably for sustainable funds. Exempt funds do not usually qualify for the benefit of EU Directives or double tax treaties.
SICARs organised as a corporate entity are formally fully subject to CIT and MBT, but benefit from specific exemptions on income and gains from risk capital securities. In addition, SICARs are exempt from NWT, except for the minimum NWT. SICARs are deemed to qualify for the benefit of EU Directives and double tax treaties. Foreign tax authorities may, however, take a different stance. SICARs transparent for tax purposes are subject to the partnership provisions detailed below.
RAIFs follow the tax regime of the SIF by default, but can opt for the tax regime applicable to the SICAR if they invest in risk capital.
Investment funds not subject to product laws
As transparent entities for Luxembourg tax purposes, the SCS and the SCSp are not subject to CIT or NWT. An SCS or SCSp may, however, be subject to MBT at a rate of 6.75 per cent (in Luxembourg City in 2021) on its profits if it carries out a business or is deemed to carry out a business. An SCS or SCSp that is an AIF in the meaning of the AIFM Law is deemed not to conduct a business, unless its general partner qualifies as a Luxembourg capital company holding at least 5 per cent of interests in the partnership or a foreign capital company with a permanent establishment in Luxembourg through which it holds at least 5 per cent of interests in the partnership.
SOPARFIs are companies subject to CIT and MBT on their income at an aggregate rate of 24.94 per cent (in Luxembourg City in 2021), and NWT on the fair market value of their worldwide net assets (again, subject to certain exemptions) at a rate of 0.5 per cent for the first €500 million of net assets and 0.05 per cent for the tranche of net assets exceeding €500 million. However, income received by a SOPARFI from its shareholdings (dividends, liquidation proceeds) and capital gains realised upon the sale of these shareholdings are exempt to the extent that the conditions of the Luxembourg participation exemption regime are met.
SOPARFIs benefit from the double taxation treaties concluded by Luxembourg, as well as from the EU Directives.
ii Real estate tax
From 1 January 2021, a new annual 20 per cent real estate tax is levied on income and gains arising from real estate assets situated in Luxembourg and realised directly or indirectly by Part II UCIs, SIFs and RAIFs that are not limited partnerships.
iii Withholding tax
In relation to WHT on distributions to investors, the following rules apply:
- there is no withholding tax on distributions made by funds that are tax transparent for Luxembourg tax purposes;
- distributions made by funds subject to a product law are not subject to withholding tax; and
- distributions by a corporate fund not subject to a product law are in principle subject to a 15 per cent withholding tax, subject to reductions or exemptions for qualifying investors.
iv Taxation of IFMs
Luxembourg IFMs are generally subject to CIT, MBT and NWT under the same conditions as those that apply to SOPARFIs.
Managing funds subject to a product law is exempt from VAT in Luxembourg. The exemption covers investment management (portfolio and risk management), administration (e.g., investment advice, fund accounting, registrar and transfer agent), and marketing and distribution. Essential management services outsourced to third parties also benefit from the exemption under conditions.
Depositary services are partly exempt from VAT; services related to the control and supervision functions of the depositary are subject to a reduced rate of 14 per cent.
Other services, such as legal and audit services, are not exempt from VAT and are subject to the standard rate of 17 per cent.
After the 2020 regulatory highlight consisting in the implementation of the SFDR,23 the Luxembourg fund industry still faces challenges ahead with new EU pieces of regulation or the review of existing framework, such as the AIFM Directive.
It is uncertain to what extent the covid-19 pandemic will continue to affect the fund industry, but Luxembourg actors of that industry are determined to continue developing sustainable investment products and facing regulatory challenges.
Compliance and transparency will continue to dominate the outlook of the Luxembourg fund industry in the years to come. Already postponed several times owing to the covid-19 pandemic, Luxembourg's FATF assessment is expected to take place during spring 2022. The CSSF currently puts particular emphasis on compliance by supervised entities and new market players seeking CSSF authorisation or registration.
Focus on AML/CFT matters dominates at European authorities' level with the European Banking Authority (EBA) public consultation on draft regulatory standards on a central database on AML/CFT in the European Union. The database is expected to be a key tool for the EBA's recently enhanced mandate to lead, coordinate and monitor AML/CFT efforts in the European Union. The EBA is also consulting on its new guidelines setting out how prudential supervisors, AML/CFT supervisors and financial intelligence units (FIUs) should cooperate and exchange information on AML/CFT.
ii Sustainable finance
Despite the decision made by the European Commission to defer the application of the Regulatory Technical Standards under SFDR by six months to 1 July 2022, the journey to a more sustainable funds industry continues at a rapid pace.
As Luxembourg reinforces its position as European leader in sustainable finance, the tax provisions of the UCI Law (applicable to UCITS and Part II UCIs) have been recently amended. Reduced subscription tax rates (compared to the typical 0.05 per cent rate) now apply to the portion of the net assets of UCIs invested in economic activities that qualify as environmentally sustainable within the meaning of Article 3 of the Taxonomy Regulation.
On 3 March 2021, a bill of law implementing the SFDR and the Taxonomy Regulation into Luxembourg law24 was introduced with the Luxembourg parliament. The bill of law proposes to add to the CSSF's duties the monitoring of compliance with the SFDR and the Taxonomy Regulation by financial market participants (including investment fund managers) and financial advisers under its supervision. It defines the investigative powers necessary for the performance of its supervisory duties and gives the CSSF the power to impose sanctions.
The bill of law is also meant to implement into Luxembourg law the EU Regulation establishing a pan-European Pension Product (PEPP).25
On 28 June 2021, the European Commission adopted two adequacy decisions confirming that the United Kingdom offers an adequate level of protection for personal data, thereby guaranteeing the continuity of free flow of personal data between the United Kingdom and the European Union under the GDPR26 until 27 June 2025.
iv AIFM Directive
In June 2020, the European Commission reported its assessment on the application and scope of the AIFM Directive,27 further to which ESMA highlighted 19 priority topics to consider in the review process.
Following a consultation process, legislative proposals are expected in the second half of 2021. These should cover further harmonising between UCITS and AIFM Directive rules, liquidity management tools, depositary rules, reporting regime and data, and delegation and substance requirements.
v Implementation of new EU cross-border distribution rules for UCITS and AIFs
A bill of law implementing the EU Directive28 recasting the rules applicable to the cross-border distribution of UCITS and AIFs is currently being reviewed by the Luxembourg parliament.29 Once implemented across EU Member States, these new rules will ensure consistency between UCITS and AIFs cross-border marketing rules, increase investor protection by introducing a harmonised definition of pre-marketing and simplify the procedures applicable to the cross-border distribution of collective investment undertakings.
In the context of the covid-19 pandemic and with a view to remove red tape and mitigating the economic turmoil, a new Directive amending MiFID II30 was published on 26 February 2021 in the Official Journal of the European Union.
The changes brought by the Directive aim to facilitate the provision of investment services and the performance of investment activities for example by exempting from product governance rules investment services related to bonds with a make-whole clause or financial instruments exclusively marketed to eligible counterparties and exempting from costs and charges disclosure requirements services provided to professional clients and eligible counterparties, while ensuring a high level of investor protection.
One of the main ambitions of the Luxembourg fund industry in the upcoming years is to become a market leader in the marketing of innovative pension products31 that will develop with the implementation of the PEPP and with a specific focus on ESG-labelled pension products.
Directive 2018/822/EU (DAC6), which introduced mandatory disclosure rules that required to report schemes considered as potential aggressive tax-planning arrangements took effect on 1 July 2020. DAC6 reporting obligations started on 1 January 2021, in line with industry guidance for analysing reportable arrangements and their potential effects on investment funds.
Further developments are expected through Council Directive (EU) 2021/514 of 22 March 2021, which introduces rules on income earned by sellers on their digital platforms (DAC7), and on a legislative proposal in relation to reporting and exchange of information on cryptoassets and e-money for tax purposes (DAC8), as well as the possible introduction of an EU digital levy.
1 Pierre de Backer is a principal and Philippe Coulon is a senior associate at Deynecourt.
2 Law of 23 December 1998 establishing a financial sector supervisory commission.
3 CSSF Circular 07/309.
4 SICAR Law, Article 1(2).
5 Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010.
6 AIFM Law, Article 3(3).
7 UCI Law, Articles 17 to 22 and 33 to 37.
8 AIFM Law, Article 19.
9 AIFM Law, Article 45.
10 FAQ Alternative Investment Fund Managers.
13 CSSF annual report 2019.
14 PwC Asset Management Barometer 2021.
15 PwC Global Fund Distribution 2020.
17 CSSF annual report 2019.
18 ALFI annual report 2020-21.
19 RCS, Registre de Commerce et des Sociétés, 1 July 2021.
20 PwC Asset Management Barometer 2020.
21 ALFI annual report 2020-21.
22 CAA Circular 08/1.
23 Regulation (EU) 2019/2088 of the European Parliament and of the Council of 27 November 2019 on sustainability-related disclosures in the financial services sector.
24 Bill of law No. 7774.
25 Regulation (EU) 2019/1238 of the European Parliament and of the Council of 20 June 2019 on a pan-European Pension Product.
26 Regulation (EU) 2016/679 of the European Parliament and of the Council of 27 April 2016 on the protection of natural persons with regard of personal data and on the free movement of such data, and repealing Directive 95/46/EC (General Data Protection Regulation).
28 Directive (EU) 2019/1160 of the European Parliament and of the Council of 20 June 2019 amending Directives 2009/65/EC and 2011/61/EU with regard to cross-border distribution of collective investment undertakings.
29 Bill of law No. 7737.
30 Directive (EU) 2021/338 of the European Parliament and of the Council of 16 February 2021 amending Directive 2014/65/EU as regards information requirements, product governance and position limits, and Directives 2013/36/EU and (EU) 2019/878 as regards their application to investment firms, to help the recovery from the covid-19 crisis.
31 ALFI Ambition 2025.