Key changes to the Luxembourg double tax treaty
We highlight the key changes which will impact businesses as a result of the Double Tax Treaty between the UK and Luxembourg.
On 7 June, 2022, Luxembourg and the UK signed a new Double Tax Treaty together with a Protocol, introducing a set of updated tax provisions governing business relations between both countries.
The updated provisions, which are partially inspired from the latest version of the OECD Model Convention, were expected to come into force in 2023, and will only become effective in 2024. This would replace the current treaty dated 1967, as amended from time to time.
Summary of key changes
Article 4 – Resident
The changes with respect to Article 4 are two fold:
- With respect to the residency of persons (other than individuals), the current effective place of management tiebreaker rule will be replaced by a mutual agreement between competent authorities
- With respect to persons eligible to the provisions of the treaty, the current definition will be expanded. Identified pension funds and charitable institutions of both countries including Luxembourg collective investment vehicles such as UCITS, UCIs, SIFs and RAIFs will be considered residents under the new provisions, subject to specific conditions being met
Article 10 – Dividends
Going forward, dividends paid under the new treaty will be exempt from withholding tax, as opposed to a 5%/15% withholding tax under the current provisions.
From a Luxembourg tax perspective, withholding tax exemption on dividends was regularly achieved through the application of the domestic participation exemption regime, which is no longer applicable to UK residents, further to their exit from the EU. The newly introduced withholding tax exemption shall not apply to dividend distributions made by REITs or similar vehicles.
Article 12 – Royalties
Royalties paid under the new treaty will also be exempt from withholding tax, as opposed to a 5% withholding tax under the current provisions. This exemption is less relevant from a Luxembourg perspective given the absence of domestic withholding tax on royalties but should be more attractive for royalty payments coming from the UK.
Article 13 – Capital Gains
The change operated in Article 13 is of particular significance for cross border real estate investments as it introduces a new property rich clause with respect to share deals. Under the provisions of the new treaty, capital gains derived upon disposal of shares (or comparable interests in partnerships or trusts) of a property rich resident shall be taxable in the country where the invested immovable property is located.
The disposal by a Lux HoldCo of a Lux PropCo invested exclusively in UK real estate will be subject to tax in the UK and not in Luxembourg.
A resident is considered as property rich where more than 50% of its value is derived directly or indirectly from immovable property. In this context, it seems relevant to highlight that these new provisions differ from the existing UK regime of non resident capital gains tax (“NRCGT”) which foresees a 75% threshold of value derived from UK real estate.
Article 28 – Entitlement to benefits
Article 28 incorporates, in line with the Multilateral Instrument (“MLI”), the Principle Purpose Test (“PPT”) which needs to be met to grant the benefits of the new double tax treaty. These provisions aim at eliminating treaty shopping situations by denying treaty benefits to transactions/arrangements not meeting the conditions of the PPT. Within this context, it seems relevant to highlight that these new provisions should not prevent Luxembourg from applying its own Controlled Foreign Company (“CFC”) rules.
Entry into force
Assuming the new treaty will be ratified by Luxembourg in 2023, below are the dates of entry into force for each tax category for both countries.
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