Fiscal transparency & partnerships
When choosing a legal structure for their investment, promoters and investors are frequently encouraged to form a partnership (société de personnes) for various legal and tax reasons.
Partnerships
Luxembourg commercial law makes a distinction between non-trading companies (sociétés civiles) and corporations (sociétés commerciales), grouping together both joint-stock corporations (sociétés de capitaux) and partnerships.
Luxembourg tax law makes a distinction between those taxpayers subject to corporate tax (impôt sur le revenu des collectivités, IRC) and those remaining outside its scope of application.
Under Luxembourg tax law, those taxpayers not subject to IRC include:
- general partnerships (sociétés en nom collectif),
- limited partnerships (sociétés en commandite simple), and
- joint ventures (entreprises communes) in general,
carrying out commercial, industrial, mining or craft activities.
For example:
- an Economic Interest Grouping (EIG),
- a European Economic Interest Grouping (EEIG),
- a joint venture (association momentanée),
- non-trading companies,
- any other (non-trading) group of persons, such as members of a profession or a joint ownership resulting from inheritance.
Partnerships are therefore not subject to IRC.
Fiscal transparency
The fiscal transparency of partnerships results from the fact that these entities are not subject to IRC; only the partners themselves are personally subject to income tax on their share in the profits realised by the partnership.
Even though some of these entities have a different legal personality than the partners, partnerships are not regarded as separate entities from their respective partners for taxation purposes.
This principle of fiscal transparency also applies to wealth tax (where appropriate, relating to affiliated partnerships) but not to municipal business tax (impôt commercial communal, ICC). Only partners are subject to this tax.
How to determine the taxable profit of fiscally transparent partnerships
1) First of all, the revenue generated by the partnership must be qualified. This qualification will be maintained at partner level.
For example, when filing a tax return for a partnership, the partnership's income is attributable to one of the following six income categories, depending on the partnership"s activity:
- Trading profit
- Profit from agriculture and forestry
- Profit from carrying out a profession
- Net rental income (movables and immovables in Luxembourg and abroad)
- Net investment income (equities, bonds, securities portfolio, investment funds, term investments, structured products, etc.)
- Other net income
2) The partnership declares its total income when filing the joint declaration. Then, in a separate declaration, specific income is attributed to each partner according to his individual share in the capital of the partnership.
3) Although some partnerships may receive loans from or grant loans to their partners, grant remuneration for the positions held by partners or allocate profit to partners, these items must be disregarded when determining the partnership’s profit or loss. This is because all remuneration is personally attributable to the partners themselves. From a tax point of view, a loan granted by a partner to a partnership does not, for all intents and purposes, exist and the income (interest) they receive is therefore not taxable.
4) The share of income accruing to each partner according to his interest in the partnership must be stated on his personal tax return. It will also have to be verified that such income falls within the scope of tax liability in Luxembourg, and that it is not exempt under national law or a double taxation agreement signed by Luxembourg with another State in which the partner is resident. Indeed, fiscal transparency could imply that income earned by a partnership is not at all taxable in Luxembourg as it is deemed to be earned outside Luxembourg according to different rules.
5) A partner may also offset income from a partnership against his own income and, for example, use the losses realised in such a partnership to be credited against his personal income (or vice versa). This may be the case for partnerships that make a loss on their investments. A loss associated with real estate investment by a non-trading real estate investment company (société civile immobilière) could be charged against the positive trading income realised by one of the partners.
6) A partner may also be encouraged to consider including tax credits and any type of withholding tax paid in Luxembourg or abroad in his own tax return or request that they be rebated.
It should also be pointed out that a partner may deduct, without limit, the interest paid in relation to the financing of his share in the capital of the partnership from his share in the partnership’s common income attributed to him.
The same partner may further deduct, as an expense, amortisation of any excess price or goodwill that he pays another partner when the sale price of his shares exceeds the partnership’s invested net assets at the time of the sale.
Legal aspects
Incorporation - Management – Administration
It is very straightforward to set up a partnership, for example by private agreement. Unlike a joint-stock company, a partnership is not subject to any specific rules concerning its administration, regulation, freedom to redraft the Articles of Association, or possibility of publication by extract in the Mémorial.
Trade secrecy
A partnership is not obliged to publish its annual financial statements.
This non-disclosure allows the partnership’s results to be kept secret from third parties.
Asset preservation
When drafting the Articles of Association, clauses may be inserted that almost block third-party access to capital, thereby ensuring that assets are preserved and decisions are taken within the circle of partners, a family or a group of investors. This represents an undeniable advantage for any partnership that is keen to keep its assets within the family.
Investors’ exposure can also be limited to their outlay while benefiting from the fiscal transparency regime, for instance, by forming a limited partnership whose limited shareholders are liable for its commitments up to the amount of their capital contribution and with respect to which only the unlimited shareholder remains indefinitely jointly and severally liable for the partnership’s debts and losses.
This unlimited shareholder can be a joint-stock company.
This structure minimises investors’ risk to the same level of risk as that of shareholders of a joint-stock company.
