Clarifications on reverse-hybrid rules
On 23 December 2022, the Luxembourg Parliament adopted the budget bill for 2023 (the "Budget Law") containing clarifications on the so-called reverse-hybrid rules effective 1 January 2022 (the date on which the Luxembourg reverse hybrid rules became effective).
The reverse-hybrid rules may trigger a Luxembourg tax transparent partnership (i.e. SCS, SCSp) and FCPs to become subject to Luxembourg income tax if (i) one or more associated investors hold 50% or more in the Luxembourg partnership or FCP and (ii) the jurisdiction where the investor resides considers the Luxembourg partnership or FCP as opaque (i.e. non transparent) and does not include the income of the partnership or FCP in its taxable income.
The Budget Law now clarifies that the non-inclusion of the income of the partnership or FCP by the relevant investor(s) must be triggered by the reverse-hybrid nature. That means that the reverse hybrid rules do not apply for investors that reside in a tax haven jurisdiction or that are otherwise fully tax exempt (e.g. pension funds and sovereign wealth funds), irrespective if they would treat the Luxembourg partnership and FCP as opaque.
This clarification could prove useful for Luxembourg partnership and FCP structures that have tax exempt investors in jurisdictions such as Australia, Netherlands, France, Italy, Japan, Lithuania, South Korea and the US, that easily considers a Luxembourg partnership or FCP as tax opaque.
Although there is an exemption from the “reverse hybrid” rules for widely held investment funds investing in a diversified portfolio of securities subject to investor protection rules, this clarification is welcomed as the applicability and therewith scope of the exemption is unclear and subject to debate, and therefore difficult to rely on. However, it shall be noted that the Budget Law did not provide clarification on this exemption.