The Luxembourg financial industry has entered a new phase of consolidation and development. A number of legislative and regulatory initiatives in recent years have addressed the increasingly sophisticated needs of an international clientele with cross-border business interests and multinational family relationships. To the extent that geographical proximity and banking secrecy are no longer the main growth drivers, the Luxembourg financial industry is aiming at an internationally recognised role as a global élite service provider.
A distinct competitive advantage to this effect is Luxembourg’s mixed legal tradition, which builds upon the tiny Grand-Duchy’s history and combines elements of French, German, and Dutch law. This multi-faceted legal environment has traditionally provided a fertile ground for the adoption of Anglo-American solutions and arrangements particularly suitable for the financial industry. This manifold legal background is mirrored in the multilingual ability of most Luxembourg practitioners and it is a strong basis for a globally oriented financial services sector.
AIFMD and Special Partnerships
Investment funds have been a leading component of Luxembourg’s financial industry since the first relevant legislation was enacted in the 1980s. The total assets under management of Luxembourg funds were €2.615 billion at the end of 2013, compared with €2.383 at the end of 2012. Based on the statistics published by the Luxembourg Association of Investment Funds (ALFI), with €193 billion in net sales Luxembourg funds represented nearly half of the European total sales in 2013. The number of funds and sub-funds increased to 3,902 at the end of 2013 compared to 3,841 in 2012.
The European Alternative Investment Fund Managers Directive (AIFMD) was transposed into Luxembourg law under the Law of 12 July 2013 on Alternative Investment Fund Managers (the AIFM Law). Among other things, the AIFM Law reformed the Luxembourg partnership regime by introducing a new vehicle, the ‘special limited partnership’ (société en commandite spéciale, SCSp), that has no legal personality and is transparent for tax purposes. The SCSp will therefore exist alongside the two traditional Luxembourg partnerships, the common limited partnership (société en commandite simple, SCS), that similar to a Scottish partnership, is a legal person but is transparent for tax purposes, and the corporate partnership limited by shares (société en commandite par actions, SCA), which is a legal person and a separate tax subject in its own right. The legal regime of all Luxembourg partnerships was modernised under the AIFM law.
Additional degrees of flexibility were introduced especially in relation to unincorporated partnerships, ie the traditional SCS and the newly introduced SCSp. Unlike companies, these partnerships may be created without the intervention of a civil law notary and require fewer publication formalities: in particular, the identity of limited partners is not subject to publication requirements.
The partnership agreement specifies the allocation of profits, which may not correspond to the partnership interests, as well as the management rules. In particular, a limited partnership may be managed by an external manager that need not be a general partner. This is an exception to the general rule that requires a general partner to manage the partnership, thereby bearing personal unlimited liability, while limited partners are prevented from interfering in the management of the partnership but are personally liable only within the limits of their contributions. Under certain conditions the limited partners who act in a capacity as managers are not deemed to be general partners and therefore do nor forego their limitation of liability.
Some streamlining of the tax regime of limited partnerships was introduced under the AIFMD law. In particular, a Luxembourg corporate entity acting as a general partner does not entail exposure to commercial municipal tax, provided that its partnership interest does not exceed five per cent. A favourable tax regime for the carried interest of fund managers and their employees was equally introduced. The new limited partnership regime appears to have had an immediate success in the fund industry with 83 new funds incorporated under this legal form since the enactment of AIFMD law in the second semester of 2013.
Islamic Finance and Sovereign Sukuk
Besides its leading position in the global fund industry, Luxembourg targets some specialised niche markets such as Islamic finance, where it competes with London as the main European hub in this area. Luxembourg was a leader in the field of Islamic finance, with the incorporation of the first Shari’a compliant insurance company in Europe in 1983 and the first listing of sukuk (the Islamic counterpart to bonds) on a European exchange in 2002.
The Luxembourg revenue authorities issued some circulars in 2010 and early 2011 with a view to clarifying the tax treatment of Shari’a compliant financial arrangements and eliminating the potential tax disadvantages resulting from the particular way in which these transactions are organised. In particular, Islamic financial transactions sometimes require multiple transfers of title that may generate repeated stamp duty payments in order to achieve the same result of a conventional financial arrangement. Other issues arising out of the specific legal arrangements stipulated by the Shari’a were also addressed by the Luxembourg authorities both for the purposes of indirect taxes (stamp duty, VAT) and in relation to income tax.
The Luxembourg Law of 22 March 2004 on Securitisation (the Securitisation Law) provides an expedient framework for the issue of sukuk or asset-backed notes linked to some specified underlying assets and therefore abiding to the main Islamic tenet that prohibits any form of interest payments. Within this framework, the Luxembourg government is arranging a €200 million sovereign sukuk issuance based on the securitisation of some properties. Once approved, it will most likely be the first sovereign sukuk issuance by a European government.
European Hub for Chinese Banks
Luxembourg is also competing with London for its primacy in the offshore market of yuan (or renmimbi), the Chinese currency. Luxembourg has one of the few European triple-A ratings and is located at the heart of the Eurozone. These circumstances as well as an effective and pragmatic financial regulator have led some of the major Chinese banks to favour the tiny Grand-Duchy as the hub for their European operations. This is the case for ICBC, which has its European headquarters in Luxembourg, as well as Bank of China and China Construction Bank, both having a relevant presence in the Grand-Duchy.
Luxembourg is vying for a leading role in the tightly controlled offshore yuan market, a significant share of which is held by Hong Kong, Singapore, and London. Meanwhile, Luxembourg has one of the largest yuan deposit bases in Europe and the largest number of yuan bonds issued outside Mainland China (dim sum bonds) listed on its stock exchange. Discussions are in progress with the Chinese authorities for the creation of a yuan clearing bank and well as for the grant of a RQFII status (renmimbi qualified foreign institutional investor), which is currently enjoyed by London and allows UK investors to buy assets in China by using renmimbi up to a certain limit.
Expanding Treaty Network
The global reach of Luxembourg’s financial industry is underpinned by the expanding network of double tax treaties, 69 of which were in force as of March 2014. Among the countries with which a new tax treaty was signed or enacted between 2013 and early 2014 it is worth mentioning Kazakhstan, Laos, Macedonia, the Seychelles, and Tajikistan. A protocol amending the treaty in force with Germany equally came into force as of 1 January 2014. More than half of Luxembourg’s tax treaties (36 as of March 2014) include provisions allowing the exchange of information on demand according to article 26 of the OECD model convention.
Family Offices and Patrimonial Foundations
An appeal of Luxembourg’s financial services sector to high net worth and institutional investors is the wide range of asset holding vehicles available under a specialised legislation, addressing increasingly complex needs and sophisticated niches. Some successful examples are the Specialised Investment Fund (SIF) and the family wealth management company (Société de gestion de Patrimoine Familial, SPF), both enacted in 2007.
A new player was added to the Luxembourg roster of specialised financial professionals under the Law of 21 December 2012 relating to the Family Office. This is one of the few pieces of legislation in the world regulating family offices as a financial profession and specifying the scope of their activities and the nature of their obligations. An imminent addition to the legal arrangements made possible under Luxembourg law are private foundations or more precisely ‘patrimonial foundations’ as they are referred to in the Bill No. 6595 that was filed by the Ministry of Finance on 22 July 2013 (the Foundations Bill).
Private foundations are the civil law equivalent of trusts in a number of private client arrangements. The Luxembourg Foundations Bill builds upon the well-established experience of neighbouring Belgium and the Netherlands and attempts to strike an adequate balance between flexibility, allowing founders to shape their foundations according to their needs and purposes, and some degree of control for an ‘orphan’ corporate entity that lacks the governance mechanisms available to the shareholders of a company. An internationally compliant and potentially favourable tax treatment, as well as a step-up facility in relation to the contribution of shareholdings to a foundation, similar to the one available under Austrian law, are additional features of the Foundations Bill.
Paolo Panico is an Avocat à la Cour in Luxembourg and a solicitor in Scotland. He is also Chairman of Private Trustees SA, a regulated corporate service provider in Luxembourg. Paolo is Deputy Chairman of the STEP Benelux branch and Chairman of the STEP Europe Region.His publications include: Private Foundations. Law and Practice (Oxford University Press, 2014), and International Trust Laws, 2d edition (OUP, 2017).