The Luxembourg Intellectual Property (IP) Company
On March 22, 2018, Luxembourg introduced a new “IP Box” regime for income, including capital gains, generated from eligible intellectual property (IP) rights. This change was made in accordance with international tax recommendations and, specifically, in response to the OECD’s final report on Action 5 of the Base Erosion and Profit Shifting (BEPS) plan.
This adjustment had been eagerly anticipated since the previous “IP Box” regime was repealed in July 2016, with a five-year grandfathering period that concluded on June 30, 2021. In essence, the old regime was entirely replaced by the new one.
To continue benefiting from the specific “IP Box” regime after June 30, 2021, the income, including capital gains, must meet the criteria outlined in the new Article 50ter of the Luxembourg Income Tax Law (LITL), which became effective on January 1, 2018, and is in line with the BEPS “nexus approach.”
The nexus approach mandates that any preferential tax regime’s advantages are contingent upon the presence of significant economic activities in the jurisdiction that grants such a regime, and there must be a direct correlation between the income benefiting from preferential treatment and the research and development expenses contributing to that income.
Under the previous “IP Box” regime, individuals could, in essence and subject to specific requirements, avail themselves of a tax relief of up to 80% on the net income generated from the utilization of a patent, trademark, design, software, or domain name by a Luxembourg taxpayer. With the new regime, the 80% exemption remains intact but is now contingent upon the presence of tangible business activity, as measured by research and development expenses.
Consequently, the 80% exemption is computed based on the adjusted and compensated eligible income in accordance with the nexus ratio (referred to as the “modified nexus approach”). This ratio is derived by dividing eligible expenses by the overall expenses directly associated with the creation or enhancement of a protected invention or software. Interest, financing costs, and real estate expenses are not factored into this calculation.
Qualifying IP Assets
The new Article 50ter of the Luxembourg Income Tax Law (LITL) offers a definition of eligible IP assets, encompassing any patent (in a broad sense) and copyrighted software formed, developed, or enhanced after December 31, 2007. In contrast to the previous “IP Box” regime, trade names, trademarks, domain names, and designs and models are not included in the new “IP Box” regime.
A key aspect of the new system lies in its coverage: it specifically excludes commercial intellectual property assets like trademarks and domain names, focusing primarily on patents (including plant varieties rights and orphan drug designation).
To qualify for the new regime, a taxpayer must possess an eligible intellectual property right, such as a patent. Subsequently, both expenditures and income must meet the criteria for the application of the 80% exemption provided by the new IP box regime.
Eligible expenditures encompass:
- Costs associated with research and development activities directly linked to the creation, development, or enhancement of an eligible asset, invested by taxpayers in connection with their own research and development activities.
- Payments made by taxpayers to a third party, whether located in Luxembourg or elsewhere, for research and development activities directly associated with the creation, development, or enhancement of an eligible asset.
- Payments made by taxpayers to a third party, via an associated entity, for research and development activities directly related to the creation, development, or enhancement of an eligible asset.
Eligible income pertains to revenue received as compensation for the utilization of an eligible asset (such as royalties). Also considered eligible are incomes directly linked to an eligible asset included in the selling price of a product or service, as well as income resulting from the transfer of eligible assets and damages awarded in a legal or arbitral proceeding related to an eligible asset.
The Purpose of the new IP Box Regime
The new regime is not merely a direct adoption of the recommendations put forth by the G20, OECD, and the European Union. Instead, it serves as an effective measure aimed at promoting research and development in Luxembourg as part of a long-term vision. The tax incentive is contingent upon real investments by foreign companies in Luxembourg, which, in turn, will help solidify Luxembourg’s standing, enhance its reputation as an innovative research and development hub, and consequently attract more businesses to its jurisdiction.
It’s worth noting that the new system, even though more stringent than the previous one, maintains a degree of flexibility as it doesn’t mandate that eligible research and development expenditures must always be made directly by the taxpayers themselves.
This new regime effectively blends the principles of the new international tax framework with an increased appeal for Luxembourg as a business destination.
The objective of the new “IP Box” regime is to incentivize research and development (R&D) activities, as the extent of the tax benefit hinges on their significance. Additionally, the introduction of this new regime brings about three significant changes compared to the old regime. First, trade names, trademarks, domain names, designs, and models are no longer eligible. Second, the tax benefit is contingent on the taxpayer’s involvement in the creation, development, or enhancement of intellectual property. Lastly, a tax exemption can be obtained for the utilization of one’s proprietary intellectual property.
The Luxembourg SPF
Société de Gestion de Patrimoine Familial (Family Wealth Management Company)
A Case Study for Luxembourg IP Rights
Introduced through the Law of 11 May 2007, the Family Wealth Management Company, commonly referred to as the “SPF” (Société de Gestion de Patrimoine Familial), serves as the Luxembourg financial sector’s response to the discontinuation of the Holding 29 company regime.
The SPF is a wealth management entity exclusively designed for private individuals. It’s essential to note that this company’s purpose is restricted to the acquisition, retention, and administration of financial assets. The SPF is exempt from direct income tax, with only a nominal annual subscription tax of 0.25% applied to the paid-up capital.
It’s worth mentioning that the “Administration de l’Enregistrement et des Domaines,” not the conventional tax authorities, is responsible for overseeing SPF compliance, which can offer certain advantages.
There are no legal constraints on the structure of an SPF. It may take the form of:
- A public limited liability company (Société Anonyme – “SA”)
- A private limited-liability company (Société À Responsabilité Limitée – “SARL”)
- A partnership limited by shares (Société En Commandite Par Actions – “SCA”)
- A cooperative company organized as an SA (Société Cooperative organisée sous la forme d’une SA)
The SPF is ideally suited for private individuals involved in managing their personal wealth. It operates exclusively in the interest of individual assets, such as trusts, private foundations, pure holding companies and similar entities.
The SPF’s sole purpose is the acquisition, retention, management, and sale of financial assets, including shares, bonds, bank assets, SICAVs, collective investment funds, and so on. Additionally, the SPF may hold participating interests in other companies, provided it does not engage in their management.
The SPF is prohibited from conducting any form of commercial activities, including:
- Trading in financial assets and financial services
- Offering remunerated loans
- Holding patents
- Directly acquiring and retaining real estate properties
Regarded as an extension of an individual’s private property and devoid of engagement in commercial undertakings, an SPF stands as a tax-neutral entity, exempt from corporate income tax, municipal business tax, and net wealth tax. This exemption arises from its purely instrumental role in private asset management, seeking to prevent double taxation of the same assets as they change ownership.
An annual subscription tax, fixed at 0.25% and capped at a maximum of EUR 125,000 per year, is levied on all SPFs. The tax base is calculated as the sum of the paid share capital, share premiums, and, if applicable, the portion of debt exceeding eight times the mentioned sum.
Due to its tax neutrality, an SPF does not enjoy the benefits of Luxembourg’s bilateral double tax treaty network or the EU Parent Subsidiary Directive (Directive 2011/96/EU, as amended over time). Consequently, an SPF may face unrecoverable foreign withholding taxes in the country where its investments are located.
Dividends and interest paid by an SPF are generally not subject to withholding tax, unless the Luxembourg law of December 23, 2005, introducing a domestic withholding tax on certain interest income on interest payments to resident individuals (RELIBI Law), is applicable. However, such dividend and interest payments may be subject to taxation at the recipient’s end under Luxembourg’s income tax laws for residents, and non-residents could face taxation in their respective countries. Capital gains arising from share transfers and liquidation surpluses of non-residents will not be taxed in Luxembourg.
Given its absence of commercial activities, an SPF should not be considered a taxable entity for Luxembourg value-added tax (VAT) purposes.
The oversight of SPF for tax matters is conducted by the indirect tax authorities (Administration de l’Enregistrement, des Domaines et de la TVA), who have the authority to notify the direct tax authorities if the SPF no longer meets the conditions to benefit from the SPF regime, which could result in its transformation into a fully taxable company subject to corporate income taxes.
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