Agefi Luxembourg - juillet août 2024

Juillet / Août 2024 37 AGEFI Luxembourg Droit / Emploi By Emilien LEBAS, Partner, International Tax, Tax controversy&dispute resolution leader and Valentine PLATEAU, Assistant Manager, International Tax, KPMG Luxembourg O n 4 June 2024, the Luxembourg administrative court of appeal (“theAdministrativeCourt” or “theCourt”) (Cour administrative, 4 juin 2024, n°49203C) issued a decision inwhich it took a positiononwhether the partial liquidation carried out by the taxpayer (or “the claimant” or “the appel- lant”) through the redemp- tionof classes of shares shouldbe considered as abu- sive, and therefore requalified as a dividenddistribution for tax pur- poses, i.e., subject towithholding tax (“WHT”) inLuxembourg. The recent introduction of the bill of law n°8388 (1) by the Luxembourg government concerning classes of sharesmakestheanalysisofthisdecisionparticularly relevant and interesting. Case summary The taxpayer in the case under reviewwas a former CypriotresidentcompanywhichmigratedtoLuxem- bourgin2016.Thecompanywasheldbytwonatural persons, residents inRussia for tax purposes. Following anaudit fromtheLuxembourgdirect tax authorities, the company’s corporate tax return for the fiscal year 2017 was challenged. During that year (in November 2017), the taxpayer divided its existing share capital into classes of shares (classes of shares fromA to J and fromAA and JJ) shortly before receiving dividends from its subsidiaries. The taxpayer subsequently redeemed and can- celled some of its classes of shares in December 2017, treating this operationas apartial liquidation (2) exempt fromWHT. Given the circumstances surrounding theoperation, andnotably the fact that bothshareholdersof theap- pellant were natural persons, the tax office consid- ered the issuance of classes of shares, almost immediately followedby their redemptionandcan- cellation, as abusive under §6 Steueranpassungsge- setz (“ StAnpG ”) (3) . As a result, profits repatriated through such a transaction were recharacterized by the tax office as income fromcapital, giving rise to a 15% WHT as per Luxembourg domestic tax law without any double tax treaty relief. Following the issuance of aWHT assessment by the Luxembourg tax authorities, the claimant addressed an administrative claimto the director of the Luxem- bourgdirect taxauthorities anda request for a stayof execution( sursisàexecution )oftheWHTchargetothe tax office. The latterwas rejectedon the grounds that theclaimwasnotdeemedtohaveareasonablechance of success, and a second administrative appeal was therefore subsequently lodged with the director to contest suchdenial. InDecember2020,thedirectoroftheLuxembourgtax authorities took a position alignedwith the tax office with respect toboth claims. Unsatisfiedwith the out- come, the taxpayer further referred both of the direc- tor’s decisions to the Luxembourg administrative courtoffirstinstance(“ theAdministrativeTribunal ”) inMarch2021, andsubsequentlycomplemented this with a new stay of execution request in September 2021 to suspend the enforcement measure ( astreinte ) accompanying the rejection of the administrative claim. The latterwas denied. On 14 June 2023, the Administrative Tribunal con- firmedthepositionofthetaxauthorities( Tribunalad- ministratif, 14 juin 2023, n°45759 ). As a result, an ap- peal was lodged on 24 July 2023 with theAdminis- trative Court. Context of the decision The decision under review is yet another decision where theAdministrativeCourt has takenaposition on a case involving an abuse of law. The approach followed by the Court to determine whether an abuseoflawmaybeidentified,andhowthisconcept can coexist withwhat seems to be an opposite prin- ciple – the right of the taxpayer to choose the least taxed path ( choix de la voie la moins imposée ) – is now well-established. Recently, the Court has issued several decisions where it also had to determine whether an abuse of law could be characterized in cases involving a de- layed use of tax losses carried forward (4) , applying the same reasoning. In short, the concept of abuse of law (5) relies on the following cumulative criteria, which the Adminis- trativeTribunalandtheCourtsystematicallyanalyze based on the specific facts and circumstances sur- rounding the case: 1. private law forms and institutions are used; 2. taxes are reduced; 3. an inadequate path is used; and 4. there are no valid non-tax reasons justifying the use of the chosen path. It is clear fromthe present case that the last criterion serves as a protective measure for the tax adminis- tration. While, in principle (6) , the burden of proof shouldprimarily remainwith the direct tax author- ities, they only need to demonstrate the existence of elements constituting the abuse of law and to make “plausible” the absence of an economic justi- fication for the chosen path. This relatively low threshold, when deemed satisfied by the judges, is sufficient to shift the burden of proof to the claimant, who must then substantiate and docu- ment the economic considerations justifying the liti- gious operations. This principle has been reiterated by the Court in the present case. This judgment is also, andmore importantly, inter- estingas it dealswith the repurchaseand immediate cancellation of classes of shares (also referred to as “Alphabet Shares”).Whenanalyzingcasen°49203C, it is striking to note that the principle of the applica- bility of the tax treatment of a partial liquidation to the repurchase followedby the immediate cancella- tion of a class of shares was not as such challenged by the tax authorities. Quite the opposite, the latter decided tochallenge the contentious transactions on the grounds of the abuse of lawonly. However, the legal provisions governing such a mechanism are not explicit. Due to the lack of legal clarity,uncertaintiespersistregardingwhichcircum- stances the Luxembourg tax authorities deem ac- ceptable andwhich they do not. This judgment therefore serves as a re- minderofthecurrentstateofplayand the considerations that need to be keptinmindforanoperationnotto be considered abusive. TheCourt’s decision In the case at stake, it is impor- tanttomentionthatthequalifi- cation of the repurchase and immediatecancellation of classes of shares as partial liquidation was not contested. How- ever, the Court argued that such a redemption, in the specific circum- stances of the case, consti- tuted an abuse of law. Inestablishingwhethertherehasbeen an abuse of law, the Court’s analysis mainly (7) relies on the four cumulative criteria thatwe set out earlier. The first element in the characterization of an abuse of law (i.e., the use of private law forms and institu- tions) was not in itself contested by the appellant. It simply refers to the operation by the taxpayer of di- viding its existing share capital into classes of shares, repurchasing certain classes of shares and immedi- ately cancelling them. Theconsequencesofsuchanoperation,however,and notablywhether it effectively resulted in a tax reduc- tion, were central to the dispute and required the judges todelvedeeply into the analysis of the charac- terization of the repurchase and immediate cancella- tionof classes of shares. In this regard, the main argument held by the tax- payerwasthateventhoughthecontentiousoperation effectively resulted in a repatriation of profits to its shareholders, no tax reductionwas obtained. The Administrative Court, however, ruled other- wise. Exploring the variousmeans presented by the appellant, theCourt observed that in2017,when the repurchaseandimmediatecancellationoftheclasses of shares occurred, the taxpayer had available re- serves resulting from profits carried forward from past fiscal years and mainly from dividend income distributed twomonthsbefore, the sumofwhichex- ceeded the amount of profit that was repatriated through the repurchase and immediate cancellation of the classes of shares. The Court then recalled, on the basis of article 97 (3) point b) LITL, that payments resulting froma capital reduction should remain taxable in cases where the operation could not be justified by sound economic reasons (“ raisons économiques sérieuses ”). TheAdmin- istrative Court then clarified how the term “sound economic reasons” should be interpreted. In this re- spect,theAdministrativeCourtreferredamongother thingstoparliamentarycommentsstatingthat“ sound economic reasons are generally missing when a company reduces its capital while having significant distributable re- serves that it does not intend to distribute to its sharehold- ers ” (8) . In essence, in the event that the operation constitutedasharecapitalreduction,theprofitsrepa- triated to the individual shareholders would have been subject to a 15%WHT anyway. Observing that the amount paid by the company upon the repurchase and immediate cancellation of the classes of shares approximatively equaled the amount of the dividends the company had received in the samefiscal year, theAdministrativeCourt con- sideredthatthelitigiousoperationthereforeappeared as a redistribution by the appellant of almost all the dividends it had just received from its subsidiaries. The reductionof taxwas thendetermined. With respect to the inadequate path criterion and the absenceofvalidnon-taxreasonsjustifyingthechosen path, the Administrative Court reaffirmed the tax- payer’s right to choose the least taxedpathwhen car- rying on its economic activities but also emphasized that such a right should be exercised within certain limits.Inthisregard,thejudgesheldthateventhough the unusual nature of an operation should not, on its own,establishtheexistenceofanabuseoflaw(though it may be an indicator), it should not enable the tax- payer to obtain any tax advantage that the legislator didnot intend to grant in the given circumstances. In the caseunder review, theCourt, like theAdmin- istrative Tribunal, observed that all the classes of shares granted identical economic and legal rights. As, ultimately, they had not lost any rights follow- ing the capital reduction, and since the company had not received any consideration (the shares being immediately cancelled after the repurchase), the Administrative Court concluded that, from an economic standpoint, the repurchase price couldbe recharacterized as a dividenddistribution. In addi- tion, the taxpayer was not able to prove the exis- tence of non-tax reasons pertaining to the operation. Arguing, as the appellant did, that the repurchase and immediate cancellationof the shareswas in line with anupdate to the company’s investment policy (i.e., no reinvestment of the funds) was not consid- ered enough by the Court since the taxpayer did not provide any detailed explanation or documen- tation in this respect. Given that (i) there were no distinct economic rights betweentheclassesofshares,(ii)therewasnochange fromaneconomicpointofviewfromdividingtheor- dinary share capital of the company into classes of shares and (iii) the taxpayer repurchased its own shareslessthantwomonthsafterreceivingadividend distribution and the amounts of the consecutive op- erations were almost matching, the Administrative Courtconsideredthattheinappropriatepathcriterion wasmet.Otherelementsincludingthewaythetrans- action had been disclosed in the notes to the appel- lant’s financial statements were considered by the Court as confirming this view. Considering that all the conditions required to demonstrate the existence of an abuse of lawwere fulfilled ,theAdministrativeCourtrejectedtheappeal. Although the position taken by the Administrative Court in the case at stake (which was on the same page as the tax authorities and the Administrative Tribunal) does not come as a surprise, it should be kept in mind that the current framework remains subjecttochangeconsideringtherecentintroduction ofthebilloflawn°8388bytheLuxembourgGovern- ment concerning partial liquidations. It is too early to draw a final conclusion onwhether a potential adoption of the bill of lawn°8388 would impact the case lawdiscussed in the present article. At this early stage, though, it seems reasonable to claimthat if there is an impact, it wouldbe expected to be rather limited. 1)Billoflawdated23May2024,n°8388. 2)Article101oftheLuxembourgIncomeTaxLaw(“ LITL ”). 3)Steueranpassungsgesetz,16October1934,Mém.A/J.O.G.D.L. n°901dated2January1934,p.9001.Tobecompleteitshallbere- membered that the §6 StAnpG applicable at the time of the dis- putedtransactionswastheoneinforcebeforeitsamendmentby thelawof21December2018havingtransposedintoLuxembourg domestic law the provisions of the anti-tax avoidance directive (UE) 2016/1164 related to the so-called “general anti-avoidance rule”(“ GAAR ”). 4)Pleaserefertoourpreviousarticleinthistaxcontroversyseries (E. Lebas, V. Plateau “Tax controversy series –Administrative court of appeal judgment on the use of tax losses carried forward”,AGEFI Lux- embourg, June 2024 p. 38.) in relation to theAdministrative Court decisionn°49336C,dated25April2024. 5)Asdescribedinfootnoten°3. 6)Article59oftheLawof21June1999( Loimodifiéedu21juin1999 portantrèglementdeprocéduredevantlesjuridictionsadministratives) . 7)Otherargumentswereinvokedbythetaxpayersuchasavio- lationoftheprincipleoflegitimateexpectation.However,asthey weredeemednon-relevantbytheAdministrativeCourtandnot furtherelaboratedon,thesewillnotbecommentedoninthisar- ticleforthesakeofclarity. 8) Free English translation of parliamentary comments of bill of law571bytheauthors. Tax controversy series Administrative court of appeal decision on abusive partial liquidation S elon le dernier décompte duministère de la Justice/STATEC, 570 entreprises ont été déclarées en faillite et 69 liqui- dées au cours des six premiersmois de 2024. Faillites Les faillites sont enhausse de 6%par rapport aupre- mier semestre 2023 (570 contre 537 jugements). En excluant les sociétés holding et fonds de placements, leur nombre est même en légère baisse (-3.5%). Cette évolutionàprioripositiven’enestcependantpasvrai- ment une. En effet, d’après les premières estimations, les pertes d’emplois salariés liées aux faillites se chif- frent à 1.759, contre 1.340 au premier semestre 2023, soit une hausse de plus de 31%. Il faut remonter à 2013 et avant pour retrouver des niveaux similaires voirsupérieursentermesdepertesd’emplois.Leplus grand nombre de faillites (155) concerne les sociétés de type holding et fonds d’investissement. Le secteur de la construction déplore 102 faillites au premier semestre 2024 (-2% par rapport à la même périodede2023)et830pertesd’emploissalariés(+62% par rapport aupremier semestre 2023). On compte 90 faillites au niveau de la branche du commerce,soitunebaissedeplusde13%parrapport àlamêmepériodede2023.Lespertesd’emploissala- riés sont estimées à 210, soit plus du double par rap- port aupremier semestre 2023. Les faillites dans l’Horeca se chiffrent à 58 (-8% par rapport au premier semestre 2023), avec pour consé- quence quelques 327 emplois perdus (+32%). Liquidations Lesliquidationssontenfortebaisseaupremiersemes- tre 2024 (-83%). Près de 35% des sociétés liquidées durantlapériodesousrevuesontdessociétésholding et fonds de placement. Source : STATEC Evolution contrastée des faillites - liquidations en forte baisse ©STATEC