2 August 2013

Draft Law on Patrimonial Foundations

Luxembourg Tax Alert

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With the aim to further consolidate the position of the Grand-Duchy of Luxembourg as a center of excellence in Europe as regards the management and administration of private fortune, the Minister of Finance has deposited on 22 July 2013 a draft law n° 6595 on patrimonial foundations.

The aim of this draft law is the introduction into Luxembourg law of an orphan structure, called “patrimonial foundation”, which completes the array of existing corporate or contractual vehicles commonly used in the areas of patrimonial and inheritance structuring and planning. It can be used as an instrument to avoid the dissipation of a private fortune at the death of one of the family members, as well as ensuring the continuity in the management of a family business since it enables the dissociation of the economic ownership of the family fortune from the management of the family business.

The characteristics of the patrimonial foundation make it an instrument dedicated to individuals or patrimonial entities whose goal is the administration of a private fortune with the exclusion of exercising any commercial, industrial, agricultural or self-employed activity. As such, it differs from the foundations governed by the modified law dated 21 April 1928 on non-profit associations and foundations: even if a patrimonial foundation may have accessorily charitable and non-profit activities, it may not be incorporated with a purpose reserved for non-profit foundations, its object must be the management and the administration of a private wealth for the benefit of one or more beneficiaries or for the benefit of one or more (non-charitable) purposes (e.g. financing of the studies of a descendant).

The patrimonial foundation is incorporated by a special notarial deed that is to be published in the Official Gazette (Mémorial C) and extracts have to be deposited with the Register of Commerce. It is to be managed by one or more directors (individuals or corporate entities), who are responsible towards the foundation for the execution of the mandate they have received and for the faults committed in their management function.

The foundation may issue registered certificates linked to assets it owns and representing rights defined in the incorporation act or other documents, to any individual or patrimonial entity acting in the scope of wealth management of one or more individuals.

The patrimonial foundation has to keep its own bookkeeping and must establish annual accounts, but the latter are neither filed with the Register of Commerce, nor are they published.

The draft law also defines the tax regime applicable to the patrimonial foundations. As regards indirect taxes, the fixed registration duty of EUR 12 applies to the transfer of assets by a transferor to a patrimonial foundation as well as the transfer of assets by the patrimonial foundation back to the transferor. In order not to create a disparity of treatment between the transfer of assets from a private wealth as compared to the transfer of assets from a patrimonial foundation, it is foreseen that the transfers made by the foundation are subject to registration duties at similar rates as those normally applicable in the cases of donation or inheritance. Any transfer to a beneficiary made at a time where the founder is alive is hence taxed at the rate that would have been applied if the donation was made directly by the founder to the beneficiary. At the death of the Luxembourg resident founder, all net assets (after deduction of liabilities) are subject to registration tax at a rate of 40%. This rate is reduced to 0% for  net assets transferred to the spouse of the founder, his/her partner and his/her direct ascendant or descendant. It is furthermore reduced to 12% for certain categories of relatives of the founder. The aforementioned rates also apply at the death of a non-resident founder, whereby the registration tax is only levied on the estimated net market value (after deduction of liabilities) of any real estate located in Luxembourg.

The issuances to any person, except for the founder, of certificates related to Luxembourg real estate by a patrimonial foundation, as well as the transfer of such certificates, are subject to registration duties applicable to donations.

As regards direct taxes, the draft law considers the patrimonial foundation as autonomous taxpayer liable to corporate income tax. The income generated by the foundation is treated  as commercial income from a tax perspective. Hence it is also subject to municipal business tax, but the patrimonial foundation is exempt from net wealth tax.

Certain types of income should be tax exempt at the level of the patrimonial foundation: any income derived from capital in the sense of article 97 of the Income Tax Law (“ITL”), capital gains realized upon the sale of such assets generating income in the sense of article 97 ITL and capital gains realized upon the sale of movable assets insofar as the sale takes place more than 6 months after the acquisition. As well as the above; capital and the redemption value received pursuant to an individual long-term savings, disability or life insurance policy should also be tax exempt at the level of the patrimonial foundation. On the other hand, realized and unrealized losses, as well as foreign exchange losses on such assets are not tax deductible.

Any tax withheld upon Luxembourg sourced income cannot be reimbursed. There is, however, nothing in the present draft law that would at first sight prevent the application of the Luxembourg withholding tax exemption for dividend distributions, provided of course that the conditions set forth by law are met.

Hence, the transfer of assets into a patrimonial foundation is  treated as a transfer for consideration which must be valuated at the estimated realization value. Consequently, depending on the asset at stake (e.g. major shareholding or real estate), the transfer could trigger taxation at the level of the transferor. Payments made, or fringe benefits granted, by a patrimonial foundation to its founder, or beneficiaries, are assimilated to capital gains benefitting from a 50% exemption. Furthermore, it is worth mentioning that payments made by the patrimonial foundation are based on the current state of the law and are therefore neither subject to the withholding tax on interest payments (within the meaning of the Luxembourg law implementing the European Savings Directive [1]) made to individuals resident in the EU and in some Associated and Dependent territories nor to the final withholding tax (i.e. 10%) on interest payments made to individuals resident in Luxembourg [2].

Any sale of assets by the foundation to an individual, who is either a beneficiary or a certificate holder or the founder himself, is done at book value so as to ensure tax neutrality on such transactions. Any sale to a person, who is neither a beneficiary nor a certificate holder nor the founder, has to be done according to normal rules.

Furthermore, the draft law introduces the principle of a step-up of the acquisition price of certain securities upon the migration  of an individual’s  tax residency to Luxembourg. According to this new provision, the acquisition price of shares of stock, shares of capital, participations or any other form of investment in collective entities and qualifying as major shareholding (i.e. more than 10%) as well as the acquisition price of convertible loans if the taxpayer has a significant shareholding in the entity that has issued the convertible loan, would be revalued at their estimated market value as at the date of migration to Luxembourg. Such step-up would however not be applicable if, at the aforementioned date, the individual has been resident for more than 15 years and subsequently non-resident for less than 5 years.

 

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[1] Directive 2003/48/EC of 3 June 2003 on taxation of savings income in the form of interest payment

[2] Law of 23 December 2005 introducing a final withholding tax on certain interest payments (“RELIBI”)