New transfer pricing requirements – Luxembourg implements Local File and Master File: who is impacted and how?

Under the current law, taxpayers must provide proof and relevant documentation when asked to verify the data on their tax return and ensure its accuracy. This general rule is also applicable to transfer pricing (TP) matters.

Following the recent submission of a draft law by the Luxembourg Minister of Finance to the Parliament , a draft Grand-Ducal Regulation (GDR)  was published in the first quarter of 2023 by the Luxembourg Government. This GDR details the obligation to be introduced for taxpayers with related enterprises to provide, upon request, specific documentation on their TP policy.

According to the GDR, Luxembourg tax resident entities of Multinational Enterprise (MNE) groups meeting certain thresholds will be required to provide information regarding their global business operations and TP policies in a “Master File”, and detailed transactional TP documentation in a “Local File” as of taxation year 2024. 

The scope, content and extent of that documentation correspond to the international standards resulting from the work of the Organisation for Economic Co-operation and Development (OECD) on Action 13 of the Base Erosion and Profit Shifting (BEPS) Action Plan. One of the aims of this documentation is to provide tax administrations with reliable and uniform information to assess TP risks and target audit enquiries more effectively.

To whom will this apply?

Constituent entities of the group having a consolidated revenue exceeding 750 million EUR (being entities which are subject to the Country-by-Country Reporting (CbCR) obligation based on the Luxembourg Law transposing the European Union (EU) Directive on CbCR ), are covered by the GDR. 

An additional threshold is also foreseen in the Master File, namely that the standalone entity must have either a net turnover during a financial year of at least 100 million EUR or a balance sheet total at closing date of at least 400 million EUR.

It is to be noted that even if this new regulation is in line with OECD’s BEPS Action 13 and the OECD TP guidelines, those thresholds, along with other requirements of the GDR, differ from those of most other jurisdictions.

For instance, both the Netherlands and Belgium have a consolidated threshold of 50 million EUR (where Luxembourg requirements would be applicable as of 750 million EUR). Ireland fixed a consolidated income threshold of 50 million EUR for the Local file and 250 million EUR for the Master file.

Consequently, while the draft GDR enforces a TP requirement that was in practice – and sometimes for group reasons, met by some MNEs (especially by commercial groups present in Luxembourg) – the exemption thresholds are much higher than in other European jurisdictions. In addition, the draft GDR mainly enforces the requirement to prepare the documentation without imposing submission requirements, penalties or the inclusion of “non-substantial” intragroup transactions. It therefore seems that the choice has been made to favor more a “pragmatic” application rather than to add an additional layer of administrative requirements for MNEs. 

What are the minimum contents?

Following the OECD guidelines, the Local File must mainly include information on:

• the local entity, such as an organization chart, a description of the strategy and role of the entity within the group, a list of business restructuring and intangible transfers and a list of key competitors;
• controlled transactions, including a description of the material controlled transactions, the amounts at stake, the identification of the counterparts of the transactions and copies of all intragroup agreements, detailed TP studies along with a comparability and functional analysis, a justification of the methodology and the tested party, a list of the main assumptions made, comparable data used and adjustments performed (if any), as well as the list of financial information used for the TP studies and a copy of all unilateral, bi- and multinational Advanced Pricing Agreements (APAs);
• financial information, such as the financial statements of the entity and a reconciliation between the financial data used and the TP studies.

The Master File must include information on:

• the structure, including structure chart, description of the group’s source of profits, supply chain and geographical markets;
• the business, with (among others) information on the important drivers of profit, a description of the supply chain for the group’s five largest products and/or service offerings, a list and brief description of important service arrangements between members of the MNE group, including TP policies for allocating service costs and determining prices to be paid for intra-group services, a functional analysis describing the principal contributions to value creation by individual entities within the group and a description of important business restructuring transactions, acquisitions and disposals of assets occurred during the fiscal year;
• the intangibles, such as a description of the development strategy, ownership and exploitation of intangibles, a list of intangibles or groups of intangibles of the MNE group that are important for TP purposes and which entities legally own them, a list of important agreements among identified related enterprises related to intangibles, a general description of the group’s TP policies related to research and development and intangibles, a general description of any important transfers of interests in intangibles among related enterprises during the fiscal year concerned;
• the intercompany financing activities, including a general description of how the group is financed, be it with unrelated or group lenders;
• the financial and tax positions, i.e., the group’s annual consolidated financial statement and a list and brief description of the group’s existing unilateral APAs and other tax rulings relating to the allocation of income among countries.

Expected timeline

The requirement to maintain TP documentation in line with the provisions of the GDR will apply as from tax year 2024. 

While there is no monetary penalty foreseen for non-compliance with the requirements set forth by the GDR, an incomplete Master and/or Local File may lead tax authorities to challenge TP positions within the tax assessment process to increase the tax base and ultimately the tax burden of a Luxembourg resident entity. This may result in double taxation conflicts between Luxembourg and the country of residence of the relevant related enterprise(s). 

With the proposed law and GDR, certain Luxembourg entities’ obligations in TP matters will no longer be limited to justifying the arm’s length character of their intra-group transactions but will be extended to having specific documentation on their TP policy, in line with OECD’s BEPS Action 13.

Taxpayers which would fall within this scope would therefore have to review their TP documentation and prepare the relevant Master and Local Files, in alignment with the content of the new GDR. Given that the new requirements apply as from tax year 2024 (i.e., to any financial year closing during calendar year 2024), MNE groups should anticipate the regulatory transposition and compile the necessary information to ensure timely compliance with the new rules, especially those entities with diverging financial years. 

However, even if this new obligation should not be overlooked, the two main points to keep in mind today are: 

1. Luxembourg has chosen a fairly pragmatic approach
2. The application is next year

This is also the conclusion of Nicolas Gillet, partner and TP leader at EY Luxembourg: “We have already received numerous questions from our clients, mainly to understand if they are in scope and find out the deadlines, but the first thing we always do is reassure them and see if they are really impacted. Then, if yes, we have the team and experience, and they have time ahead, so we can quietly anticipate this new obligation together”.