Executive summary
On 30 June 2023, the Luxembourg Tax Authority issued an updated version of guidance (the updated Guidance) on the application of the Luxembourg law implementing the European Union (EU) Directive on the mandatory disclosure rules and exchange of cross-border tax arrangements (referred to as DAC6 or the Directive). Under DAC6, taxpayers and intermediaries are required to report cross-border reportable arrangements from 1 July 2020.
The guidance was first issued in May 2020 and subsequently revised. It is presented in the form of Frequently Asked Questions (FAQs) and the latest update clarifies the application of hallmarks C1 and E3.
In that respect, it examines hallmark "C1 (a)" on the determination of tax residency and the criterion of "liable to tax" from article 4 of the OECD Model Tax Convention (MTC). The updated Guidance also determines which incomes are covered under hallmark "C1 (d)."
Regarding hallmark E3, the definition of "EBIT" (earnings before interest and taxes) was slightly amended to clarify that EBIT is the result of the financial year increased by interest and tax expenses and reduced by interest and tax income. The updated Guidance also explains how the EBIT variation should be calculated.
Additionally, cross-border mergers or liquidations that involve a cross-border transfer of functions and/or risks and/or assets within the same group, are to be analyzed from a legal, not tax point of view. However, cross-border mergers between intra-European companies, where all assets and liabilities remain attached to a permanent establishment of the absorbing company in the tax jurisdiction of the acquired company, are in principle not considered cross-border transfers of functions and/or risks and/or assets within the group, and thus do not fall within the scope of E3.
Lastly, the updated Guidance offers an explanation concerning migrations and administrative transfers of the statutory seat under hallmark E3. As a matter of fact, a migration with continuity of legal personality or an administrative transfer of the statutory seat, does not qualify as a reportable cross-border arrangement under E3.
For additional details on the previously issued guidance, see previous EY Global Tax Alerts.1
Clarifications around hallmarks C1 and E
Hallmark C1 — Related to cross-border payments
The updated Guidance adds additional guidance on hallmark C1 (a), which covers arrangements that involve deductible cross-border payments made between two or more associated enterprises where the recipient is not resident for tax purposes in any tax jurisdiction.
As clarified in the previous version of the Guidance, tax residency is to be determined by applying the relevant double-taxation treaty or, absent a treaty, in accordance with the criteria of article 4 of the OECD MTC — Article 4 of the OECD MTC uses the term "liable to tax" to define residency.
The updated Guidance clarifies that a person is considered liable to taxation (and therefore resident) even if the Contracting State does not impose any tax.
It also identifies the different incomes that are covered under hallmark C1 (d), which covers arrangements involving tax-deductible payments to an associated enterprise resident in a jurisdiction where the payment benefits from a preferential tax regime.
According to the updated Guidance, the hallmark covers income and gains that are not taxed on the basis of a double-taxation treaty or a domestic preferential tax regime.
Hallmark E3 — Cross-border transfers
Hallmark E3 refers to arrangements involving an intragroup cross-border transfer of functions and/or risks and/or assets, if the transferor's/transferors' projected annual EBIT during the three-year period after the transfer is less than 50% of the transferor's/transferors' projected annual EBIT if the transfer had not taken place.
The updated Guidance includes an expected clarification to the "EBIT" definition, which is to be understood as referring to the result of the financial year (i.e., the difference between the income and the expenses as shown in the profit and loss account of the year) as defined by the standard chart of accounts increased by interest and tax expenses and reduced by interest and tax income.
It also explains that to determine whether there is a relevant EBIT variation in the three-year period following the transfer, two different calculations must be made. The first calculation refers to the projection of the three-year period without including the cross-border transfer of functions and/or risk and/or assets. The second calculation takes into account the cross-border transfer.
The three-year period can either begin on the closing date of the accounting year in which the transfer took place or on the date of the transfer itself. MDR reports should indicate in the description of the arrangement the starting date of calculation as well as the period taken into account in calculating the EBIT variation.
The updated Guidance explains that cross-border mergers or liquidations that involve a cross-border transfer of functions and/or risks and/or assets within the same group, are to be analyzed from a legal, not tax point of view. Where there is a change of ownership from a legal point of view, there is a transfer within the meaning of hallmark E3.
However, cross-border mergers between intra-European companies, where all assets and liabilities remain attached to a permanent establishment of the absorbing company in the tax jurisdiction of the acquired company, are in principle not considered as cross-border transfers of functions and/or risks and/or assets within the group, and thus do not fall within the scope of E3.
Additionally, an explanation is provided concerning migrations and administrative transfers of the statutory seat under hallmark E3. In the case of a migration with continuity of legal personality or an administrative transfer of the statutory seat, there is no change of legal owner within the meaning of E3. It thus does not qualify as a reportable cross-border arrangement under hallmark E3.
Implications
Determining if there is a reportable cross-border arrangement raises complex technical and procedural issues for taxpayers and intermediaries. Taxpayers and intermediaries with operations in Luxembourg should carefully analyze the new updates and liaise with their tax professional to assess the potential new implications for their business.
