Interest limitation rules continue to be a topic for securitization companies.
However, securitization special purpose entities (SSPEs), i.e., companies falling under the EU Regulation 2017/2402 of 12 December 2017, will continue to benefit from an exemption from the rules for at least another year.
This exemption has been criticized by the European Commission, and on 9 March 2022, the Luxembourg Minister of Finance submitted a draft law to the Luxembourg Parliament to include securitization companies covered by the Regulation within the scope of the interest limitation rules. Initially foreseen to be applicable to financial years starting as from 1 January 2023, it is highly unlikely that the change would be effective before 2024, as the law has not yet been voted by Parliament – meaning that these securitization companies will be excluded from the interest limitation rules for at least another year.
In addition, the third Anti-Tax Avoidance Directive (ATAD 3 or UNSHELL), which targets shell companies, is still being discussed among Member States. Given the extent of the discussions, it is unlikely that the original dates (transposition into domestic law by 30 June 2023 and application as of 1 January 2024) will be maintained. The Directive may change considerably compared to the draft Directive issued in December 2021.
Securitization companies are only expected to be affected by ATAD 3 if they rely on access to tax treaties (or EU Directives, which happens very rarely) to achieve lower withholding tax rates or to avoid double taxation. If they are affected, there may be exclusions that they can rely on, such as an exclusion for companies that have a transferable security admitted to trading or listed on a regulated market or multilateral trading facility as defined under Directive 2014/65/EU. This exclusion would apply to the entire company, even if only one compartment meets the condition of having a traded/listed security.
How to use tax transparent vehicles
Since the Securitization Law was updated in 2022, it has been possible to set up securitization undertakings in the form of partnerships such as limited partnerships (SCS) and special limited partnerships (SCSp). Moreover, transparent securitization funds have already been possible since 2004, when the Securitization Law came into effect.
Partnerships are generally transparent for Luxembourg tax purposes, which is an important reason why arrangers consider them as alternatives to securitization in corporate form (SAs, Sàrls etc) – in particular to access investors which do not want to invest into a fund’s equity. However, cases where a partnership is chosen over a corporate securitization vehicle remains rare, which is due to a combination of reasons:
- No access to tax treaties: Transparent partnerships are generally not considered eligible to access the Luxembourg tax treaty network. Treaty access may not be required in a specific structure, which is why this criterion would have to be evaluated on a case-by-case basis
- Different management structure: Contrary to a corporate securitization vehicle, which is managed by a board, a securitization limited partnership is managed by a general partner, which can be a company. While this structure is well-known in the fund space, it is different from the setup that is commonly known in the securitization environment
- More complexities: While partnerships are generally transparent, there are some complex tax rules to consider (relating to who holds the interest etc.) to ensure that this treatment applies in a concrete case
There are more securitization funds than partnerships, but their number remains small compared to the number of existing corporate securitization vehicles. Funds can either be organized as fiduciary estate(s) or as co-ownership(s). The tax aspects for a co-ownership are largely similar to those for partnerships, while funds organized as fiduciary estates are generally not considered as owner of the income from the underlying assets for tax purposes (i.e., the income is considered as “flowing through” to the investor).
As a result, while the Securitization Law offers a number of alternatives to the classical securitization company in limited liability company (Sàrl) or joint stock company (SA) form, these alternatives need to be considered in detail to ensure that no unintended tax consequences (in Luxembourg or abroad) arise.
“As it takes a knowledgeable partner to navigate the most complex challenges in the structured finance and securitization industries, our highly integrated securitization teams are available to cover tax-related questions, but also assurance, consulting, risk management, and strategy and transaction solutions,” concludes Papa Saliou Diop, Partner, Securitization Leader at EY Luxembourg.