Regulations update

On February 3, 2025, the Luxembourg tax authorities (LTA) issued Circular L.I.R. 164/1, replacing the 1998 circular on the determination of interest rates for debit current accounts held by shareholders or partners of entities subject to corporate income tax.[1] This update introduces new benchmarks for market-based interest rates and strengthens the performance of transfer pricing documentation, particularly in relation to the treatment of shareholder and intra-group current accounts.

The revised circular is particularly relevant for companies with shareholder or partner debit current accounts, entities engaged in intra-group financing or treasury activities, and businesses subject to Luxembourg corporate income tax.[2] In cases where the LTA identifies inconsistencies or inadequate documentation, companies may face administrative penalties, financial adjustments, or even legal consequences.

This article provides an analysis of the transfer pricing compliance process, new regulatory considerations for Shareholder and Intra-Group Accounts, the Transfer Pricing assessment and dispute process in Luxembourg and overview of recent transfer pricing court cases in Luxembourg.

1. The Transfer Pricing Compliance Process in Luxembourg

Luxembourg’s transfer pricing framework is outlined in Article 56 and 56bis of the Luxembourg Income Tax Law (LITL), §171 of the Luxembourg Tax Code, and Circular L.I.R. No. 56/1-56-bis/1 (the “Transfer Pricing Circular”). These rules establish that all transactions between a Luxembourg company and associated enterprises must adhere to arm’s length market conditions, including those involving business restructurings.[3] To that end, a transfer pricing analysis must be prepared following the Transfer Pricing Circular and the latest OECD Transfer Pricing Guidelines.[4]

Unlike other jurisdictions where transfer pricing documentation must be submitted alongside tax returns, in Luxembourg, businesses are not required to submit documentation proactively but must maintain it and provide it upon request.[5] Furthermore, taxpayers must indicate within their annual corporate income tax return whether they engage in intra-group transactions, regardless of their nature or amount. This disclosure obligation requires the attachment of an appendix demonstrating the application of the arm’s length principle in intercompany transactions, ensuring compliance with §171 of the Luxembourg Tax Code.

Many businesses assume that once their transfer pricing documentation is prepared and tax returns are filed, they have fulfilled their obligations. However, transfer pricing compliance is a continuous process. The LTA can reassess tax returns until the tax assessment is issued and until the statute of limitations expires, which is generally five years but may extend to ten years in cases of non-declaration or inaccurate reporting, regardless of fraudulent intent.[6]

1. New regulatory considerations for Shareholder and Intra-Group Current Accounts

The new Circular L.I.R. 164/1 provides specific guidance on how interest rates should be determined for debit current accounts, distinguishing between cases where the shareholder or partner is a natural person or a related enterprise.[7]

1. The shareholder or partner is a natural person

For individual shareholders or partners, interest rates must align with market rates, and companies may refer to the average consumer loan rates published by the Banque Centrale du Luxembourg.

Interest must be recorded at the end of the financial year and calculated following standard banking industry practices.

• If the current account remains in a debit position throughout the entire financial year, the applicable interest charge should be based on the arithmetic average of the opening and closing balances.
• If the debit current account did not exist for the entire duration of the financial year or if there were significant variations in the balances, the arithmetic average of the debit balances at the end of the different months should be considered.

The following graph illustrates the methods for calculating the interest on debt balances:

2. The shareholder or partner is a related enterprise

For related enterprises, interest rates must comply with transfer pricing rules under Articles 56 and 56bis L.I.R., considering factors such as currency denomination, exchange rate risks, refinancing costs, and loan maturity.

Additionally, the provisions of Circular L.I.R./N.S. No. 164/1 (1993) remain applicable, particularly regarding the criteria for a repayable debit current account.[8]

To emphasize that debit current accounts must be structured as repayable loans, businesses must ensure that:

• A formal repayment obligation exists rather than an informal arrangement.
• Failure to repay may lead to reclassification as a hidden profit distribution.
• Even if the loan is deemed legitimate, non-payment of interest could still be taxed as a hidden distribution.

3. Implications and risks for Businesses

Assess the legal and economic substance of shareholder and intra-group debit accounts

• Ensure that shareholder loans recorded as debit current accounts meet the criteria of a repayable loan, as outlined in Circular L.I.R./N.S. No. 164/1 of June 9, 1993.
• Verify that the debit current account represents an actual loan with a structured repayment schedule rather than an indirect dividend or hidden profit distribution.

Verify the presence of a formal loan agreement

• A repayable debit account should be supported by a written loan agreement, including:

• A fixed repayment schedule
• Agreed interest rate based on market conditions
• The company’s expectation of full repayment

• If no agreement exists, or repayment is not realistically expected, the account risks being recharacterized as a hidden profit distribution.

Ensure that interest is accrued and paid in line with market rates

• Interest must be determined in accordance with the specifications in section 1 and 2 of this section.
• Interest must be accrued properly to avoid the risk of tax adjustments.
• If interest is not regularly paid, tax authorities may consider the unpaid interest as a hidden distribution of profits.

Monitor repayment activity to avoid reclassification risks

• Regularly review debit current accounts to ensure that the repayment schedule is being followed.
• If repayment has been delayed or abandoned, the transaction may be retroactively reclassified as a distribution under Article 164, paragraph 3 of the Luxembourg Income Tax Law (L.I.R.).

Implement strong internal documentation to justify loan treatment

• Maintain detailed records of:

• The original loan agreement
• Interest payments and adjustments
• Any changes to the repayment schedule

• In case of a tax audit, these documents will help substantiate that the debit current account is a legitimate, repayable loan rather than a hidden profit distribution.

III. Conclusions

The introduction of Circular L.I.R. 164/1 (2025) represents a significant shift in Luxembourg’s transfer pricing landscape, particularly regarding shareholder and intra-group current accounts. The updated guidance reinforces the importance of market-based interest rate determination and proper transfer pricing documentation, emphasizing compliance with Articles 56 and 56bis L.I.R. and OECD guidelines.

Companies must ensure that intra-group financing arrangements adhere to the arm’s length principle and that shareholder debit current accounts are structured as repayable loans to avoid reclassification as hidden profit distributions. Failure to comply may result in tax reassessments, administrative penalties, and reputational risks.

A longer version of this article was originally published in the March 10, 2025, issue of Tax Notes International.

About the Author:

* Vanessa Ramos is the Managing Partner of TransFair Pricing Solutions (TFPS) and President of the Luxembourg Transfer Pricing Association. She is a transfer pricing and valuation expert with over 16 years of experience and she specializes in transfer pricing audit defense, advance pricing agreements, documentation, benchmarking, transfer pricing planning, and other economic compliance services.

The author may be contacted at: v.ramos@tfps.lu

Footnotes

[1] Circular L.I.R. 164/1, issued February 3, 2025, by the Luxembourg Tax Authorities.

[2] Article 164(3) of the Luxembourg Income Tax Law (L.I.R.).

[3] §171 of the Luxembourg Tax Code.

[4] OECD Transfer Pricing Guidelines (2022).

[5] §171 of the Luxembourg Tax Code.

[6] §144 of the Luxembourg General Law on Taxation.

[7] Circular L.I.R. 164/1, issued February 3, 2025, by the Luxembourg Tax Authorities.

[8] Circular L.I.R./N.S. No. 164/1, issued June 9, 1993, by the Luxembourg Tax Authorities.

 

A. Background & Scope

On 18 December 2020, the new Guidance on the transfer pricing implications of the COVID-19 pandemic was released by the OECD. This Guidance represents a consensus view of the 137 members of the Inclusive Framework on BEPS regarding the application of the arm’s length principle and the OECD Transfer Pricing Guidelines.

This guidance focuses on how the arm’s length principle and the OECD TPG 2017 apply to certain issues that may arise or be exacerbated in the context of the COVID-19 pandemic. In addition, this guidance is helpful both for taxpayers in reporting the financial periods affected by the pandemic and for tax administrations in evaluating the implementation of taxpayers’ transfer pricing policies.

B. Priority issues

This Guidance provides 31 pages with comments, illustrations, and the practical application of the arm’s length principle in four priority issues:

• comparability analysis.
• losses and the allocation of COVID-19 specific costs.
• government assistance programmes.
• advance pricing agreements.

The following points highlight the scope and additional analyses necessary for managing each priority issue:

         1. Comparability analysis

The pandemic may have a significant impact on the pricing of some transactions between independent enterprises and may reduce the reliance that can be placed on historical data. The impact may be a non-reliable comparability analysis.

This issue may require an analysis of the following aspects:

• • Sources of information
  • Forecasted financial information
  • Timing of information of comparables
  • Arm’s length outcome testing approach
  • Application of more than one transfer pricing method
  • Financial information from the global financial crisis 2008/2009
  • Price adjustment mechanisms in controlled transactions approach
  • Use of loss making and existing set of comparables.

2. Losses and the allocation of COVID-19 specific costs

The allocation of losses between associated entities can give rise to disputes, and even more given the probable increase in the frequency and magnitude of losses in the current economic environment.

This issue may require an analysis of the following aspects:

• • Risk assumption among what entities operating under limited risk arrangements may incur losses.
  • Circumstances under which arrangements may be modified.
  • Allocation and comparability aspects of operational or exceptional costs between related parties.
  • Impact of the force majeure clauses on the allocation of losses.

3. Government assistance programmes

Grants, subsidies, forgivable loans, tax deductions, investment allowances, broader financial or liquidity supports together qualified as “government assistance programmes” could potentially have transfer pricing implications on the accurately delineated controlled transaction.

The impact may happen whether the government assistance is provided to a member of a multinational enterprise “MNE” group directly or made available to independent parties within the market where an MNE group operates.

This issue may require an analysis of the following aspects:

• • Economic relevant characteristic of the government assistance in the local and counterparty jurisdiction.
  • Effect of the receipt of government assistance on the comparability analysis and pricing & allocation of risk of a controlled transaction.

 4. Advance pricing agreements (“APA”)

The existing unilateral, bilateral, and multilateral APAs might be not applied correctly because of disregard of the terms and breach of the critical assumptions as consequence of change in economic conditions driven by the pandemic.

This issue may require an analysis of the following aspects:

• • Boundaries of existing APAs considering the changes in economic conditions
  • Reasons applicable for breaching a critical assumption
  • Reactions of the tax administrations against the failure to meet critical assumptions
  • Timing for notifying to the tax administrations the failure to meet critical assumptions
  • Documentation for supporting the failure to meet critical assumptions
  • Reactions of the tax administrations against the non-compliance of an existing APA
  • Impact of COVID-19 on APAs under negotiation

5. Takeaways

The application of the guidance for tackling the transfer pricing issues of the COVID-19 pandemic imply a cooperation between the tax administration and taxpayers in terms of flexibility and the exercise of good judgment.

In that regard, the next steps should be performed by taxpayers to ensure the application of this guidance on the existing and upcoming controlled transactions of the year 2020 and year 2021 (“intercompany transactions”), respectively:

• • Review intercompany transactions and relevant documents impacted by the COVID-19 pandemic.
  • Identify which of the four priority issues affects the application of the arm’s length principle on the intercompany transactions.
  • Perform a risk assessment including the revision, identification, and quantification of the possible risks in connection with the intercompany transactions.
  • Understand in details the comments expressed in the new guidance in connection with the priority issue(s).
  • Prepare a transfer pricing documentation, including the analyses described in the new guidance in connection with the priority issue(s).
  • Verify the alignment of the information reflected in the transfer pricing documentation with the COVID-19 market conditions and actual conduct of the parties involved in the intercompany transactions.

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