The asset management industry in the United Kingdom is the one of the biggest in the world, while Luxembourg is often cited as a key jurisdiction for asset management too, being the largest fund domicile in the EU.
At present, although the Brexit negotiations between the UK and EU seem to be at a standstill, many leading asset management firms are planning for relocation to a post-Brexit EU hub in Luxembourg. Specifically, current market intelligence indicates that 53 companies are planning to relocate from the UK to Luxembourg.
In this context, this article will discuss our thoughts on potential transfer pricing considerations from a Luxembourg standpoint.
Increased attention on transfer pricing
In the last few months, the Luxembourg Tax Authorities (LTA) have increased their focus on transfer pricing, particularly in relation to management companies (ManCos) established in Luxembourg. Some of the asset management players in Luxembourg have received requests from the LTA to provide local transfer pricing documentation reports supporting the transfer pricing positions of their Luxembourg operations.
Notably, in Luxembourg, the concept of transfer pricing is regulated by Article 56 and 56bis of the Luxembourg Income Tax Law and §171 of the Abgabenordnung, outlining that all transactions between a Luxembourg entity and group companies should correspond to arm’s length market conditions which should then be documented and provided to the LTA upon request. Moreover, these regulations are complemented by circulars issued by the supervisory authority of the Luxembourg financial sector (the Commission de Surveillance du Secteur Financier, or CSSF) from time to time regarding different types of intra-group transactions and emphasizing the arm’s length principle.
First actions to take
For firms, from a transfer pricing perspective, Brexit-related developments should be properly evaluated. One important action is to appropriately delineate the intercompany transaction (e.g. is it a transfer of business from the UK to Luxembourg or is it a reallocation of a business segment?), and then to price the transaction according to market conditions (e.g. if it’s a transfer of business then exit fees may apply, or if increased functions are to be undertaken in Luxembourg then referral fees may apply).
In cases where transfer pricing policy already exists at the group level, an assessment can be undertaken to check its robustness and ensure its compliance with the Luxembourg market practices and general expectations of the LTA.
In this context, it is often observed that, in many cases, reliance on the existing transfer pricing policies applied historically at the group/UK levels may not be directly transposable to the Luxembourg operating models. This has been particularly true in post-Brexit situations, for instance, due to the effects of the increased regulatory considerations in Luxembourg (e.g. Circular 18/698 issued by the CSSF).
Creating a Luxembourg TP report
Luxembourg ManCos often delegate certain functions to related or third-party entities, keeping the oversight functions and risk management functions in Luxembourg. The extent of the delegation of such functions should be properly addressed in future (i.e. post-Brexit) transfer pricing policies and should reflect weak links with the regulatory framework that may crystallize in light of a “hard” Brexit.
Following the above, even if it is the case that the group’s global transfer pricing policy (or “group policy”) is in line with the OECD transfer pricing guidelines, it is still important to ensure that such a policy is indeed in line with the Luxemburg transfer pricing requirements and consistent with the market approach observed amongst other asset management players as well as the expectations of the LTA. For this, it may be constructive to develop a corroborative/supportive transfer pricing analysis (a “Lux TP report”) in line with both Luxembourg income tax law and the OECD transfer pricing guidelines.
Such a corroborative/supportive Lux TP report would provide additional comfort to the group policy and can be used as a first line of defense in case the LTA scrutiny.
Practically speaking, such a Lux TP report would not change group policy, but would rather support and corroborate it from a Luxembourg perspective. The proposed TP report may also point to gaps, if any, between the existing group policy and the results of the Lux TP report, such as remuneration for the ManCo activities conducted by group’s Luxembourg ManCo on the basis of the assets under management (AUM).
The typical structure of a Lux TP report would include the following sections:
- a general description of the industry, the company, business strategy, etc.
- a functional analysis covering the functions, risks, and assets of the management company activities of the Luxembourg ManCo
- an economic analysis supporting the existing TP policy for the management company activities of Luxembourg ManCo by means of a benchmarking study that determines the remuneration of the management company activities conducted by Luxembourg ManCo on the basis of the AUM; please note that this economic analysis is a benchmark considering independent Luxembourg ManCos only, i.e. this analysis is fully in line with the conduct of independent parties in Luxembourg
KPMG Luxembourg helps businesses plan for the impact of Brexit on their transfer pricing arrangements.
Our dedicated transfer pricing team can assist taxpayers in assessing functions carried out in Luxembourg and can determine the arm’s length compensation that the Luxembourg entity of the group should earn for the identified functions, in the context of its asset management intercompany transaction scheme.
I would like to thank Khyati Joneja who helped me prepare this article.