On 19 July 2024, the Luxembourg tax authorities (“LTA”) released a new circular LIR n°170/1, 170bis/1, ICC n°44, Fort. N°5 (“the Circular”) which deals with the tax treatment of dissolutions without liquidation (also referred to as “simplified liquidations”) within the meaning of Article 1865bis of the Luxembourg civil code.
Article 1865bis of the civil code was introduced in 2016, confirming and standardising a notarial practice. It provides for a simplified liquidation/dissolution without liquidation procedure for companies with a single shareholder. According to this provision, where one individual holds the entirety of the shares of a company (and therefore all the assets and liabilities), the unique shareholder can dissolve the company at any time. In this case, all the assets and liabilities of the dissolved company are transferred to the unique shareholder, without liquidation.
The tax treatment provisions set out in the Circular only apply to dissolutions without liquidation in accordance with Article 1865bis of the civil code and do not apply to dissolutions with liquidation.
We analyse hereafter the implications of the Circular.
Tax treatment for corporate income tax (“CIT”) purposes
From a Luxembourg CIT point of view, dissolutions without liquidation in accordance with Article 1865bis of the civil code are to be assimilated to a transfer of all assets and liabilities of the company, within the meaning of Article 170 al. 1 of the Luxembourg income tax law (“LITL”). This means, as a principle, that a dissolution without liquidation is treated as a liquidation for CIT purposes, triggering the full disclosure and taxation of any latent gains in accordance with Article 169 of the LITL.
However, the Circular specifies that dissolutions without liquidation in accordance with Article 1865bis of the civil code can still benefit from the tax neutrality regime applicable to domestic and certain cross-border mergers provided by Article 170 al. 2 of the LITL and Article 170bis if some conditions are met, i.e. notably: (1) the participation held by the shareholder in the dissolved entity is cancelled and (2) the transfer is made under conditions exposing the profit to subsequent taxation in Luxembourg, where in the absence of this provision, it would have been taxable there.
Thus, if all the conditions of Article 170 al. 2 of the LITL are met, the dissolution without liquidation may be carried out in a tax-neutral manner, meaning that, under certain conditions, the transfer of the company’s assets and liabilities to its shareholder will not trigger a tax liability. To that end, the absorbing company must continue the book value of transferred assets and liabilities. This implies that the transferred assets and liabilities are deemed to be acquired by the absorbing company at the acquisition dates booked by the absorbed company.
The Circular specifies that the same tax consequences apply in a cross-border context, in accordance with Article 170bis of the LITL, i.e. when the sole shareholder is located in the European Union (“EU”) or in the European Economic Area (“EEA”). The cross-border merger is tax-neutral only to the extent Luxembourg retains the right to tax the deferred gain in the future, which generally means that a permanent establishment has to continue in Luxembourg.
Tax treatment for municipal business tax (“MBT”) purposes
In accordance with Paragraph 7 of the MBT Law, the business profit for MBT purposes is determined based on the provisions of the LITL and is then increased in accordance with Paragraph 8 of the MBT Law and reduced in accordance with Paragraph 9 of the MBT Law.
By application of the conclusions reached for CIT purposes and given that the MBT Law does not contain any specific provisions dealing with the taxation of profits realised at the time of a dissolution without liquidation carried out in accordance with Article 1865bis of the civil code, these profits are not subject to MBT each time they are not subject to CIT under the tax neutrality regime of Article 170 al. 2 of the LITL or Article 170bis of the LITL.
Net wealth tax (“NWT”) aspects
In the Circular, the LTA have clarified the impact of dissolutions without liquidation carried out in accordance with Article 1865bis of the civil code on the NWT reduction (within the meaning of Paragraph 8a of the NWT Law). Under this provision, Luxembourg companies may benefit, under certain conditions, from an NWT reduction if they allocate a certain amount of their profits, retained earnings or other available reserves to a dedicated NWT reserve which has to be kept for a minimum period of five years.
The Circular confirms that, when the dissolved entity has an NWT reserve which has not yet been maintained during the required five-year period at the time of the dissolution, the dissolution does not terminate the five-year period automatically and it will not have any impact on the NWT liability of the dissolved entity, provided that the NWT reserve is continued at the level of the shareholder for the remaining time period required so as to meet the five-year period condition. This is in line with the legal provision according to which the same principle applies in case of restructurings falling in the scope of article 170 of the LITL.
The Circular also confirms that for the purpose of reducing the NWT due by the dissolved entity for the tax year during which the dissolution without liquidation takes place, the requirements of Paragraph 8a of the NWT Law remain applicable and thus must be met by the dissolved entity. This means that the NWT reserve must be accounted for by the dissolved entity when allocating the financial year results of the fiscal year immediately preceding the tax year for which the NWT reduction is claimed, and at the latest during the financial year ending during the tax year in respect of which the NWT reduction is claimed. In this respect, since the dissolution results in the closing of the financial year of the dissolved entity, the NWT reserve must be booked by the dissolved entity at the latest at the time of its dissolution. The NWT reserve must then be continued at the level of the shareholder so as to meet the five-year period condition.
The above-mentioned implications only apply in the case of a dissolution without liquidation in accordance with Article 1865bis of the civil code and not in the context of dissolutions with liquidation. In the latter situation, after its dissolution, an entity is deemed to exist for the purposes of its liquidation and its tax liability only ends when the liquidation is completed. If, at the time the liquidation is completed, the NWT reserve has not been maintained for a minimum period of five years, the NWT liability for the tax year in which the liquidation is completed will have to be increased by 1/5th of the amount of the NWT reserve.
Conclusion
The Circular is welcome as it clarifies the tax treatment of dissolutions without liquidation by confirming the analysis according to which they may benefit from a tax neutrality regime for CIT and MBT purposes. As a result, we can also infer from this Circular that a dissolution without liquidation of an entity of a tax consolidated entity should have no effect on the consolidation regime either. The Circular further confirms that dissolved companies which have not yet met the five-year requirement applicable to benefit from the NWT reduction of Paragraph 8a (1) of the NWT Law will not be impacted negatively, if the NWT reserve is continued at the level of their shareholder.
These clarifications put an end to the uncertainty surrounding the provisions applicable to dissolutions without liquidation, which has existed since the introduction of Article 1865bis of the civil code in 2016. They therefore provide greater legal certainty and a unified treatment for simplified liquidations.
