16 Feb 22
Luxembourg - 2022 Outlook
Following another interesting year largely dominated by the pandemic, the green shoots of a somewhat new normal have emerged with many industries bouncing back to near pre-COVID levels. We look ahead to the possible impact that various externalities have on the finance industry, with particular attention to what may be in store for securitisation vehicles and alternative investments vehicles domiciled in Luxembourg in 2022.
Remote working and holding meetings in Luxembourg
In April 2021, the Commission de Surveillance du Secteur Financier (CSSF) released Circular 21/769 outlining how remote working will be controlled in an increasingly digital world post-pandemic. Entities supervised by the CSSF (Supervised Entities) will be required to maintain a robust “decision-making centre” and “administrative centre” in Luxembourg in order to maintain sufficient substance to deal with emergencies and other time-critical issues. In principle, all staff, regardless of their function may be allowed to work remotely on the condition that they can return to the premises at short notice.
The remote working agreements for cross-border workers between the government of Luxembourg and the neighbouring countries have been extended to 30 June 2022. In practice, this means that cross-border workers who are working remotely will continue to be affiliated to the Luxembourg social security system, even if the threshold of 25% of activity in the country of residence is surpassed.
In the context of physical board meetings to be held in Luxembourg, an amendment to the law of 23 September 2020 was enacted on 17 December 2021, maintaining the flexibility of corporate governance measures in Luxembourg until 31 December 2022.
The measures may have an impact on the substance of the Luxembourg companies, given that they offer the possibility to hold shareholders and board meetings without physical presence in Luxembourg. Whilst the Law provides a pragmatic solution to the on-going pandemic situation, they remain a temporary measure.
Amendment to the Luxembourg Securitisation law
For the past two decades, the securitisation law of 22 March 2004 (the Securitisation Law), as amended has made Luxembourg an attractive jurisdiction for securitisation transactions with its flexible and stable regime offering an ideal framework for a broad range of structured finance transactions. However, while flexible, the Law does contain some restrictions that have impeded certain arrangements and structures.
On 9 February 2022, the Luxembourg parliament voted to adopt an amendment to the Securitisation Law (the Draft Law). The law will enter into force in the coming weeks and bring greater flexibility to the securitisation industry whilst enhancing legal certainly and ensuring investor protection.
The updated legislation will broaden the array of assets that can securitised. The changes will also provide greater scope in terms of sources of funding, to include entirely debt financed securitisation vehicles increasing access to investors otherwise subject to restrictions in relation to such financial products.
The law clarifies that an offer could only be deemed to be made to the public if all of the following criteria are met:
the securities in question have a denomination of less than EUR 100,000;
the securities would not need to be addressed to professional investors as defined in the Luxembourg law of 5 April 1993 sector and;
the issuance will not be conducted under a private placement.
Securitisation vehicles will be permitted to use corporate forms other than public limited company (société anonyme – S.A.) and private limited liability company (société à responsabilité limitée – S.à r.l.) such as the limited or special partnership (société en commandite simple - SCS) or société en commandite spéciale - SCSp) enhancing the flexibility with the use of tax transparent corporate forms.
The amendment to the Securitisation Law will introduce the possibility for securitisation vehicles to securitise risk portfolios actively managed by the vehicle itself or a third party, only if the financial instruments are issued by way of a private placement. This modification will allow Luxembourg to attract actively managed Collateralised Loan Obligations (CLOs) and Collateralised Debt Obligations (CDOs).
These legislative updates will align Luxembourg with competitor countries for securitisation vehicles and make the Grand Duchy even more attractive for financial institutions to syndicate debt through Luxembourg structures. It’s implementation is forecast to lead to an expansion of the finance industry to compliment Luxembourg’s long-established position as a hub for private equity, private debt and real estate platforms.
Value Added Tax for Alternative Investment Funds (AIFs)
The European Court of Justice ruled on questions submitted by the Austrian Tax Appeals Court concerning the Value Added Tax (VAT) exemption for outsourced services in connection with the management of investment funds. The decision dealt with the requirements relevant for the application of the VAT exemption for the management of special investment funds. Even specificities however were not conclusive on the application of exemption rules.
The European Union (EU) VAT Directive of 28 November 2006 exempts from VAT, the fees for the management of investment funds without any further details. Both the European Court of Justice (CJEU) and the Luxembourg VAT authorities have interpreted and developed this exemption primarily within the context of Undertakings for the Collective Investment in Transferable Securities (UCITS). However, further clarity was not extended to whether the exemption applies to AIFs.
AIFs often use complex structures that require an in-depth VAT analysis. The main actors in AIF structures are the alternative investment fund managers (AIFMs) which have two main functions, namely, investment management and risk management.
These structures require appropriate resources and services that are subject to VAT, such as domiciliation, accounting, and administration. As the funds’ activities are limited to investment, this VAT will generally be a final cost.
Fund management services provided to Luxembourg regulated funds such as SIFs, SICARs or UCITS do not incur a VAT burden, as a VAT exemption applies. The CJEU judgement extends this VAT exemption to all alternative investment funds, whether regulated or not where the work performed is essential to the functions of the AIFM or its AIFs. Fund management fees, including fees for investment advisory services provided to an SCS or SCSp, would therefore not trigger VAT, irrespective of whether the service provider was located in Luxembourg or abroad. The CJEU also deliberated that outsourced services, such as administration and accounting services (including tax returns) provided by a third party to a management company which have an intrinsic link to the management of funds may also qualify for exemption. The CJEU’s ruling provides for the application of VAT exempt status to certain management and administrative services which are specific and essential for the management of the investment fund. This exemption does not extend to set up costs, legal or tax advisory fees.
Investment in virtual assets take a multitude of different forms and have seen a rapid yet volatile growth over the past ten years leading to them generating increasing interest as an asset class. The government of Luxembourg has shown its support of the fintech industry primarily through the issuance of grants given to start-up companies and the fostering of a like-minded community based at the Luxembourg House of Financial Technology.
The new and evolving sector around virtual assets raises numerous questions from a range of professional stakeholders as to the opportunities and concrete possibilities to engage in activities involving virtual assets. Many of these questions notably concern investments in virtual assets by investment funds, direct investments in virtual assets or depository duties in the context of virtual assets.
Virtual assets may indeed present potential benefits for investors as they may constitute an opportunity to diversify their portfolios with a variety of additional types of assets. All tokens constitute a digital representation of value, that can be digitally traded, or transferred, and are provided by the same technology using Distributed Ledger Technologies (DLT) and cryptography.
Any activity involving virtual assets entails specific risks pertaining to their volatility, liquidity, technological risk, counterparty, custody or even reputation. Any entity under the supervision of the CSSF interested in pursuing an activity involving virtual assets bears the responsibility to carry out thorough due diligence and to carefully weigh up the risks and benefits associated with the proposed virtual assets activity with respect to the entity’s existing business model and risk appetite.
Going forward, regulatory bodies including the CSSF will seek prudent management of all the activities of the entity and the internal governance arrangements shall include a clear risk-taking process including a risk appetite that is formally and precisely defined in all the business areas and a rigorous decision-making process as the virtual asset class evolves. On 29 November 2021, the CSSF issued its first Frequently-Asked-Questions (FAQs) on virtual assets which included what kind of Luxembourg vehicles may invest in virtual assets, additional requirements for investment funds willing to manage virtual assets and specific considerations with regards to Anti-Money Laundering/ Counter-Terrorist Financing (AML/CTF).
The CSSFs willingness to allow both regulated and unregulated AIFs to invest in virtual assets will likely open a new wave of investment through Luxembourg in what is a new and constantly developing asset class. Asset managers will need to remain flexible in adapting their business and operational arrangements activities with a view to foreseeable regulatory developments but, the general view of the CSSF is that virtual assets are a recognised asset class in Luxembourg.
Luxembourg National Identification Number (LNIN)
A public notice issued in October 2021 by the Luxembourg Business Register (LBR) stated that all individuals registered with the Luxembourg Registre de Commerce et des Sociétés (RCS) in whichever capacity (i.e. manager, director, authorised representative, shareholder, liquidator or auditor etc.) whether residing in Luxembourg or not, will be required to communicate their Luxembourg National Identification Number (LNIN) to the LBR from the first quarter of 2022 onwards. Where an individual does not have a LNIN, they will have to request a LNIN from the LBR.
The new requirement will be applicable to individuals involved in all new and any existing Luxembourg entities, from the end of March 2022. The LBR is yet to communicate a mandatory date but, has recommended the gathering of information for the creation of LNINs, as soon as possible.
For any individuals that already have a LNIN, this LNIN must be communicated when making any filing to the LBR. If an individual does not yet possess a LNIN, the person requesting the filing will need to apply to receive one for the individual as part of the filing process with the LBR. Disclosures on the RCS will otherwise remain unchanged whilst awaiting confirmation of the LNIN. LNIN will not be publicly available on the LBR. The LNIN will also be transmitted to the National Register of Individuals.
New topics on the horizon
In addition to the new evolving issues outlined above, there were multiple changes and amendments to laws and regulations in 2021 that will impact on how business is conducted in Luxembourg in the immediate future. These include, but are not limited to, the following:
On 31 January 2022, the CSSF published Circular 22/795 pertaining to the application of the guidelines of the European Securities and Market Authority (ESMA) regarding marketing communication (including on-line marketing) under the EU Regulation 2019/1156 and the facilitation of cross-border distribution of collecting investment undertakings. As published by the CSSF, marketing communications should describe the risks and rewards of purchasing shares of an AIF and should be fair, clear and not mislead investors. This amendment to the guidelines is applicable to all AIFMs incorporated under Luxembourg Law; and
On 22 December 2021, the CSSF published Circular 21/788 in relation to guidelines for the AML/CTF report to be performed by an independent auditor of AIFMs in accordance with Article 3(2) of the Law of 12 July 2013 (the AIFM Law). Each AIFM must appoint a registered auditor réviseurs d’entreprises agréés to carry out inspections on all registered AIFMs and investment funds supervised by the CSSF for AML/CTF purposes. The external report provided by the auditor will contain a section in relation to sample testing and a section concerning the corroboration of answers given by supervised entities in conjunction with its CSSF annual AML/CTF online survey.
With a strong finish to 2021, a positive outlook remains within the debt capital markets and alternatives investments industries in Luxembourg. The CSSF recently published its statistics for 2021 including publication of the number of Investment Fund Managers (IFMs) increasing their physical presence in Luxembourg with over 300 new staff members hired by authorised AIFMs between 31 December 2020 and 30 June 2021.
Assets under Management (AuM) of unregulated AIFs managed in Luxembourg totalled EUR473.8bn at the end of 2021, in comparison to EUR 413.6bn at the end of 2020 showing a 14.6% increase in the net asset value of unregulated AIFs.
Whilst we expect business levels to increase in Luxembourg this year, we can expect the pandemic to continue to play some part in the activity conducted in 2022. Overall, it promises to be an exciting year in the securitisation and alternative investments sectors when taking into consideration the regulatory and legislative changes tailored to bring continued growth to the Grand Duchy.