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27 January 2014
A recently established treaty has eased the passage for investors operating between Asia and Europe. By Frédéric Feyten and Chokri Bouzidi
Earlier this year Luxembourg and Hong Kong put into motion a double taxation treaty offering international investors an interesting tax planning tool for investing into or out of Asia. Structuring investments through these locations has been made easier with this new treaty presenting straightforward opportunities to eliminate or mitigate direct taxes on the flow of income and profits from the countries where the target investment is located to the country where the ultimate investors or their investment vehicles are located.
The geographic locations of these two jurisdictions, their reputations as major international financial hubs, as well as the quality of their banking and corporate service sectors, have always been key drivers for businesses to opt for these two jurisdictions to locate their holding companies. In addition, the treaty is a simple, transparent and legitimate tax optimisation tool that provides an alternative to intricate routes and classical offshore jurisdictions, which in the current international context are stigmatised with the suspicion of tax evasion and other allegedly unlawful tax abusive practices.
In practice, Asian (or other) investors investing in Europe can do so through a master holding company in Luxembourg held by a top holding company in Hong Kong or vice-versa. Profits generated by EU or non-EU operating companies could be paid to a Luxembourg holding company generally free from witholding tax and should be able to benefit from a full corporate income tax exemption in Luxembourg pursuant to its standard domestic tax laws. No withholding tax applies in Luxembourg if such profits are paid to the Hong Kong parent holding company and could be paid on to the ultimate investors or their vehicles free of income tax and withholding tax in Hong Kong. The same tax-neutral result should be able to be achieved by European or US investors willing to invest in China’s mainland or more generally in Asia through Luxembourg and Hong Kong holding companies.
The treaty’s make-up
The treaty generally follows the Organisation for Economic Cooperation and Development (OECD) model tax convention and, to a certain extent, the UN model tax convention as to the attribution of the taxation right with respect to items of income such as dividends, interest, royalties, capital gains, real estate income and gains, as well as employment income and pensions.
Importantly, the treaty does not contain any limitation of benefits provisions and does not explicitly exclude from the scope of its benefit any person insofar as that person qualifies as a resident in one or the other contracting states. This leaves the door open for the eligibility of certain types of Luxembourg alternative fund vehicles, such as the specialised investment fund, the venture capital investment company or securitisation companies, to benefit from the treaty, which will certainly enhance further the Luxembourg-Hong Kong international tax planning route.
The treaty contains an exchange of information clause (Article 25) modeled on the OECD pre-2005 model tax convention, pursuant to which the exchange of information obligation does not apply to information that is not ”obtainable under the laws or the normal course of the administration” of the relevant contracting state. Pursuant to this clause, Luxembourg may in practice decline to supply information to its Hong Kong counterparts due to the banking secrecy rules that still exist in domestic legislation. However, following the current debate in the international arena, such as the G20 summit and the OECD on the improvement of transparency and the exchange of tax information, Luxembourg has committed to improve its treaty network and, in particular, the exchange of information mechanism in order to bring it more in line with the current OECD standards. If such commitment will be followed by action, Article 25 of the treaty will soon be renegotiated in order to give precedence of the exchange of information obligation over Luxembourg banking secrecy.
The treaty now in place is fully independent from the double taxation treaty in existence between China and Hong Kong and those concluded by China with other countries. It also represents one of the few comprehensive double taxation treaties concluded so far by Hong Kong with other countries such as Belgium, China and Thailand.
The new treaty was signed on 20 January 2009 and became effective retrospectively as of 1 January 2008.
Frédéric Feyten is a partner in Luxembourg and Chokri Bouzidi is Principal in London at Oostvogels Pfister Feyten