UK-Luxembourg Double Taxation Agreement
September 27, 2023
On 19 July 2023, the Luxembourg Parliament ratified the long-awaited updated UK-Luxembourg Double Taxation Agreement, which aligns the treaty with the majority of other countries, in particular in relation to the taxation of capital gains on indirect disposals of UK real estate. With the UK government having already ratified the new treaty, it will now become effective from 2024.
The Key Changes Are:
- Capital gains on disposals by a Luxembourg company of shares in a company which derives more than 50% of its value from UK real estate can be taxed in the UK (and vice versa). This brings disposals by Luxembourg companies into the scope of the UK non-resident capital gains (“NRCG”) rules for disposals of UK property rich companies which derive more than 75% of their value from UK real estate. This change will apply in the UK from 1 April 2024 for Corporation Tax and 6 April 2024 for Capital Gains Tax.
- Withholding Tax ("WHT") on interest, royalties and dividends is reduced to 0%, other than for REIT Property Income Distributions which the treaty reduces to 15%. This change will apply from 1 January 2024.
The full text of the amended treaty can be found here.
Key Implications for UK Real Estate Investors:
In a scenario where investors hold their UK real estate investments in corporate structures, and such a structure is sold by a Luxembourg holding company, that holding company will pay tax on the disposal of the structure from 1 April 2024. The tax will be applicable to the increase in the value of the shares from 5 April 2019 (i.e. a valuation of the shares as of 5 April 2019 factoring in the property revalued to its 5 April 2019 value – if higher than the original cost).
Please get in touch with the FTI Consulting Tax Team if you would like to discuss further the implications of these changes.
Such investors may look to divest their holdings prior to 1 April 2024 given the significant tax charge that could arise after this date. Investors should continue to be mindful of the anti-forestalling measures set up to prevent them from moving their holding structures to Luxembourg after the NRCG rules were originally announced on 22 November 2017. We would not expect any further anti-avoidance to apply, as long as no artificial measures are taken to accelerate the tax point of the transaction prior to 1 April 2024. Note that where there is an unconditional contract, tax on the capital gain is triggered at the point of exchange, and not completion, if the two are different, and documents should be reviewed in detail and considered further where a transaction straddles 1 April 2024.
The treaty’s test which allows for disposals of a company deriving more than 50% of its value from UK real estate to be taxed in the UK does not override the UK domestic law which applies to companies that derive 75% of their value directly or indirectly from UK real estate. As such, if between 50% and 75% of the value of the company is derived from UK real estate, UK corporation tax does not apply to the share disposal under current UK rules (albeit it could in the future if the UK rules are amended).
In relation to WHT on dividends, although there are currently exemptions under domestic legislation, this may be useful for distributions by Luxembourg entities to the UK where the participation exemption would not be available (e.g. if a UK corporate held less than 10% of the share capital for less than 12 months). If such is the case, the entity would avoid the need to structure to get the UK domestic exemption. This may be helpful in the future when there is a joint venture between an investor investing via a Luxembourg platform and UK joint venture partners such as asset managers, who often have a small holding in the venture.