On 4 June 2024, the Administrative Court of Luxembourg issued its awaited final judgment in a case dealing with the application of the general anti-abuse rule (GAAR) to the redemption by a Luxembourg company of two share classes. The court confirmed that the reclassification of the share capital into 20 classes with no different economic rights and the redemption of two share classes shortly thereafter was abusive in the case at hand. This outcome is another reminder of that there are certain limitations to share class redemptions as repatriation tool.
Background
Whereas dividends are in principle subject to 15% withholding tax in Luxembourg, liquidation proceeds are not. As soon to be codified into law (see our tax newsletter on the bill of law that was recently submitted to parliament), the redemption with cancellation of a class of shares can qualify as a shares sale transaction and/or as a partial liquidation, in which case the transaction does not give rise to withholding tax, provided the redemption price is at arm's length and not abusive under the GAAR.
In the case appealed to the Administrative Court, the two individual shareholders reclassified the share capital into 20, each of which had the same economic and voting rights. A few weeks thereafter, two share classes (one held by each shareholder) were redeemed and cancelled by the company. The redemption price was approximately equal to dividends received by the company just before the reclassification of the share capital.
Court judgement
The Administrative Court just like the Administrative Tribunal in first instance, focused on the application of the GAAR in the case at hand. More specifically, it analysed whether the arrangement constituted an "inadequate path" and whether there were valid economic reasons raised by the company, two of the most relevant criteria for the GAAR.
On the "inadequate path" criterion, the court reaffirmed the right of the taxpayer to choose the least taxed path to achieve an economic objective, provided that the path chosen does not achieve a tax benefit that the legislator did not intend to grant in the given circumstances.
- In the present case, the court observed that all the classes had the same economic and legal rights, so that after the repurchase of one class from each shareholder, the shareholders remained in the exact same position in terms of legal and economic rights. As such, the court considered that economically the redemption price was equivalent to a dividend distribution.
- Moreover, the reclassification of the share capital and the redemption of the two classes was aimed at repatriating a dividend income received less than two months earlier.
The taxpayer argued that the redemption was justified by valid business reasons, which the Court considered not substantiated.
Impact of the case
Each GAAR analysis relies on specific facts and circumstances. This case is no exception to the rule. It provides for a useful reminder that, while using share class redemptions as a tool to repatriate proceeds is usually in line with administrative practice (and remaining uncertainty should be removed as per the proposed legislative change), such use can be considered abusive in certain situations. Case law stresses in particular the need for (sufficiently) different economic rights between share classes, a redemption price that is at arm's length and that the creation of share classes is not closely linked in time with a foreseen repatriation of proceeds.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.