How to (safely) use your tax losses carried forward

Companies incurring operating losses can carry these losses forward to offset them against profits of future financial years. The use of losses carried forward is however strictly regulated by the Luxembourg income tax law.

Losses incurred by a Luxembourg fully taxable company may be carried forward for 17 years.¹ The right to carry forward losses is however subject to several conditions provided by law, in particular, the company carrying the losses forward must be the same entity as the one which has suffered the losses (the so-called “identity principle”). Recent case law² suggests that this principle should be interpreted as referring only to the legal identity of the taxpayer, and does not require that the economic identity, ie the same legal entity having the same shareholders and performing the same activity with the same substance, is maintained.

As this principle could, however, be easily circumvented, the Luxembourg tax authorities may nonetheless deny the use of losses carried forward on the basis of abuse of law. Essentially, if a company has been directly or indirectly transferred or acquired solely to use its carried forward losses, the use of losses would be considered as abusive under the so-called Mantelkauf doctrine.

Historically, the Luxembourg tax authorities have used the abuse of law concept to deny the use of losses carried forward. This occurs in cases of reorganisation, particularly when selling or transferring a loss-making company to another taxpayer. However, two recent cases from the Luxembourg Administrative Court provide additional guidance on the limit of the application of the abuse of law theory when no said transfer occurs.

The decisions provide taxpayers with losses having changed their business activities with additional legal certainty, and represent a welcome development for the Luxembourg financial market.

For further information, feel free to reach out to the authors or your regular DLA Piper contact.

 

You cannot transfer your losses, but you may potentially use them for a different activity

The first case law³ involved a company engaged in a loss-generating activity related to holding and financing participations from 2000 to 2008. The company ceased all operations in 2009, and was only reactivated in 2013 with the purpose of acquiring a Luxembourg based real estate asset, which it then sold at a significant gain shortly thereafter. The gain was offset by the losses carried forward of the company. The Luxembourg tax authorities challenged the use of the losses on the basis that the company was “dormant” during four years ahead of the obvious change in activity, which indicated an abuse of law.

The Administrative Tribunal held in favour of the tax authorities.⁴ The Administrative Court however, reversed the Administrative Tribunal’s decision and decided in favour of the taxpayer.

The Administrative Court starts its argumentation by reminding the parties of the Mantelkauf doctrine: the acquisition of a dormant company with losses carried forward and no significant corporate asset with the purpose of using those loses against a profit-making activity should generally be considered as an abuse of law. However, in the absence of a change in the shareholding of the company, the Court confirms that a taxpayer which had a loss-making activity must be able to stop this activity, sell the assets linked to the loss generating activity and start a new (potentially) profit generating activity without losing the ability to use its losses carried forward to offset the profit generated by this new activity.

The Court confirms that the law and the identity principle do not require an “economic identity” of the taxpayer to be able to use its carried forward losses. However, this is still subject to the abuse of law theory.

 

Losses denied based on the abuse of law theory are lost ad infinitum

The second case law⁵ addresses whether a taxpayer which was previously denied the use of losses carried forward due to abuse of law can still use these losses in the future, under different circumstances.

The company at hand had already been successfully challenged by the Administrative Court regarding the use of tax losses due to abuse of law, specifically related to changes in both shareholders and activity. The company attempted to use these losses again, but this time against profits from an activity equivalent to the one when the losses were initially generated. The company argued that the previous judgement temporarily ‘froze’ the losses, and that they were still available for use in a “non-abusive” context.

However, the Court clarified that losses that are successfully challenged on the basis of abuse of law remain permanently unavailable, even if the taxpayer rectifies the abuse and engages in an activity similar or equivalent to the initial loss-making activity.

 

Conclusion

The decisions provide taxpayers with losses having changed their business activities with additional legal certainty, and represent a welcome development for the Luxembourg financial market.

For further information, feel free to reach out to the authors or your regular DLA Piper contact.

This article was originally published in AGEFI Magazine and is reproduced with permission from the publisher.

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¹Losses that arose before 1 January 2017 can be carried forward without limitation.
²Cour Administrative, 15 July 2010, n°25957Ca
³Cour Administrative, 25 April 2024, n°48917C
⁴Tribunal Administratif, 30 March 2023, n°45984
⁵Cour Administrative, 25 Avril 2024, n°49336C