Landmark Luxembourg Ruling on Proving U.S. Permanent Establishments

Overview

The Luxembourg Administrative Tribunal recently ruled on a significant tax case (Case No. 46975) involving Societe A, a Luxembourg-based company engaged in intra-group financing activities. The case concerned the recognition of a U.S. branch as a permanent establishment (PE) under the Luxembourg-U.S. tax treaty, potentially exempting certain income and assets from Luxembourg taxation. It also addressed the calculation of interest on Preferred Equity Certificates (though this aspect is not the focus of this alert).

Key Intragroup Transactions Considered in the Decision

The Tribunal's decision involved several key transactions within Societe A's, namely:

• Societe A extended loans to Societe B, financed through a treasury facility with Banque A, secured by promissory notes.
• Societe A transferred the promissory note to its subsidiary, Societe C, in exchange for shares.
• Societe A then transferred the shares to its U.S. branch, which was tasked with managing the participation in Societe C.
• The promissory note was transferred back to the U.S. branch of A.
• Societe A provided administrative services, accounting, finance and cash management to its U.S. branch, and the U.S. branch entered into a sublease agreement for office space and a secondment agreement with the U.S. parent company.

Existence of a Permanent Establishment in the U.S.

• Claim by Societe A: Societe A contended that its U.S. branch constituted a PE under the Luxembourg-U.S. tax treaty, which would exempt the branch’s income from Luxembourg tax obligations.
• Tribunal’s Analysis: The Tribunal investigated whether the U.S. branch had a fixed place of business and conducted substantial activities. Despite the existence of a sublease agreement and a secondment contract for a part-time manager, the Tribunal found that, while Societe A did maintain a fixed place of business in the U.S., it failed to provide sufficient evidence of substantial business activities being conducted there.
• Burden of Proof: The Tribunal underscored that the burden of proof was on Societe A to demonstrate that its U.S. branch qualified as a PE. Societe A was unable to substantiate the claim that the seconded employee was effectively managing the branch or that the home office provided verifiable support services. Ultimately, the Tribunal deemed the documentation provided insufficient to establish the branch's substantial activities.
• Decision: The Tribunal ruled that Societe A’s U.S. branch did not qualify as a PE, meaning its income remained subject to Luxembourg taxation.

Conclusion and Action Points

This case highlights the critical importance of robust and well-documented evidence to demonstrate the existence of a permanent establishment. Luxembourg taxpayers operating through branches must ensure that both formal and informal documentation, such as dedicated accounts and invoices for intercompany services, clearly substantiates the internal dealings between the home office and the branch. Furthermore, all elements of the documentation must align and corroborate each other to avoid scrutiny.

Contact us if you need to review your existing arrangements following this determination.