Luxembourg Reverse Hybrid Entity Rules: Clarifications Regarding the CIV Exemption

On 22 August 2025, the Luxembourg tax authorities issued a second circular (Circular) on the reverse hybrid entity rules, this time clarifying the exemption applicable to collective investment vehicles (CIV Exemption).¹

The reverse hybrid entity rules do not apply to collective investment vehicles (CIVs), defined as investment funds or vehicles that (i) are widely held, (ii) holds a diversified portfolio of securities, and (iii) are subject to investor protection regulations in the jurisdiction in which they are established.

The Circular states that certain funds fall directly within the scope of the definition of a CIV, which appears to imply that the three above-mentioned required conditions are presumed to be met. However, in line with the current administrative jurisprudence in Luxembourg tax matters, such a presumption can only be considered rebuttable, as circulars issued by the Director of the tax authorities cannot create new legal norms and are not binding even on the tax authorities themselves, as they are deemed to serve solely as internal interpretative guidelines.

The Circular provides interpretative guidance for assessing the three conditions, which although presented as only relevant to certain investment funds should, in our view, be applied consistently across all fund types. These interpretative elements are broadly aligned with prevailing expectations and reflect established legal doctrine and OECD commentary.

As such, the Circular contributes to enhanced legal certainty on the application of the CIV Exemption, which is particularly valuable for partnerships Reserved Alternative Investment Funds (RAIFs) and Alternative Investment Funds (AIFs), especially for the latter considering their annual Luxembourg tax reporting obligations (Form 205).

Background

Under the reverse hybrid entity rules applicable since 2022 and codified in Article 168quater of the Luxembourg Income Tax Law of 4 December 1967 regarding income tax (LITL), a Luxembourg tax transparent entity (such as a partnership or mutual funds/FCPs) or arrangement is treated as a resident taxpayer and the portion of its profit which is not otherwise taxed (in Luxembourg or elsewhere) is subject to Luxembourg corporate income tax, when one or several of its investors (qualifying as non-resident associated enterprises) holding directly or indirectly an aggregate interest in this entity representing at least 50% of its capital, voting rights or profit entitlement, are located in jurisdictions that (i) treat the Luxembourg entity as tax opaque and (ii) do not tax the profit of the entity because of the mismatch tax classification thereof (and not as a result of tax-exempt recipient investors or investors located in tax neutral jurisdictions).

However, under paragraph 2 of Article 168quater of the LITL, the reverse hybrid entity rules do not apply to CIVs, defined as investment funds or vehicles that (i) are widely held, (ii) holds a diversified portfolio of securities, and (iii) are subject to investor protection regulations.

Detail of the Circular

The Circular states that the following types of collective investment funds directly qualify as CIVs within the meaning of the CIV Exemption:

• Undertaking for Collective Investments (UCIs) within the meaning of the Luxembourg law dated 17 December 2010;
• Specialised Investment Funds (SIFs) within the meaning of the Luxembourg law dated 13 February 2007; and
• RAIFs within the meaning of the Luxembourg law dated 23 July 2016.

The Circular justifies this position by the fact that the activity of investment funds must, by definition, be limited to the pursuit of an investment objective, excluding any commercial activity.

UCIs, SIFs, and RAIFs are therefore generally considered to benefit from the CIV Exemption due to their regulatory framework, on the basis that they are presumed to meet the required conditions. As mentioned above, this presumption is rebuttable and may be challenged by the tax authorities in certain structures. It should also be noted that SIFs which do not qualify as AIFs should not be able to rely on this presumption and more broadly on the carve-out. By contrast, other types of funds² should undergo a case-by-case assessment to determine whether they satisfy the three conditions for the CIV exemption.

1. Widely held condition

The Circular provides that this condition targets investment funds whose shares or units are marketed with the aim of being held by multiple unrelated investors.

The presence of a limited number of investors does not necessarily mean that the condition is not met. This may be the case, for instance, during the ramp-up period (where it is reasonable to expect that the condition will be fulfilled within 36 months from the date of authorisation or incorporation) or during the liquidation phase, provided that the failure to meet the condition results from the liquidation itself. The Circular also clarifies that, in a fund-of-funds structure involving master and feeder funds, the widely held condition must be assessed at the level of the investors in the feeder fund.

The Circular further provides examples of situations in which investors are considered related for the purpose of the widely held condition. Specifically, it outlines that investors are deemed related if one holds at least 50% of the voting rights or capital of the other, a party holds at least 50% of two investors, if they are family members, or if one controls the other or both are under common control.

It further introduces a presumption that a fund is widely held where there is no "beneficial owner" in relation to that undertaking. In practical terms, this means that if no individual person ultimately owns or controls more than 25% of the fund (whether through capital, voting rights, or other means of control) the fund should be considered widely held. In this context, the Luxembourg tax authorities leverage the concept of "beneficial ownership" as defined under the Anti-Money Laundering legislation, following OECD guidance and the approach previously adopted by the Irish tax authorities. According to the Circular, the Luxembourg tax authorities may also refer to the information contained in the Luxembourg register of beneficial owners, in which the investment undertaking or fund is required, where applicable, to declare its beneficial owner(s).

2. Diversified portfolio of securities condition

For this condition, the Circular clarifies that the term “securities” should be interpreted in its broadest sense. This includes shares and similar instruments giving access to capital, beneficiary units, bonds and other receivables, units in other funds, deposits with credit institutions, and financial derivatives where the underlying assets are securities.

The diversification criteria must be assessed based on the investment policy and the exposure to market risk of the fund. As an example, the Circular states that this condition is not fulfilled for a SIF that fails to comply with its regulatory 30% risk diversification ratio.

This supports the conclusion that a look-through approach assessing the actual composition of the underlying assets should be applied to determine whether this condition of the diversified portfolio is met.

3. Investor protection rules condition

Finally, the Circular confirms that the investor protection rules condition is met not only by regulated funds, but also by unregulated partnerships qualifying as AIFs within the meaning of the Luxembourg law of 12 July 2013 on Alternative Investment Fund Managers (AIFM) that are managed by an AIFM duly authorised in accordance with the provisions of AIFM Directive (2011/61/EU).

1. Circular of the Director of the Inland Revenue (Administration des Contributions directes) L.I.R. n° 168quater/2 dated 12 August 2025: https://impotsdirects.public.lu/dam-assets/fr/legislation/circulaires/lir-168-quater-2-du-1282025.pdf.

2. Partnerships subject to the Luxembourg law of 12 July 2013 on Alternative Investment Fund Managers and therefore qualify as Alternative Investment Funds (AIFs), as well as partnerships governed by the Law of 15 June 2004 on the investment company in risk capital (SICAR).

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