Luxembourg has moved to clarify the application of its “reverse hybrid rule” for certain collective investment vehicles (CIVs), providing much-needed certainty for the fund industry. The new circular, published on 22 August 2025 by the Luxembourg tax authorities (LTA), outlines exemptions that could spare many investment funds from unexpected corporate tax liability.

The reverse hybrid rule, implemented in 2022 under the EU’s ATAD II Directive, was designed to prevent hybrid mismatch arrangements that lead to double non-taxation. Under the rule, certain Luxembourg tax-transparent entities—such as common or special limited partnerships (CLPs/SLPs)—could be deemed tax-opaque and become subject to Luxembourg corporate income tax if their non-resident investors collectively held a 50% or greater interest and the income wasn’t taxed elsewhere.

This created uncertainty for many investment funds, particularly those with international investors. The newly issued circular confirms that many funds will now be exempt.

Key Exemptions Defined
Funds regulated under any of Luxembourg’s three core fund regimes—the UCI Law, SIF Law, or RAIF Law—are automatically exempt from the reverse hybrid rule. They qualify as CIVs without further testing.

Other funds—such as alternative investment funds (AIFs) structured as limited partnerships—may also qualify for exemption if they meet three criteria:

• Widely held: Units must be marketed to multiple unrelated investors. A limited number of investors is acceptable, particularly during launch or liquidation. Ownership exceeding 25% by a single investor may trigger scrutiny.

• Diversified portfolio: The term “securities” is interpreted broadly, including shares, bonds, fund units, and derivatives. Diversification is assessed based on risk exposure, with exceeding 30% in a single issuer generally considered non-diversified.

• Investor protection: The fund must be subject to prudential supervision—e.g., supervised by the CSSF or managed by an authorised AIFM.

Implications for the Fund Industry
The clarification is a significant positive for Luxembourg’s investment fund ecosystem, reinforcing its appeal as a leading fund jurisdiction. Complex fund structures—including master-feeder arrangements—now have clearer guidelines to avoid unintended tax consequences.

This update enhances tax predictability for global asset managers and investors and aligns Luxembourg’s application of anti-hybrid rules with industry practice.