The story is simple: a shareholder acquires a property in France through a Luxembourg Company. The acquisition is financed by a 12% unsecured loan.
The story becomes more complex from a tax perspective as the arm’s length principle applies to the transaction. This means that for tax purposes, the transaction between a Luxembourg company and its shareholder must take place as though it had been between third parties.
A fundamental question arises: is the 12% interest rate applied to the unsecured loan used to finance the French real estate in line with the arm's length principle?
In the recent case of Luxembourg vs Lender Societe, the judges of first instance and on appeal found in favour of the Luxembourg tax authorities that the transaction did not take place on an arm’s length basis. By doing so, they chose to ignore the two transfer pricing reports produced by the Luxembourg taxpayer.
This case highlights various problems such as the importance of having a robust transfer pricing analysis done at the time of the transaction and not years later. It also brings to light technical issues such as the commercial context in which the transaction took place (here real estate).