Luxembourg was founded in 963 AD and developed into a grand duchy in 1985. Luxembourg losing most of its land in 1839 as it achieving independence, and it became totally independent in 1867 (Offshore Banking International, 2008). Luxembourg is one of the six founding countries of the European Economic Community, besides it is also a part of the Benelux Customs Union and North Atlantic Treaty Organization (NATO) (Offshore Banking International, 2008).
The Grand Duchy of Luxembourg is a small country located in between Germany, France and Belgium which is a major banking centre and tax haven (Reach International Group, 2011). Luxembourg is one of the richest countries in the world with a population of approximately half a million of people in an area of 2586 square kilometers (Mariska Clark, 2009). The standard living of Luxembourg is considered among the best in the world (Reach International Group, 2011).
According to Offshore Banking International (2008), the laws of Luxembourg are based on Napoleonic code thus the legal system is similar to the French and Belgian legal system. Besides that, Luxembourg English, French and German are widely spoken. Luxembourgish is the national language while German and French is the administrative language (Offshore Banking International, 2008). In 2002, Franc which was the country's official currency was replaced by the Euro (Luxembourg Offshore Banks, 2005).
In addition, Luxembourg is consider a well developed rich country due to it economy can be characterized as secure, generating high incomes as well as comprising low rates of inflation and unemployment (Mariska Clark, 2009). According to Luxembourg Offshore Banks (2005), as much as 22% of the Luxembourg's GDP was contributed from the offshore banking and financial sectors. Luxembourg home ownership rate is more than 65% and luxury items such as motor vehicles are relatively less expensive (Michael Page International, 2007). Moreover, Luxembourg's fuel price is cheaper than its neighbour countries which are set by the government (Michael Page International, 2007).
Luxembourg is a constitutional monarchy where a Prime Minister is the head of government, follow by the Deputy Prime Minister (Offshore Banking International, 2008). The cabinet or Council of Ministers is suggested by the Prime Minister, as well as selected by the chief of state (Offshore Banking International, 2008). Furthermore, Luxembourg was practiced unicameral legislature with a Chamber of Deputies. There is also a Council of State who serves as a consultant to the Chamber of Deputies (Offshore Banking International, 2008).
Previously, Luxembourg's richness was gained from steel manufacturing, however due to the decline of steel industry, Luxembourg diversified from its existing hard work (Reach International Group, 2011). Now, Luxembourg has become a well known tax haven and banking centre (Reach International Group, 2011). There are around 220 Luxembourg offshore banks today and it turn up as the Europe's second largest banking and Europe's largest private banking country with its balance sheets sum in excess of EUR 600 billion (Luxembourg Offshore Banks, 2005).
Development
The development of Luxembourg offshore banking is important. This can be explained by its favourable legal regimes which have been serves as an attractive incentive for the formation and operation of the offshore banking (Mariska Clark, 2009). Luxembourg's major characteristic are banking confidentiality which can be clearly shown through the interest on savings is not taxed at basis which had been applied until 2004 while the elastic system in terms of banking requirements, as well as focused on the serious issue such as money laundering (STATEC, 2003). Other than that, factors that enhanced the Luxembourg's development as a financial centre such as the effectiveness and efficiency of supervision, multi-lingual service providers, well geographical location and etc (STATEC, 2003).
Besides that, the growth of the Euromarkets and the Luxembourg Stock Exchange on which most Eurobonds are listed play an essential role (Mariska Clark, 2009). In April 1969, the world's first international foreign currency bond was quoted in Luxembourg, this improvement allowed the stock exchange to benefit from the increasing flow of Eurocurrencies into the country (STATEC, 2003). They were then converted into Eurobonds and proposed to debtors around the world in the form collective loan (STATEC, 2003). The stock exchange has led a growing international role as an important centre for the quotation of Eurobonds. Luxembourg's share of the offshore banking wealth is estimated around 6% to 8% which can be considered as a large proportion (Mariska Clark, 2009).
In addition, Luxembourg offshore banking development is specifically due to the existence of the low tax or offshore activities (Mariska Clark, 2009). According to Mariska Clark (2009), offshore activities in Luxembourg usually assume a certain form of holding company as well as the obtainment of the offshore tax dealing. Hence, offshore activities consist of different kinds of holding company and collective investment fund which they are limited for which they are originally created, in terms of specific holding and financial activities (Mariska Clark, 2009).
Moreover, Luxembourg Development Cooperation is the eradication of poverty, especially in lack of development countries (eZ Publish, 2008). Its actions are taken to develop in its social, economic and environmental aspects. However, the main sectors of involvement of the Luxembourg Cooperation are in the social field such as healthcare, education, as well as integrated local development (eZ Publish, 2008). Through its development cooperation efforts, Luxembourg three main cross border issues are gender equality, the environment and also good governance (eZ Publish, 2008). According to The World Bank Group (2011), Luxembourg's development cooperation increased significantly since 1990s till now. In year 2000, Luxembourg has allocated more than 0.7 percent of the Gross National Income (GNI) (The World Bank Group, 2011). By year 2008, Luxembourg already achieved its development aid contribution to 0.97 percent of GNI, as well as 34.4 percent of its total aid budget was spend to support basic social services and the Official Development Assistance (ODA) aim to achieve 1 percent of GNI by year 2011 (The World Bank Group, 2011).
Supervision
Luxembourg offshore banking and finance activities are supervised under Commission de Surveillance du Secteur Financier (CSSF). The establishing of CSSF is under Article 5 of the law of 23 December 1998. The task of CSSF is on behalf Luxembourg at Europe Union (EU) and international level regarding issues and negotiations concerning the financial sector (Lowtax, 2011). CSSF is one of the members of the European System of Financial Supervision. They involve in European supervisory authorities such as European Banking Authority (EBA), European Securities and Markets Authority (ESMA), European Insurance and Occupational Pensions Authority (EIOPA). Those authorities have the contribution to set up common regulatory and supervisory standards and practises.
The CSSF has set up committees of experts for consultative purposes. The members of the committees in various segments of financial sector as well as external auditors and legal advisers are under CSSF. The committees of experts include Anti-Money Laundering Committee, Banks and Investment Firms Committee, Pension Fund Committee, Law and Regulations Committee, Audit Technical Committee and etc.
Those committees have formed a few departments in CSSF which are Executive Board Secretariat, General Secretariat, Legal Department, Department of Personnel Administration and Finance, Department of Information Systems, General Supervision, Supervision of UCIs, Supervision of Management Companies of UCIs, Supervision of Banks, Supervision of Investment Firms, Supervision of Other PFS, Information Systems and Supervision of Support PFS, Supervision of Pension Funds, SICARs and Securitisation Undertakings, Supervision of Securities Markets, and Public Oversight of the Audit Profession (CSSF, N.A). Figure below shows the organization chart of Commission de Surveillance du Secteur Financier.
Figure 1: Organization chart of CFFS
Source from: http://www.cssf.lu/fileadmin/files/Images/organigramme010410_eng.pdf
The responsibilities of each department:
1. Executive Board Secretariat:
The responsibilities of Executive Board Secretariat are receiving and distributing the incoming post, dealing with the notification that CSSF receives or transmit as a home and host authority of credit institutions, payment institutions, investment firms and credit rating agencies. Besides that, the department also manages the files about illegal financial activities and contact with judicial authorities.
2. General Secretariat:
This department is responsible in internal and external communication of the CSSF and other national and international institution as well as with the professional associations. Moreover, it also deals with the questions of financial education and consumer protection and those relating to microfinance and Islamic finance. General Secretariat has the remit in the files regarding the qualification of activities of the financial sectors.
3. Legal Department:
The responsibilities of this department consist of communication with foreign authorities about all areas for which the CSSF is competent and handling complaints of customers of professionals regarding the supervision of CSSF. Furthermore, it needs to review new authorisation requests of professionals of the financial sector. It is also responsible for files and issues about the CSSF's power of supervision and inquiry and particularly implementation of its powers of authorize. Legal department has to deal with problem regarding money laundering and terrorist financing.
4. Department of Personnel, Administration and Finance:
This department is responsible for their internal management including management of personnel, administration, security of buildings and financial management.
5. Department of Information Systems:
This department is in charge of the supervision of IT systems and support Professionals of the Financial Sector (PFS). The supervision generally includes auditing IT systems of the supervised institutions. It also provide advice or be responsible of any other mission relating to internal IT system, IT security and national or international works related to IT.
6. General Supervision:
This department has the responsibility to propose approaches, methods and instruments for analysis and assessment for prudential supervision, rules of conduct and professional obligations of the financial sector.
7. Supervision of UCIs:
This department is in charge of the prudential supervision of undertakings for collective investment (UCI). The purpose of this supervision is to verify the compliance with the constraints, other legal and regulations.
8. Supervision of Management Companies of UCIs:
This department is responsible to review the application files and supervising the management companies of UCIs. The supervision consists of the control of compliance with the legal and regulatory provision, on-side inspections, and analysis of the periodical tables as well as the reports of approved statutory auditor and internal auditor.
9. Supervision of Banks:
The responsibilities of this department are supervise the credit institution, electronic money institution, payment institution, credit rating agencies incorporated under Luxembourg law, and banks issuing mortgage bonds. The department ensures that the institutions meet a certain number of standards either quantitative or qualitative listed in legal and regulatory provision. For instance, the minimum capital requirement, the limitation of large risk exposure, the capital adequacy ratio, the quality of the shareholders, the sound administrative and accounting organisation, and adequate internal control procedures etc.
10. Supervision of Investment Firms:
This department is supervised the investment firm in term of investment advisers, brokers in financial instruments, commission agents, private portfolio managers, professionals acting for their own account, market makers, underwriters of financial instruments, distributors of unit/shares in UCIs, financial intermediation firms and investment firms operating an multilateral trading facilities (MTF) in Luxembourg.
11. Supervision of Other PFS:
The responsibility of this department is giving supervision of registrar agents, professional custodians of financial instruments, persons carrying out foreign exchange cash operation, debt recovery, professionals carrying on securities lending operations, mutual savings funds administrators and managers of non-coordinated UCIs. Moreover, it supervised the PFS carrying out a connected or complementary activity of financial sector such as domiciliation agents of companies and professionals performing services of setting-up. It also in charge the supervision of PFS authorised on the basis of general provisions and financial postal services provided by the Enterprise des Postes et Télécommunications.
12. Information Systems and Supervision of Support PFS:
This department oversees the supervised entities' IT systems and the supervision of support PFS which are authorised only as client communication agents, administrative agents of the financial sector and IT system operators.
13. Supervision of Pension Funds, SICARs and Securitisation Undertakings:
This department in charge of the prudential supervision of pension funds, investment companies in risk capital (SICARs), and securitisation undertakings authorised. It is also responsible in the scrutiny of applications for authorisation.
14. Supervision of Securities Markets:
The responsibility of this department is giving supervision of the markets of financial instruments and the market operators, as well as international and national investigations about stock market offences in cooperation with the foreign competent authorities. Besides that, it is also involve in approving prospectuses for offering securities to the public or admission of securities to trade on a regulated market.
15. Public Oversight of the Audit Profession:
This department is responsible in different aspects regarding to profession audit. It is also responsible in auditors' registration in the range of scope of application of the CSSF's quality assurance system. Furthermore, the department manages the public oversight of statutory audit which covers the setting-up of an independent quality assurance system. It is also in charge the regulatory parts regarding the adoption of international standards on auditing, standards on professional ethics and internal control of cabinets approved audit firms.
Regulation and Legislation
The law type of Luxembourg applies is civil law which based on French or Belgian legislation. Civil law is used to resolve the argument of non-criminal such as disagreements over the meaning of contracts, property ownership and damages of personal and property (Jurist, N.A). CSSF has set up some regulations and legislations in order to governs the Luxembourg offshore banking and finance activities. The regulations and legislations are shown as below:-
Grand-Ducal Regulation of 18 December 2009 - This regulation is relating to the fees to be levied by the CSSF
Grand-Ducal Regulation of 13 July 2007 - This regulation is about the definition of term for the purposes of the Directive in organisational requirements and operating conditions for investment firms
European Commission Regulation (EU) No 1287/2006 10 August 2006 - this law is regarding the record- keeping obligations for investment firms, transaction reporting, market transparency, admission of financial instruments to trading and terms' definition for the uses of that Directive
Law of 17 June 1992 - This law is about the obligations of accounting documents publication of branches of credit institutions and financial institutions that governed by foreign laws and the annual and consolidated accounts of credit institutions governed by laws of Luxembourg
Grand-Ducal Regulation of 8 February 2008 - This regulation is related to clarify certain definitions of amended Law of 20 December 2002 regarding to undertakings for collective investment in transferable securities (UCITS).
Grand-Ducal Regulation of 27 February 2007 - It is used to determine the conditions and criteria for free from the subscription tax that related to specialised investment funds.
Grand-Ducal Regulation of 14 April 2003 - It is used to determine the conditions and criteria for the application of the subscription tax that related to undertakings for collective investment.
Grand-Ducal regulation of 20 September 2005 - This regulation is about setting up the criteria of competence, good repute and financial soundness required for the authorisation of non-EU (Europe Union) professionals as asset managers of institutions for occupational retirement provision in the form of pension savings companies with variable capital and pension savings associations.
Commission Regulation (EC) of 12 December 2008 - It is related to the elements of prospectuses and advertisements
Law of 11 January 2008 - This law is focused on transparency requirements relating to issuers information whose securities are admitted to trading on a regulated market
Grand-Ducal Regulation 13 July 2007 - This regulation is about organisational requirements and rules of conduct in the financial sector and keeping of the official listing for financial instruments
Ministerial regulation of 25 March 2011 - This regulation is concerning prohibitions and restrictive measures in financial matters relating to certain persons, entities and groups in the context of the combat against terrorist financing
Grand-Ducal regulation of 1 February 2010 - This law is providing details on certain provisions on fight against money laundering and terrorist financing
Law of 23 April 2008 - This law is relating on the detection and sanction of infringements of consumer rights
Business Activities
Luxembourg International Holding Companies
The structure of Luxembourg, tax legislation, its membership of the European Union and its double taxation treaties, makes Luxembourg a very strategic location to support various types of holding company (Lowtax, 1999-2011). The special use of holding company as the key principle for obtaining offshore tax benefit for most types of business, as well as obtainable for collective investment vehicles and investment funds (Lowtax, 1999-2011). Under the law of 31 of July in 1929, Luxembourg holding companies do not have separate legal forms, they only can be formed as Societe Anonyme (SA) which also known as joint stock company, or Societee a Responsabilite Limitee (SARL) which also known as limited liability company is formed under the Commercial Companies Law 1915, as amended (Lowtax, 1999-2011). According to Lowtax (1999-2011), they are restricted to holding and financing operations and may not carry out commercial operations themselves, as well as excused from normal corporate taxes.
Apart from that, under the law, holding companies had made it extremely attractive to foreign capital. In 1965, their legal framework extended had led the growth of holding companies achieved additional thrust (STATEC, 2003). One major disadvantage of holding companies is that they do not benefit from its double taxation treaties or a common tax regime was set up by the European directive between the parent company and their European Union subsidiaries (STATEC, 2003).
Luxembourg Licensing, Royalties and Franchising
Holding companies in Luxembourg are allowed to hold patents, and may obtain copyright or know how in relation to patents already held (Lowtax, 1999-2011). According to Lowtax (1999-2011), the patent holding companies owns patents and makes use of them among its subsidiaries. Besides that, Luxembourg royalties and license fees are the payments and receipts between residents and non residents for the authorized use of intangible, non produced, non financial assets, as well as proprietary rights such as patents, copyrights, trademarks and franchises (Index Mundi). Luxembourg receives royalties or license fees in a tax efficient way, as well as can pay them on without deduction of withholding tax because it was draw up in term of patents, the legislation which is not easy to extend to a wider class of intellectual property licensing or franchising (Lowtax, 1999-2011). In addition, Luxembourg is a civil law country. It has no specific law for franchise, as a result franchise agreements are regulated under the provisions of the Civil Code of Luxembourg (Field Fisher Waterhouse, 2011).
Luxembourg Investment Fund Management
There has been a considerable volume of investment fund management activity in Luxembourg for twenty years (Lowtax, 1999-2011). In 1959, Luxembourg's first (fonds commun de placement) FCP was established after the holding companies tax regime was extended, which the investment fund industry is hugely expanded (STATEC, 2003). FCP is a co-proprietorship whose joint owners are only liable up to the amount that they have contributed (Olivier Sciales, 2009). It is managed by a Luxembourg management company on behalf of joint owners and it is underprivileged from a legal personality (Olivier Sciales, 2009). In 1983, Luxembourg anticipated cooperative community regulation of undertakings for collective investment in transferable securities (UCITs) (STATEC, 2003), which are designed for retail investors and benefit from the European Passport that enable them to be freely marketable in the EU countries with a least formalities (Olivier Sciales, 2009).
UCITs set up a flexible legislative framework that separate tax status to Undertaking for Collective Investment (UCIs) (STATEC, 2003). The legislation for UCIs is codified by the law of 30th March 1988, which had provided three types of fund such as mutual fund or fond commun de placement, which has a set of legally defined relationship between fund, manager and custodian that does not have separate legal identity; SICAV (Societe d'investissement capital variable) is an open-ended vehicle that have a variable capital which always equal to the net asset value of the fund; and SICAF (Societe d'investissement a capital fixte) is a closed-end fund which usually used for private placements (Lowtax, 1999-2011).
In 2004, the Luxembourg Parliament then passed the final text legislation to SICARs (Societes d'Investissement en Capital a Risque), which created to offer an alternative to the limited partnership structure (Lowtax, 1999-2011). In February 2007, Luxembourg Parliament implemented a law on Specialized Investment Funds (SIF) that offered a wider definition of qualified investors which include both professional and private knowledgeable investors (Lowtax, 1999-2011). Nevertheless, the law required the directors of a SIF and directors of the custodian bank and the auditor to have approval from CSSF (Commission de Surveillance du Secteur Financier) (Lowtax, 1999-2011).
Luxembourg Offshore Banking Unit
There is a significant international banking sectors has developed in Luxembourg due to a flexible regulatory regime, the holding company legislation, the growth of the Euromarkets, as well as the existence of the Luxembourg Stock Exchange (Lowtax, 1999-2011). Luxembourg local banks are in charge of domestic companies' requirements while the Luxembourg international banks provide cross border services (Lowtax, 1999-2011). International banks do provide many services such as multi- currency lending and loan syndication, issuance and listing of securities, custodial and depositary services, fiduciary business which is the local equivalent of the trust, project and international financing vehicles, equity and financial derivatives trading, foreign exchange trades, trade finance, and gold trade.
Private banking services in Luxembourg are relatively strong due to the absence of withholding tax on interest payments and tight banking secrecy, as well as a broad range of financial products are provided (Lowtax, 1999-2011). According to Lowtax (1999-2011), banking secrecy is a legal basis in Luxembourg which can be explained under articles 458 and 459 of the Penal Code, the Grand Ducal Regulation of 1989 that prevents expose of the tax authorities and based on the law of 5th April 1993 that prevents bank staff leak information on deposit accounts to the parent banks. It is an illegal action for the bank staff to break the secrecy laws. The Luxembourg court will only allow expose of information when there is proof of tax evasion or money laundering activity (Lowtax, 1999-2011).
Luxembourg Stock Exchange
The Luxembourg Stock Exchange which founded in 1929 has listed equities, investment fund shares and bonds especially Eurobonds (Lowtax, 1999-2011). The trading is fully electronic and decentralized. All the Luxembourg-listed securities have been traded on the Multi-Fixing segment of Automated Trading System SAM. In 2004, Luxembourg Stock Exchange announced that it was finalizing the implementation of a regulatory framework which would let for the assessment of non-EU undertakings for collective investment. Luxembourg Stock Exchange aimed to modernize its technical infrastructure and offering investors a wide range of service in order to enhance the transparency of the market (Lowtax, 1999-2011). Luxembourg has a strong position in term of the domestic and international bonds listed by a European exchange. On the other hands, the "e-file" application that offered by the bourse could carry out the different steps and procedures linked to the launch of an investment fund or the listing of a security. For the listing activities, the core business of the Luxembourg Stock Exchange has growth steadily. The amount issued and number of new listings in Luxembourg Stock Exchange has become the top three European stock exchanges (Lowtax, 1999-2011).
Luxembourg Insurance
Insurance business in Luxembourg is regulated by Commissariat aux Assurances under the Insurance Supervisory Law 1991. There is another name for offshore insurance company which is captive insurance company. Those companies are usually a subsidiary or a large company or a group of companies. Their purpose is to offer insurance for saving external costs and generating profits in a low-tax jurisdiction. Insurances companies that registered in Luxembourg need to pay up to EUR15, 000 annual fees (Lowtax, 1999-2011). For the companies domiciled elsewhere need to pay an annual fee of EUR3, 000.
Luxembourg Ship Management and Maritime Operations
Luxembourg is a land-locked country which introduced its maritime registry in 1990. The shipping company must be supervised under Luxembourg. Non-resident crew members are taxed at a flat rate of 10% (Lowtax, 1999-2011). Shipping companies are subject to normal corporate income tax but exclude from Municipal Business Tax, and receive worthwhile investment tax credits and accelerated depreciation allowances. To avoid taxation, capital gains on the sale of vessels can be rolled over within two years into purchase of new vessels.
