ATAD III Knocking on Luxembourg’s Door: The Directive Proposal for Reporting Requirements Applicable to Shell Companies

ADMIN / September 27th

On 22 December 2021, the European Commission published a proposal for a Directive introducing rules against the use of shell companies in the European Union (Directive 2021/0434, hereafter the “Proposal”). The Proposal is also known in practice as the ATAD III Directive and is another attempt by the Commission to enforce tax sanctions against the alleged abusive use of companies in cross-border activities. Once adopted by all member states, the directive is scheduled to enter into force on 1 January 2024.

Companies established in a Member State receiving passive income from abroad are to meet minimum requirements in relation to their own office premises, staff and their bank account (“substance requirements”) in order to benefit from (withholding) tax advantages under EU Directives and double taxation treaties. Companies falling within the scope of the proposed directive must additionally report to their tax office whether they meet the minimum substance requirements set by the Proposal.

The Proposal is still unclear and contradictory in many respects. If the Proposal enters into force unchanged in 2024, the impact is likely to be significant, especially on AIF structures with cross-border holding structures. AIF should therefore consider early implementation of the minimum substance requirements, to the extent that this has not already been done. This applies all the more as the substance test goes back two years, i.e. according to the current reading to the years 2022 and 2023.

Companies in the Scope of the Proposal and Minimum Substance

At the heart of the Proposal is the obligation for certain companies operating across borders to notify the national tax authorities whether they meet the minimum substance requirements defined by the Proposal. Only if these are fulfilled, tax benefits under European tax directives or double tax treaties would be available to the company.

If the substance requirements are not met, the company in question is considered a “shell company”. However, it should be possible to rebut the qualification as a shell company by the company proving that it was founded for economic reasons, it employs qualified personnel, and that decision-making takes place in the state of its residence.

The Proposal would apply to all companies, regardless of their legal form, to the extent they can be considered resident for tax purposes and meet the following criteria:

  1. More than 75% of the revenues of the company in the preceding two tax years consist of passive income as defined by the Proposal. Passive income is, inter alia, defined as interest, dividend, and royalty income but also includes income from real estate; and
  2. The company is engaged in a cross-border activity. This should be the case if either the book values of the immovable and non-business movable assets held for private purposes located abroad – with the exception of cash, shares or securities – have accounted for more than 60% of the company’s assets in the two preceding business years or if at least 60% of the company’s passive income is generated from or paid out via cross-border transactions.
  3. In the preceding two tax years, the company outsourced the administration of day-to-day operations and the decision-making on significant functions.

If a company meets these criteria, it must report in its annual tax return whether fulfills the minimum-substance criteria, namely whether

  1. it has own premises, or premises for its own exclusive use;
  2. it has at least one active bank account in the European Union;
  3. it has one or more directors who
  • are tax residents of the same Member State as the company, or at no greater distance insofar as such distance is compatible with the proper performance of their duties,
  • are qualified to autonomously take decisions in relation to the activities of the company,
  • are not employees of another company that is not an associated company in which they perform management functions,
  1. the majority of the full-time employees are tax residents of the same Member State as the company, or at no greater distance insofar as such distance is compatible with the proper performance of their duties and are qualified to exercise the activity generating the (passive) income.

Failure to comply with the reporting requirement or a false declaration could be subject to an administrative penalty amounting to at least 5% of the shell company’s turnover.


The Proposal excludes quoted companies[1], regulated financial companies such as AIFMs[2], AIFs, securitization vehicles[3], UCITS[4], credit institutions and (re-)insurance companies[5] from the reporting requirement.

However, the Proposal carves out the following types of holding companies:

  1. holding companies where their beneficial owners and their operational subsidiaries are resident in the same Member State, and
  2. holding companies that are resident in the same Member State as their shareholder(s) or ultimate parent entity.

To what extent the two carve-outs may be applied to investment fund structures and its subsidiaries is not clear at this time.

A Member State may also exempt a company from its reporting requirements if the company can prove that its existence does not reduce the tax liability of its beneficial owner(s) or of the group of which the company is a member.

Companies with at least five own full-time employees shall not fall within the scope of the Proposal.

Consequences of the Qualification as a Shell Company

If a company in scope does not comply with the minimum substance requirements in its Member State of residence and prove that it was set up for economic reasons, it may not benefit from the tax reliefs granted by the European (tax) directives transposed into national law such as the European Parent Subsidiary Directive and the Interest and Royalties Directive. The provisions of a double tax treaty would also not apply.

As a result, the following tax consequences could arise in relation to the passive income derived by a shell company:

  • Any payments qualified as passive income from a paying company established in a Member State made to a shell company should be taxed in the Member State where the shareholder(s) of the shell company is/are resident. Taxes paid in the Member State of origin should be credited.
  • Withholding tax exemption on dividend, interest and royalty payments should not apply in the Member State of the paying company.
  • Any payments to a shell company owned by shareholders established in a third country should be subject to withholding tax at the level of the paying company regardless of whether the payments are made through the shell company or not.
  • Income from immovable property should be taxed in the Member State where the property is situated and in the Member State of the shareholder(s) of the shell company as if the shareholder(s) owned the property directly (regardless of the existence of the shell company).

Exchange of Information and Tax Audits

The Proposal introduces an automatic exchange of information between Member States on shell companies. Member States may request the state of residence for a tax audit on the shell company.

Entry Into Force

The provisions of the final Directive should be transposed into national law by the Member States by 30 June 2023 at the latest. Once adopted by all Member States, the Directive should enter into force on 1 January 2024.


The political will to tackle shell companies and to set minimum standards for substance is to be welcomed, but as so often in the past, the Proposal is too broad and, if implemented as it is, will burden the wrong companies and industries in the EU. The Proposal prevents the free flow of capital in the internal market and thus the necessary investments to make Europe competitive: investments in renewable energies and the expansion of the European infrastructure.

The impact of the Proposal on European alternative investment fund structures and their affiliates is likely to be significant. In addition to the administrative burden, investment fund structures may face higher (withholding) taxes if the minimum substance rules cannot be implemented. In any event, European alternative investment fund structures will become even more expensive in the future as the cost-sharing agreements between group companies used in the past to reduce personnel, rental and compliance costs may no longer be implemented.

If not yet done, the minimum substance rules should be implemented to the extent possible.

Get in touch with us, we will be happy to review your current AIF structures to align them with the new requirements of the Proposal.

Directive Proposal for Reporting Requirements Applicable to Shell Companies

[1] As defined in Directive 2014/65/EU of the European Parliament and of the Council of 15 May 2014 on markets in financial instruments and amending Directive 2002/92/EC and Directive 2011/61/EU (OJ L 173, 12 June 2014, p. 349-496).

[2] As defined in Article 4(1), point (b) of the Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010.

[3] As defined in Directive 2017/2402 of the European Parliament and of the Council of 12 December 2017 laying down a general framework for securitisation and creating a specific framework for simple, transparent and standardised securitisation, and amending Directives 2009/65/EC, 2009/138/EC and 2011/61/EU and Regulations (EC) No 1060/2009 and (EU) No 648/2012 (OJ L 347, 28 December 2017, p. 35).

[4] As defined in Article 1(2) of Directive 2009/65/EC.

[5] As defined in Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012 (OJ L 176, 27 June 2013, p. 1).

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