Luxembourg proposes major overhaul of carried interest Tax Regime

As part of a broader national strategy to enhance Luxembourg's attractiveness as a jurisdiction for asset managers, the Luxembourg government recently submitted a draft law to Parliament proposing a comprehensive reform of the carried interest tax regime. The draft submitted is intended to enhance Luxembourg’s attractiveness as a jurisdiction for alternative investment fund (AIF) managers and professionals.

Two Tax Treatment for Carried Interest

The proposed regime introduces a clear distinction between two types of carried interest: contractual and participation-base.

• Application of a reduced rate: Contractual carried interest, which is not linked to a direct or indirect interest in the fund, will be treated as extraordinary income and taxed at only one-quarter of the individual’s standard tax rate (i.e. a maximum of circa 12%). This preferential regime, which was previously temporary and expired in 2018, is now reinstated on a permanent basis. In addition, the draft law removes the condition that investors must first fully recover their contributed capital before carried interest can be paid, making “deal-by-deal” structures eligible for the beneficial tax treatment.
• Full tax exemption: Participation-based carried interest, on the other hand, will follow the classic capital gain tax treatments. Gains realised on the disposal of a direct or indirect fund interest will be tax-exempt after a six-month holding period, unless the participation exceeds ten percent in the fund structure, as defined under Article 100 LIR. Participation-based carried interest includes carried interest subscribed either directly at the fund level or through a Luxembourg or foreign dedicated vehicle pooling such carried interest from the fund.

Widening the scope of beneficiaries

One of the key features of the reform is the expansion of who may benefit from the carried interest regime. Under the current rules, only employees of AIF managers or management companies are eligible. The draft law extends eligibility to any individual providing services to an AIF manager or its management company regardless of employment status. This includes independent board members, external advisers, and partners involved in managing the fund or advising on its investments.

The employer can also be a Luxembourg or a foreign entity.

Legal form of the fund no longer matters

An important innovation in the draft law is the removal of legal-form constraints when applying the tax rules. The reform clarifies that, for the purpose of taxing carried interest, the nature of the fund’s legal structure, will not be taken into account. This eliminates longstanding uncertainties and simplifies the administrative treatment of various fund vehicles. Tax transparency is therefore disregarded to ensure access to capital gains tax exemption, even where the fund is structured as a special limited partnership (société en commandite spéciale, SCSp) or a mutual investment fund (fonds commun de placement, FCP). This innovation offers significant flexibility and broadens the scope of the tax exemption regime, which is particularly relevant given that the majority of fund structures are set up as tax-transparent vehicles.

Alignment with market practice

The draft law formalises the market-driven concept of carried interest. It defines it as a share in the fund’s outperformance above a predetermined hurdle rate. The revised framework accommodates both whole-fund carry and deal-by-deal arrangements, offering greater clarity and flexibility to managers and investors alike.

Effective date

If adopted, the new regime would enter into force as of the 2026 tax year. It is designed to offer a stable, competitive, and transparent framework for carried interest in Luxembourg, reinforcing the country’s role as a major jurisdiction for fund management.

How Ashurst can help

If you would like to assess the impact of these changes on your carried interest arrangements or explore structuring opportunities under the new framework, or consider redomiciliation, the Luxembourg tax team at Ashurst is ready to assist. 

We provide bespoke advice on carried interest optimisation, tax residency status analysis and full compliance with Luxembourg’s evolving tax legislation.