On 24 July 2025, a draft bill (the Bill) proposing significant amendments to the law of 4 December 1967 on income tax and the law of 12 July 2013 on alternative investment fund managers (AIFMs) was submitted to the Luxembourg Chamber of Deputies. This initiative forms part of a broader effort to modernise and clarify the tax treatment of carried interest in Luxembourg, enhance the country's competitiveness, and align its legal framework with international fund structuring and remuneration practices. The Bill aims to improve legal certainty by distinguishing carried interest from other forms of income and aligning its tax treatment more closely with genuine performance-based remuneration. The "carried interest" is defined broadly as profit-sharing based on the "outperformance" of an alternative investment fund (AIF).
If adopted, the new regime would take effect as of the 2026 tax year.
What Does the Bill Propose?
The Bill introduces a clearer and more favourable tax regime for carried interest that is allocated to individuals actively involved in managing AIFs. The regime is applicable to both the AIFM's employees and nonemployees, such as independent directors.
The Bill provides for two distinct categories of carried interest, each with specific tax treatment:
- Contractual carried interest: This category applies when carried interest is granted on a purely contractual basis, without any requirement for the individual to hold a stake in the fund. Typically tied to the fund's performance, this type of remuneration benefits from a preferential tax rate equal to one-fourth of the standard progressive income tax rate, resulting in a maximum rate of approximately 11.45%.
- Participation-based carried interest: This category applies when carried interest is inseparably linked to, or represented by, a direct or indirect participation in the AIF, whether through a Luxembourgian or foreign vehicle, structured with free carry allocations or coupled with co-investment obligations. This category qualifies for full tax exemption provided the interest is held for at least six months and does not constitute a substantial participation (defined as a shareholding of more than 10%).
What Is the Impact for Transparent Fund Vehicles?
To ensure consistency between transparent and opaque fund structures, the Bill provides a key clarification: the tax transparency of an AIF will be disregarded for the purposes of the carried interest regime. This pragmatic clarification allows beneficiaries to benefit from the carried interest treatment without tracing through the fund to its underlying assets, which is a welcome simplification for fund practitioners.
What Should Fund Sponsors and Managers Do?
While the Bill must still pass through the parliamentary process, it sends a strong signal of Luxembourg's commitment to remain a leading jurisdiction for AIFs. The proposal is clearly aimed at supporting the development of front-office functions and enhancing the appeal of Luxembourg as a centre for asset management talent.
In preparation for the new regime, fund sponsors and managers should:
- Review existing carried interest arrangements to assess alignment with the proposed regime.
- Evaluate whether a restructuring of current incentive schemes may offer tax and operational advantages.
- Confirm that potential beneficiaries meet the broader eligibility criteria.
- Engage with legal and tax advisers to plan implementation in advance of the 2026 tax year.
Conclusion
This legislative reform represents a timely and strategic update to Luxembourg's carried interest tax framework. By ensuring a more consistent, competitive, and transparent regime, the country continues to position itself as a global hub for AIFs and fund talent. We will continue to monitor developments and provide updates as the Bill progresses through Luxembourg's parliament.
If you would like to assess how this draft law may impact your current carried interest arrangements or future fund structuring, please reach out to our team for assistance.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
