The Belgian "European Long-Term Investment Fund": ready for take-off?

Background

The European Long Term Investment Fund (hereinafter “ELTIF”) was created by the EU in 2015 (Regulation 2015/760 dated 29 April 2015). The ELTIFs are designed to create an EU sustainable and flexible investment scheme for long term investments. In Belgium, the ELTIF was introduced into the Law on alternative undertakings for collective investment and their managers dated 19 April 2014 by the Law on various financial provisions dated 27 June 2021. More recently, a new Law on various tax provisions dated 21 January 2022 and a Royal Decree containing various withholding tax provisions dated 7 July 2022 entered into force. The ELTIF is an investment vehicle that (i) intends to compensate for the lack of long-term investment in various sectors such as real estate, renewable energy infrastructure and transport, hospitals and SMEs; and (ii) is made available for marketing to all types of investors across the EU, including retail, institutional, professional or certain qualifying private investors. The objective is to provide investors with long-term, stable returns and stimulate the economic growth in the EU, by restricting the asset classes in which ELTIFs may invest.

In a nutshell, an ELTIF must, amongst others, (i) mainly invest in eligible assets (i.e. long-term illiquid assets fitting into the strategy of smart, sustainable and inclusive growth); (ii) invest at least 70% of its capital in eligible assets; (iii) not undertake short selling of assets, repurchase transactions, securities lending or borrowing; and (iv) be recognised by the FSMA and managed by an AIF manager.

Provided that the investments are of a long-term nature and in line with the strategy of smart, sustainable and inclusive growth, an ELTIF may invest in a wide range of assets, including real estate (funds) (e.g. retirement homes, schools, hospitals, prisons, social housing), but also in infrastructure (funds) (e.g. transport, environmental and social infrastructure, public-private partnerships), debt funds and private equity funds.

During the first couple of years after its inception, the ELTIF did not meet the expectations and its use throughout Europe has been (very) limited. However, a recent EU level impulse as well as the new specific Belgian tax regime will likely increase the interest for such investment funds. Indeed, (i) the European Commission published on 5 November 2021 a proposal for a regulation amending the ELTIF Regulation; and (ii) the Belgian Law of 21 January 2022 containing various tax provisions has introduced a specific  framework (see below) to render the use of a Belgian ELTIF more attractive from a tax perspective.

Brief focus on investment in real estate

An ELTIF is entitled to acquire any (real or personal) right in real estate that allows it to earn a return on a real estate asset (i.e. assets having value due to their characteristics and that may provide returns). The ELTIF Regulation refers to the "holding" of a physical asset, without defining this term as such, but focusing rather on the cash flows that the asset in question must generate. The actual purpose/use of the real estate asset constitutes therefore an essential criterion, even if the variety of possible investments is quite broad since it targets “infrastructure" and "smart, sustainable and inclusive growth”.

Real estate assets comprise infrastructure assets but also assets that give rise to social benefits (e.g. retirement homes, schools, social housing,…). ELTIFs may also invest in residential and/or commercial projects (i) subject to such investments being part of a long-term investment project; and (ii) provided that they serve the purpose of contributing to smart, sustainable and inclusive growth.

As such, a Belgian AIF could also qualify as an ELTIF for certain categories of investment and subject to specific restraints. The investment fund could take the form of a “sicafi” / “vastgoedbevak”. In addition to its own regime, such fund would obviously be subject to the ELTIF’s requirements.

ELTIFs may also constitute an alternative to Belgian real estate investment funds (FIIS/GVBF), as the ELTIF’s regime is more flexible (i.e., (i) in terms of distribution; (ii) duration – they are not limited by the 10-year investment restriction; and (iii) transportability – harmonized European label for financial products).  

However, ELTIFs must comply with the diversification requirement. Indeed, an ELTIF may not invest more than 10% (can be increased to 20% subject to specific conditions) of its total capital in a single asset. Also, ELTIFs may only invest in real assets to the extent that such assets have a minimum value of EUR 10,000,000 (such threshold is reduced to EUR 1,000,000 in the Commission’s proposal). As stated above, ELTIFs must also be managed by an AIF manager and must be recognised by the FSMA.

Tax regime applicable to a Belgian ELTIF

Under the ELTIF regulation, the member states are allowed to design a tax framework that will be applicable to an ELTIF.

Belgium has used this opportunity to introduce a set of tax rules to render the use of an ELTIF attractive from a Belgian tax perspective. This new framework has entered into force on 7 February 2022 and is applicable to ELTIFs with a corporate form that are a tax resident of Belgium. A company is considered a tax resident of Belgium if it has its main establishment or place of effective management in Belgium.

The main objectives of this framework are threefold: (i) to make the investment through an ELTIF tax neutral from a corporate income tax perspective, (ii) to eliminate economic double taxation for corporate investors and (iii) to waive withholding tax for non-tax resident corporate investors.

This framework has been supplemented by a Royal Decree dated 5 July 2022, which entered into force retroactively and is applicable to movable income attributed as of 7 February 2022. This Royal Decree has been introduced to secure the internal consistency of the Belgian tax treatment of an ELTIF and its compliance with EU law.  

The framework which has been put in place by the Law of 21 January 2022 and the Royal Decree of 5 July 2022 can be summarized as follows for Belgian tax resident ELTIFs:

(1) At the level of the ELTIF: limited taxable basis, but application of the annual tax on collective investment undertakings  

As a Belgian tax resident company, an ELTIF is subject to corporate income tax in Belgium on its worldwide income at a rate of 25%.

To render the use of a Belgian ELTIF more attractive from a tax perspective, the special tax regime that applies to certain types of regulated investment companies, such as a Belgian SICAV or “private privak/pricaf privé” (cf. article 185bis of the Belgian Income Tax Code (‘BITC’)) has been extended to a Belgian resident ELTIF. Under article 185bis BITC, the taxable basis for corporate income tax purposes only consists of the abnormal or gratuitous advantages received and certain disallowed expenses. Consequently, the taxable basis will usually be close to zero.

Withholding tax may be due at a rate of 30% on Belgian source movable income (interest, dividends) realized by an ELTIF, without any tax credit or right to reimbursement of the withholding tax. However, there are several domestic law exemptions that can be invoked by the ELTIF. Apart from the existing domestic exemptions, the Royal Decree of 5 July 2022 introduced an exemption from Belgian withholding tax applicable to movable income attributed to a Belgian ELTIF. Foreign ELTIFs are also entitled to this exemption provided that the ELTIF is set up as a legal entity with legal personality. The ELTIF is also not entitled to a tax credit for foreign withholding taxes on foreign source income. However, it is in principle entitled to claim treaty-based exemptions and reductions of such foreign withholding tax under the worldwide network of double tax treaties concluded by Belgium.

Finally, no specific exemption has been introduced regarding the so called  “miscellaneous taxes” so that the ordinary rules will apply. Hence, once registered with the FSMA, the Belgian ELTIF will amongst others be subject to an annual tax of 0.0925% on its worldwide assets. A reduced rate of 0.01% may be applicable in case the financing, e.g. through a special class of shares or compartment, is exclusively obtained from institutional or professional investors.

(2) At the level of the corporate investors: possibility for Belgian tax resident companies (investors) to benefit from the Dividend Received Deduction laid down in article 202 and 203 BITC

Dividends received and capital gains on shares realized by a Belgian tax resident corporate investor are in principle subject to corporate income tax at the standard rate of 25%.

This type of investment income can however benefit from the so-called ‘Dividend Received Deduction’, under which the income is fully exempt, provided that the following conditions are met:

(a) minimum participation condition: dividends relating to a participation representing at least 10% in the relevant company or with an acquisition value of at least EUR 2.5 million;

(b) minimum holding condition: the participation has been or will be held in full ownership during an uninterrupted period of at least one year;

(c) subject-to-tax condition: the participation is held in a company that is subject to the ordinary corporate income tax in its jurisdiction of residence.

As an ELTIF will in principle be considered as an ‘investment company’ within the meaning of the BITC, the first two conditions must not be met. The third condition will however pose a problem for the Belgian corporate investors, as under the new rules a Belgian ELTIF is only taxed on a limited taxable basis.

In order to tackle this issue, the legislator has opted for a transparency mechanism, based on which the third condition is to be assessed at the level of the underlying investments (portfolio company, real estate asset,…) of the ELTIF. In other words, the dividends distributed by a Belgian ELTIF will be eligible for the Dividend Received Deduction at the level of the corporate investor, to the extent that income received by the ELTIF is derived from a company that is subject to the ordinary income tax regime in its jurisdiction.

The same transparency mechanism applies to foreign real estate income realized by an ELTIF. The real estate income distributed by a Belgian ELTIF will be eligible for the Dividend Received Deduction at the level of the Belgian corporate investors, provided that the real estate income realized by the Belgian ELTIF has been taxed abroad.

As a result, a breakdown between ‘good’ and ‘bad’ income (dividends, capital gains on shares and foreign real estate income) will have to be made, in order to determine the tax treatment of the dividend distributions by the Belgian ELTIF, which will require close monitoring.

The principles listed above will also apply to the capital gains realized by the Belgian corporate investors on their shares in the ELTIF.

(3) At the level of the foreign corporate investors: exemption from Belgian withholding tax on ‘good’ dividends distributed by a Belgian ELTIF (article 264/2 BITC):

The aforementioned transparency mechanism has also been extended to dividend distributions to corporate investors established abroad. As a result, the breakdown between ‘good’ and ‘bad’ dividend income and capital gains can also be applied to determine the part of the dividend distribution that should be exempt from Belgian withholding tax.

(4) At the level of the individual investors: ordinary rules

The legislator did not introduce any derogatory rules for Belgian tax resident individuals investing in a Belgian ELTIF. Accordingly, dividends distributed by an ELTIF will be subject to withholding tax at a rate of 30% and capital gains on ELTIF shares are not taxable, provided that (i) the shares are part of the private assets of the individual and (ii) the transfer falls within the scope of the normal management of these private assets. However, since the ELTIF benefits from a special and favourable corporate tax regime, the profit distribution by an ELTIF upon the redemption of its own shares and/or its (partial) liquidation will be exempt from Belgian withholding tax.

Non-Belgian tax resident individuals who receive dividends from an ELTIF are entitled to a Belgian withholding tax exemption, provided that the shares in the ELTIF are part of their private estate (so-called ‘private savers’). This exemption is not applicable to the part of the dividend that is paid with income derived from Belgian source real estate income or Belgian source dividends. Conclusion

The EU has gone to great lengths to make ELTIFs popular investment products. In Belgium, with the new set of tax rules to render the use of an ELTIF attractive, it now seems that they have all the potential to be a leading investment fund. We believe that the interest for ELTIFs is likely to increase in the Belgian real estate market.