Great Fund Insights: The Belgian "European long-term investment fund" (the ELTIF): A breakthrough?

The Belgian legislator has now adopted a law introducing an attractive tax regime for Belgian law ELTIFs. This is likely to be the breakthrough that is required to kick-off the set-up of Belgian ELTIFs, although a significant use is only expected once the review of the ELTIF Regulation (based on the recent proposals of the European Commission) is finalised.

Background

Almost a decade ago, the European Commission organised a public consultation (2012) and circulated an informal questionnaire (2013) among stakeholders regarding long-term investments. The question was how to create a European investment culture in which investors take a longer-term view. In 2015, the ELTIF Regulation (2015/760) aimed to provide a solution.

In essence, ELTIFs are an EU scheme to facilitate investment in longer-term assets such as infrastructure projects (transport, energy, communication, hospitals, social housing, prisons, schools, water management, waste management, …), real estate and small and medium-sized enterprises.

The scale of such infrastructure projects means that large amounts of capital are required to remain invested over long periods of time. In this respect, ELTIFs should provide an alternative source of non-bank financing. In return, the long-term nature of ELTIFs should help investors achieve more stable returns and withstand short-term market shocks and volatilities.

The ELTIF was introduced as a new type of investment fund. Like any investment fund, the basic idea is to collect investors’ capital and invest that capital collectively through a portfolio of assets. Like any regulated investment fund, it is subject to strict regulatory requirements (regarding eligible assets, portfolio diversification requirements etc).

However, the ELTIF differs from other types of investment funds in that it is possible to invest in various asset classes (ie infrastructure projects, real estate, small and medium sized enterprises etc). Moreover, the ELTIF is open to professional and retail investors throughout the European Union.

Fund rules

The essential features of an ELTIF are as follows:

• The ELTIF is a European regime for Alternative Investment Funds (AIF).
• An ELTIF must be managed by an EU AIFM that is specifically authorised to manage ELTIFs.
• An ELTIF may raise capital from professional and retail investors (minimum amount is EUR 10,000.00 for retail investors having an investment portfolio of not more than EUR 500,000) throughout the European Union.
• An ELTIF must invest 70% of its capital in long-term assets such as infrastructure projects, real estate and small and medium-sized enterprises (within five years after the date of authorisation);
• An ELTIF is subject to strict portfolio diversification requirements (eg an ELTIF may only invest 10% of its capital in a single real asset).
• An ELTIF must not undertake any of the following activities: short selling of assets, taking on exposure to commodities, entering into securities lending, securities borrowing, repurchase transactions, using derivatives etc.
• An ELTIF must not borrow more than 30% of the value of its capital.
• An ELTIF is in principle a closed-ended fund. However, the ELTIF may allow for redemptions before the end of the life of the ELTIF (subject to strict conditions).
• An ELTIF may be listed on a stock exchange.
• A prospectus must be published for each ELTIF.

More flexible fund rules on the way

Since the adoption of the ELTIF Regulation in 2015, only a limited number of ELTIFs have been launched, and only in a limited number of EU Member States. In order to increase the attractiveness of the ELTIF, the European Commission launched a consultation in 2020, which resulted in a Proposal (click here) for a revised Regulation, which was published on 25 November 2021. The European Parliament and the Council are now considering the Proposal.

The proposed changes relate to demand-side restrictions (eg by reducing barriers to entry for retail investors) and supply-side restrictions (eg by broadening the available investment universe).

Below, we list some of the most important proposed amendments:

• The threshold of eligible investment assets would be reduced from 70% to 60% of the ELTIF’s capital.
• The scope of eligible assets would be extended to include certain simple, transparent and standardised (“STS”) securisations as well as real assets with a value of at least EUR 1 million (instead of EUR 10 million) and units or shares of UCITS or of EU AIFs managed by EU AIFMs.
• ELTIFs marketed to retail investors would be able to borrow up to 50% (instead of 30%) of their capital. In addition, the proposal states that ELTIFs, marketed solely to professional investors, would be able to borrow up to 100%.
• The conflict of interest rules would be loosened by allowing the AIFM managing an ELTIF, and undertakings that belong to the same group as an AIFM managing an ELTIF and their staff, to invest in that ELTIF and to co-invest with the ELTIF in the same asset, provided that the ELTIF manager has put in place organisational and administrative arrangements designed to identify, prevent, manage and monitor conflicts of interest and provided that such conflicts of interest are adequately disclosed.
• The limits on portfolio composition would be increased by doubling most percentages (eg an ELTIF would be able to invest no more than 20% (instead of 10%) of its capital directly or indirectly in a single real asset).  ELTIFs that are marketed solely to professional investors would no longer be subject to any diversification requirement.
• The concentration limit would be increased by allowing an ELTIF to acquire no more than 30% (instead of 25%) of the units or shares of a single ELTIF, EuVECA, EuSEF, UCITS or of an EU AIF managed by an EU AIFM. This limit would not apply where ELTIFs are marketed solely to professional investors.
• Master-feeder ELTIF structures would be allowed.
• The minimum investment threshold of EUR 10,000.00 for retail investors would be abolished, the suitability test for retail investors would be aligned to the one required for MiFID purposes and the requirement for the manager or distributor of the ELTIF to provide appropriate investment advice when marketing the ELTIF to retail investors would be abolished.
• An optional liquidity window mechanism would be introduced to provide liquidity to ELTIF investors and newly subscribing investors without requiring a drawdown from the capital of ELTIFs.

This Proposal is currently being discussed, and the final texts are expected to enter into force in 2023.

Belgian tax treatment

As a Regulation, the provisions of the ELTIF Regulation are directly applicable throughout the EU. EU Member States do not have to transpose the Regulation into national law. Nevertheless, EU Member States do decide on the tax treatment of ELTIFs (as taxation is their exclusive competence).

In Belgium, the lack of an attractive tax regime (similar to the tax regime for other types of investment funds) has certainly contributed to the low appetite for Belgian ELTIFs. However, the law of 21 January 2022 has recently remedied this. The aim of the new tax regime is to ensure neutrality between direct investment and indirect investment through an ELTIF.

Taxation at the level of the ELTIF

If an ELTIF qualifies as a ‘resident company’, the ELTIF is in principle subject to Belgian corporate income tax, but benefits from a limited tax base (in accordance with the provisions applicable to other types of regulated investment companies). As a result, ELTIFs are only taxable on the total of abnormal or benevolent advantages received and disallowed expenses (other than depreciations and capital losses on shares as well as the financing cost surplus and the secret commissions’ tax). Therefore, the corporate income tax base of ELTIFs will usually be zero and they will not have to pay corporate income tax.

This new tax regime is not dependent on a mandatory dividend distribution policy.

Withholding tax on movable income paid to an ELTIF may be due, but several exemptions are available (eg to foreign-sourced dividends, interest between affiliated companies, interest on foreign bonds etc).

However, dividend withholding tax is due on Belgian-source dividends received in relation to an equity stake in a Belgian company of less than 10%. Such withholding tax is neither creditable, nor refundable, and therefore constitutes a final tax in the hands of an ELTIF.

Non-Belgian withholding tax may be due depending on the local legislation and applicable tax treaties. ELTIFs should in principle be entitled to treaty benefits since, as resident companies, they are in principle subject to corporate taxation.

Taxation at shareholder level

For Belgian private shareholders (natural persons), the normal rules apply. Dividends are subject to withholding tax at a standard rate of 30%. Capital gains on shares in ELTIFs are not taxable, provided that they are realised within the framework of the normal management of the individual's private estate (which, in principle, should not be a problem for this kind of investment).

For corporate shareholders, special rules apply as a sort of (de facto) tax transparency is introduced. The tax treatment of shareholders depends on the nature of the income received by the ELTIF itself. The dividends distributed by an ELTIF to a resident corporate shareholder are eligible for the (100%) dividend-received deduction (DRD), to the extent that the income received by the ELTIF derives from:

• ‘good’ dividends (dividends from a participation fulfilling the taxation condition (referring to normally taxed companies) of the DRD) or ‘good’ capital gains on shares (capital gains eligible for the participation exemption); or
• ‘good’ foreign real estate income (subject to certain conditions).

It is important to note that this beneficial DRD treatment for Belgian corporate investors is not dependent on a mandatory annual dividend distribution policy (unlike the RDR-SICAV/DBI-bevek or FIIS/GVBF and SIR/GVV). Furthermore, as is the case for all investments by Belgian corporate investors in (regulated or non-regulated) investment companies, the DRD does not require compliance with the minimum participation condition (ie dividends relating to a participation representing at least 10% in the relevant company or with an acquisition value of at least EUR 2.5m) or the minimum holding condition (ie the participation has been or will be held in full ownership during an uninterrupted period of at least one year).

In short, the dividends distributed by an ELTIF to a resident corporate shareholder are eligible for the DRD to the extent that income received by the ELTIF is derived from a normal taxed company.

This transparency principle is extended to foreign corporate shareholders, as EU Treaties require equal treatment of resident (corporate) shareholders and foreign (corporate) shareholders. As a result, this breakdown between ‘good’ and ‘bad’ dividends/capitals gains will also be used to determine that part of the dividend of Belgian origin that will be exempt from withholding tax. For the exemption from withholding tax to apply, a certificate must be submitted confirming that all the prescribed conditions have been met.

It can be concluded from the above that ELTIFs will benefit from both a clear and attractive tax regime.

Annual subscription tax

Investment vehicles regulated by the Belgian Financial Services and Markets Authority, including ELTIFs, are subject to an annual subscription tax in Belgium at a rate of 0.0925% on net assets placed in Belgium, or a reduced rate of 0.01% for shares issued to qualified non-retail investors.

Takeaway

The ELTIF has the potential to become a flagship investment fund, in particular once the EU regulatory changes enter into force. It offers the unique opportunity to invest in various asset classes and is open to both professional and retail investors throughout the European Union. The recent changes to the Belgian tax regime have eliminated a significant obstacle to the structuring of Belgian ELTIFs.

If you have any questions regarding ELTIFs, please contact your trusted Allen & Overy advisor.