Luxembourg Hedge Fund launch: Choose the right investment structures

Luxembourg is one of the most established European hubs for hedge fund sponsors, family offices, private equity managers, and sophisticated entrepreneurs. The country combines political stability, a predictable legal system, and an advanced financial-services ecosystem. It is fully aligned with the Alternative Investment Fund Managers Directive (AIFMD) and is widely recognized by institutional investors, including pension funds and insurance companies.

Our guide explains, in clear legal and investor language, how to structure and launch a hedge fund in Luxembourg. It covers the choice of vehicle, governance, investor economics, tax treatment, timeline, practical steps, and a detailed FAQ section.

I. Choosing the Right Luxembourg Vehicle for a Hedge Fund

The choice of legal form is the first structural decision. It determines the regulatory status of the fund, its governance model, investor perception, and the level of operational flexibility.

The three most common structures for hedge funds in Luxembourg are the Special Limited Partnership (SCSp), the Reserved Alternative Investment Fund (RAIF), and the Investment Company with Variable Capital (SICAV).

1. SCSp (Special Limited Partnership)

The SCSp is a contractual limited partnership without separate legal personality. It is governed by a Limited Partnership Agreement (LPA), which allows the parties to define bespoke economic and governance terms. A general partner (GP) manages the partnership and bears unlimited liability, whereas limited partners (LPs) are liable only up to their commitments.

When the SCSp is marketed to professional investors in the European Union, it must appoint an external AIFM (Alternative investment fund manager) authorized under AIFMD. In that case, the AIFM is responsible for portfolio management, risk management, liquidity monitoring, and regulatory reporting. The SCSp will also require a depositary. Depending on the strategy and asset type, this may be a full depositary or a depositary-lite setup.

Because of its contractual flexibility and tax transparency, the SCSp is often selected for credit, macro, multi-strategy, and opportunistic hedge funds that need tailored waterfalls and bespoke LP terms.

2. RAIF (Reserved Alternative Investment Fund)

The RAIF has become the preferred structure for many hedge fund launches. It combines AIFMD-level governance with a fast time-to-market because it does not require prior authorization from the CSSF. Instead, it is indirectly supervised through its mandatory appointment of an authorized external AIFM.

A RAIF may adopt several legal forms, including SCSp, SCS, SICAV, or SICAF. It can invest in a broad range of asset classes, including listed securities, derivatives, credit instruments, and hybrid products. The RAIF is designed for professional and well-informed investors and is perceived by institutional allocators as a robust yet efficient European hedge fund vehicle.

The RAIF is particularly suitable for managers who want AIFMD passporting, institutional-grade governance, and the ability to launch within a comparatively short timeframe.

3. SICAV (Investment Company with Variable Capital)

A SICAV is a corporate investment company with variable capital. It is governed by a board of directors, which provides fiduciary oversight of management and service providers. The SICAV can be created as an umbrella with multiple segregated compartments and share classes. This allows a single legal entity to host several strategies, currencies, and investor profiles.

SICAVs are often used for hedge funds that require regular NAV frequencies and clear corporate governance. The corporate form, combined with familiar board processes, is appealing to institutional investors that prefer company-style structures over partnerships.

II. Governance and Key Service Providers Under AIFMD

A Luxembourg hedge fund must implement a governance architecture that satisfies AIFMD and CSSF expectations. Core functions are performed by the AIFM, the depositary, and the fund administrator, each with clearly defined responsibilities.

1. Alternative Investment Fund Manager (AIFM)

The AIFM is responsible for portfolio and risk management. It approves and oversees the fund’s valuation policies, liquidity-management procedures, and leverage limits. The AIFM also prepares and files regulatory reports, including Annex IV reports, and manages the AIFMD passport for cross-border distribution to professional investors.

In practice, many hedge fund sponsors appoint a third-party AIFM with a proven track record in similar strategies. This avoids the cost and regulatory burden of building an in-house AIFM and accelerates the launch.

2. Depositary

The depositary safeguards the fund’s financial instruments and verifies the ownership of other assets. It oversees cash flows, checks that subscriptions and redemptions are processed in accordance with the fund documents, and verifies that the fund complies with its investment rules.

The depositary monitors leverage and collateral movements and ensures that the fund’s operations remain consistent with its constitutional documents and applicable law. This creates a second layer of oversight that institutional investors view as critical.

3. Fund Administrator

The administrator calculates the net asset value (NAV) at the agreed frequency, using either IFRS or Luxembourg GAAP. It performs pricing checks, reconciles positions, maintains the register of investors, and processes subscriptions and redemptions.

The administrator also supports FATCA and CRS reporting and prepares the annual financial statements. For hedge funds, it is essential that the administrator have expertise in derivatives, financing transactions, and complex pricing models to reduce the risk of NAV errors.

III. Investor Economics, Liquidity, and Risk Management

Investor-facing documents must clearly describe fee arrangements, liquidity rights, valuation rules, and risk controls. Institutional investors will review these terms closely during due diligence.

1. Management and Performance Fees

In Luxembourg hedge funds, management fees commonly range from 1.0% to 2.0% per year and are usually charged on NAV. Performance fees generally range from 10% to 20% of net performance, almost always subject to a high-water mark. Many credit and multi-asset strategies also use a hurdle rate, such as a fixed percentage or a benchmark index, before performance fees can accrue.

Where the fund accepts subscriptions on multiple dealing days, equalization or series accounting mechanisms are widely used so that performance fees are allocated fairly among investors who enter at different times.

2. Liquidity Terms and Dealing

Liquidity terms must be aligned with the underlying assets. Many Luxembourg hedge funds operate with monthly or quarterly dealing. Notice periods commonly range from 10 to 90 days, depending on the time needed to adjust the portfolio.

The fund may apply redemption gates to limit the proportion of NAV that can be redeemed at one dealing date. For illiquid or hard-to-value holdings, the fund may create side pockets so that redemptions on the liquid part of the portfolio are not distorted. Suspension provisions must be clearly described and are used only in exceptional circumstances, such as extreme market stress or disruptions to pricing.

3. Risk Management

Under AIFMD, the AIFM must maintain a robust risk-management framework. This framework covers market risk, credit risk, counterparty risk, liquidity risk, and operational risk. It sets exposure limits, monitors concentration, and defines the use of leverage.

Leverage is calculated using either the commitment method or the gross method specified by AIFMD. The framework also describes margining policies, collateral standards, and the treatment of rehypothecation. Regular stress tests and scenario analyses are required to assess how the portfolio would behave under extreme but plausible conditions.

IV. Tax Considerations Relevant to Luxembourg Hedge Funds

Luxembourg has deliberately designed a tax framework that is efficient and predictable for investment funds while remaining aligned with international standards. For hedge funds, it is useful to separate the discussion into fund-level taxation, investor-level treatment, SPV structures and withholding-tax aspects.

1. Tax Treatment of RAIFs

Hedge funds using a RAIF under the SIF regime are generally exempt from Luxembourg corporate income tax, municipal business tax, and net-wealth tax. Instead, they are subject to an annual subscription tax of 0.01%, calculated quarterly on the fund’s net asset value.

Certain assets may be exempt from this subscription tax, for example investments in other Luxembourg funds that already pay subscription tax, cash and bank deposits, and some money-market instruments with a remaining maturity below a specific threshold. These exemptions are designed to avoid double taxation and to keep the overall tax burden very low at fund level.

RAIFs formed under the SICAR regime follow a different tax logic and are mainly used for private-equity-type strategies rather than liquid hedge funds.

2. Tax Treatment of SCSp Structures

An SCSp is usually treated as tax transparent in Luxembourg. This means that the partnership itself is not subject to corporate income tax, municipal business tax, or net-wealth tax. Instead, income and gains are deemed to accrue directly to the partners according to the LPA.

The SCSp may become tax opaque if it is considered to be carrying on a commercial activity. Fund sponsors generally structure the SCSp as an investment fund, under AIFM supervision, and avoid operational trading activities at partnership level so that it remains transparent.

Transparency provides several advantages. It avoids tax leakage in Luxembourg, allows investors to apply their own domestic tax rules to income and gains, and can support treaty access at investor level where applicable.

3. Tax Treatment of SICAV Hedge Funds

The taxation of a SICAV depends on its regulatory regime. A SICAV authorized as a UCITS, UCI, SIF, or RAIF typically enjoys an exemption from corporate income tax and municipal business tax. In those cases it pays only the 0.01% subscription tax on its net assets, similar to a RAIF-SIF fund.

If a SICAV is structured under a SICAR regime, it may be fully taxable but benefit from exemptions on income and gains from qualifying securities. However, most hedge fund sponsors prefer to use the SIF or RAIF regimes, which are more suited to liquid and hybrid strategies.

4. Luxembourg SPVs Below the Fund

Hedge funds investing in credit, real assets, special situations, or structured finance often use Luxembourg SPVs to hold investments. These SPVs are frequently incorporated as S.à r.l. companies.

A Luxembourg S.à r.l. is subject to corporate income tax and municipal business tax, leading to a combined effective rate in Luxembourg City of around 25% (rounded). In practice, the effective burden can be significantly reduced because the company may benefit from the participation exemption on qualifying dividends and capital gains, deduct financing costs (subject to interest-limitation rules), and access Luxembourg’s wide network of double tax treaties.

Luxembourg does not levy withholding tax on arm’s-length interest payments. Dividends may be paid without withholding tax in many cases under domestic exemptions or treaties.

SPVs are used to isolate risks, consolidate assets from different jurisdictions, and optimize withholding-tax and financing outcomes in a way that is acceptable to both investors and tax authorities.

5. VAT Position

Management and administration services supplied to Luxembourg regulated funds, including RAIFs, SIFs, and qualifying AIFs, are generally exempt from Luxembourg VAT. This includes portfolio management and risk-management services provided by the AIFM, as well as many administrative functions.

However, services such as legal advice, external audit, and certain IT or valuation services may still carry VAT. Since the fund itself usually cannot recover input VAT, managers aim to limit non-essential services that generate irrecoverable VAT. In practice, the VAT burden is typically modest compared to the size of the fund.

6. Tax Treatment of Investors

Luxembourg offers tax neutrality for non-resident investors in regulated funds. Distributions made by a RAIF, a SIF-type SICAV, or a transparent SCSp are generally not subject to Luxembourg withholding tax. Capital gains realized by non-resident investors on the sale or redemption of fund interests are usually not taxed in Luxembourg, as long as the investor does not hold the units through a Luxembourg permanent establishment.

Investors are taxed under the rules of their own jurisdiction. This is one of the reasons why institutional allocators are comfortable using Luxembourg hedge funds as cross-border pooling vehicles.

7. Double Tax Treaties and International Standards

Exempt fund vehicles such as RAIFs and SIF-type SICAVs do not normally benefit directly from Luxembourg’s double tax treaties. Instead, treaty protection is often achieved at the level of Luxembourg SPVs or at the investor level, especially for tax-exempt institutions such as pension funds and sovereign entities.

Luxembourg has fully implemented international standards on BEPS, anti-hybrid rules, and interest-limitation rules. The jurisdiction aims to remain attractive while complying with OECD and EU expectations. This gives investors confidence that Luxembourg hedge fund structures can withstand regulatory and tax scrutiny.

V. Practical Steps and Timeline to Launch a Luxembourg Hedge Fund

The full launch process usually spans between ten and eighteen weeks, depending on the readiness of the sponsor, the complexity of the strategy, and the responsiveness of investors and service providers.

Step 1 – Define the strategy and target investors

The sponsor specifies the investment strategy, leverage profile, use of derivatives, and liquidity terms. At the same time, the sponsor defines the target investor base, such as European professional investors, non-EU institutional investors, or a mix of both. A concise strategy paper and a draft term sheet for investors are typically produced at this stage.

Step 2 – Select the legal structure and service providers

The sponsor selects the appropriate legal vehicle, usually an SCSp, RAIF, or SICAV, and decides whether to use compartments or share classes. The sponsor approaches several AIFMs, depositaries, administrators, and auditors, compares their terms, and selects the combination that provides the best balance of cost, expertise, and regulatory quality.

Step 3 – Draft and negotiate fund documentation

Legal counsel prepares the main fund documents. These include the LPA or prospectus, the subscription documents, the valuation policy, the risk-management policy, and the template side letters. These documents are reviewed by the sponsor, the AIFM, and, where necessary, anchor investors. This phase establishes the legal backbone of the fund.

Step 4 – Complete bank and depositary onboarding

The fund opens subscription, redemption, and operating accounts with a Luxembourg bank. The depositary performs KYC checks and reviews the investment strategy and operational setup. Where SPVs are required, they are incorporated during this phase. Bank onboarding and depositary review are often the longest steps in the process.

Step 5 – Onboard investors and hold first closing

Once documentation and accounts are in place, the fund begins investor onboarding. The administrator and the AIFM conduct AML and KYC checks, investors sign commitment or subscription documents, and side letters are finalized. After the required minimum capital is reached, the fund holds its first closing, calls capital, and begins trading in accordance with its investment policy.

VI. Key Features and Benefits of a Luxembourg Hedge Fund Structure

A Luxembourg hedge fund offers a combination of features that is difficult to replicate elsewhere. It benefits from a stable legal system, a deep network of fund experts, and strong recognition among global investors.

First, the legal and tax framework is designed to avoid unnecessary leakage at fund level while still complying with international standards. Structures such as RAIFs, SIF-type SICAVs, and SCSp partnerships are efficient and proven.

Second, the regulatory regime provides institutional-grade governance. The presence of an AIFM, a depositary, and a professional administrator creates a multi-layered oversight model that is well understood by institutional allocators.

Third, Luxembourg allows for flexible structuring. Sponsors can create umbrella funds with multiple compartments, establish feeders and parallel vehicles, and use Luxembourg SPVs for cross-border investments. This flexibility is important for managers who plan to scale strategies over time.

Finally, Luxembourg is an established brand in the investment-fund world. Many global investors already invest through Luxembourg vehicles. This familiarity can shorten due-diligence cycles and facilitate allocations.

VII. How Damalion Assists Sponsors, Investors, and Family Offices

Damalion works with international sponsors, entrepreneurs, and family offices that wish to establish hedge funds and related structures in Luxembourg. Support typically covers the selection of the appropriate vehicle, coordination with AIFMs, depositaries, and administrators, and assistance with banking arrangements and ongoing corporate services.

The objective is to help clients build a structure that is compliant, scalable, and credible in the eyes of professional and institutional investors.

VIII. Frequently Asked Questions About Luxembourg Hedge Funds

1. What is a Luxembourg hedge fund?
A Luxembourg hedge fund is an alternative investment fund established in Luxembourg, usually for professional or well-informed investors, that employs active management techniques, including long and short positions, derivatives, and leverage. It is typically structured as a RAIF, an SCSp, or a SICAV and is managed by an authorized AIFM.

2. Which Luxembourg vehicles are commonly used for hedge funds?
The three most common vehicles are the Special Limited Partnership (SCSp), the Reserved Alternative Investment Fund (RAIF), and the Investment Company with Variable Capital (SICAV). Each has different legal and tax characteristics but all can be adapted to hedge fund strategies.

3. What is a RAIF in Luxembourg?
A RAIF is a Reserved Alternative Investment Fund that does not require prior authorization from the CSSF but must appoint an authorized external AIFM. It benefits from AIFMD-level governance and reporting and is usually subject only to a 0.01% subscription tax on net assets rather than corporate income tax.

4. What is an SCSp and why is it used for hedge funds?
An SCSp is a special limited partnership governed by a Limited Partnership Agreement. It is usually tax transparent and offers broad contractual flexibility, which makes it attractive for hedge funds that need customized economic terms, such as complex performance allocations or special classes of investors.

5. When is a SICAV appropriate for a hedge fund strategy?
A SICAV is suitable when the sponsor and investors prefer a corporate structure with a board of directors and when the fund is expected to operate as an umbrella with multiple compartments and share classes. It is often chosen for strategies with regular dealing and a broad institutional investor base.

6. Do Luxembourg hedge funds pay corporate income tax?
Most hedge funds structured as RAIFs or SIF-type SICAVs do not pay Luxembourg corporate income tax or municipal business tax. Instead, they pay a low subscription tax on net assets. Transparent SCSp funds are not taxed in Luxembourg at fund level.

7. How are RAIFs taxed in Luxembourg?
RAIFs under the SIF regime are exempt from corporate income tax, municipal business tax, and net-wealth tax. They pay an annual subscription tax of 0.01% on their net assets, subject to certain exemptions for specific asset types.

8. Is an SCSp hedge fund tax transparent?
Yes, an SCSp is generally treated as tax transparent in Luxembourg, so income and gains are taxed only at the level of the partners according to their own domestic rules, provided the SCSp does not carry out a commercial activity in Luxembourg.

9. Are there withholding taxes on distributions from Luxembourg hedge funds?
Distributions from RAIFs, SIF-type SICAVs, and transparent SCSp funds are generally not subject to Luxembourg withholding tax for non-resident investors, assuming there is no Luxembourg permanent establishment.

10. Why do hedge fund managers use Luxembourg SPVs?
Managers use Luxembourg SPVs to hold specific investments, to isolate risk, to access double tax treaties, and to optimize financing and withholding-tax outcomes. SPVs are usually incorporated as S.à r.l. companies.

11. How long does it take to set up a Luxembourg hedge fund?
The launch process typically takes between ten and eighteen weeks, depending on how quickly the sponsor can finalize documentation, complete bank and depositary onboarding, and bring investors through the KYC and subscription process.

12. Which service providers are mandatory for a Luxembourg hedge fund?
A Luxembourg hedge fund requires an AIFM, a depositary, and a fund administrator. It will also appoint an auditor and usually engage legal counsel. These providers work together to ensure regulatory compliance and smooth operations.

13. How is investor liquidity usually structured in a Luxembourg hedge fund?
Liquidity is normally provided on a monthly or quarterly basis with prior notice. The fund may apply gates to limit redemptions and may use side pockets for illiquid assets. All terms are set out in the fund’s legal documents.

14. What are the main advantages of locating a hedge fund in Luxembourg?
Key advantages include a stable legal environment, an efficient tax regime, strong recognition among institutional investors, a deep pool of service providers, and full alignment with AIFMD for cross-border distribution within the European Union.

15. How can Damalion assist with setting up a Luxembourg hedge fund?
Damalion assists with the selection of the legal structure, coordination with AIFMs, depositaries, administrators, and banks, and ongoing corporate and compliance support so that sponsors, investors, and family offices can focus on investment performance.

Please contact your Damalion experts now.

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor | External links are ownership of their respective owners and do not imply any economic link or interest with Damalion corporation.