EU & Italian International Tax Law Blog : International Tax Lawyer & Attorney : Marco Rossi Law Firm : Italy, New York, European Union, EU

Italy's tax administration issued circular n. 26/E of May 21, 2009 (Circ_26E/2009.pdf), which provides clarifications on the application of the reduced withholding tax on EU dividends.

EU dividends are dividends paid to companies that are resident in a EU Member State or in a State that belongs to the European Economic Area and is included in a special list of approved countries (white list). EU dividends distributed out of earnings and profits accumulated in tax years which began on or after January 1, 2008 are subject to the reduced 1.375 percent withholding tax.

Circular 26/E clarifies that the provision which allocates dividends in reverse chronological order beginning first with profits accumulated in older tax years does not apply. Therefore, the distributing company is free to allocate the distribution to profits accumulated in tax years which began on or after 1.1.2008 and apply the reduced withholding tax.

Also, circular 26/E clarifies that the recipient of the dividend qualifies for the reduced withholding tax if it organized as a company subject to a corporate tax under the laws of its State of residence, even though it does not actually pay any tax as a result of a  exemption that is compatible with EU law or is granted in connection with the particular nature of the entity's income (e.g., passive income earned by investment companies).  

Therefore, investment funds organized as companies in their state of residence, but not subject to tax on their invstment income (such as certain Luxembourgh or Irish investment funds), could qualify for the reduced EU dividend withholding tax rate.

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The Italian Supreme Court in judgment n. 8487 issued on April 8, 2009 held that taxpayers bear the burden to prove that a transaction is entered into for legitimate economic reasons beyond the mere possibility to obtain tax benefits.

The above decision contradicts a previous ruling, n. 1465 of January 21, 2009, in which the Court placed yon the tax administration the burden of proof that a transaction lacks economic substance and is entered into for the essential purpose of obtaining a tax advantage.

Judgment n. 8487 concerns a case in which an Italian company transferred the stock of a wholly owned subsidiary to its parent, as part of a reorganization which was designed to enable the parent to go public.

Under those circumstances, Italian law taxed the gain realized from the transfer of stock of the lower tier subsidiary to the parent to a reduced 10% tax, instead of corporate income tax at ordinary rate. Eventually, the parent was not publicly traded.

The Court applied the anti avoidance provisions of article 37-bis of Presidential Decree n. 600 of 1973 and held that, for those provisions to apply, it is sufficient that a even a single contractual transaction or legal arrangement that is legitimate, on its face, is used in a way that is inappropriate or abusive, and is essentially entered into for no valid economic reasons except for obtaining a tax advantage.

That interpretation, according to the Court, is supported by the Italian constitution, which does not permit tax avoidance.

According to the Court the taxpayer has the burden to prove the specific economic reasons that justify the transaction, in order to be granted the contemplated tax benefits.   

The above decision is the last of several decisions issued in the last few months on the topic of tax avoidance and demonstrates that this area is in a constant flux and needs constant monitoring.         

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A new law (Decree n. 5 of 2009 enacted on Feb. 11, 2009 and finally approved by the Parliament on April 9, 2009) targets the tax abuse of sale and repurchase agreements (commonly referred to as repos) and securities lending transactions.

According to a new provision added to article 2, par. 2 of Legislative Decree n. 461 of November 21, 1997, in case of sale and repurchase agreements or securities lending transactions, or any other arrangements having the same or equivalent economic effects, the repo buyer or borrower is entitled to a tax benefit such as credit for withholding taxes or foreign taxes or other similar benefits in respect of the securities transferred or loaned, only if the repo seller, lender or beneficial owner of the securities would be eligible for those tax benefits had it retained the legal ownership of the securities. 

A similar provision denies to the repo buyer or borrower of the securities the benefit of the participation exemption for  dividends paid on the securities transferred or loaned unless the repo seller or lender would be entitled to it.

Finally, Tax Code article 109, par. 3-bis provides that a loss from sale of stock is non deducible, to extent of the amount of dividends paid on the stock during the 36 months preceding the sale.

The new law establishes that transactions entered into prior to the enactment of the new provisions,  can still be challenged under the general anti abuse rules of article 37/bis of Presidential Decree n. 600 of 1973. 

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