With its ruling n. 693 of October 8, 2021 (Prassi – AGENZIA DELLE ENTRATE – Risposta 08 ottobre 2021, n. 693), the Italian Tax Agency held that a discretionary beneficiary of a foreign irrevocable trust, treated as a fiscally opaque trust under Italy’s tax classification rules, is required to report his beneficial interest in the trust on his Italian income tax return.

Italian international tax reporting rules requires that Italian resident taxpayers disclose their beneficial interest in (financial, tangible, intangible and real estate) assets held outside of Italy. Reporting is done by filling out section RW of Italian personal income tax return. The duty to report is established in article 4 of Law Decree n. 167 of 1990 In its original formulation, the provision of section 4 requires reporting of foreign assets that the taxpayer owns, directly or indirectly, and which can generate foreign income taxable in Italy. Later on, the reporting was extended to those who are the “beneficial owners” of the reportable foreign assets. For the meaning of the term “beneficial owner”, the amended statute refers to the anti money laundering legislation implementing the EU anti money laundering directives. Under the anti money laundering statute, in case of trusts, for anti money laundering purposes a beneficial owner includes the settlor, guardian, trustee and beneficiaries of the trust.

In some of its previous guidance, the Italian Tax Agency had clarified that the notion of “beneficial owner” for international tax reporting purposes has a narrower meaning, and requires a beneficial interest relationship between the taxpayer and the trust’s income or assets. Under its narrower meaning, a trustee or settlor of the trust do not qualify as beneficial owners and are not subject to reporting (see Circular 53/E of December 23, 2013, Resolution n. 53/E of May 29, 2019, Resolution 506 or October 30, 2020).

Ruling n. 693 concerns a foreign (non Italian) irrevocable discretionary trust, in which the trustee at his absolute discretion can decide to make distributions to certain individuals that belong to a certain class (settlor’s descendants). The trust would be classified as a foreign, opaque (fiscally non transparent) trust, whose income, in the absence of a beneficiary’s right to claim distribution of income from the trustee, is attributed to the trust for Italian income tax proposes and it is not directly taxable upon the trust beneficiaries. According to the taxpayer, the tax duty to report under Law Decree n. 167 requires that a trust beneficiary has control over or a right to receive distributions from the principal of the trust, or has a direct and current claim to the distribution of trust income. Consequently, there should not be duty to report with respect to a foreign irrevocable discretionary trust.

The Italian Tax Agency ruled against the taxpayer and held that a purely discretionary beneficiary of a discretionary trust, if sufficiently identified, also by reference to a class of beneficiaries, must report his beneficial interest in the trust. Reporting should include the value fo the trust and the beneficiary’s share of interest in the trust. In case of a discretionary income beneficiary who is not entitled to receive a specific share of the principal of the trust, reporting may proved to be practically impossible. Indeed, the Italian Tax Agency’s filing software requires that a share is always specified on the turn, and when no share is indicate the filing does not go through.

Ruling n. 693 is consistent with the position taken by the Italian Tax Agency in a draft Circular submitted to public discussion in August 2021, and about to be published in its final form. The draft Circular provides updated guidance on Italian taxation of trusts, and confirms the approach directed at expending the scope of reporting of Italian taxpayers’ beneficial interests with respect to foreign trusts. Penalties for failure to report are substantial, and taxpayers should continue. monitoring the developments in this area to make sure they will stay in compliance with their Italian tax reporting obligations.

With tax ruling n. 18/2022 of January 12, 2022 (Risposta_18_12.01.2022), the Italian tax agency ruled that for the foreign branch tax exemption to apply, a permanent establishment must exist in the foreign jurisdiction, fully taxable in the host country under both foreign country’s domestic tax law and any applicable tax treaty between Italy and the host country. The Italian Income Tax Code allows an Italian corporate taxpayer to elect that the profits attributable to a taxpayer’s branch in a foreign country be exempt from corporate tax in Italy. The default tax regime that applies in the absence of an election allows a tax credit against Italy’s corporate tax, for the amount of foreign income taxes accrued and due in the foreign country, in respect of the foreign branch’s taxable profits. Ruling n. 18/2022 involved an Italian manufacturer of electric and electronic equipment sold in Italy and abroad. The Italian company won the bid for a supply agreement with a foreign client, and in order to serve that agreement it registered a branch in the foreign country, and positioned there a warehouse with equipment and machines, and personnel which would provide technical measurements, testing and training services to its local customer. The Tax Agency argued that for the purpose of the foreign branch exemption of section 168-ter of Italy’s income tax code, a taxpayer must maintain an organization or set of activities in the foreign country which meets the definition of permanent establishment, as set forth under the internal tax laws of the foreign country and the applicable tax treaty, and the permanent establishment must be fully taxable in the foreign country, under local tax laws and the relevant tax treaty. With specific reference to the facts of the ruling, the Tax Agency ruled that the requirements for the exemption were met. The ruling seems to go beyond the scope of the statute governing the foreign branch exemption and require perfect symmetry between the recognition and tax treatment of the branch in the host and home countries.The statutory provision of the Code, on its face, only requires that the taxpayer maintain a permanent establishment in the foreign country, as defined under Italy’s tax code, and does not require any investigation as to whether a permanent establishment or other form of tax presence exist also under local law, and the foreign country actually asserts its tax power over the local branch. In the ruling, the Tax Agency does not address the issue of computation of local branch’s taxable income and amount of foreign tax credit, under host and home country’s and tax laws.

In a series of recent tax rulings, Italy’s Tax Administration ruled that “remote workers” who live in and work remotely in Italy for a foreign employer with no trade or business in Italy can still qualify for the benefits of Italy’s new-resident workers special tax regime.

In 2015, Italy enacted a special tax regime for global workers who move to, and establish their tax residency in Italy.The special tax regime grants a tax exemption for am amount equal to 70 percent of employment taxable income for a period of five tax years. The exempt amount increases o 90 percent if the workers residence is established in one of the country’s southern regions. The exemption period is extended for five more tax years, who the taxpayer has one or more dependent minor children or owner or purchases a real estate property in Italy at any time during the first five-year exemption period. The exempt amount in the second five-year period is equal to 50 percent of taxable employment income, and increases to 90 percent when the taxpayer has three or more dependent children. One requirement for the exemption is that the taxpayer performs his or her services primarily in Italy, and the exemption applies solely to Italian source income.

With effect from tax year 2020, Italy extended the special tax regime to professional income (i.e., professional income earned from personal services performed as independent contractor) and business income (i.e., income arising from a trade or business). The exemption has also been extended to workers who work for foreign-headquartered employers and professionals with foreign-based clients.

In a series of recent tax rulings, Italy’s tax administration, addressing an issued that had emerged during the initial phase of Covid-19 in 2020 and early 2021, has ruled that, as a general rule, the special tax regime applies also to “remote workers” who decide to move to and establish their tax residence in Italy, and work remotely for a foreign employer which has neither a place of business nor any trade or business activities in Italy.

Ruling n. 596/2021 of September 16, 2021 deals with the case of an Italian citizen who move to Italy in May 2021 to work remotely for a U.S. employer. Ruling n. 621/2021 of September 23, 2021 deals with the case of a Dutch employee of an Italian company, who moved to Italy and was employed under Italy’s special tax regime, but during 2020 was forced to remain in the Netherlands and perform his work for the Italian employer in remote mode from there, due to Civid related traveling restrictions. The tax agency ruled that the income earned while working remotely from the Netherlands was not Italian source income, based on Italy’s tax code’s place of performance source rule, and did to qualify for the exemption. Ruling n.2/2022 of January 7, 2022 deals Wirth the case of an Italian citizen who moves back to Italy from Switzerland to work remotely for her Swiss employer. Finally, ruling n. 32/2022 of January 19, 2022 deals with the case of an Italian citizen who moved to Italy to work remotely as independent advisor for several foreign companies (in addition to her for some Italian clients).

In all situations described above, a related issue arises, concerning the possibile existence of a permanent establishment of the foreign employer in Italy, as a result of foreign employer’s maintaining a permanent employee based and working within the Italy territory. The fact that the foreign employer does not otherwise do business in Italy, that the services of the Italian employee are not connected with or performed in furtherance of a business operated by the foreign employer in Italy, that the location of the employee in Italy is set up at the employee’s sole convenience, and that the foreign employee keeps a fixed base regularly available to its Italian employee outside of Italy, are all important factors to consider when addressing the issue. Perhaps, additional guidance will come in the future from the tax administration, considering the constantly growing cases of global workers and professionals moving to Italy and working remotely for foreign employer and customers from their Italian location.

In response to a petition we presented on behalf of the taxpayer, the Italian Revenue Agency issued an advance tax ruling in a case concerning the determination of the tax character and the source (place of production) of taxpayer’s income arising from a contract of services as president and chief executive officer and board member of a foreign-based multinational, for the purpose of the Italian special tax regime referred to in article 24-bis of the Italian Income Tax Code (so-called forfait tax for high-net-worth individual taxpayers). The special tax regime applies a forfait tax of 100,000 euro, in lieu of the regular income tax, on all foreign-source income of electing taxpayers who have become Italian tax residents for the first time in the preceding ten years.
In this case, the taxpayer – a foreign citizen residing abroad – has set forth the possibility of moving and establishing his tax residence in Italy, in relation to the transfer of his employment relationship from an U.S. subsidiary to the EU holding company of an international group based in Luxembourg, with which the taxpayer would assume the position of president and chief executive officer. The employment relationship would include top level, discretionary management functions, as well as functions relating to the position of member of the board of directors of some foreign companies of the group. In the context of this relationship, the taxpayer would perform a large part of his services outside the Italian national territory. On the question of the tax classification of the income, the Italian tax administration, agreeing at least in part with the position proposed by the taxpayer, established that the relationship would include both an organic (high-level management functions) relationship and an employment relationship, with the consequence that – moving on to the question of the source of income – the part of the remuneration attributable to functions relating to the organic (management) relationship should be determined with reference to the employer’s foreign country of organization (as provided for in Article 23, paragraph 2 of the Italian Income Tax Code), thus giving rise to income which is automatically foreign-source and falls entirely within the special tax regime (forfait).
With regard to the source of the part of the remuneration attributable to the employment relationship, the Italian tax administration has considered (confirming the position of the taxpayer) that this should be determined (in the absence of a contractual constraint to a fixed working time) with reference to the place of actual performance of work (as provided for in Article 23, paragraph 1, letter c) of the Italian Income Tax Code) and, therefore, in proportion to the work performed abroad with respect to the overall work performed during the year (rather than the number of days spent by the taxpayer in Italy, compared to the total days of the calendar year).
The Tax Agency did not rule on the criteria for apportioning income between management and employment, which depend on the value and extent of actual functions performed and is a matter of fact falling outside the scope of the ruling.

In risposta ad una nostra istanza presentata per conto del contribuente, l’Agenzia delle Entrate ha emesso una risoluzione su una fattispecie concernente la determinazione della natura fiscale e la fonte (luogo di produzione) del reddito ai fini dell’applicazione del regime speciale di cui all’articolo 24-bis del T.U.I.R. (cd. forfait per contribuenti ad alto reddito).
Nella fattispecie, il contribuente – cittadino straniero residente all’estero – ha prospettato la possibilità di trasferirsi e stabilire la propria residenza fiscale in Italia, in relazione al trasferimento del suo rapporto di lavoro da una filiale americana alla holding di un gruppo internazionale avente sede in Lussemburgo, dove il contribuente assumerebbe la posizione di presidente e amministratore delegato (president and chief executive officer). Il rapporto avrebbe ad oggetto funzioni di alta amministrazione, in aggiunta alla carica di componente del consiglio di amministrazione di alcune società estere del gruppo. Nel contesto di tale rapporto, il contribuente svolgerebbe gran parte delle proprie prestazioni al di fuori del territorio nazionale. Sulla questione della natura fiscale del reddito, l’amministrazione finanziaria, concordando almeno in parte con la posizione prospettata dal contribuente, ha stabilito che il rapporto comprende sia un rapporto organico sia un rapporto di lavoro dipendente, con la conseguenza che – passando alla questione della fonte del reddito – la parte di compenso imputabile a funzioni riconducibili al rapporto organico deve essere determinata con riferimento allo stato estero in cui ha sede il datore di lavoro (come previsto all’articolo 23, comma 2 del T.U.I.R.), dando così luogo a reddito di fonte estera automaticamente rientrante, come tale, nel regime speciale (forfait). Circa la fonte della parte di compenso riconducibile al rapporto di lavoro dipendente, l’amministrazione finanziaria ha ritenuto (confermando la posizione del contribuente) che essa debba determinarsi (in mancanza di vincolo contrattuale ad un orario fisso di lavoro) con riferimento al luogo di effettiva prestazione del lavoro (come previsto all’articolo 23, comma 1, lettera c) del T.U.I.R.) e, quindi, in proporzione al lavoro svolto all’estero rispetto al lavoro complessivo (invece che al tempo trascorso dal contribuente in Italia, rispetto al totale dei giorni dell’anno).

With its ruling n. 8719 of March 30, 2021(Cass. n. 8719, 30-3-2021) the Italian Supreme Court ruled that no Italian gift tax applies when the trust assets are distributed back to the settlor, upon termination of the trust following the trust beneficiaries’ disclaimer of their beneficial interests under the trust.

The case involved a trust governed by the Laws of Jersey (“Trust (Jersey) Law 1984”), whereby the beneficiaries disclaimed all of their interests under the trust, pursuant to Article 10A of the governing law of the Trust, which provides as follows:

10A Disclaimer of interest

(1) Despite the terms of the trust, a beneficiary may disclaim, either permanently or for such period as he or she may specify, the whole or any part of his or her interest under a trust if he or she does so in writing.
(2) Paragraph (1) applies whether or not the beneficiary has received any benefit from the interest.
(3) Subject to the terms of the trust, if the disclaimer so provides it may be revoked in accordance with its terms”

Upon the trust beneficiaries’ disclaimer of their interests under the trust, there were no other beneficiaries or persons who could become beneficiaries under the terms of the trust.

As a result, the trust property was to be held in trust by trustee to the benefit of the settlor, pursuant to article 43 of the governing law of the trust, which provided as follows:

42 Failure or lapse of interest

(1) Subject to the terms of a trust and subject to any order of the court, where –
(a) an interest lapses;
(b) a trust terminates;
(c) there is no beneficiary and no person who can become a beneficiary in accordance with the terms of the trust; or
(d) property is vested in a person which is not for his or her sole benefit and the trusts upon which he or she is to hold the property are not declared or communicated to the person,

the interest or property affected by such lapse, termination, lack of beneficiary or lack of declaration or communication of trusts shall be held by the trustee or the person referred to in sub-paragraph (d), as the case may be, in trust for the settlor absolutely or if he or she is dead for his or her personal representative”.

According to the taxpayer, under the circumstances described here above, the trust was actually terminated and the trust property was to be returned to the settlor, in accordance with article 43 of the governing law of the trust, which provides as follows:

43 Termination of a Jersey trust.

(1) On the termination of a trust the trust property shall be distributed by the trustee within a reasonable time in accordance with the terms of the trust to the persons entitled thereto.

The trust property was actually returned to the settlor, and the Italian tax agency assessed the transfer taxes of Article 2, paragraph 49 of Law Decree n. 262 of 2006 upon the transfer, on the theory that:

(a) the original transfer of property from the settlor to the trust, was a definitive transfer, for no consideration, which resulted in the property exiting the settlor’s estate and becoming part of the principal of the trust, and it was subject to Italian gift and transfer taxes accordingly;

(b) the subsequent transfer of trust property to the settlor, following the beneficiaries’ disclaimer of their interests in the trust, was a discrete transfer, for no consideration, pursuant to which the property exited the trust and became part of the estate of the settlor, thereby falling, as such, within the scope of the transfer taxes.

The Supreme Court rules against the tax agency, and in favor of the taxpayer, following the theory accordingly to which:

(a) the transfer of property to a trust is just a provisional, transitory step towards the eventual distribution of the property to the trust beneficiaries, which does not, in itself, fall within the scope of Italy’d gift or transfer taxes,

(b) the Italian gift and transfer taxes apply solely upon the final distribution of the trust property from the trust to the beneficiaries,

(c) the return of the trust property to the settlor simply eliminates the legal effect of the initial transfer of the property to the trust, preventing the possibility of a final distribution of the property to the trust beneficiaries, and, with it, any possible application of gift or transfer taxes.

The ruling’s rational is consistent with the Supreme Court’s most recent case-law – which is referred to therein – according to which the Italian gift tax applies solely to the final distribution of the trust property to the trust beneficiaries, when the gift is complete, while the initial transfer of the property from the settlor to the trust is just the first, transitory or intermediate step of the gift, which is insufficient, as such, to trigger the application of the gift tax.

Indeed, according to the Italian Supreme Court, the Italian gift tax applies to a transfer with no consideration, pursuant to which the recipient of the property has direct dominion and control and full enjoyment of the property for his or her own benefit.

To the contrary, the Italian tax agency is still pursuing the position according to which the gift and transfer taxes apply to the transfer of a property to the trust, while no other taxes apply at the time of the distribution of property from the trust to the beneficiary.

The Court’s theory poses significant challenges in a cross-border setting, where the settlor’s and trust’s tax residence may be located in different countries, or the settlor’s tax residence has changed, between the time of the transfer of property to the trust and the time of the distribution of property from the trust to a beneficiary.

For example, we can refer to a case in which the settlor was a nonresident at the time of the transfer of foreign-located property to the trust, but moved to and has become an Italian tax resident, at the time of the distribution of that property to the trust beneficiaries, or to a case in which the settlor is an Italian tax resident, but the trust is a nonresident entity, for Italian gift tax purposes, at the time of the distribution of the property to the trust beneficiaries.

The question, in those cases, is whether the Italian gift tax – which supposedly applies solely upon the distribution of the trust property to the trust beneficiaries, – should apply based on the trust’s foreign tax residence, or the settlor’s foreign tax residence at the time of the initial transfer of the property to the trust (as opposed to the settlor’s Italian tax residence, at the time of the distribution of the property to the beneficiaries). In both cases, if the answer to our question is yes, there would be no Italian gift tax. The opposite of course would true in the event we take the alternative approach on the same issues.

The uncertainty arising from the Italian Supreme Court’s approach is significant. As a result, foreign (non-Italian) nationals who moved to Italy with their legacy trust planning in place, should review their trust arrangements to make sure that they fall outside the scope of Italy’s gift tax as per their original intention and reasonable expectations.

With its private letter ruling n. 506 of October 30, 2020 (Ruling 506_2020), the Italian Tax Agency ruled that the Italian protector of a foreign trust which holds foreign financial assets and accounts to the benefit of an Italian resident individual does not qualify as beneficial owner of the trust. As a consequence, according to the Tax Agency – which upheld the taxpayer’s position as stated in the ruling request – the Italian protector was not obliged to disclose either the value of the trust, or the trust’s underlying financials assets, on his Italian income tax return pursuant to Italy’s international tax reporting rules. The Italian beneficiary of the trust treated himself as the beneficial owner of the trust and reported his interest in the trust on his own income tax return.

The issue addressed in the ruling concerns the relationship between the “beneficial interest” rule of international tax reporting statute and the “beneficial owner” rule of anti money laundering legislation.

Italian international tax reporting rules, as set forth in the law decree n. 167 of 1990, require that an Italian resident individual who holds the legal title to, or a beneficial ownership interest in, foreign assets, which can generate foreign-source taxable income, report those assets on his or her income tax return. For this purpose, beneficial ownership requires a direct economic interest on and the actual power to dispose of the assets for one own’s interest.

Conversely, the legislative decree n. 90 of May 25, 2017 which implemented the EU IV anti-money laundering directive and amended the legislative decree n. 231 of November 21, 2007 (the “anti money laundering” decree) adopted a more extensive definition of the concept of beneficial owner, for anti money laundering purposes. In the case of trusts, “beneficial owner” includes the settlor, the protector or guardian, and any beneficiary owning a greater than 20% interest on the income or assets of the trust.

A recent amendment to the legislative decree n. 167 incorporated the concept of beneficial owner as adopted in the anti money laundering decree, into the international income tax reporting statute. The relationship between the old “beneficial ownership interest” rule of legislative decree n. 167, and the new “beneficial owner” definition of the anti money laundering decree, as incorporated by reference into the legislative decree n. 167, has been a source of uncertainty and controversy.

The taxpayer’s position in the ruling request was that legislative decree n. 167 does not expressly extend the obligation to report foreign assets to a trust’s protector or guardian, for income tax purposes; the guardian or protector of a trust has the authority to supervise, control and sometimes direct or approve the actions of the trustee, but he or she does not hold the power to manage the assets of the trust, in his or her own interest or for for benefit of the beneficiaries of the trust, and the beneficial ownership rule of the anti money laundering decree should not supersede the beneficial interest rule of the international tax reporting statute.

The Tax Agency, in ruling in favor of the taxpayer, drew a separating line between the international income tax reporting statute and the anti money laundering legislation, and stated that the beneficial owner definition of the anti money laundering legislation should apply narrowly and consistently with the meaning and purpose of the beneficial ownership interest rule of international tax reporting legislation. The specific purpose of international tax reporting rules is to enable the tax agency to identify foreign-source income taxable in Italy and necessarily revolves around the individual taxpayer who would be teated as the possessor or beneficial owner of that income, and would be liable to any income tax due thereon. As a result, the guardian or protector of a trust, who lacks a direct managerial control or beneficial economic interest on the assets of income of the trust, and any associated income, is not subject to reporting.

The Tax Agency affirmed its previous ruling n. 53 of May 29, 2019 (Ruling 53_2019), in which it stated that the Italian president and administrator of a foreign foundation were not required to report the foundation’s financials assets, because they hold the power to represent and administrate the foundation not for their own interest, but in somebody’s else’s interest, and do not own a direct beneficial interest on the foundation’s assets.

Ruling n. 506 is very important in limiting the international income tax reporting obligations in respect of foreign trusts or similar fiduciary entities or legal arrangements, which may fall upon Italian resident individuals, setting forth an interpretation that can essentially exonerate individuals such a trust’s settlor, protector, contingent or discretion beneficiary, who lack an actual beneficial ownership interest on the trust’s assets or income.

In its Supreme Court Ruling n. 21695-2020 (issued on October 8, 2020) the Italian Supreme Court held that an individual (the “Taxpayer”) who is classified as a resident non domiciled in the U.K., is not eligible for the benefits of the income tax treaty between Italy and the U.K. of October 21, 1988, entered into force on December 31, 1990 and effective in Italy on January 1, 1990 (see U.K.-Italy Tax Treaty, the “Treaty”), and cannot rely upon the the provisions of article 4 of the Treaty to tie-break his tax residency to the U.K. for Italian income tax purposes.

Under the facts of the case, the Taxpayer is an Italian national individual who moved to the U.K. and established his regular place of abode there. As required under Italian administrative law, the Taxpayer cancelled himself from the register of Italian resident individuals, held in Italy, and registered himself as an Italian citizen resident abroad, on the register of Italian expatriates held with the Italian Consulate in London.

The Italian tax administration at the end of a tax audit concluded that the Taxpayer had remained an Italian tax resident under Italy’s domicile test, and assessed Italian income taxes on Taxpayer’s worldwide income, plus interest and penalties, for the four tax years under audit.

The Taxpayer challenged the tax assessments on the basis of two different theories:

– first, he took the position that he should be treated as a non-resident, under Italian internal tax law, as a result of moving to and establishing his place of habitual above in the U.K.;

– second, he argued that, in the event he should be treated as an Italian tax resident, under Italian internal tax law, he nevertheless should be treated as a U.K. tax resident, and an Italian nonresident, under the provisions of article 4, par. 2 of the Treaty, considering that he had a permanent home in the U.K. and no permanent home in Italy, and, as a consequence, he should be exempt from Italian tax on all of his non-Italian source income (and subject to Italian tax solely on his Italian source income, of which he had none).

Italian tax law establishes an individual’s tax residency under one of three alternative tests: (1) the registration test, which is met whenever an individual is registered on the register of Italian resident individuals, in Italy, for more than six months during the tax year); (2) the place of habitual above test, which is met when an individual regularly lives in Italy, with the intention of living there for an indefinite period of time, and (3) the domicile test, which is met whenever an individual’s “main center of interest and affairs” is located in Italy.

For purposes of the residence test, a “place of habitual abode” requires a regular presence coupled with the intention of living in Italy indefinitely. The actual number of days spent in Italy does not matter, and an individual is treated as an Italian tax resident, under the residence test, whenever (i) he or she lives in Italy “regularly”, as opposed to “occasionally” or “sporadically” – regardless of the fact that he or she may have spent in Italy less than 183 days during a tax year – and, (ii) based on the analysis of all of the facts and circumstances, her or she intends to live in Italy for the foreseeable future (as opposed to transitorily, for a limited period of time or a specific purpose). The test is met whenever the individuals “place of habitual abode”, within the meaning clarified above, exists for more than six months in any given tax year.

For purpose of the domicile test, reference is made to the place where an individual’s most meaningful personal, family, and social relations as well financial and economic interests are located, regardless of the place where an individual lives or spends all or part of his or her time during the tax year. The test is met whenever a taxpayer’s “domicile”, within the meaning clarified above, in Italy, exists for more than six months in a tax year.

The Supreme Court upheld the tax court’s and appellate court’s rulings, which ruled in favor of the tax agency and held that the taxpayer should be treated as a tax resident under the domicile test of Italy’s domestic tax law, considering that he had his most meaningful personal and family connections and substantial professional and economic interests in Italy, even though he lived regularly in the U.K.

Then, the Court turned to the Taxpayer’s tax treaty argument, and observed that the Taxpayer was registered in the U.K. as a resident non domiciled, and was subject to regular income tax there solely on his U.K. source income, while the U.K. income tax would apply on his non-U.K. source income solely to the extent that such income had been remitted back to the U.K. during the tax year.

Indeed, non-domiciled individuals resident in the U.K. may choose, on an annual basis, to be taxed on the remittance basis. The remittance basis of tax restricts the U.K. tax liability to UK source income and gains, plus any non-U.K. source income and gains brought into (remitted) to the U.K. Thus, any non-U.K. income and gains retained outside the U.K. (for instance in an offshore bank account) will not be taxed. This is a major tax incentive for those with significant sources of income outside the U.K., or those that (subject to anti-avoidance provisions) can legitimately arrange their affairs such that income is payable outside the U.K.

The Supreme Court referred to the provision of article 4, paragraph 1 of the Treaty, which reads as follows:

“(1) For the purposes of this Convention, the term “resident of a Contracting State” means any person who, under the laws of that State, is liable to taxation therein by reason of his domicile, residence, place of management or any other criterion of a similar nature. But this term does not include any person who is liable to tax in that Contracting State only if he derives income from sources therein“.

According to the Supreme Court, the fact that a U.K. resident non-domiciled is subject to U.K. tax only if he derives income from sources within the U.K., while no U.K. tax is collected on non-U.K. source income, unless and until that income is remitted to the taxpayer in the U.K., results in the taxpayer’s failing to me the Treaty’s tax residence test of article 4, par. 1). As a consequence, according to the Supreme Court, the Taxpayer could not be treated as resident of the U.K. under the definition of article 4, paragraph 1) of the Treaty, and the tie-breaker provision of paragraph 2) of the Treaty did not apply.

The Supreme Court issued identical rulings (n. 21694-2020, 21696-2020 and 21697-2020) for the other three tax years involved.

Ruling n. 21695 stands as a warning for individual taxpayers who move to the U.K. and are treated as resident non-domiciled there, while maintaining significant personal or economic ties to Italy. In the event the Italia tax administration has sufficient reasons to argue that they have their domicile in Italy, and are tax residents there, under Italian internal tax law, they may have no relief under the U.K.-Italy tax treaty and remain indefinitely exposed to worldwide income taxation in Italy.

Italy’s Supreme Court’s ruling n. 26965 of November 26, 2020 provides a clear example of how things can quickly turn for the worse, for an ill-advised taxpayer who fails to report a foreign financial account on his Italian income tax return, and then fails to properly handle the following tax inquiry and audit stemming from it.

According to the facts reported in the ruling, the Italian Tax Agency, pursuant to the provisions of the Directive of the Council of the European Union n.77/799/CEE of 19/12/1977 concerning the mutual tax assistance between the competent authorities of the member states (and article 27 of the Convention against double taxation between Italy and the United Kingdom of 5 November 1990 and article 26 of the Convention against double taxation between Italy and Australia of 18 November 1984), was able to obtain foreign documentation evidencing that the taxpayer was the only beneficiary of the “Massago Etablissement fund”, established in Vaduz (Liechtenstein), the value of which, as of 31/12/2000, amounted to € 2,381,015.00.

The Italian tax office assessed an additional income tax on the amount of the increase in the value of the account in the years 1999 and 2000, treating it as residual category of capital income which is classified as ordinary income taxable at graduate rates. Usually, income from capital in the form dividends, interest or capital gains is subject to substituted tax charged at the flat rate fo 26 percent.

The taxpayer appealed the regional tax court’s decision – which ruled in favor of the tax agency’s determination – to the Supreme Court, with no luck.

The Supreme Court ruled that, in the case of financial assets not declared on part RW of taxpayer’s Italian income tax return, the tax office can legitimately assume that the entire increase in value of the financial assets held on a foreign financial account represents taxable income. In particular, the increases of the value of the assets on the account, withdrawn and/or deposited abroad, are not considered capital income from foreign sources to be subjected to substitute tax (at 26 percent flat rate), but “interest and other income relating to the use of capital” pursuant to article 44, paragraph 1 letter. h) of the Tuir, which is subject to ordinary income tax at graduate rates.

On the procedural issue, the Supreme Court ruled that the national tax agency can rely on the documentation collected from a foreign tax authority pursuant to international statutory provisions on international cooperation and exchange of information for tax purposes, which, in the absence of meaningful and substantiated challenges from the taxpayer, deserves the highest degree of deference and constitutes sufficient evidence for the assessment of the additional tax.

The lesson for taxpayers is two fold: the duty to report foreign accounts is to be taken seriously, and, more importantly, taxpayers have to be careful in preparing for a possibile tax audit, during which they are expected to provide solid explanations on the nature and sources of funds and sources of income arising from their foreign accounts, in order to avoid extremely hateful tax assessments base don a presumption of evidentiary value of any information in the hands of the tax administration.

With Circular n. 33 of December 28, 2020, Italy’s Tax Agency provided administrative guidance on the special tax regime for new resident workers, professionals and entrepreneurs.

The special tax regime, amended and extended in 2019, provides a 70 percent exemption from tax for income earned by individuals who establish their tax residence in Italy.

Eligible taxpayers include Italian and foreign nationals who (1) were not Italian tax residents in the two preceding tax years, (2) moved their tax residence in Italy in the current tax year, (3) undertake to maintain their tax residence in Italy for at least two years, and (4) during the tax year, carry out the activities which give rise to the exempt income primarily in Italy. The exemption applies for a period of five years, and, when certain conditions are met, can be extended for additional five years for a total period of up to ten years.

Circular 33 clarifies that the the 70 percent taxable income exemption applies to taxpayers who moved their tax residence in Italy on or after April 30, 2019 and became tax residents for the year 2019. Initially, the 70 perched exemption was limited to those who moved to Italy on or after July 3, 2019 and would apply starting from the tax year 2020, while a lower 50 percent exemption would apply to new residents in 2019.

Circular 33 clarifies that the first requirement (non-Italian tax residency during the preceding two years) is met, for taxpayers who are treated as Italian tax residents under Italian internal law, but as residents of a foreign country under the provisions of any applicable income tax treaty. The rule applies to Italian nationals who failed to register abroad and remained registered as Italian resident individuals at the time of their transfer to a foreign country, as well as to foreign nationals who at any had time registered themselves in Italy or maintained a place of habitual abode there, but had at all time their permanent home or center of vital interests in a foreign treaty country and should be treated as residents of that country under article 4 of a treaty between Italy and that country.

Circular 33 does not clarify the requirement that the activities giving rise to income eligible for the exemption be carried out primarily in Italy during the tax year.

Some possible interpretations are that the taxpayer:

– spends more than half of the calendar days in Italy,
– spends more than half of her working days in Italy,
– performs the majority of the activities giving rise to the income eligible for the exemption in Italy, regardless of the number of days she spent in Italy during the year.

The 70 percent tax exemption applies to the following categories of income:

1) employment income,
2) other categories of income taxable as employment income,
3) income from independent professional services,
4) business income.

The exemption applies solely to Italian source income.

Circular 33 clarifies that only business income earned by the taxpayer directly (as a sole proprietor) is eligible for the exemption. Income earned though a partnership or other entity treated as fiscally transparent, and flowing through to the taxpayer under Italy’s partnership rules, does not qualify for the exemption. Indeed, under Italy’s partnership rules, foreign source business income earned through an Italian partnership is re-characterized as Italian source partnership income, based on the partnership’s place of organization.

On the other hand, all foreign entities – including U.S. partnerships, limited liability companies treated as partnerships and corporations treated as S-corporations – are classified as separate taxable entities, for Italian income proposes (regardless of their legal form and tax classification in their foreign country of organization). As a result, in the case of a U.S. national who is a member of an LLC taxed as partnership, or shareholder of an S-corporation, the income which flows through the entity and is taxed upon her under U.S. income tax law is not eligible for the exemption. When that income is distributed to the member or shareholder, it is classified as a dividend and taxed with the 26 percent dividend tax rate in Italy.

Eligible income may derive from business or professional activities already under way at the time of the transfer of taxpayer’s tax residence to Italy, or new business or professional activities commenced at any time thereafter (within the five or ten year eligibility period).

There is no requirement that the employment or professional activities giving rise to the eligible income be performed for an Italian-based employer or resident entity. As a result, income received by foreign nationals who have become Italian residents and continue working in Italy for their foreign employer is eligible for the exemption. In the event the foreign employer is treated as having a permanent establishment in Italy as a result of its employee being based and working in Italy, any income attributable to the employer’s Italian permanent establishment would be taxable to the foreign employer under the regular Italian income tax rules.

Royalties received for the license of self-developed intangibles, copyrights or image rights are treated as income taxable as employment income. If paid by an Italian based entity or individual, they would be Italian source income eligible for the exemption.

Circular 33 provides some important clarifications on the application of the exemption to income earned before but received after the transfer of taxpayer’s residency to Italy. When the income is paid with respect to past employment carried out outside of Italy, when the taxpayer was a nonresident individual, for Italian income tax purposes, that income is not eligible for the exemption. The rule applies to incentive compensation schemes such as stock options or bonuses, and to severance or lump-sum payments, accrued with respect to foreign employment, but paid to a new resident taxpayer during the eligibility period.

Conversely, a bonus, severance or lump-sum compensation accrued with respect to Italian employment or services carried out in Italy during the eligibility period, but received after the end of the eligibility period, when the taxpayer has already moved her residence out of Italy, are also not eligible for the exemption and are taxable as Italian source income of a nonresident under the regular Italian income tax rules.

The eligibility period is five years. It can be extended by five years (going from a total of five to a total of ten years) for taxpayers with one dependent minor child (either at the time of the transfer, or at any time thereafter within the initial five year period), or who purchased a house in Italy during the twelve month period preceding the transfer, or at any time during the eligibility period. For taxpayers with three or more dependent minor children, the amount of exemption is increased from 70 percent to 90 percent.

Failing to maintain Italian tax residency for the minimum two-year period results in the retroactive loss of the exemption.

In general, the special tax regime for new resident workers, professionals and entrepreneurs offers tremendous opportunities to foreign companies with existing or new business in Italy, which plan to move personnel from heir home office to their Italian subsidiaries, foreign nationals who plan to pursue employment opportunities with Italian companies, and foreign professionals and entrepreneurs who plan to move to Italy and continue or start new business or professionals activities while there.

With proper planning, an exemption of as much as 90 percent of eligible taxable income in effect for a period as long as ten years is available to new tax residents under the special regime.

On November 20, 2020 Italy’s Minister of Economy and Finance published its ministerial decree dated November 17, 2020, which contains specific provisions on the meaning and enforcement of the main benefit test of COUNCIL DIRECTIVE (EU) 2018/822 of 25 May 2018 on mandatory reporting of cross border arrangements (commonly referred to as “DAC6”).

Following the ministerial decree, on December 28, 2020 Italy’s Tax Agency published on its website a draft tax circular which provides administrative guidance on the interpretation and application of the Italian legislation that implements DAC6. Taxpayers and their advisors can provide comments on the draft circular until January 15, 2021.

Under DAC6, certain cross border agreements must be reported whenever they contain certain generic or specific “hallmarks” (meaning, a characteristic or feature that presents an indication of a potential risk of tax avoidance) and, simultaneously, meet the “main benefit test” (meaning, the main benefit or one of the main benefits of the arrangement is the obtaining of a tax advantage).

Generic hallmarks linked to the main benefit test include the following:

1. An arrangement where the relevant taxpayer or a participant in the arrangement undertakes to comply with a condition of confidentiality which may require them not to disclose how the arrangement could secure a tax advantage vis-à-vis other intermediaries or the tax authorities;
2. An arrangement where the intermediary is entitled to receive a fee (or interest, remuneration for finance costs and other charges) for the arrangement and that fee is fixed by reference to:
(a) the amount of the tax advantage derived from the arrangement; or
(b) whether or not a tax advantage is actually derived from the arrangement. This would include an obligation on the intermediary to partially or fully refund the fees where the intended tax advantage derived from the arrangement was not partially or fully achieved;
3. An arrangement that has substantially standardized documentation and/or structure and is available to more than one relevant taxpayer without a need to be substantially customized for implementation. 

Specific hallmarks linked to the main benefit test include the following:

1. An arrangement whereby a participant in the arrangement takes contrived steps which consist in acquiring a loss-making company, discontinuing the main activity of such company and using its losses in order to reduce its tax liability, including through a transfer of those losses to another jurisdiction or by the acceleration of the use of those losses;
2. An arrangement that has the effect of converting income into capital, gifts or other categories of revenue which are taxed at a lower level or exempt from tax;
3. An arrangement which includes circular transactions resulting in the round-tripping of funds, namely through involving interposed entities without other primary commercial function or transactions that offset or cancel each other or that have other similar features;
4. An arrangement that involves deductible cross-border payments made between two or more associated enterprises where the jurisdiction of which the recipient is a resident either does not impose any corporate tax or imposes corporate tax at the rate of zero or almost zero;
5. The payment benefits from a full exemption from tax in the jurisdiction where the recipient is resident for tax purposes;
6. The payment benefits from a preferential tax regime in the jurisdiction where the recipient is resident for tax purposes;
For a more detailed discussion of the provisions of DAC6, we refer to our presentation (NYU ITP Tax Presentation 11-7-2020) at the NYU’s International Tax Program of November 7, 2020.

The ministerial decree’s provisions on the main benefit test (“MBT”) are set forth at articles 6, 7 and 8, while the draft circular provides guidance on the application of the MBT at sections 3.3 and 3.4. Based on the decree and draft circular, the MBT is met when two conditions occur:

– there is a tax benefit from a cross-border arrangement,

– the economic value of the tax benefit exceeds the other economic (non-tax) benefits of the arrangement.

The ministerial decree provides that a tax benefit is determined with reference to the difference between the taxes due on the basis of one or more cross-border arrangements and the taxes which would be due in the absence of such arrangement or arrangements.

The draft circular clarifies that a tax benefit can derive from a cross-border arrangement which, compared to a transaction in which that cross-border arrangement is not employed, allows the taxpayer to:

– obtain reduction of the taxable base,
– obtain (or increase the amount of) a foreign tax credit or similar relief from international double taxation,
– obtain (or increase the amount of) a tax refund,
– defer the payment – or accelerating the refund – of a tax,
– eliminate or reduce a withholding tax.

The ministerial decree provides that the MBT is met whenever the economic value of a tax benefit represents more than 50 percent of the total tax and non-tax economic benefits of the transaction. The ministerial decree makes it clear that the tax benefit must be the principal benefit, and not just one of the benefit, of the arrangement.

The draft circular clarifies that the actual existence (and the measure of the value) of a tax benefit, is determined with reference to the the overall tax treatment of a transaction, by taking into consideration the income taxes due in Italy and in any other foreign jurisdictions in respect of that transaction. When the total amount of income taxes due is lower that the amount of taxes which would be due in the absence of that particular cross- border arrangement, the tax benefit test is met. Also, the draft circular clarifies that the tax benefit is an objective test, which does not requires any inquiry into the taxpayer’s subjective motives or intentions.

In order to determine whether the tax benefit is the principal benefit of the transaction, a fraction must be sued, at the numerator of which there is the amount of the reduction in income taxes which is achieved through the use of the cross-border arrangement, and, at the denominator, there is the sum of the amount of the tax reduction and all other economic or monetary non-tax benefits of the transition. Whenever the result of the fraction is more than 50 percent, the MBT is met. Th formula can be represented as follows:

Amount of Tax Benefit
_______________________________= more than 50%
Amount of Tax Benefit +
other non-tax economic benefits

The draft circular clarifies that the non-tax economic benefits of the transaction, which go into the formula, may consist in cost savings or revenue increase, but must be measurable objectively, on the basis of specific documentation that the taxpayer should be able to make available and rely upon.

In conclusion, the MBT is an objective test, requires that the tax benefit is determined by taking into consideration the overall tax treatment of the cross-border arrangement and the income taxes due in all jurisdictions involved, and is met whenever the tax benefit is the principal benefit of the transaction, namely, prevailing over the total of other non-tax economic benefit of the transaction.

The ministerial decree and draft circular confirm that the administration and enforcement of the MBT will require a potentially very complicated analysis of the tax treatment of a cross-border arrangement in different jurisdictions, difficult calculations of the income taxes due in relation to a cross-border arrangement compared to the income taxes that would be due in relation to a comparable transaction carried out pursuant to a different legal scheme, and challenging computations of the monetary value of non-tax benefits of the arrangement to include in the measurement formula.

Not surprisingly, taxpayers are going to face significant challenges when trying to assess whiter a cross-border arrangement is reportable under the MBT.