By way of thirteen decisions issued in June and July (numbers 15451, 15453, 15455, 15456 of June 7, 2019, numbers 16699, 16700, 16701, 16702, 16703, 16704, 16705 of June 21, 2019, no. 19167 of July 17, 2019 and no. 19319 of July 18, 2019), the Italian Supreme Court ruled that the Italian gift tax does not apply to the transfer of property to a trust, at which time the gift is to be regarded as not complete yet.
According to the Court, the gift tax should apply only when trust property is distributed out of the trust to the beneficiary, and the gift is final and complete.
The position taken by the Supreme Court, which is stated in more general and comprehensive terms in one of the above mentioned decisions, namely Ruling n. 16699 of June 212, 2019 (Ruling 16699 of June 21 2019) potentially turns Italian trust tax planning upside down, and creates fresh issues and new challenges for taxpayers and their tax advisors, particularly in a cross border context.
Foreign individuals who moved to Italy with trusts in place that had been set up and funded before the move, and have become Italian resident taxpayers, should review their trust planning and be aware of its new Italian tax implications. Those who plan to move but have not made the move yet, should review their trust plain in advance.
Similarly, foreign individuals who set up trusts abroad with trust beneficiaries who live in Italy, or owing Italian assets, should make sure of new potential tax exposure in Italy.
On the other side of the spectrum, Italian residents who plan to move abroad may find new opportunities to create trusts holding Italian assets with no immediate tax consequences in Italy, and then have the assets of the trust distributed outside of the trust to beneficiaries in such a way to avoid any Italian gift and estate tax altogether.
Italy operates a gift tax which applies to an outright, complete transfer of property to a person for no consideration, as a result of which the recipient receives the legal title to and immediate economic enjoyment of the property. The underlying constitutional ground for the tax is that the recipient or, donee, by having immediate access to and enjoyment of the property is enriched by the gift and the the tax is justified in light of the constitutional principle of ability to pay.
The donee is the party liable for the tax.
In case of a resident donor, the gift tax applies on a worldwide basis, namely, also to gift of property located outside of Italy. In case of a nonresident donor, the gift tax applies solely to gifts of property located within Italy. residency for gift tax purposes is defined in the same way as residency for general income tax purposes.
Article 2, n. 47 of Law Decree n. 262 of October 3, 2006 (L.D. n. 262) included within the scope of the gift tax any legal arrangement (referred to as “destination or use constrain arrangements”) as a result of which a property is transferred outside of the estate of the transferor, for it to be administered and disposed of for the specific purposes indicated therein.
The provision of Article 2 n. 47 of L.D. 262 covers the transfer of property or right to a trust, which is a fiduciary arrangement pursuant to which a person, the settlor, departs from the legal ownership and economic enjoyment of a property, and another person, the trustee, is entrusted with the duty to administer the property in a fiduciary capacity in the interest of another person or persons indicated as beneficiaries, and ultimately dispose of the property and deliver it to the beneficiaries in accordance with the terms of the agreement of trust.
Tax Agency’s Position.
Two conflicting positions regarding the interpretation and application of Article 2, n. 47 of L.D. n. 262 soon emerged.
According to one position, taken by the Italian Tax Agency, the new provision extended the tax beyond the traditional concept of a “gift”, to any fiduciary arrangement which creates a limitation or constraint over the use and enjoyment of a property, and requires that it be used for or destined to a specified and limited purpose.
In the context of a transfer of property to a trust, the Tax Agency held that the gift tax is due, by the trustee, at the time of the transfer of the property to the trust. No gift or estate tax is then due at the time of the final distribution of the trust property to the trust’s beneficiaries.
The gift tax rates (ranging from 4 percent for transfer to spouses, ascendants and descendants, to 6 percent for transfer to siblings, to 8 percent for transfers to all other persons) and tax exemptions (ranging from one million euro for spouses, ascendants and descendants, to one hundred thousand euros for siblings, to zero for all other individuals) should be determined on the basis of the relationship between the settlor, and the beneficiaries named in the trust. In case of trust with undefined beneficiaries, the 8 percent rate and zero exemption should apply.
The position of the Italian Tax Agency is reflect in administrative guidance provided by way of Circular 3 of January 22, 2008 (Circular 3-E 2008)
According to another position, advocated by taxpayers and Italian notaries involved in the drafting and execution of deeds of trust in Italy, the new provision did not extend the scope of the original gift tax, nor did it create a new tax, and the gift tax should always apply exclusively to the final distribution of a property from the trust to its beneficiary, or whenever the beneficiary of a trust has direct access to and full enjoyment of the trust property from the outset. Until there is a final transfer of title and enjoyment of the property, the intended recipient is not enriched, and the legal ground for the gift tax does not occur. The tax rates and exemption are determined with reference to the relation between the settlor and the final recipient of the property.
Italian Supreme Court’s Case Law And Latest Rulings.
The Italian Supreme Court issued rulings that oscillated between three positions: 1) the gift tax applies to any arrangement pursuant to which a property is transferred outside of the estate of the transferor and subjected to a specific use or destination, which includes the transfer of property into any kind of trust, 2) the gift tax applies solely to straight gifts, which, in case of trust, only occurs at the time of the final distribution of the trust property to a specific beneficiary, 3) the gift tax applies also to indirect gifts, which occur in case of a transfer of property into a trust with sufficiently identified future beneficiaries, who have the reasonable expectation to receive the property sometimes in the future, based on the terms of the trust.
The rulings issued in June and July are aimed at resolving the conflict and establish a uniform interpretation of the statute, according to which, regardless of the type of trust or other fiduciary arrangement, the gift tax should only apply at the time that there is a definitive distribution of a property to an identified beneficiary of the trust, who receives full and unconstrained legal title to and economic enjoyment of it.
Ruling n. 16699 of June 21, 2019 (Ruling 16699 of June 21 2019), in particular, clarifies the general principles which should guide the application of Article 2, n. 47 of L.D. 262, and clearly states that even in the case of “fiscally transparent” trusts, in which the beneficiaries of the income of the trust are immediately identified in the trust agreement, and the income is attributed to and taxed directly upon the beneficiaries regardless of its actual distribution, no gift tax should apply until the trust corpus is distributed to the beneficiaries outside of the trust.
The Court goes on by saying that the same conclusion is true in case of “fiscally opaque” trusts, that is, trusts with no identified beneficiaries who hold the immediate right to the distribution of the income of the trust.
According to the Court’s interpretation, a gift is complete only at the time of the final and unconditional distribution of the property to the beneficiary, and the gift tax becomes payable only at that time.
Consequences and Cross Border Issues.
The position taken by the Supreme Court potentially turn Italian trust tax planning upside down. Previously, taxpayers were able to transfer property to a trust, pay the gift tax on the value of the property at the time of the transfer to the trust, and let the property appreciate within the trust, to the ultimate benefit of the trust beneficiaries, estate and gift tax free. The Supreme Court’s latest rulings requiring that the gift tax apply upon the full appreciated value of the property at the time of its final distribution out of the trust to the beneficiaries trumps that tax planning opportunity. The benefit of deferring the gift tax is greatly offset by the potentially significant increase of the taxable base subject to the gift tax at a later time.
In a cross border context, it raises significant challenges and completely novel issues.
One concerns the application of the tax in case of change of tax residence by the settlor, between the time of transfer of property to a trust, and the time of distribution of trust property from the trust to the beneficiaries.
In the case of a settlor who was a nonresident individual, for Italian tax purposes, when he or she transferred property located outside of Italy, into a trust, and later on, he or she moves to Italy, becoming an Italian tax resident individual when the property is distributed to the beneficiary of the trust, the question arising is whether the Italian gift tax should apply, based on the settlor’s newly acquired and existing Italian tax residency, at the time of the distribution of the property from the trust to the beneficiary.
Conversely, an individual who is an Italian resident settlor, at the time of the transfer of a non-Italian property to a trust, and moves outside of Italy and becomes a non-Italian resident, at the time of the transfer of the property to the beneficiaries of the trust, could take the position that no gift tax is due in Italy, based on the fact that the settlor is a nonresident individuals and and the property is located outside of Italy, when the gift is completed with the distribution of the property from the trust to the beneficiary.
Foreign taxpayers who moved to Italy with their trusts already in place at the time of the move, and are Italian tax residents at the time of distributions of trust properties to trust beneficiaries, should review their plan for those who plan to move to the country make the proper adjustments to make sure they will avoid adverse and unintended Italian tax consequences.
Conversely, Italian individuals who plan to ove out of Italy, have the opportunity to use trusts without immediate Italian gift tax and plan a distribution of their assets with on Italian tax altogether.
Another issue arises whenever the type and location of the trust property changes, between the time of transfer of property to a trust, and the time of transfer of trust property to trust beneficiaries. The question is whether Italian property transferred to a trust without immediate Italian gift tax, and then converted into non-Italian property before being distributed out of a trust, will till avoid Italian gift tax at the time of its final distribution to the trust beneficiaries.
The Italian Tax Agency has not reviewed its position yet, in the light of the Supreme Court’s latest rulings. If it does so, it shall have have to provide completely new guidance which should properly reflect the new approach on Italian taxation of transfer of properties to a trust.
Taxpayers should stay tuned, monitor all the developments and constantly review their trust planning to make sure it remains tax effective.