News broke out that Italian tax auditors have issued a proposed tax assessment for Euro 1.4 billion ($1.6 billion) as additional corporate income tax due from Fiat Chrysler Automobiles N.V. (“FCA”), in connection with the merger between FCA and FIAT S.p.A. (“FIAT) carried out in 2014, after FIAT had completed its acquisition of US automaker Chrysler.
FCA was incorporated in the Netherlands, and established its tax domicile in the UK, to carry out the reorganization of the Italian automotive group FIAT following the acquisition of U.S. car manufacturer Chrysler in January 2014. In the merger, FIAT merged into FCA and its shareholders exchanged their shares of FIAT for shares of FCA in a stock for stock deal.
Under Sections 178 and 179 of the Italian Corporate Tax Act, as enacted to implement the EU Directive 90/434/EEC of July 23 1990 (further codified in the Directive 2009/133/CE) on cross-border mergers within the E.U., the merger of an Italian tax resident company into a E.U. company qualifies as a nonrecognition transaction, provided that any cash consideration paid to the shareholders of the target does not exceed 10% of the value of the shares of the acquiring corporation the target’s shareholders receive in the exchange. The acquiring corporation takes a carryover basis in the target’s assets, and the target’s shareholders take a transferred basis in the shares of the acquiring corporation they receive in the transaction.
Under paragraph 6 of Section 179, as in effect at the time of the merger, the “components of the business or line of business” that are transferred in the merger, and are not attributed to a permanent establishment of the acquiring corporation which is located in Italy, after the merger, are “deemed realized at normal value”. The resulting gains are taxable to the target, at the corporate income tax rate.
Italian tax authority claims that FIAT S.p.A. unreported or underestimated the fair market value of the U.S. assets which were not attributed to FCA’s Italian P.E. after the merger, for an amount of Euro 5.185 billion, which would result in the assessment of an additional tax of Euro 1.4 billion at the 27 percent corporate tax rate in effect at the time of the merger.
In its merger report filed at the time the transaction FIAT acknowledged that the merger would be tax neutral with respect to FIAT S.p.A.’s assets that would remain connected with FCA’s Italian P.E. after the merger, while the merger would trigger the recognition of taxable gains or losses embedded in FIAT S.p.A.’s assets that would not be connected with the Italian P.E. FIAT also noted that such gains would be offset by tax loss carryovers available to FIAT’s tax consolidated group in Italy.
The retroactive use of FIAT’s tax loss carryovers existing at the time of the merger to offset any additional taxable income which may be assessed by the Italian tax authority could face some hurdles.
According to section 181 of the Italian CTA, the tax loss carryovers of the target which exist at the time of the merger are allocated as follows:
– first, to any taxable income of the target in the year of the merger,
– second, to any taxable gains recognized by the target in the merger,
– third, to the Italian P.E., in proportion of the fair value of the assets attributed to the Italian P.E. compared to the total value of the assets transferred in the merger.
– forth, to the remainder of the corporation (in proportion of the value of the non P.E. assets compared to the total value of the assets transferred in the merger).
The losses allocated to the Italian P.E. can be carried forward and used by the Italian P.E. to offset the taxable income of the P.E. in Italy in the tax years following the merger
The losses allocated to the remainder of the corporation will no longer usable in Italy.
The P.E. established in Italy after the merger is a new taxable entity, separate and different from the target.
The ability of FIAT to claw back and use the tax losses that were allocated to the Italian P.E. of FCA after the merger would seem to require that FCA’s Italian P.E. files corporate amended tax returns by which it relinquishes those tax losses and makes them available again to FIAT. That may result in additional taxable income for the Italian P.E. for the tax years following the merger.
Also, FIAT would need to file its own amended return for the year of the merger, recomputing and reallocating the tax losses that existed at the time of the merger after taking into account the assessment of additional taxable gains pursued by the tax agency.
As a result of an increased value of the U.S. business, more losses would be allocated away from the post merger Italian P.E. and could no longer be used to offset post merger income subject to tax in Italy.
The Italian tax authority can issue the tax assessment after 60 days from the filing of the proposed assessment, unless a settlement is reached with the taxpayer. FIAT would then have 60 days to challenge the tax assessment in court.