In its Ruling n. 359 of July 4, 2022 (Risposta n._359 of 04.07.2022), the Italian Tax Agency ruled that a trust which is disregarded for income tax purposes under the standards of Circular n. 61/E of December 27, 2010, is still respected as a complete and effective trust for Italian gift and estate tax purposes. As a result, the assets of the trust fall outside of the decedent’s estate, are not transferred by reason of death (but pursuant to the terms of the trust), and are not subject to Italian succession procedure or the estate tax.
Under Italian Tax Law, trusts are classified into three categories:
– disregarded trusts,
– fiscally transparent trusts,
– fiscally opaque trusts.
Disregarded trusts include revocable trusts (i.e., trusts which can be freely revoked by the settlor, the beneficiaries, or third parties during the settlor’s life) and irrevocable trusts with respect to which the settlor remains in control of the trust by directing the actions of the trustee or retaining substantial powers relating to the administration and disposition of the trust’s assets or the distribution or enjoyment of the trust’s assets or income. Circular n. 61/E of December 27, 2010, sets forth the standards which apply to determine whether a trust should be disregarded underrate the control or beneficial enjoyment test. A trust can be disregarded with respect to its beneficiaries when the beneficiaries are in control or retain a direct economic enjoyment of the assets or income of the trust. The income of a disregarded trust retains the same character and source that it has in the hands of the trust and is taxed upon the settlor (or the beneficiaries) as if he or she (or they) were the owner of the assets of the trust. Income in the nature of dividends, interest, and capital gains are taxed through the 26 percent substituted tax. Also, the settlor or the beneficiaries are required to report any assets of the trust which are located outside of Italy on their personal income tax return.
Fiscally transparent trusts are irrevocable trusts that identify the beneficiaries of the trust’s income and require that the trustee distributes the trust’s income to the beneficiaries currently (or under specific circumstances outside the trustee’s discretion). A fiscally transparent trust is respected for income tax purposes, but its income is allocated to and taxed directly upon the beneficiaries. The trust’s income is treated as Italian source or foreign source income depending on the tax residency (i.e., place of establishment or administration) of the trust, falls within its own category (income from the trust), and is taxed as general (or ordinary) income at graduated rates.
Fiscally opaque trusts are irrevocable, discretionary trusts that do not have identified income beneficiaries (i.e., no beneficiary has the right to claim the distribution of the trust’s income, which is left to the trustee’s discretion). Fiscally opaque trusts are separate taxpayers, subject to tax in Italy their worwldwide income in case of Italian residents in Italy, or on Italian source income in case of nonresident trusts. The trust’s income can be distributed to Italian resident beneficiaries free from any additional Italian income tax.
Ruling n. 359 concerns the case of a trust that the Italian Tax Agency, in a separate ruling (Risposta n. 796_of 01.12.2021), held should be disregarded for Italian income tax purposes because the Trustee in administering the trust was subject to the directions and consent of the Settlor, acting as Guardian, and the indirect control of the beneficiaries who had the power to revoke and replace the Trustee and the Guardian. Therefore, the trust’s income was attributed and taxed directly to the Settlor. In its Ruling 359, the Tax Agency dealt with the issue of whether the trust should be respected for inheritance purposes and whether the trust’s assets should be considered as falling outside the estate of the Settlor at the time of his death. On that issue, the Tax Agency ruled that the trust is respected for Italian gift and estate tax purposes. As a consequence, upon the death of the settlor, the trust’s assets are outside the settlor’s estate and are not subject to the Italian succession procedure (probate) or Italian estate tax.
Ruling n. 359 is consistent with Ruling n. 398 of June 10, 2021(Risposta n. 398 of 10 giugno 2021), in which the Tax Agency ruled simultaneously on the issue of the imputation of the income of the trust and the issue of the application of the Italian inheritance and gift taxes at the time of the final distribution of certain trust assets upon the death of the settlor.
Ruling 398 deals with two trusts, set up by Husband and Wife (settlors), in which the settlors had retained some substantial powers of control over the management, disposition and use of the trust assets and beneficial enjoyment of trust income. One trust (Trust 1) had been created and funded by Wife, an American and Italian citizen who was resident in the U.S. at the time of the creation and funding of the trust but had moved to and was resident in Italy at the time of her death. Another trust (Trust 2) had been created and funded by Husband, an American citizen who was living in the US at the time of the creation and funding of the trust. The trusts held US bank accounts and not assets located in Italy. Husband died and Trust 2 continued for the benefit of Wife and their children. Wife died, and Trust 1 terminated upon her death, with all trust assets being distributed to Italian resident beneficiaries outright. Upon Wife’s death, Trust 2 continued, with its assets being divided into shares and distributed to trust funds, which would be held and managed in the interest of the children until their final distribution to the beneficiaries.
The Tax Agency ruled that both trusts were disregarded for income tax purposes because the settlors retained extensive powers of the administration and the enjoyment of the trusts’ assets, and the trusts’ income was taxable directly to the settlor.
At the same time, the Tax Agency ruled that both trusts were respected for Italian inheritance and gift tax purposes. For Trust 1, which terminated upon Wife’s death and distributed all its assets to the Italian beneficiaries outright, the Agency ruled that the trust assets were part of Wife’s hereditary estate and subject to Italy’s inheritance tax, noting that Wife as settlor was an Italian tax resident at the time of her death (and therefore, the Italian inheritance and gift taxes applied on worldwide assets). For Trust 2, which continued by distributing its assets to the trust funds for the benefit of the children, the Agency ruled that the Italian inheritance tax applied solely upon trust assets that had been distributed to Wife, prior to her death and were part, as such, of Wife’s hereditary estate, while no inheritance or gift tax was due on the trust assets that had remained in trust at the time of Wife’s death.