With its ruling n. 258 published on December 16 (Risposta n. 258_2024), the Italian Tax Agency ruled on the tax classification and treatment of three trusts created in the United States under the laws of the State of Texas. The settlor was an American citizen who passed away. The trustee is a Texas-based bank. The sole beneficiary of the trusts is the settlor’s daughter, an American citizen residing in Italy.
Trust One became irrevocable upon the settlor’s death and continues for the benefit of the daughter; any distribution of the trust’s income or principal is at the sole discretion of the trustee. The beneficiary has the power to revoke and replace the trustee.
Trust Two is irrevocable and mandates annual distributions of income to the beneficiary. The trustee has discretion to distribute additional principal if deemed necessary or appropriate for the beneficiary’s health, education, maintenance, or support. If the trustee is unwilling or unable to act, the beneficiary has the power to appoint a Texas-based bank as a substitute trustee. The trustee must distribute portions of the principal when the beneficiary reaches certain ages, with the final distribution occurring when the beneficiary turns 55.
Trust Three terminated upon the settlor’s death, requiring the trustee to distribute the trust’s principal and income to a newly established trust within three years. If the trustee is unable or unwilling to act, the beneficiary’s siblings have the power to appoint a substitute trustee. Additionally, for certain major decisions concerning the administration of trust property, the trustee must obtain the advice and consent of the beneficiary’s siblings.
Key Tax Agency Rulings and Their Implications
The Italian Tax Agency ruled as follows:
- Trust One is fiscally interposed due to the beneficiary’s power to revoke and replace the trustee, the trustee’s obligation to provide accounting to the beneficiary, and a provision indemnifying the trustee for its actions except in cases of fraud. As a result, the beneficiary is treated as the owner of the assets and income of the trust, is taxed currently on the income of the trust – the character and source of which flows through to the beneficiary – and is required to report on section RW of her income tax return the starting and ending values of each underlying assets owned by the trust , on which she owes the IVAFE (foreign financial asset value-based tax) or IVIEV (foreign real estate value-based financial tax).
- ⚠️ Comment: This ruling highlights a fundamental risk for U.S.-based trusts with Italian resident beneficiaries. If a beneficiary has excessive control over the trustee, the Italian tax authorities may disregard the trust for tax purposes, effectively treating it as the beneficiary’s personal asset-holding entity. This can lead to immediate taxation of the trust’s income, regardless of actual distributions.
- Trust Two is fiscally transparent, meaning its annual income is attributed to the beneficiary for tax purposes, irrespective of actual distributions, and is subject to taxation at the beneficiary’s marginal income tax rates. The beneficiary is required to report on her income tax return the initial and ending value of the trust and the value of her beneficial interest in the trust (for a share of 100 percent).
- ⚠️ Comment: While fiscal transparency may seem a less severe classification than fiscal interposition, it is not. Indeed, a fiscally transaprent trust still results in the taxation of the beneficiary on the income of the trust before it is actually distributed. Also, the income is lumped into a separate category and taxed as ordinary income at gradiated rates. Beneficiaries of foreign trusts should evaluate whether this aligns with their tax planning strategies.
- Trust Three is fiscally interposed due to the beneficiary’s indirect control over the trust, as exercised through her siblings’ power to appoint a substitute trustee and their role in advising on major decisions concerning trust administration.
- ⚠️ Comment: This ruling confirms that even indirect control over trustee decisions—such as the ability of family members to influence the trust—can lead to fiscal interposition. Trust structures should be carefully examined to ensure that no provision grants a beneficiary or their close family members control over trust administration.
Planning Considerations and Practical Takeaways
This ruling underscores the critical importance of structuring and reviewing trust documents carefully to avoid unintended tax consequences in Italy. Here are some key takeaways:
- Avoid excessive control by the beneficiary – The Italian Tax Agency places significant weight on a beneficiary’s power to replace or influence the trustee. If an Italian tax resident beneficiary has such powers, the trust risks being treated as fiscally interposed, leading to immediate taxation of its income.
- Trustee independence is crucial – The selection and independence of the trustee should be carefully considered. A truly independent trustee, with no obligation to report to or be replaced by the beneficiary, strengthens the case for trust recognition under Italian tax law.
- Discretionary vs. Mandatory Distributions – Trusts that provide for mandatory distributions (like Trust Two) are generally treated as fiscally transparent, meaning income is taxed annually at the beneficiary level. Fully discretionary trusts (like Trust One) face a higher risk of being deemed fiscally interposed if the beneficiary has control over the trustee.
- Beware of indirect control mechanisms – Even if a beneficiary does not directly control the trust, provisions allowing family members to replace the trustee or approve major decisions (as in Trust Three) may lead to unfavorable tax treatment. Trust documents should be carefully reviewed to eliminate any mechanisms that could imply control.
- Periodic Review of Trust Structures – Given the evolving interpretation of trust taxation by Italian authorities, individuals with U.S. trusts should regularly review their structures to ensure compliance with Italian tax law and optimize their tax position.
Conclusion
The Italian Tax Agency’s ruling on these U.S.-based trusts reinforces the necessity for careful trust planning and documentation when Italian residents are involved. Trusts that grant beneficiaries direct or indirect control over trustees are at risk of being treated as fiscally interposed, leading to immediate taxation of trust income. To mitigate risks, trust agreements should be structured to maintain the independence of trustees and avoid provisions that may imply beneficiary control.
Individuals with U.S. trusts and Italian tax residency should consult with experienced international tax advisors to assess their trust structures and ensure compliance with Italian tax laws while optimizing their tax treatment.