Italian Taxation of Individuals

In 2017, Italy introduced a special tax regime intended to attract Italian and foreign nationals who have been resident outside of Italy for at least nine of the previous ten years, to transfer their tax residence to Italy and pay a fixed amount of €100,000 in lieu of the Italian regular income tax on their foreign source income. Taxpayers qualifying for the special regime are taxed on their Italian source income at usual graduated rates. The fixed amount tax paid under the new regime also substitutes all national and local wealth taxes and Italy’s estate and gift taxes on foreign assets. In addition, taxpayers who elect for the special tax regime are exempt from the duty to report their foreign financial accounts and investments on their Italian income tax return as required under Italy’s international tax reporting rules.

On March 8, 2017, the Italian Tax Administration issued the Regulation n. 47060 setting forth technical provisions for the application of the special tax regime.

On May 23, 2017, the Italian Revenue Agency issued Circular n. 17/E providing administrative guidance in the interpretation and application of the special tax regime.

The special tax regime is not limited to Italian nationals, does not limit a taxpayer’s ability to work, invest or do business in Italy, and does not provide for any mandatory remittance of the foreign income that is subject to the lump-sum tax.

Since the world-famous soccer player Cristiano Ronaldo decided to leave Real Madrid in Spain and join the Italian top team Juventus in Italy (a decision some speculate was predicated also on his ability to benefit from the attractive new Italian special tax regime), Italian’s lump-sum tax for new-resident high net worth individuals has attracted more attention. Less than two years after it was enacted, it is probably still too early to fully assess its impact and the tax agency’s approach in administering it. However, now that it is settled as a permanent feature of the Italian tax system, a further review appears to be worthy.

Class of Taxpayers for Whom It is Designed.

The special tax regime is not limited to a particular class of taxpayers. It extends to both Italian national and foreign nationals, it does not put any limit on the activities a taxpayer can be engaged in while resident in Italy, and does not require that the income subject to the lump-sum tax be remitted back to Italy. A taxpayer who elects for the special tax regime is free to work, invest or operate a business in Italy and earn Italian wages, investment or business income, in respect of which he or she is going to be taxed under the regular income tax.

As a practical matter, since the lump-sum tax applies in lieu of the regular income tax on taxpayer’s foreign source income, the special tax regime is designed in particular for foreign individuals with significant investments, activities or business interests outside of Italy, who earn large amounts of foreign source income subject to zero o low income taxes in the country from which it is derived.

Fiscal Residency Requirements

The special tax regime is offered to Italian or foreign national individuals who have not been Italian tax resident individuals for at least nine of the previous ten years, and are Italian tax residents in the tax year for which they make the election.

Tax residence is determined under Italian tax law, pursuant to one of three alternative criteria that must be met for more than 183 days during a given tax year: registration on the register of Italian resident population, place of habitual abode (intended as a regular place of living where taxpayer intends to stay indefinitely, rather than temporarily or for some specific and limited-time purpose), and domicile (intended as the main place of an individual’s personal, professional and economic interests). Once one of those criteria is met, tax residence retroacts to the first day of the tax year during which any of those criteria is met.

The registration test is completely within the taxpayer’s control and easy to apply. Instead, the residence and domicile tests depend on the facts and circumstances of each particular case, and are more controversial and open to interpretations. In some recent rulings, the Italian Supreme Court took the position that, for the purpose of the domicile test, under certain circumstances the presence of significant economic interests in Italy may prevail over the location of all personal and family ties in a foreign country, while, traditionally, personal ties were given more weight than economic interests.

It is reasonable to argue that Italian nationals who were resident of Italy at one point in time and transferred their residency to a foreign country will receive special scrutiny, and the disclosure of information about their non-Italian tax residence and possible continuing contacts with Italy in the past may expose them to potential audit over their past non-Italian resident tax years (in addition to making them ineligible for the tax regime). Those who transferred their residence to tax havens will have to overcome the presumption that their tax residency is in Italy unless they demonstrate that they actually moved and lived there.

Foreign nationals who purchased resale estate in Italy and, upon the suggestion from local notaries and accountants (without considering its international tax ramifications), registered themselves as Italian resident individuals at their Italian home’s address in order to benefit from an abatement of the transfer taxes at the time of the purchase, triggered Italian tax residency under the registration test and may be ineligible for the special tax regime. Those foreign nationals are often able to tie break themselves to their home country, where they actually lived and kept all their interests, under their home country’s tax treaty with Italy, and avoid any tax liability in Italy (on non-Italian income) for the years in which they have inadvertently been Italian tax residents under the registration test. However, a tax treaty’s tie breaker rules cannot be used to overcome Italian tax residency, as determined under Italian internal law, and claim the special tax regime.

Foreign nationals who never registered as resident in Italy but regularly visited the country, own homes, run businesses or hold other investments in Italy, will have to provide information about their presence and activities in Italy to allow the Italian revenue agency to assess whether they have ever been Italian tax resident under the residence or domicile test.

Election Requirement

The special tax regime is elective. Eligible taxpayers must file an election with their income tax return for the first year in which they are Italian tax residents, or the immediately following tax year.

Taxpayers can, but are no longer required to, apply for an advance ruling on their eligibility for the special regime. If they file for an advance ruling, taxpayers must provide specific information on the relevant facts and circumstances that concern their possible tax residence in Italy in the prior ten-year period. The tax agency has 120 days to respond to the ruling request and failing to respond is equivalent to a positive answer. If the agency asks for additional information, a new 120-day period starts running from the date of the request. SAs a result, taxpayers must carefully prepare their ruling applications to avoid delay.

The Italian tax administration issued a checklist of twenty items that must be properly disclosed and documented, either in the advance ruling application, or by way of an attachment to the tax return electing for the special regime. Taxpayers must use the check list when they review their facts and circumstances and assess their eligibility with their tax advisors, before making the election.

Nothing is said in the law or the administrative guidance issued by the tax administration about a possible situation in which a tax return electing for the special tax regime does not provide, in its attachment, a complete and sufficient set of information in response to all of the items on the check list. To avoid the risk that the election is treated as ineffective, taxpayers should work carefully in preparing a complete response to the agency’s questionnaire.

The election is valid for and automatically expires after 15 years.

Special Election for Family Members

The election for the special tax regime can be extended to a taxpayer’s family members. Whenever a family member becomes an Italian tax resident, within the 15-year period of the initial election, the taxpayer who filed the initial election, and his or her family member that then qualifies, can file the election for the special tax regime. Following the election, the family member is subject to a lump-sum tax of 25,000 euros on his or her foreign source income and enjoys all other benefits of the special tax regime. The family member’s election remains in place, for the remaining part of the 15-year period, even when the principal taxpayer’s initial election is revoked or earlier terminated.

Termination of the Election

Taxpayer is free to terminate the election any time. The election automatically terminates when the taxpayer moves her tax residence outside of Italy or fails to pay the lump-sum tax. Finally, the election expires after fifteen years.

Scope of the Special Tax Regime

The scope of the special tax regime extends to foreign source income and foreign assets and has three important effects: exclusion of foreign source income from the scope of the regular income tax, exclusion of foreign assets from the scope of the Italian estate tax and exemption from the duty to report foreign assets and financial accounts on the Italian income tax return.

No Regular Income Tax On Foreign Source Income

The 100,000 euros fixed-amount tax applies in lieu of the regular income tax on foreign source income. The source of income is determined under the provisions of article 23 of the Italian Unified Tax Act.

Italian tax law source rules differ from US source rules in many important respects and offer great tax planning opportunities to maximize the benefits of the special tax regime.

The first and most prominent example is that of royalties. The source of royalty income is determined by reference to the residence of the payer (licensee), rather than the place of use of the license. As a consequence, royalties paid to a sports athlete for the right to use his or her image in sports products advertising campaigns, or by an artist for the rights to publish or sell his or her music, books, etc. by a foreign sponsor, production or publishing company, are entirely foreign source income, regardless of the place of use of the license and the fact that the use of the image or the sales may be carried entirely or partly out in Italy. Cristiano Ronaldo will be able to license his image rights to a foreign company and receive foreign source tax free royalties for the use of his image in advertising campaigns run entirely in Italy. Conversely, he will be better advised not to license his image rights to an Italian company as a remuneration for foreign run advertising campaigns, which would generate Italian source royalties fully taxed under the Italian regular income tax.

The source of capital gains is the place in which the property is located, rather the residence of the seller. For gains from the sale of stock or ownership interest in non-corporate entities, the gain is sourced with reference to the place of incorporation or organization of the entity. As a result, gain from the sale of stock of a U.S. corporation would be non-US source income, not taxable in the U.S., and foreign source income falling within the scope of the fixed amount tax in Italy.

Dividends and interest are sourced by reference to the residence of the payer. However, dividends and interest earned through mutual funds, which are not treated as fiscally transparent entitles, are separately characterized as income form mutual funds and sourced by the place of organization of the fund. As a result, even investments in Italian stock and bonds can generate nontaxable foreign source financial income if held and managed in a foreign organized mutual fund.

Similarly, income earned through trusts and similar arrangements, is classified as income from trust and sourced by the place of administration of the trust (rather than with reference to the source of the underlying items of income), which, in turn, is presumed to be the place in which the trustee is domiciled (unless taxpayer proves that the actual administration of the trust is carried out in a different place). A revocable trust is disregarded and the settlor is treated as the owner of the assets the income of the trust, which, in turn, is sourced with reference to the source of the underlying items of income deriving from the trust assets. Non-revocable trusts are generally treated as opaque, unless the settlor retains certain control powers over the trust that result in the trust being treated as fiscally transparent. As a result, a taxpayer has the opportunity to lump his (Italian or foreign) investments into a foreign administered trust, and earn entirely foreign source income not taxable under the regular income tax.

Income from services is sourced with reference to the place of performance. As a result, a soccer player playing games inside and outside the country, must allocate part of his salary to Italian games and treat it as Italian source income taxed under the regular income tax, and part of his salary to foreign played games and treat it as foreign source income nontaxable under the regular income tax. Italian law does not set forth any clear rule setting for the methods for the allocation of the income. In case of wages paid for general services, the allocation is made on the basis of the time spent in Italy compared to time spent abroad while performing those services. However, for remuneration paid for work on specific projects or tasks, the allocation should be made with reference to the place where the project or task is carried out.

In a case like the one of Cristiano Ronaldo, there may be a fair argument to sustain that a substantial part of his salary should be allocated to games plaid in the International competitions such as the European Champions League (considering that Juventus has acquired him just for that purpose, having barely missed to win it in the last three seasons, when it reached the finals and lost to superior teams such as Barcelona and Real Madrid), most of which are plaid outside of Italy, and allocate a big chunk of his salary to those games plaid outside of Italy, treating it as foreign source not taxable under the regular income tax. A rock musician receiving compensation for recording a record or performing at concerts outside of Italy would clearly earn foreign source services income not taxable under the regular income tax.

No Estate and Gift Taxes On Foreign Assets

Italy operates an estate tax, which is charged on Italian-situs properties of non resident individuals, or worldwide properties of resident individuals, transferred at death. For individuals who are resident in Italy at the time of death, the Italian estate tax applies on their worldwide estate.

Similarly, the Italian gift tax applies to any transfer for no consideration of any Italian-situs property, when the transferor is a non resident individual, or any property wherever located in the world, when the transferor is a resident individual.

Fiscal residency, for Italian estate and gift tax purposes, is determined pursuant to the same rules that apply to determine Italian fiscal residency for income tax purposes (to which we referred earlier in this article).

The special tax regime exempt foreign assets from the application of Italian estate and gift taxes.

No International Tax Reporting of Foreign Assets

Under Italian tax law, a resident taxpayer is required to report, on section RW of his or her Italian income tax return, all of his or her financial as well as non-financial assets (such as homes, luxury boats, jewelry, artwork, and the like), regardless of whether they generate income (as in the case of rental real estate), or not (as in the case of primary residence, vacation homes, etc.).

The international tax reporting of foreign assets is often very expensive and time consuming.

The election for the special tax regime exempts the taxpayer from the duty to report his or her foreign assets under Italy’s international tax reporting rules.

No Asset-Value Taxes On Foreign Assets

Italy applies a tax on the fair market value of foreign real estate, at the rate of 0.76%, and a tax on the fair market value of foreign financial assets, at the rate of 0.2%.

Both taxes do not apply in case of an election for the special tax regime.

Special Tax Regime and Tax Treaties

One issue that emerged in the context of the enactment of the special tax regime concerns whether a taxpayer who elects for the special tax regime is eligible for the benefits of a tax treaty between Italy and the foreign country of source of the income.

The Italian tax administration in its Circular N. 17/E took the position that a taxpayer should be eligible to treaty benefits, considering that he or she is tax on his or her worldwide income, by reason of being a resident of Italy for income tax purpose, albeit through the regular income tax, as far as his or her Italian source income, and a fixed amount tax that applies in lieu of the regular income tax, as far as his or her foreign source income. As a result, the Italian tax administration announced that it will issue certificates of tax residency to Italian taxpayers who elect for the Italian tax regime.

It must be noted that a taxpayer can always decide to exclude certain countries from the application of the special tax regime. In that event, he or she would qualify for a foreign tax credit in Italy for the amount of any income tax charged on income from sources in that country, and would definitely be able to claim the benefits of the treaty between Italy and that country to limit any source country tax on that income.

Constitutional Issues

The special tax regime poses some constitutional issues. Clearly, it is a departure from the general principle according to which each taxpayer should contribute to the country’s public budget in proportion to his or her paying capacity, set forth at article 53 of the Constitution. A measure of taxpayer’s paying capacity is taxable income, and the Constitutional provision of article 53 has historically been carried out through a progressive income tax.

However, it is not clear how a constitutional challenge might be brought to the Italian Constitutional Court. To bring a claim to the Constitutional Court, a taxpayer must have standing, and standing exists when a taxpayer is subject to a provision of law that subjects him or her to a less favorable tax treatment than that which applies to another category of similarly situated taxpayers. In the case of the special tax regime, a taxpayer who is subject to the regular income tax might challenge the general provisions of the regular income tax, under which he is taxed less favorably (on his foreign source income) that a similarly situated taxpayer subject to the fixed amount tax. That would assume (and require the taxpayer to demonstrate) that he or she possess an amount of foreign source income that, under the special tax regime, would entail a tax that would be lower that the regular income tax on that income. For such challenge to be upheld the Court should rule the constitutional invalidity of the regular income tax, across the board, which seems a very remote and unrealistic proposition. Moreover, a taxpayer who elects for the special tax regime is not in the same position as a taxpayer who is not eligible for the special tax regime (the former being a nonresident, not subject to tax on non-Italian source income, who voluntarily transfers his or her tax residency in Italy in exchange for being taxed under the special tax regime on his or her foreign source income), and the special regime is temporary and expires automatically after 15 years.

Other Issues

One interesting issue concerns the way in which Italy will administer the exchange of information systems it operates with foreign countries which may ask for tax information concerning individuals who have moved their residency to Italy to benefit from the Italian special tax regime. By providing taxpayers who elect for the special tax regime with a full exemption from reporting their foreign assets, Italy would not possess information, out of a taxpayer’s return, to share with a foreign tax jurisdiction. In addition, a taxpayer is not requested to separately state, on his or her Italian tax return, his or her foreign source income, which is not taxable with the regular income tax.

Conclusions

The Italian forfeit tax regime for nonresident high net worth individuals (who become Italian tax residents) has some very interesting features, which make it very attractive, compared to similar regimes applied in other countries, both presently and in the past.

The election for the special tax regime requires specific planning, both to determine the taxpayer’s eligibility for the regime, before it is filed, and to determine the best way to structure the taxpayer’s affairs (with specific regard to the sources of his or her income) to maximize the benefits of the regime, once the filing has been made. Every time a taxpayer moves his or her residence to Italy under the Italian registration test, while keeping significant contacts and interests in other foreign countries, the tax planning will always require an investigation into those countries’ tax laws, to determine whether the taxpayer might still have his or her residency in any of those countries, pursuant to the residence or domicile test that may apply in those countries, and to determine the taxation of local source income in combination with the Italian lump sum tax.

While some more time will need to pass before any case law or administrative tax ruling is available as to the interpretation and application of the special tax regime, the Italian tax agency so far has adopted a pro taxpayer approach, aimed at encouraging the use of the regime, which is seen as a way to attract wealth individuals to Italy ultimately resulting in a contribution to the local economy.

The preferential tax regime for the new resident workers, enacted by way of Article 16 of the Legislative Decree 147 of 9/14/2015, is now permanent and extended to non-EU citizens and independent consultants and service providers (while, originally, it was limited to EU citizens working in an employee capacity).

Given its wider scope and increasing relevance, for foreign enterprises which plan to move personnel to Italy, or foreign consultants who consider the opportunity to relocate to Italy, it is worth providing a review of the basic tax advantages of the preferential tax regime.

Eligible taxpayers include dependent workers and independent consultants and service providers, who are allowed a 50 percent deduction from the amount of taxable wages and salary or compensation for personal service performed in an independent capacity, with the personal income tax (IRPEF) applying on the remaining 50 percent portion of that income at graduated rates.

The special tax regime applies to the following categories of taxpayers:

A. dependent workers (employees) possessing a three or five year of five graduate degree, provided that:

1. in case of a foreign degree, a certificate is issued by the Italian consulate in the taxpayer’s home country, certifying that the degree is equivalent to an Italian graduate degree,

2. the taxpayer has carried out a studying or working activity outside of Italy for at least 24 months (or more) prior to his or her relocation to Italy,

3. the taxpayer is a EU citizen or citizen of a non-EU country with which Italy has an income tax convention or a tax information exchange agreement,

4. the taxpayer works as an employee or a independent consultant or service provider (for private or public organizations, and regardless of whether the work or activities are consistent with the taxpayer’s degree),

B. taxpayers who are employed in a managerial capacity of specialized skill capacity, provided that:

1. they have not been Italian tax residents in the last 5 years preceding their relocation to Italy,

2. they are employed with an Italian employer or a foreign enterprise’s permanent establishment located in Italy, or are employed on secondment or assignment to an Italian affiliate of a foreign company or enterprise,

3. they carry out their work primarily in Italy (the requirement is satisfied whenever the work is performed in Italy for more than 183 days of the year),

4. they perform managerial or specialized skill functions.

The managerial or specialized function requirement is deemed to be satisfied for taxpayers who are in possession of an 3+ year undergraduate degree in the area of management, liberal arts, scientific or high skilled professions, or technical jobs (such as software and IT developers, computer programmers, data base and computer systems programmers, program managers, etc.).

To qualify for the special tax regime, a taxpayer (1) must establish his or her tax residency in Italy during his or her employment there, and (2) must maintain his or her tax residency in Italy for at least two (2) years.

The maximum period for which the benefit applies is five (5) tax years, starting with the first year in which the taxpayer becomes an Italian tax resident.

The benefit consists in a 50 percent deduction of employment and personal services income. Assuming a total income of euro 100,000 in Italy the taxable income after the 50 percent deduction would be reduced to euro 50,000 and the Italian personal income tax (IRPEF) – without taking into account personal deductions or exemptions – would amount euro 15.320 (equal to an effective tax rate of 15.32 perfect).

Any other income, different from wages and compensation for services, continues to be taxed in full or according to the general rules.

Relocating to and establishing tax residency in Italy would still result in taxation in Italy on worldwide income, and carry with it the obligation to report foreign financial accounts and other reportable assets on the Italian income tax return. Consequently, specific pre-immigration tax planning would still be needed to make sure the employees are not subject to an overall adverse tax treatment and Italian taxation is properly coordinated with taxation still applicable in their home country.

The 50 percent income deduction appears to be very attractive and should facilitate foreign direct investments in Italy, in connection with which a foreign investor needs to move managerial or high-skilled personnel from its home country to Italy, and employe it at its Italian subsidiary or place of business.

With its ruling n. 975 issued on January 18, 2018 Italy’s Supreme Court held that the transfer of an asset (real estate property) to an irrevocable trust falls outside the scope of Italy’s registration, cadastral and mortgage taxes (transfer taxes), charged at the aggregate rate of 10 percent, on the theory that it is a transitory step before the final transfer of the property to the beneficiaries of the trust actually occurs, at which time the transfer taxes should apply.

The ruling is consistent with a previous decision of the Supreme Court on the same issue, that is, ruling n. 21614 of October 26, 2016 (which we also commented upon on this blog).

The question is whether the ruling extends to the gift tax, which replaces the registration tax for gratuitous transfers taking place from October 25, 2006.

The ruling concerns facts occurred before the reenactment of Italy’s estate and gift tax. The issue in front of the Court was to determine whether the transfer of real property to a trust was subject to the registration, cadastral and mortgage taxes (usually referred to as transfer taxes or indirect taxes), which are charged at the rates of up to 7 percent, 2 percent and 1 percent of the value of the transferred property.

The property was transferred to an irrevocable trust that specifically identified the beneficiaries of the corpus of the trust, their shares of the principal of the trust and the time at which the trustee would be requested to distribute the trust’s assets to the trust’s beneficiaries.

The Court ruled that the transfer of the property fell outside the scope of the transfer taxes because it did not fit within any of the enumerated categories of legal arrangements to which the transfer taxes should apply, namely (1) transfers for consideration (“atti traslativi a titolo oneroso”), (2) other transfers concerning legal or contract performances with an economic value (“atti diversi aventi ad oggetto prestazioni a contenuto patrimoniale, or (3) acknowledgements (“atti di natura dichiarativa”).

According to the Court, the transfer of the property to the trustee with instructions to hold and administer it in trust in the interest of the trust’s beneficiaries, for a certain period of time and until the conditions are met to proceed with the final distribution of the property to the trust’s beneficiaries, is a transitory step that is part of a legal arrangement designed to procure the final and definitive transfer of the property to certain beneficiaries at a future time. With reference of such a legal arrangement, the Court held that the transfer taxes should apply solely at the time of the actual, final transfer of the property from the trustee to the beneficiaries of the trust.

According to one interpretation, the ruling supports the principle according to which the gift tax (which applies in lieu of the registration tax with respect to gratuitous transfers completed after the re-enactement of Italy’s estate and gift tax with effect from October 25, 2006) should apply only at the time of the final distribution of a trust’s property to the beneficiaries of the trust, when the beneficiaries eventually acquire the unconditional legal ownership rights to the property and receive the full enjoyment of the economic value of the gift, rather than at the time of the transfer of the property to the trust, when the property is temporarily held in trust and administered in the interest of the beneficiaries.

Article 2, paragraphs 47 and 49 of Legislative Decree n. 262 of 2006 (finally enacted into law by way of Act n. 286 of 2006), reinstated Italy’s estate and gift taxes, as originally instituted and governed under Legislation Decree n. 346 of 1990 effective from 1/1/1991 and temporary repealed in October 2001. For gratuitous transfers from a donor to a donee, the gift tax applies at the rate of 8 percent, in lieu of the registration tax. For real estate properties, the cadastral and mortgage tax, at the rate of 2 and 1 percent, are still due on top of the gift tax. For close family members (spouse, parent, children, grandparents, grandchildren), a lifetime exemption of up to one million euros for each beneficiary applies, and the gift tax is charged at the reduced rate of 4 percent.

The gift tax historically applied only to straightforward gifts, as defined in the Civil Code, that is, gratuitous transfers of a property or other valuable economic interests from a person – the donor – to another person – the donee, whereby the recipient of the gift, or donee, would have immediate legal rights to and enjoy the full economic benefit of the gift.

Under the original estate and gift tax statute, the application of the gift tax in the event of a transfer of property through a trust, was unclear. The transfer of a property to the trustee of a trust was not be subject to the gift tax, because the trustee, as the immediate recipient of the property, typically does not have full legal rights to and economic benefit from the property, which he administers in trust for the ultimate benefit of the beneficiaries of the trust, while the beneficiaries of the trust do not receive the property until it is distributed to them out of the trust pursuant to the terms of the trust agreement.

At the time of distribution of the property from the trustee to the beneficiaries of the trust, the gift tax would not apply because the trustee distributes the property to the beneficiaries pursuant to a legal arrangement that does not fall within the legal definition of gift that is subject to the gift tax.

The original estate and gift tax statute, resurrected in 2006, was amended with the addition of a specific reference to deeds or other legal arrangements resulting in the creation of a legal restriction to or constraint on the final disposition of property (“atti costitutivi di vincoli di destinazione”).

The main purpose of the amendment was to bring trusts within the scope of the reenacted gift tax.

The tax administration, in its administrative guidance on the application of indirect taxes to trusts (provided with Circular n. 48/E of August 6, 2007 and n. 3/E of January 22, 2008), took the position that the new category of “legal arrangements resulting in the creation of a legal restriction to or constraint on the final disposition of property” refers to and includes the transfer of a property into a trust, whereby the property is subject to the legal restrictions set forth in the trust agreement, with respect to its administration and disposition, before it can be distributed to there beneficiaries of the trust. As a result, according to the Italian tax administration’s position, the gift tax applies at the time of the transfer of the property into the trust. Later, when the property is distributed out of the trust to the trust’s beneficiaries, no second tax would apply.

The Supreme Court agreed with the tax administration in a number of decisions issued in respect of transactions taking place under the newly reenacted and amended estate and gift statute. Those decisions include ruling n. 3735 of February 24, 2015 (concerning a self settled trust subject to gift tax at the full rate of 8 percent); ruling n. 3737 of February 24, 2015; ruling n. 3886 of February 25, 2015 (also concerning a self settled trust taxed at the full rate of 8%); ruling n. 5322 of March 18, 2015 and ruling n. 4482 of March 7, 2016.

More recently the Supreme Court, when addressing cases concerning transactions completed before the reenactment of the amended estate and gift tax statues, held that in light of the temporary and transitory nature of the transfer of a property to a trust, whereby the property is placed and held in trust, and is not immediately transferred to the intended final recipient and beneficiary, outright, the registration tax at the rate of 8 percent should apply. Ruling n. 975 is the last one on the issue, following previous ruling n. 25478 of December 18, 2015 and ruling n. 21614 of October 26, 2016.

According to one interpretation, the rational of those rulings extends to the realm of the newly reenacted gift tax and con-validates the principle according to which the gift tax should apply at the time of the final transfer of the property out of the trust to its final beneficiary. According to this interpretation, the new language added to the revised gift tax statute does not create an additional stand alone category of transactions subject to gift tax but, rather, it has the sole function of making it clear that the gift tax actually applies also to gratuitous transfer of property made through a trust, as it applies to straightforward gifts.

Clearly, the narrow interpretation of the scope of the Italian gift tax with respect to transfer of properties through trusts, is inconsistent with the way in which the gift tax applies in the U.S. Under U.S. principles, generally the transfer of property into an irrevocable trust is a complete gift, which falls within the application of the federal gift tax. Simultaneously, under Italian law, according to the interpretation illustrated here above, a complete gift would occur solely at the time of the final distribution of the property out of the trust, to the trust’s beneficiaries.

As a consequence, Americans with properties held in irrevocable trusts might be inadvertently exposed to Italian gift tax, at the time the property is distributed to the beneficiaries of the trust. That would happen whenever the original settlor is resident in Italy, for Italian gift tax purpose (in which case, all of the properties held in trust, wherever located in the world, would potentially be subject to Italian gift tax, based on the tax residency or domicile of the settlor), or some or the properties held in trust are located in Italy (in which case those properties might be subject to Italian gift tax, based on the location of the property and regardless of the tax residency or domicile of the settlor).

In conclusion, trust planning for individuals who have establish or are planning to move their tax residency or domicile into Italy, or held Italian properties in trust, should be reviewed to address Italian estate and gift tax issues in a very uncertain area of law.

Italian international tax law rules provide that Italian tax residents with foreign financial accounts capable of generating foreign source income taxable in Italy, are under the obligation to disclose the information relating to those accounts to the Italian tax authorities. Disclosure is accomplished by filling out a proper section of the Italian personal income tax return, usually referred to as Section RW (“RW”). Form RW is the Italian equivalent of U.S. forms 8938 and FIN Cen 114, which are filed by U.S. citizens and resident taxpayers to report their foreign financial accounts to the U.S. tax administration (except that, generally, the scope of Italian reporting is more extensive and detailed than the reporting required in the United States).

Compliance with Italian international tax reporting rules is backed up by automatic exchange of financial and tax information between Italy and the United States which have entered into a bilateral agreement pursuant to FATCA, currently fully enforceable and running at full speed.

Nowadays, automatic exchange of information between Italian and U.S. fiscal authorities is a reality and its practical consequences cannot be overstated. In this setting, it does not go unnoticed that the more the time goes by, the more the RW reporting becomes a sensitive topic. It is for this reason that individual taxpayers who are resident in Italy, according to Italian internal law, and own or control foreign financial assets capable of generating taxable income in Italy, represent the category of taxable persons that should be extremely cautious in this regard to prevent undesirable consequences.

Failure to comply with RW reporting may lead to heavy penalties. Previous posts illustrate in more detail the scope, requirements and penalties for non-compliance. A confirmation of the current tax climate regarding RW reporting is the Italian Revenue Agency’s order n. 299737-2017, by which the Italian tax administration, relying on information available through the automatic exchange system, has sent several thousands of notices to taxpayers who appear to possess foreign financial accounts that may not have been properly reflected on their last filed Italian income tax return (relating to tax year 2016).

The notices alert taxpayers about potential issues concerning their tax compliance and ask for information before a potential audit of their personal income tax returns. Thus, in light of an increase of monitoring activities in relation to the automatic exchange of information, natural persons with foreign financial assets capable of generating taxable income, should make sure that they file an accurate and complete RW form within the prescribed deadline.

Following receipt of the notices, taxpayers who have reason to believe they may have failed to properly report their foreign financial accounts, should be aware of the opportunity to remedy potential issues, by filing an amended return within the extended deadline of one year following the deadline for the filing of the original return.

Voluntary compliance by amended return filing can help fix possible issues with reduced penalties, avoiding higher penalties potentially applicable in case of a full audit.

Taxpayers who have received such a notice should consider carefully the kind of initial response they want to send, and plan in advance any further steps to take, in order to properly handle their situation and prevent or better manage a possible deeper investigation of their tax position.

Italian taxation of foreign investments in Italian real estate is complex.

Transfer taxes charged upon the acquisition of the real estate (alternatively, registration tax or VAT) vary depending on the nature and tax status of the buyer (foreign private individual, foreign company purchasing and owning the real estate directly, or foreign individual or corporate investor purchasing and owning the real estate through an Italian controlled entity), as well as the nature and tax status of the seller (private individual vs. unincorporated business or commercial company registered as a VAT taxpayer).

Income taxes charged on rental income derived from the operation of the real estate vary depending on the character of the real estate (residential vs. commercial).

Income taxes charged upon the sale of the real estate vary depending on whether the real estate is owned directly by a foreign individual or a foreign company without a permanent establishment in Italy, or by a foreign company with a permanent establishment in Italy through which the real estate is operated in the active conduct of a business or an Italian owned or controlled entity.

Finally, taxation on distribution of profits derived from the operation of the real estate vary depending on whether the real estate investment is held through an Italian corporate vehicle owned or controlled by an EU vs a non-EU holding company, an Italian partnership, or directly by a foreign company without permanent establishment in Italy.

I. Transfer Taxes Charged Upon the Acquisition of the Real Estate.

A. General Considerations.

The purchase of real estate in Italy may subject to, alternatively, registration tax or VAT and, in addition, cadastral and mortgage taxes.The buyer normally pays the transfer taxes, although the buyer and seller are jointly and severally liable for the payment of the taxes and for any assessment by the tax authorities. VAT is also paid by the buyer, but an Italian VAT registered entity that is subject to VAT on its sales to customers, can reclaim the VAT paid on the purchase of the real estate by offsetting it with the VAT due to the tax authorities against its output operations. In some circumstances, it can claim the amount of VAT as a refund. EU-resident entities may request a refund of VAT paid if certain conditions are met. A non-EU resident entity must register for VAT and appoints an Italian VAT representative in order to recover any VAT incurred on the purchase.

B. Residential Real Estate.

Sales of residential real estate are normally exempt from VAT. Residential sales are only subject to VAT if the seller is a construction company that has constructed or renovated the property less than five years before the sale, or after five years but has elected to in the deed of sale to subject there sale to VAT. VAT is charged at the rate of 10 percent (22 percent is the property is classified as a luxury dwelling on the real estate register).

The registration tax is charged at the rate of 9 percent on the assessed value of the property, if the buyer is a private individual, or on the actual amount of the purchase price as shown on the purchase deed, if the buyer is a unincorporated business or a (foreign or domestic) commercial entity.

C. Commercial Real Estate.

The sale of commercial real estate (i.e., offices, retail properties and hotels sold separately from any associated business) is subject to VAT at the rate of 22 percent (reduced to 10 percent in case of renovated properties) if the seller is a construction company that constructed or renovated the property less than five years before the sale, or (in any event) the seller is a construction company that elected to subject the sale to VAT in the deed of sale. The sale of commercial property, whether it is exempt from VAT or not, is also subject to cadastral tax at the rate of 1 percent and mortgage tax at the rate fo 3 percent.

D. Going Concern.

The sale of commercial property part of a business is subject to registration tax at the rate of 9 percent applied to the next value of the real estate and 3 percent applied on the net value of all other assets of the business.

E. Stock of an Italian Real Estate Company.

When real estate is acquired by way of purchase of the shares of the company owning it, the transaction is VAT exempt and subject tor registration tax at the fixed amount of 200 euros.

II. Taxation of Rental Income.

A. Operation Through an Italian Corporate Vehicle.

If the real estate is leased to tenants, the rental income generated from the leases is subject to corporate income tax (IRES) at the rate of 24 percent and regional tax (IRAP) at the rate of 3.9 percent.

Taxable income for IRES purposes is the net revenue after the deductions of costs as shown in the company’s annual profit and loss account. In general, all costs relating to the activities of the company can be deducted, including net interest expenses, meaning interest payable minus interest receivable, up to an amount equal to 30 percent of EBITDA. Any excess interest expense can be carried over and deducted in any future year in which the EBITDA exceeds the net interest expense for the year. Interest due on loans secured by a mortgage over the rental property is not subject to the 30 percent limitation and is therefore fully deductible. Depreciation of property is deductible to the extent allowed by tax law. Property tax (IMU) is not deductible for IRES purposes. 10 percent of IRAP paid and IRAP due on cost of employees is deductible for IRES purposes.

In case of lease of residential real estate, gross rents are taxed without any deduction for costs, except for ordinary maintenance expenses not exceeding 15 percent of the amount of gross rents. Interest due on loans used to finance the acquisition of the real estate is deductible within the limit of 30 percent of EBITDA, while interest due on loans secured by a mortgage on the residential rental property is not subject to the 30 percent limitation and therefore is fully deductible.

The taxable income subject to IRAP is the amount of revenue after the deduction of costs as shown in the annual profit and loss account. However, not all costs relating to the company’s activities can be deducted. In particular, interest payments, cost of employees, IMU and IRES payments are not deductible.

B. Operation Through an Italian Partnership.

An Italian partnership is a transparent entity for incomer tax purposes. As a result, its income is taxed directly to its partners. In case of foreign partners, the income is taxed at the corporate rate of 24 percent plus IRAP rate of 3.9 percent. Interest is entirely deductible for purpose of computing the taxable income of the partnership, taxable to its partners, without the 30 percent EBITDA limitation.

C. Direct Operation By A Foreign Entity Without a Permanent Establishment in Italy.

Renting real estate does not automatically arise to an active trade or business, When a foreign entity operates an Italian rental property outside of the conduct of an active trade of business, gross rental income derived from the rental of the property is subject to corporate tax at the rate fo 24 percent, with no deduction of depreciation or other costs incurred in connection with the rebate of the property, expect for ordinary maintenance expenses not exceeding 15 percent of the amount of gross rents. Interest on loans obtained to finance the acquisition of the property for secured by a mortgage on the property is not deductible for corporate tax purposes.

III. Taxation of Profit Distributions.

A. Investment Through an Italian Corporate Vehicle.

Generally, distribution of profits to foreign shareholders is subject to a 26 perdent withholding tax. However, dividends paid to EU-based corporate shareholders are subject to a reduced 1.20 percent withholding tax. Dividends distributed to EU-based parent companies which qualify for the benefits of the EU parent-subsidiary directive are totally exempt from withholding tax. Italian dividend withholding tax may also be reduced by way of a tax treaty between Italy and the investor’s home country.

B. Investment Through an Italian Partnership.

Non-resident partners are subject to tax in Italy on their share of the partnership’s income, and not withholding tax applies on distributions of profits from the partnership to its partners.

C. Direct Investment By A Foreign Entity With No Permanent Establishment in Italy.

Once rental income has been taxed in Italy it can be repatriated to the foreign company without any further Italian tax.

IV. Taxation At Exit.

A. Investment Through an Italian Corporate Vehicle.

Gains derived from the sale of the real estate are subject to corporate tax (IRES) at the rate of 24 percent regardless of how much time has elapsed since its acquisition. The taxable gain is the difference between the adjusted tax basis of the property at the time of the sale (i.e., purchase price minus the depreciation deductions) and the sale price.The gain is also generally subject to IRAP at thew rate of 3.9 percent. However, if the property is sold as part of a going concern, IRAP does not apply.

Any gain derived from the sale of the stock of the Italian corporate vehicle would be fully taxable. The taxable amount of the gain would be the difference between the adjusted tax basis of the shares in the Italian vehicle and the sale price. Participation exemption rules do not apply.

In case of liquidation of the Italian vehicle owning the real estate, the Italian company would recognized a gain equal to the difference between its adjusted tax basis in the property (equal to the purchase price minus depreciation deductions) and the fair market value of the property at the time of the liquidation. Then, distributions to shareholders upon liquidation would be treated as dividends, to the extent that they come out of the profits of the Italian corporate vehicle, subject to dividend withholding tax. The execs would be taxable as a gain.

B. Direct Investment By A Foreign Entity With No Permanent Establishment in Italy.

Gains derived from the sale of the real estate are not subject to corporate tax (IRES) of the property is sold more than five years after its acquisition. If the property is sold within five years of its acquisition, IRES applies at the rate of 24 percent. Sicne decoration is not deductible, the amount of taxable gain is the difference between the purchase price and the sale price.

C. Investment Through a Partnership.

Gains derived from the sale of the real estate owned through an Italian partnership are taxed at the level of partners.

In a future post we will deal with the tax planning aspects of investing in Italian real estate through an Italian real estate investment fund or an Italian real estate investment company (RE SICAV).

With Circular 17/E of May 23, 2017 Italy’s Tax Agency provided administrative guidance on the interpretation and application of the provisions on the elective preferential tax regime for Italian new-tax resident individuals.

New article 24-bis of Italy’s Unified Income Tax Code, enacted with Law n. 232 of December 2016, provides that foreign-resident individuals who establish their tax residency in Italy, after having been resident in a foreign country for at least nine of the previous ten tax years, may elect to pay a fixed-amount tax of euro 100,000 on all of their foreign source income, in lieu of the ordinary Italian personal income tax. Domestic source income would remain subject to the ordinary personal income tax, charged at graduated rates on income tax brackets.

The election can be filed within the second tax year after the year in which tax residency was established in Italy. For example, a foreign person which became an Italian tax resident individual in 2016, can make the election either with effect from the 2016 tax year, when filing her personal income tax return in 2017, or with effect from the tax year 2017, when filing her income tax return in 2018. The election may be withdrawn by the taxpayer solely within the second year after the year it was first filed. After that, the election is deemed automatically renewed year by year and expires automatically after 15 years.

The election can be extended to a taxpayer’s family members, who shall pay a fixed-amount tax of 25,000 euros in lieu of the regular personal income tax on their own foreign source income. The extension for family members can be filed at any time after the initial election has been filed, within the 15 year period of duration of the initial election.

Circular 17/E clarified that, for the elective regime to apply, no mandatory tax ruling is required. Taxpayers at their choice may still file a request for a tax ruling, prior to filing their election for the fixed-amount tax.

The election exempts taxpayers from the payment of Italy’s asset-based tax on foreign financial assets, charged any the rate of 0.2% of asset’s fair market value, and asset-based tax on foreign real estate, charged at the rate of 0.76% of property’s historical cost (adjusted tax basis) or fair market value.

Even more significantly, the election also exonerates taxpayers from the duty to report, on their Italian income tax return, the value of their financial and investments assets held outside of Italy during the tax year. Under Italy’s international tax reporting rules (the equivalent of the U.S. FATCA and FBAR rules), foreign assets are reported at their fair market value at the beginning or the end of tax year, or on the date of purchase or sale, which must be converted into euro at the average exchange rate of the month or purchase or sale. Also non financial assets such as real estate, cars, boats, jewelry, artworks, etc. must be reported. Especially in case of complex financial portfolios, the duty to report may be very wide in scope and administratively burdensome and costly for the taxpayer.

Finally, taxpayers who elect for the special tax regime are exempt from Italy’s estate and gift tax.

The two key tax concepts that determine the eligibility for the application of the elective regime are tax residency and source of income.

Tax residency for individual taxpayers is determined in accordance with any one of three alternative criteria, which must be met for more than half of any tax year, namely:

1. registration on the Italian register of resident individuals, held at the local municipality in the place where the taxpayer has established her own residence for general administrative and legal purposes,

2. place of habitual abode (residence),

3. main center of interests and affairs (domicile).

For a foreign person to become eligible for the elective tax regime, it is sufficient that she registers on the register of Italian resident individuals with a local home address in Italy, in the place where she owns or rents a house or maintains a fixed place of abode. When the registration is completed in the first half of a tax year, Italy’s tax residency retroacts to the first day of that year. When the registration is completed in the second half of a tax year, Italy’s tax residency takes effect on the first day of the following year.

The registration creates an irrefutable presumption of tax residency in Italy. However, as a condition for the registration, the law requires that a person actually maintain her principle, fixed place of living (i.e., place of habitual abode) at her registered address in Italy. During the registration process, or at any time after the registration process has been completed, local municipal police may verify that the condition for the registration is met, by way of multiple visits to the local home address, made at various intervals of time, to check whether a person actually regularly lives there. If the condition for the registration is not met, the local authorities may start a process for the mandatory cancellation of a person from the register of resident individuals, which may result in the retroactive loss of the elective tax regime.

Residence (place of habitual abode) requires that a persone regularly live in Italy (objective test) with the intention of living there for the indefinite future (subjective test).

Domicile (main place of interest) revolves around an individual’s personal, family, business and financial interests, and does not requires physical presence in Italy.

A foreign person who was not registered on the Italian register of resident individuals, in 2016 or 2017, may still take the position that she had her place of habitual abode or domicile in Italy, thereby being a tax resident of Italy in those years, and elect for the special tax regime. Since the residence and the domicile tests (as described above) depend on the facts and circumstances of each particular case, it may be appropriate to apply for a tax ruling, whenever the election is based on residence or domicile, in the absence of a formal registration on the register of resident individuals.

Article 165, paragraph 2 and article 23 of the Unified Income Tax Code sets forth the rules on the source of income for general income tax purposes. In general, income is foreign sources whenever it arises from activities performed or assets located outside of Italy, or the payor of the income is a non resident individual or entity, such as the case of interest, dividends or royalties. Capital gains are sourced based on the location of the asset (as opposed to the residence of the seller).

Circular 17/E clarifies that in case of income received through shell companies, revocable trusts, nominees, fiduciaries, intermediaries or other conduit arrangements, the source of the income is determined by looking at the source of the underlying income in the hands of the trust, nominee, fiduciary, intermediary or conduit. In all other cases, and, most notably, in case of income earned through a fiscally transparent entity, the source of income is determined by not looking through the entity or legal arrangement through which the income is earned. Italian income source rules provide that income from domestic partnerships is characterized as Italian source income, while income from foreign partnerships or other similar entities is characterized as foreign source income, regardless of the source of the income in the hands of the entity. As a result, whenever a foreign fiscally transparent entity is interposed, between the taxpayer and the income, that may have the effect of converting domestic source income into foreign source income subject to the special tax regime (and not subject to tax in Italy).

Circular 17/E provides valuable clarity on the application of the elective tax regime for the neo Italian tax residents, which appears to be very attractive. However, careful planning and handling of the election is required, both with respect to the tax residency requirement, as well as with respect to the source of income, marking the division between foreign source income, which is covered by the fixed-amount tax and excluded form the personal income tax, and domestic source income, which remains taxable under the general rules of Italy’s tax code.

With the Budget Law for fiscal year 2017, Italy enacted a new flat tax for Italian first-time residents. The flat tax amounts to euro 100,000 regardless of the amount of taxable income. Foreign source income is completely exempt from the regular personal income tax, while domestic source income is taxed under the general tax rules (graduated tax rates on income brackets generally applying to all resident taxpayers). First-time residents will also be exempt from the duty to report their non-Italian financial assets, and will not be subject to Italy’s estate and gift tax. Special rules for residence permits and visas will also apply to facilitate the establishment of Italian tax residency in connection with the application of the new tax. The new flat tax is aimed at attracting high net worth individuals to Italy.  This who have solely non Italian source income will pay euro 100,000 and will be cleared from any other tax filing and payment obligations.

Requirements.

Individuals who have not been resident in Italy for Italian tax purposes for at least nine of the previous ten years, at the time they establish their tax residency in Italy, will qualify for the flat tax. An individual is Italian treated as an Italian tax resident if she registers as an Italian resident individual at the local municipal office in the place where an individual has her home, or maintains in Italy her place of habitual abode or the main center of interests, for more than half of a tax year.

Scope of the flat tax.  

The flat tax is elective and applies in lieu of the ordinary income tax on foreign source income. Italian source income will always be subject to the regular income tax (charged at graduated rates by brackets of income). The flat tax applies for a maximum period of 15 years. Foreign source capital gains (that is, capital gains realized from the sale of stock or other ownership interests in foreign entities), are subject to the the ordinary income tax (at the marginal rate of 43% charged on 49.72% of the amount of the gain under Italy’s participation exemption rules), if realized within five years from the beginning of Italy’s tax residency. Taxpayers must elect to pay the flat tax in lieu of the ordinary income tax. Taxpayers can terminate their Italian tax residency at any time, even before the expiration of the fifteen year period of application of the flat tax.

Individuals who qualify and elect for the new flat tax will be exempt from the obligation to report their non Italian investment and real estate assets, which is usually carried out by filling out a special section of Italian personal income tax return.  They will also be exempt from Italy’s estate and gift tax on non-Italian assets.  

Possible constitutional challenges.

The new flat tax may be challenged under the provision of the Italian Constitution, which requires income that taxes are charged in proportion to an individual’s "contributive capacity", that is, in a way that they are commensurate to an individual’s income or wealth.

Comments.

Individual taxpayers having solely non-Italian source income from financial or real estate investments located and managed outside of Italy, or from closely held foreign companies, would benefit from a very generous tax regime that would limit their tax liability to the flat amount fo euro 100,000 regardless of the actual amount of income they actually earn. The exemption from the duty to disclose foreign financial and real estate assets and investments will also result in much reduced administrative burden in filing an Italian income tax return.  

Hight net worth U.S. citizens or resident alien individuals who have relinquished or plan to relinquish their U.S. citizenship or terminate their U.S. tax residency should consider Italy as a new "tax haven", allowing for a a low flat tax on their non Italian source income with no reporting or disclosure of their non Italian assets wherever located in the world.   

         

            

 

Under new anti money laundering legislation due to become effective in Italy in 2017, all foreign trusts with tax effects in Italy shall have to be filed and registered on the Italian Register of Enterprises. They include trusts with Italian settlor, Italian beneficiaries, Italian assets, Italian source income or treated as Italian resident trust under Italian tax law.

The tax effects of a trust in Italy and the consequent obligation to disclose it on the Italian Register of Enterprises is determined under Italian tax laws.  The way in which a trust, its income or its beneficiaries are treated under foreign tax law is not determinative for that purpose.   

Trustees of trusts subject to the new disclosure and filing rules shall have to collect, conserve and disclose adequate information about trust’s ultimate beneficial owners, which are meant to include the settlor, the trustee, the guardian, the beneficiaries, and any other person having any type of control or authority over the trust.

The scope of the new disclosure and reporting rules for trusts is very wide. All trusts with any apparent or potential point of contact with Italy should be revised to determine whether they fall within the application of the new rules.   

Continue Reading Italy Institutes New Register for Trusts

On February 23, 2017 the Italian Government approved the final draft of the legislative decree (the "Decree") that is going to implement the provisions of the Directive (EU) 2015/49 of May 20, 2015 (the so called "IV Anti Money Laundering Directive"). The decree was sent to the Parliament for its review and with the consent of the Parliament it will become law.

One of the key concepts of the new anti money laundering legislation is the definition of "beneficial owner", meaning, the natural person who must be properly identified by the persons or entities obliged to carry out the  customer due diligence and report a transaction or legal arrangement whenever required under the anti money laundering law.   

Whenever the customer is an entity, as opposed to a natural person, article 20, paragraph 1 of the Decree provides a general definition of beneficial owner, as follows:

The beneficial owner of customers different from natural persons is identified with the natural person or natural persons to whom, ultimately, the direct or indirect ownership or control of the entity is attributable.

The definition of beneficial owner of an entity revolves around two concepts: ownership, or control, of the entity. Also, the ownership or control can be direct or indirect.  

The first test to apply is the ownership test. 

Article 20, paragraph 2 provides on direct or indirect ownership as follows:

When the customer is company:

a) it is an indicia of direct ownership, the ownership of an interest exceeding 25% of the capital of the customer, owned by a natural person;
 
b) it is an indicia of indirect ownership, the ownership of an interest exceeding 25% of the capital of the customer, owned through controlled entities, fiduciaries or intermediaries.
 
Beneficial ownership through indirect ownership in another entity requires that the tested natural person directly owns an ownership interest in another entity, which in turn holds ad ownership interest in the customer, ultimately making that natural person the indirect owner of the customer under the "more than 25 percent" test. 
 
The percentage of ownership owned in the intermediate entity, by the tested natural person, which should be required to qualify that entity as a controlled entity for the purposes of ultimately determine the existence of an indirect ownership interest in the customer, is not determined, and no attribution rules are set forth in the legislative decree for the purpose of applying the indirect ownership rule.
 
It would seem reasonable to assume that a direct ownership of more than 25 percent of the capital of the intermediate entity, could be sufficient to qualify that entity as a controlled entity, for the purpose of the indirect ownership testThe controlled entity, in turn, should directly own a sufficient percentage of the capital of the customer, as required so that, once percentage of direct ownership in the capital of the intermediate entity, owned by the natural person, is multiplied by the percentage of direct ownership in the capital of the customer, owned by the intermediate entity, the result would meet the "more than 25 percent" test for the indicia of beneficial ownership required for anti money laundering purposes.
 
Under that approach, when a natural person owns 50 percent of the capital of a company, which owns 51 percent  of the capital of another company, there would indication of beneficial ownership, because the natural person would indirectly own 25.5 percent of the capital of the customer.
 
Instead, if a natural person owns 20 percent of the capital of a company, which owns 100 percent of the capital of another company, there would be no indicia of beneficial ownership, because the intermediate ownership would be less than 25 percent. The same should be true when a natural person ones 100% of the capital of a company, which owns 24 percent of the capital of the customer.
 
Conversely, if a natural person owns 25.1 percent of the capital of two companies, each one of which owns 50 percent of the capital of the customer, there would indicia of beneficial ownership.
 
The control test applies whenever the beneficial owner cannot be identified through the application of the ownership test.       
 
Article 20, paragraph 3 defines the control test (that applies whenever the ownership test is insufficient to identify the beneficial owner of the customer) as follows: 
 
In the event that the ownership structure of the customer does not allow to identify in an unequivocal manner the direct or indirect ownership of the customer, the beneficial owner coincides with the natural person or persons to whom, ultimately, the control of the customer is attributable due to:
 
a) the control of the majority of the votes that can be exercised in the general meeting of shareholders, 
 
b) the control of a sufficient number of votes to exercise a dominant influence in the general meeting of shareholders
 
c) the existence of particular contractual constraints which allow a person to exercise a dominant influence (on the customer).
 
The control requirement is defined as control of the majority of the votes exercisable in the general meeting of shareholders, or dominant influence over the general meeting of the shareholders through voting power of contractual arrangements.  
 
When neither the ownership nor the control test are sufficient to identify the beneficial owner, article 20, paragraph 5 provides that the beneficial owner is the person who holds powers over the administration and direction of the entity. 
 
Article 20, at paragraph 5 provides that in case of private associations and foundations or other entities governed by Presidential Decree n. 361 of February 10, 2000 the definition of beneficial owner includes all of the following:
 
– the founder, when living;
 
– the beneficiaries, when they are identified or can be easily identified;
 
– the individuals with powers or authority over the administration or direction of the entity.  
 
No specific provision applies to trusts, which are not entities governed by Presidential Decree n. 361 of 2000, but are typically created under foreign law and recognized and made effective in Italy pursuant to the Hague Convention of July 1 1985 on Trusts. 
 
 
 

In its ruling n. 21614 of October 26, 2016 Italy’s Supreme Court considered the issue of the application of the gift tax upon the transfer of property to a trust. The issue arises under the provisions of Law n.  262 of October 3, 2006, which reinstated the gift tax. Article 2 of Law 262, at paragraph 45 and 49, while providing on the scope of the newly reinstated gift tax, refers to "legal arrangements having the effect of creating constraints or limitation on the use, enjoyment and disposition of property", for the final benefit of a person of for a specified purpose.

One interpretation of the statute is that the language of article 2 of Law 262 clarifies, but does not extend, the scope of the gift tax, which continues to apply solely to straight gifts, namely, transfers of property from a person, the grantor, to another person, the beneficiary, for no consideration, whereby the beneficiary obtains immediately legal title and economic ownership of the transferred property. According to that interpretation, no gift tax applies at the time of the transfer of a property to a trust, when the ultimate beneficiary of the property still does not acquire the direct legal ownership and full right of use, enjoyment and disposition of the transferred property. Instead, the gift tax will apply at the time of the ultimate and final distribution of the property, from the trust to the beneficiary.           

Another interpretation of the statute is that the language of article 2 of Law 262 actually intended to extent the scope of the gift tax, from straightforward gifts to any legal arrangement by means of which a person places some of his or her assets in a separate fund, not part of his or her estate, to be used and disposed of for the benefit of another person of for a specified purposed. Under that interpretation, the gift tax would apply on the transfer of property to a trust (while no gift tax would apply at the time of the actual distribution of the property from the trust to the beneficiary). 

The 5th department of the Court refused to construe the new statute as if it instituted a new tax; looked at the legislative history and intent, which was that of reinstating the "old" gift tax, and affirmed its previous rulings (issued under the previous law) according to which the gift tax applies solely to a direct transfer of property to the beneficiary, as a result of which the beneficiary is enriched and has a direct and full right to the use, enjoyment and disposition of the property. The Court held that  Law 262 just reinstated the old gift tax, rather than extending its scope or instituting a new tax, and that the reference to "legal arrangements creating limits or constraints to the use, enjoyment or disposition of property" is just aimed at preventing the possible avoidance of the gift tax in cases in which certain legal schemes may be used to deviate from a straightforward gift of property to the intended beneficiary while reaching the same result.    

The Supreme Court is split on this issue, and ruling n. 21614 of the 5th Department of the Court is in direct contrast with other recent rulings from the 5th (tax) department of the Supreme Court. Lower courts have constantly ruled against the application of the  gift tax, and the tax agency has filed appeals to the Supreme Court against those rulings, as a result of which more decisions from the Supreme Court are expected in the near future.   

If the interpretation of the 5th department ultimately prevails, it would have extensive and potentially disrupting effects on cross border estate and trust planning arrangements with connections to Italy.

For instance, Americans with assets located in Italy and held in U.S. trusts, would face the application of the Italian gift tax, at the time those assets are distributed to the beneficiaries of the trust, while no tax would apply in the U.S. at that time, whenever the original transfer of the assets to the trust was a full and final gift under U.S. tax law.

Similarly, for American who are domiciled in Italy at the time of their death, the distribution of their assets from their U.S. trusts to the beneficiaries of the trusts would be subject to the Italian gifts tax, regardless of the fact that those assets are located in the U.S. and held in U.S. trusts, while no tax would apply in the U.S. at that time, whenever the original transfer of the assets to the trusts was a full and final transfer under U.S. tax law.          

We will continue monitoring the situation and report on the developments on our blog while trust plans with pint of contact with Italy should be carefully revisited in the light of the continuing developments in this area of Italian tax law.