In response to a petition we presented on behalf of the taxpayer, the Italian Revenue Agency issued an advance tax ruling in a case concerning the determination of the tax character and the source (place of production) of taxpayer’s income arising from a contract of services as president and chief executive officer and board member of a foreign-based multinational, for the purpose of the Italian special tax regime referred to in article 24-bis of the Italian Income Tax Code (so-called forfait tax for high-net-worth individual taxpayers). The special tax regime applies a forfait tax of 100,000 euro, in lieu of the regular income tax, on all foreign-source income of electing taxpayers who have become Italian tax residents for the first time in the preceding ten years.
In this case, the taxpayer – a foreign citizen residing abroad – has set forth the possibility of moving and establishing his tax residence in Italy, in relation to the transfer of his employment relationship from an U.S. subsidiary to the EU holding company of an international group based in Luxembourg, with which the taxpayer would assume the position of president and chief executive officer. The employment relationship would include top level, discretionary management functions, as well as functions relating to the position of member of the board of directors of some foreign companies of the group. In the context of this relationship, the taxpayer would perform a large part of his services outside the Italian national territory. On the question of the tax classification of the income, the Italian tax administration, agreeing at least in part with the position proposed by the taxpayer, established that the relationship would include both an organic (high-level management functions) relationship and an employment relationship, with the consequence that – moving on to the question of the source of income – the part of the remuneration attributable to functions relating to the organic (management) relationship should be determined with reference to the employer’s foreign country of organization (as provided for in Article 23, paragraph 2 of the Italian Income Tax Code), thus giving rise to income which is automatically foreign-source and falls entirely within the special tax regime (forfait).
With regard to the source of the part of the remuneration attributable to the employment relationship, the Italian tax administration has considered (confirming the position of the taxpayer) that this should be determined (in the absence of a contractual constraint to a fixed working time) with reference to the place of actual performance of work (as provided for in Article 23, paragraph 1, letter c) of the Italian Income Tax Code) and, therefore, in proportion to the work performed abroad with respect to the overall work performed during the year (rather than the number of days spent by the taxpayer in Italy, compared to the total days of the calendar year).
The Tax Agency did not rule on the criteria for apportioning income between management and employment, which depend on the value and extent of actual functions performed and is a matter of fact falling outside the scope of the ruling.

In risposta ad una nostra istanza presentata per conto del contribuente, l’Agenzia delle Entrate ha emesso una risoluzione su una fattispecie concernente la determinazione della natura fiscale e la fonte (luogo di produzione) del reddito ai fini dell’applicazione del regime speciale di cui all’articolo 24-bis del T.U.I.R. (cd. forfait per contribuenti ad alto reddito).
Nella fattispecie, il contribuente – cittadino straniero residente all’estero – ha prospettato la possibilità di trasferirsi e stabilire la propria residenza fiscale in Italia, in relazione al trasferimento del suo rapporto di lavoro da una filiale americana alla holding di un gruppo internazionale avente sede in Lussemburgo, dove il contribuente assumerebbe la posizione di presidente e amministratore delegato (president and chief executive officer). Il rapporto avrebbe ad oggetto funzioni di alta amministrazione, in aggiunta alla carica di componente del consiglio di amministrazione di alcune società estere del gruppo. Nel contesto di tale rapporto, il contribuente svolgerebbe gran parte delle proprie prestazioni al di fuori del territorio nazionale. Sulla questione della natura fiscale del reddito, l’amministrazione finanziaria, concordando almeno in parte con la posizione prospettata dal contribuente, ha stabilito che il rapporto comprende sia un rapporto organico sia un rapporto di lavoro dipendente, con la conseguenza che – passando alla questione della fonte del reddito – la parte di compenso imputabile a funzioni riconducibili al rapporto organico deve essere determinata con riferimento allo stato estero in cui ha sede il datore di lavoro (come previsto all’articolo 23, comma 2 del T.U.I.R.), dando così luogo a reddito di fonte estera automaticamente rientrante, come tale, nel regime speciale (forfait). Circa la fonte della parte di compenso riconducibile al rapporto di lavoro dipendente, l’amministrazione finanziaria ha ritenuto (confermando la posizione del contribuente) che essa debba determinarsi (in mancanza di vincolo contrattuale ad un orario fisso di lavoro) con riferimento al luogo di effettiva prestazione del lavoro (come previsto all’articolo 23, comma 1, lettera c) del T.U.I.R.) e, quindi, in proporzione al lavoro svolto all’estero rispetto al lavoro complessivo (invece che al tempo trascorso dal contribuente in Italia, rispetto al totale dei giorni dell’anno).

With its ruling n. 8719 of March 30, 2021(Cass. n. 8719, 30-3-2021) the Italian Supreme Court ruled that no Italian gift tax applies when the trust assets are distributed back to the settlor, upon termination of the trust following the trust beneficiaries’ disclaimer of their beneficial interests under the trust.

The case involved a trust governed by the Laws of Jersey (“Trust (Jersey) Law 1984”), whereby the beneficiaries disclaimed all of their interests under the trust, pursuant to Article 10A of the governing law of the Trust, which provides as follows:

“10A Disclaimer of interest

(1) Despite the terms of the trust, a beneficiary may disclaim, either permanently or for such period as he or she may specify, the whole or any part of his or her interest under a trust if he or she does so in writing.
(2) Paragraph (1) applies whether or not the beneficiary has received any benefit from the interest.
(3) Subject to the terms of the trust, if the disclaimer so provides it may be revoked in accordance with its terms”.

Upon the trust beneficiaries’ disclaimer of their interests under the trust, there were no other beneficiaries or persons who could become beneficiaries under the terms of the trust.

As a result, the trust property was to be held in trust by trustee to the benefit of the settlor, pursuant to article 43 of the governing law of the trust, which provided as follows:

“42 Failure or lapse of interest

(1) Subject to the terms of a trust and subject to any order of the court, where –
(a) an interest lapses;
(b) a trust terminates;
(c) there is no beneficiary and no person who can become a beneficiary in accordance with the terms of the trust; or
(d) property is vested in a person which is not for his or her sole benefit and the trusts upon which he or she is to hold the property are not declared or communicated to the person,

the interest or property affected by such lapse, termination, lack of beneficiary or lack of declaration or communication of trusts shall be held by the trustee or the person referred to in sub-paragraph (d), as the case may be, in trust for the settlor absolutely or if he or she is dead for his or her personal representative”.

According to the taxpayer, under the circumstances described here above, the trust was actually terminated and the trust property was to be returned to the settlor, in accordance with article 43 of the governing law of the trust, which provides as follows:

43 Termination of a Jersey trust.

(1) On the termination of a trust the trust property shall be distributed by the trustee within a reasonable time in accordance with the terms of the trust to the persons entitled thereto.

The trust property was actually returned to the settlor, and the Italian tax agency assessed the transfer taxes of Article 2, paragraph 49 of Law Decree n. 262 of 2006 upon the transfer, on the theory that:

(a) the original transfer of property from the settlor to the trust, was a definitive transfer, for no consideration, which resulted in the property exiting the settlor’s estate and becoming part of the principal of the trust, and it was subject to Italian gift and transfer taxes accordingly;

(b) the subsequent transfer of trust property to the settlor, following the beneficiaries’ disclaimer of their interests in the trust, was a discrete transfer, for no consideration, pursuant to which the property exited the trust and became part of the estate of the settlor, thereby falling, as such, within the scope of the transfer taxes.

The Supreme Court rules against the tax agency, and in favor of the taxpayer, following the theory accordingly to which:

(a) the transfer of property to a trust is just a provisional, transitory step towards the eventual distribution of the property to the trust beneficiaries, which does not, in itself, fall within the scope of Italy’d gift or transfer taxes,

(b) the Italian gift and transfer taxes apply solely upon the final distribution of the trust property from the trust to the beneficiaries,

(c) the return of the trust property to the settlor simply eliminates the legal effect of the initial transfer of the property to the trust, preventing the possibility of a final distribution of the property to the trust beneficiaries, and, with it, any possible application of gift or transfer taxes.

The ruling’s rational is consistent with the Supreme Court’s most recent case-law – which is referred to therein – according to which the Italian gift tax applies solely to the final distribution of the trust property to the trust beneficiaries, when the gift is complete, while the initial transfer of the property from the settlor to the trust is just the first, transitory or intermediate step of the gift, which is insufficient, as such, to trigger the application of the gift tax.

Indeed, according to the Italian Supreme Court, the Italian gift tax applies to a transfer with no consideration, pursuant to which the recipient of the property has direct dominion and control and full enjoyment of the property for his or her own benefit.

To the contrary, the Italian tax agency is still pursuing the position according to which the gift and transfer taxes apply to the transfer of a property to the trust, while no other taxes apply at the time of the distribution of property from the trust to the beneficiary.

The Court’s theory poses significant challenges in a cross-border setting, where the settlor’s and trust’s tax residence may be located in different countries, or the settlor’s tax residence has changed, between the time of the transfer of property to the trust and the time of the distribution of property from the trust to a beneficiary.

For example, we can refer to a case in which the settlor was a nonresident at the time of the transfer of foreign-located property to the trust, but moved to and has become an Italian tax resident, at the time of the distribution of that property to the trust beneficiaries, or to a case in which the settlor is an Italian tax resident, but the trust is a nonresident entity, for Italian gift tax purposes, at the time of the distribution of the property to the trust beneficiaries.

The question, in those cases, is whether the Italian gift tax – which supposedly applies solely upon the distribution of the trust property to the trust beneficiaries, – should apply based on the trust’s foreign tax residence, or the settlor’s foreign tax residence at the time of the initial transfer of the property to the trust (as opposed to the settlor’s Italian tax residence, at the time of the distribution of the property to the beneficiaries). In both cases, if the answer to our question is yes, there would be no Italian gift tax. The opposite of course would true in the event we take the alternative approach on the same issues.

The uncertainty arising from the Italian Supreme Court’s approach is significant. As a result, foreign (non-Italian) nationals who moved to Italy with their legacy trust planning in place, should review their trust arrangements to make sure that they fall outside the scope of Italy’s gift tax as per their original intention and reasonable expectations.

With its private letter ruling n. 506 of October 30, 2020 (Ruling 506_2020), the Italian Tax Agency ruled that the Italian protector of a foreign trust which holds foreign financial assets and accounts to the benefit of an Italian resident individual does not qualify as beneficial owner of the trust. As a consequence, according to the Tax Agency – which upheld the taxpayer’s position as stated in the ruling request – the Italian protector was not obliged to disclose either the value of the trust, or the trust’s underlying financials assets, on his Italian income tax return pursuant to Italy’s international tax reporting rules. The Italian beneficiary of the trust treated himself as the beneficial owner of the trust and reported his interest in the trust on his own income tax return.

The issue addressed in the ruling concerns the relationship between the “beneficial interest” rule of international tax reporting statute and the “beneficial owner” rule of anti money laundering legislation.

Italian international tax reporting rules, as set forth in the law decree n. 167 of 1990, require that an Italian resident individual who holds the legal title to, or a beneficial ownership interest in, foreign assets, which can generate foreign-source taxable income, report those assets on his or her income tax return. For this purpose, beneficial ownership requires a direct economic interest on and the actual power to dispose of the assets for one own’s interest.

Conversely, the legislative decree n. 90 of May 25, 2017 which implemented the EU IV anti-money laundering directive and amended the legislative decree n. 231 of November 21, 2007 (the “anti money laundering” decree) adopted a more extensive definition of the concept of beneficial owner, for anti money laundering purposes. In the case of trusts, “beneficial owner” includes the settlor, the protector or guardian, and any beneficiary owning a greater than 20% interest on the income or assets of the trust.

A recent amendment to the legislative decree n. 167 incorporated the concept of beneficial owner as adopted in the anti money laundering decree, into the international income tax reporting statute. The relationship between the old “beneficial ownership interest” rule of legislative decree n. 167, and the new “beneficial owner” definition of the anti money laundering decree, as incorporated by reference into the legislative decree n. 167, has been a source of uncertainty and controversy.

The taxpayer’s position in the ruling request was that legislative decree n. 167 does not expressly extend the obligation to report foreign assets to a trust’s protector or guardian, for income tax purposes; the guardian or protector of a trust has the authority to supervise, control and sometimes direct or approve the actions of the trustee, but he or she does not hold the power to manage the assets of the trust, in his or her own interest or for for benefit of the beneficiaries of the trust, and the beneficial ownership rule of the anti money laundering decree should not supersede the beneficial interest rule of the international tax reporting statute.

The Tax Agency, in ruling in favor of the taxpayer, drew a separating line between the international income tax reporting statute and the anti money laundering legislation, and stated that the beneficial owner definition of the anti money laundering legislation should apply narrowly and consistently with the meaning and purpose of the beneficial ownership interest rule of international tax reporting legislation. The specific purpose of international tax reporting rules is to enable the tax agency to identify foreign-source income taxable in Italy and necessarily revolves around the individual taxpayer who would be teated as the possessor or beneficial owner of that income, and would be liable to any income tax due thereon. As a result, the guardian or protector of a trust, who lacks a direct managerial control or beneficial economic interest on the assets of income of the trust, and any associated income, is not subject to reporting.

The Tax Agency affirmed its previous ruling n. 53 of May 29, 2019 (Ruling 53_2019), in which it stated that the Italian president and administrator of a foreign foundation were not required to report the foundation’s financials assets, because they hold the power to represent and administrate the foundation not for their own interest, but in somebody’s else’s interest, and do not own a direct beneficial interest on the foundation’s assets.

Ruling n. 506 is very important in limiting the international income tax reporting obligations in respect of foreign trusts or similar fiduciary entities or legal arrangements, which may fall upon Italian resident individuals, setting forth an interpretation that can essentially exonerate individuals such a trust’s settlor, protector, contingent or discretion beneficiary, who lack an actual beneficial ownership interest on the trust’s assets or income.

In its Supreme Court Ruling n. 21695-2020 (issued on October 8, 2020) the Italian Supreme Court held that an individual (the “Taxpayer”) who is classified as a resident non domiciled in the U.K., is not eligible for the benefits of the income tax treaty between Italy and the U.K. of October 21, 1988, entered into force on December 31, 1990 and effective in Italy on January 1, 1990 (see U.K.-Italy Tax Treaty, the “Treaty”), and cannot rely upon the the provisions of article 4 of the Treaty to tie-break his tax residency to the U.K. for Italian income tax purposes.

Under the facts of the case, the Taxpayer is an Italian national individual who moved to the U.K. and established his regular place of abode there. As required under Italian administrative law, the Taxpayer cancelled himself from the register of Italian resident individuals, held in Italy, and registered himself as an Italian citizen resident abroad, on the register of Italian expatriates held with the Italian Consulate in London.

The Italian tax administration at the end of a tax audit concluded that the Taxpayer had remained an Italian tax resident under Italy’s domicile test, and assessed Italian income taxes on Taxpayer’s worldwide income, plus interest and penalties, for the four tax years under audit.

The Taxpayer challenged the tax assessments on the basis of two different theories:

– first, he took the position that he should be treated as a non-resident, under Italian internal tax law, as a result of moving to and establishing his place of habitual above in the U.K.;

– second, he argued that, in the event he should be treated as an Italian tax resident, under Italian internal tax law, he nevertheless should be treated as a U.K. tax resident, and an Italian nonresident, under the provisions of article 4, par. 2 of the Treaty, considering that he had a permanent home in the U.K. and no permanent home in Italy, and, as a consequence, he should be exempt from Italian tax on all of his non-Italian source income (and subject to Italian tax solely on his Italian source income, of which he had none).

Italian tax law establishes an individual’s tax residency under one of three alternative tests: (1) the registration test, which is met whenever an individual is registered on the register of Italian resident individuals, in Italy, for more than six months during the tax year); (2) the place of habitual above test, which is met when an individual regularly lives in Italy, with the intention of living there for an indefinite period of time, and (3) the domicile test, which is met whenever an individual’s “main center of interest and affairs” is located in Italy.

For purposes of the residence test, a “place of habitual abode” requires a regular presence coupled with the intention of living in Italy indefinitely. The actual number of days spent in Italy does not matter, and an individual is treated as an Italian tax resident, under the residence test, whenever (i) he or she lives in Italy “regularly”, as opposed to “occasionally” or “sporadically” – regardless of the fact that he or she may have spent in Italy less than 183 days during a tax year – and, (ii) based on the analysis of all of the facts and circumstances, her or she intends to live in Italy for the foreseeable future (as opposed to transitorily, for a limited period of time or a specific purpose). The test is met whenever the individuals “place of habitual abode”, within the meaning clarified above, exists for more than six months in any given tax year.

For purpose of the domicile test, reference is made to the place where an individual’s most meaningful personal, family, and social relations as well financial and economic interests are located, regardless of the place where an individual lives or spends all or part of his or her time during the tax year. The test is met whenever a taxpayer’s “domicile”, within the meaning clarified above, in Italy, exists for more than six months in a tax year.

The Supreme Court upheld the tax court’s and appellate court’s rulings, which ruled in favor of the tax agency and held that the taxpayer should be treated as a tax resident under the domicile test of Italy’s domestic tax law, considering that he had his most meaningful personal and family connections and substantial professional and economic interests in Italy, even though he lived regularly in the U.K.

Then, the Court turned to the Taxpayer’s tax treaty argument, and observed that the Taxpayer was registered in the U.K. as a resident non domiciled, and was subject to regular income tax there solely on his U.K. source income, while the U.K. income tax would apply on his non-U.K. source income solely to the extent that such income had been remitted back to the U.K. during the tax year.

Indeed, non-domiciled individuals resident in the U.K. may choose, on an annual basis, to be taxed on the remittance basis. The remittance basis of tax restricts the U.K. tax liability to UK source income and gains, plus any non-U.K. source income and gains brought into (remitted) to the U.K. Thus, any non-U.K. income and gains retained outside the U.K. (for instance in an offshore bank account) will not be taxed. This is a major tax incentive for those with significant sources of income outside the U.K., or those that (subject to anti-avoidance provisions) can legitimately arrange their affairs such that income is payable outside the U.K.

The Supreme Court referred to the provision of article 4, paragraph 1 of the Treaty, which reads as follows:

“(1) For the purposes of this Convention, the term “resident of a Contracting State” means any person who, under the laws of that State, is liable to taxation therein by reason of his domicile, residence, place of management or any other criterion of a similar nature. But this term does not include any person who is liable to tax in that Contracting State only if he derives income from sources therein“.

According to the Supreme Court, the fact that a U.K. resident non-domiciled is subject to U.K. tax only if he derives income from sources within the U.K., while no U.K. tax is collected on non-U.K. source income, unless and until that income is remitted to the taxpayer in the U.K., results in the taxpayer’s failing to me the Treaty’s tax residence test of article 4, par. 1). As a consequence, according to the Supreme Court, the Taxpayer could not be treated as resident of the U.K. under the definition of article 4, paragraph 1) of the Treaty, and the tie-breaker provision of paragraph 2) of the Treaty did not apply.

The Supreme Court issued identical rulings (n. 21694-2020, 21696-2020 and 21697-2020) for the other three tax years involved.

Ruling n. 21695 stands as a warning for individual taxpayers who move to the U.K. and are treated as resident non-domiciled there, while maintaining significant personal or economic ties to Italy. In the event the Italia tax administration has sufficient reasons to argue that they have their domicile in Italy, and are tax residents there, under Italian internal tax law, they may have no relief under the U.K.-Italy tax treaty and remain indefinitely exposed to worldwide income taxation in Italy.

Italy’s Supreme Court’s ruling n. 26965 of November 26, 2020 provides a clear example of how things can quickly turn for the worse, for an ill-advised taxpayer who fails to report a foreign financial account on his Italian income tax return, and then fails to properly handle the following tax inquiry and audit stemming from it.

According to the facts reported in the ruling, the Italian Tax Agency, pursuant to the provisions of the Directive of the Council of the European Union n.77/799/CEE of 19/12/1977 concerning the mutual tax assistance between the competent authorities of the member states (and article 27 of the Convention against double taxation between Italy and the United Kingdom of 5 November 1990 and article 26 of the Convention against double taxation between Italy and Australia of 18 November 1984), was able to obtain foreign documentation evidencing that the taxpayer was the only beneficiary of the “Massago Etablissement fund”, established in Vaduz (Liechtenstein), the value of which, as of 31/12/2000, amounted to € 2,381,015.00.

The Italian tax office assessed an additional income tax on the amount of the increase in the value of the account in the years 1999 and 2000, treating it as residual category of capital income which is classified as ordinary income taxable at graduate rates. Usually, income from capital in the form dividends, interest or capital gains is subject to substituted tax charged at the flat rate fo 26 percent.

The taxpayer appealed the regional tax court’s decision – which ruled in favor of the tax agency’s determination – to the Supreme Court, with no luck.

The Supreme Court ruled that, in the case of financial assets not declared on part RW of taxpayer’s Italian income tax return, the tax office can legitimately assume that the entire increase in value of the financial assets held on a foreign financial account represents taxable income. In particular, the increases of the value of the assets on the account, withdrawn and/or deposited abroad, are not considered capital income from foreign sources to be subjected to substitute tax (at 26 percent flat rate), but “interest and other income relating to the use of capital” pursuant to article 44, paragraph 1 letter. h) of the Tuir, which is subject to ordinary income tax at graduate rates.

On the procedural issue, the Supreme Court ruled that the national tax agency can rely on the documentation collected from a foreign tax authority pursuant to international statutory provisions on international cooperation and exchange of information for tax purposes, which, in the absence of meaningful and substantiated challenges from the taxpayer, deserves the highest degree of deference and constitutes sufficient evidence for the assessment of the additional tax.

The lesson for taxpayers is two fold: the duty to report foreign accounts is to be taken seriously, and, more importantly, taxpayers have to be careful in preparing for a possibile tax audit, during which they are expected to provide solid explanations on the nature and sources of funds and sources of income arising from their foreign accounts, in order to avoid extremely hateful tax assessments base don a presumption of evidentiary value of any information in the hands of the tax administration.

With Circular n. 33 of December 28, 2020, Italy’s Tax Agency provided administrative guidance on the special tax regime for new resident workers, professionals and entrepreneurs.

The special tax regime, amended and extended in 2019, provides a 70 percent exemption from tax for income earned by individuals who establish their tax residence in Italy.

Eligible taxpayers include Italian and foreign nationals who (1) were not Italian tax residents in the two preceding tax years, (2) moved their tax residence in Italy in the current tax year, (3) undertake to maintain their tax residence in Italy for at least two years, and (4) during the tax year, carry out the activities which give rise to the exempt income primarily in Italy. The exemption applies for a period of five years, and, when certain conditions are met, can be extended for additional five years for a total period of up to ten years.

Circular 33 clarifies that the the 70 percent taxable income exemption applies to taxpayers who moved their tax residence in Italy on or after April 30, 2019 and became tax residents for the year 2019. Initially, the 70 perched exemption was limited to those who moved to Italy on or after July 3, 2019 and would apply starting from the tax year 2020, while a lower 50 percent exemption would apply to new residents in 2019.

Circular 33 clarifies that the first requirement (non-Italian tax residency during the preceding two years) is met, for taxpayers who are treated as Italian tax residents under Italian internal law, but as residents of a foreign country under the provisions of any applicable income tax treaty. The rule applies to Italian nationals who failed to register abroad and remained registered as Italian resident individuals at the time of their transfer to a foreign country, as well as to foreign nationals who at any had time registered themselves in Italy or maintained a place of habitual abode there, but had at all time their permanent home or center of vital interests in a foreign treaty country and should be treated as residents of that country under article 4 of a treaty between Italy and that country.

Circular 33 does not clarify the requirement that the activities giving rise to income eligible for the exemption be carried out primarily in Italy during the tax year.

Some possible interpretations are that the taxpayer:

– spends more than half of the calendar days in Italy,
– spends more than half of her working days in Italy,
– performs the majority of the activities giving rise to the income eligible for the exemption in Italy, regardless of the number of days she spent in Italy during the year.

The 70 percent tax exemption applies to the following categories of income:

1) employment income,
2) other categories of income taxable as employment income,
3) income from independent professional services,
4) business income.

The exemption applies solely to Italian source income.

Circular 33 clarifies that only business income earned by the taxpayer directly (as a sole proprietor) is eligible for the exemption. Income earned though a partnership or other entity treated as fiscally transparent, and flowing through to the taxpayer under Italy’s partnership rules, does not qualify for the exemption. Indeed, under Italy’s partnership rules, foreign source business income earned through an Italian partnership is re-characterized as Italian source partnership income, based on the partnership’s place of organization.

On the other hand, all foreign entities – including U.S. partnerships, limited liability companies treated as partnerships and corporations treated as S-corporations – are classified as separate taxable entities, for Italian income proposes (regardless of their legal form and tax classification in their foreign country of organization). As a result, in the case of a U.S. national who is a member of an LLC taxed as partnership, or shareholder of an S-corporation, the income which flows through the entity and is taxed upon her under U.S. income tax law is not eligible for the exemption. When that income is distributed to the member or shareholder, it is classified as a dividend and taxed with the 26 percent dividend tax rate in Italy.

Eligible income may derive from business or professional activities already under way at the time of the transfer of taxpayer’s tax residence to Italy, or new business or professional activities commenced at any time thereafter (within the five or ten year eligibility period).

There is no requirement that the employment or professional activities giving rise to the eligible income be performed for an Italian-based employer or resident entity. As a result, income received by foreign nationals who have become Italian residents and continue working in Italy for their foreign employer is eligible for the exemption. In the event the foreign employer is treated as having a permanent establishment in Italy as a result of its employee being based and working in Italy, any income attributable to the employer’s Italian permanent establishment would be taxable to the foreign employer under the regular Italian income tax rules.

Royalties received for the license of self-developed intangibles, copyrights or image rights are treated as income taxable as employment income. If paid by an Italian based entity or individual, they would be Italian source income eligible for the exemption.

Circular 33 provides some important clarifications on the application of the exemption to income earned before but received after the transfer of taxpayer’s residency to Italy. When the income is paid with respect to past employment carried out outside of Italy, when the taxpayer was a nonresident individual, for Italian income tax purposes, that income is not eligible for the exemption. The rule applies to incentive compensation schemes such as stock options or bonuses, and to severance or lump-sum payments, accrued with respect to foreign employment, but paid to a new resident taxpayer during the eligibility period.

Conversely, a bonus, severance or lump-sum compensation accrued with respect to Italian employment or services carried out in Italy during the eligibility period, but received after the end of the eligibility period, when the taxpayer has already moved her residence out of Italy, are also not eligible for the exemption and are taxable as Italian source income of a nonresident under the regular Italian income tax rules.

The eligibility period is five years. It can be extended by five years (going from a total of five to a total of ten years) for taxpayers with one dependent minor child (either at the time of the transfer, or at any time thereafter within the initial five year period), or who purchased a house in Italy during the twelve month period preceding the transfer, or at any time during the eligibility period. For taxpayers with three or more dependent minor children, the amount of exemption is increased from 70 percent to 90 percent.

Failing to maintain Italian tax residency for the minimum two-year period results in the retroactive loss of the exemption.

In general, the special tax regime for new resident workers, professionals and entrepreneurs offers tremendous opportunities to foreign companies with existing or new business in Italy, which plan to move personnel from heir home office to their Italian subsidiaries, foreign nationals who plan to pursue employment opportunities with Italian companies, and foreign professionals and entrepreneurs who plan to move to Italy and continue or start new business or professionals activities while there.

With proper planning, an exemption of as much as 90 percent of eligible taxable income in effect for a period as long as ten years is available to new tax residents under the special regime.

On November 20, 2020 Italy’s Minister of Economy and Finance published its ministerial decree dated November 17, 2020, which contains specific provisions on the meaning and enforcement of the main benefit test of COUNCIL DIRECTIVE (EU) 2018/822 of 25 May 2018 on mandatory reporting of cross border arrangements (commonly referred to as “DAC6”).

Following the ministerial decree, on December 28, 2020 Italy’s Tax Agency published on its website a draft tax circular which provides administrative guidance on the interpretation and application of the Italian legislation that implements DAC6. Taxpayers and their advisors can provide comments on the draft circular until January 15, 2021.

Under DAC6, certain cross border agreements must be reported whenever they contain certain generic or specific “hallmarks” (meaning, a characteristic or feature that presents an indication of a potential risk of tax avoidance) and, simultaneously, meet the “main benefit test” (meaning, the main benefit or one of the main benefits of the arrangement is the obtaining of a tax advantage).

Generic hallmarks linked to the main benefit test include the following:

1. An arrangement where the relevant taxpayer or a participant in the arrangement undertakes to comply with a condition of confidentiality which may require them not to disclose how the arrangement could secure a tax advantage vis-à-vis other intermediaries or the tax authorities;
2. An arrangement where the intermediary is entitled to receive a fee (or interest, remuneration for finance costs and other charges) for the arrangement and that fee is fixed by reference to:
(a) the amount of the tax advantage derived from the arrangement; or
(b) whether or not a tax advantage is actually derived from the arrangement. This would include an obligation on the intermediary to partially or fully refund the fees where the intended tax advantage derived from the arrangement was not partially or fully achieved;
3. An arrangement that has substantially standardized documentation and/or structure and is available to more than one relevant taxpayer without a need to be substantially customized for implementation. 

Specific hallmarks linked to the main benefit test include the following:

1. An arrangement whereby a participant in the arrangement takes contrived steps which consist in acquiring a loss-making company, discontinuing the main activity of such company and using its losses in order to reduce its tax liability, including through a transfer of those losses to another jurisdiction or by the acceleration of the use of those losses;
2. An arrangement that has the effect of converting income into capital, gifts or other categories of revenue which are taxed at a lower level or exempt from tax;
3. An arrangement which includes circular transactions resulting in the round-tripping of funds, namely through involving interposed entities without other primary commercial function or transactions that offset or cancel each other or that have other similar features;
4. An arrangement that involves deductible cross-border payments made between two or more associated enterprises where the jurisdiction of which the recipient is a resident either does not impose any corporate tax or imposes corporate tax at the rate of zero or almost zero;
5. The payment benefits from a full exemption from tax in the jurisdiction where the recipient is resident for tax purposes;
6. The payment benefits from a preferential tax regime in the jurisdiction where the recipient is resident for tax purposes;
 
For a more detailed discussion of the provisions of DAC6, we refer to our presentation (NYU ITP Tax Presentation 11-7-2020) at the NYU’s International Tax Program of November 7, 2020.

The ministerial decree’s provisions on the main benefit test (“MBT”) are set forth at articles 6, 7 and 8, while the draft circular provides guidance on the application of the MBT at sections 3.3 and 3.4. Based on the decree and draft circular, the MBT is met when two conditions occur:

– there is a tax benefit from a cross-border arrangement,

– the economic value of the tax benefit exceeds the other economic (non-tax) benefits of the arrangement.

The ministerial decree provides that a tax benefit is determined with reference to the difference between the taxes due on the basis of one or more cross-border arrangements and the taxes which would be due in the absence of such arrangement or arrangements.

The draft circular clarifies that a tax benefit can derive from a cross-border arrangement which, compared to a transaction in which that cross-border arrangement is not employed, allows the taxpayer to:

– obtain reduction of the taxable base,
– obtain (or increase the amount of) a foreign tax credit or similar relief from international double taxation,
– obtain (or increase the amount of) a tax refund,
– defer the payment – or accelerating the refund – of a tax,
– eliminate or reduce a withholding tax.

The ministerial decree provides that the MBT is met whenever the economic value of a tax benefit represents more than 50 percent of the total tax and non-tax economic benefits of the transaction. The ministerial decree makes it clear that the tax benefit must be the principal benefit, and not just one of the benefit, of the arrangement.

The draft circular clarifies that the actual existence (and the measure of the value) of a tax benefit, is determined with reference to the the overall tax treatment of a transaction, by taking into consideration the income taxes due in Italy and in any other foreign jurisdictions in respect of that transaction. When the total amount of income taxes due is lower that the amount of taxes which would be due in the absence of that particular cross- border arrangement, the tax benefit test is met. Also, the draft circular clarifies that the tax benefit is an objective test, which does not requires any inquiry into the taxpayer’s subjective motives or intentions.

In order to determine whether the tax benefit is the principal benefit of the transaction, a fraction must be sued, at the numerator of which there is the amount of the reduction in income taxes which is achieved through the use of the cross-border arrangement, and, at the denominator, there is the sum of the amount of the tax reduction and all other economic or monetary non-tax benefits of the transition. Whenever the result of the fraction is more than 50 percent, the MBT is met. Th formula can be represented as follows:

Amount of Tax Benefit
_______________________________= more than 50%
Amount of Tax Benefit +
other non-tax economic benefits

The draft circular clarifies that the non-tax economic benefits of the transaction, which go into the formula, may consist in cost savings or revenue increase, but must be measurable objectively, on the basis of specific documentation that the taxpayer should be able to make available and rely upon.

In conclusion, the MBT is an objective test, requires that the tax benefit is determined by taking into consideration the overall tax treatment of the cross-border arrangement and the income taxes due in all jurisdictions involved, and is met whenever the tax benefit is the principal benefit of the transaction, namely, prevailing over the total of other non-tax economic benefit of the transaction.

The ministerial decree and draft circular confirm that the administration and enforcement of the MBT will require a potentially very complicated analysis of the tax treatment of a cross-border arrangement in different jurisdictions, difficult calculations of the income taxes due in relation to a cross-border arrangement compared to the income taxes that would be due in relation to a comparable transaction carried out pursuant to a different legal scheme, and challenging computations of the monetary value of non-tax benefits of the arrangement to include in the measurement formula.

Not surprisingly, taxpayers are going to face significant challenges when trying to assess whiter a cross-border arrangement is reportable under the MBT.

By now, Italian tax practitioners and tax scholars have had the opportunity to report on Italian Supreme Court’s ruling n. 14756 of July 10, 2020 (Cass.14756-20), which ruled that interest paid by an Italian operating subsidiary to its Luxembourg direct holding company is eligible for the withholding tax exemption granted under article 26-quater of Presidential Decree n. 600 of September 29, 1973, which implemented the provisions of the E.U. Directive n. 2003/49/EC of June 3, 2003 on payments of intra-European Union interest and royalties.

We would like to add below some additional comments and our final take on it.

Outbound interest is subject to a 26 percent withholding tax under article 26 of Presidential decree n. 600 of 1973. However, interest paid by an Italian company to a company organized a E.U. Member State, in the form of corporation liable to tax in the State, and holding at least 25 percent of the stock of the interest-paying company, is exempt from withholding tax, in accordance with the E.U. Directive n. 2003/49/EC.

One requirement for the withholding tax exemption is that the recipient qualifies as beneficial owner of the interest.

According to article 26-quater of Presidential Decree n. 600 of 1973, the recipient is a beneficial owner of the interest, when it receives the interest as final beneficiary, as opposed to an intermediary such as an agent, fiduciary or person acting in a similar capacity.

Under the facts of the case, after a leverage buy-out transaction leading to the acquisition of an Italian industrial company, the Italian target carried a loan held by its Luxembourg holding company, and made payments of interest to the Luxembourg holding company under that loan for an amount of approximately 18 million euro, without applying any withholding tax.

The Luxembourg holding’s loan was part of a series of back-to-back loan arrangements extending along the ownership chain all the way up to the non-EU parent of the group. The terms of the Luxembourg holding’s loan mirrored those of the back-to-back loans outstanding along the ownership chain of the group.

The rates and timing of the payment of the interest owed under the various loans did not exactly coincide, in a sense that the Luxembourg holding maintained control of the interest it received from the Italian subsidiary, albeit for a short period of time, and it ultimately earned a net profit margin of 0.125%.

The Luxembourg holding company did not operate any active business in Luxembourg, and maintained no offices, employees or other organizational structure on the ground there. Rather, it was a “pure” holding company, which performed financing and treasury functions for various subsidiaries of the group. In that capacity, it received various funds from its parent or other affiliates and extended various loans to subsidiaries of the group in Europe, receiving and paying interest on those loans and reporting net income in Luxembourg on its financial returns.

The parties in the case stipulated that the Luxembourg holding company satisfied all other statutory requirements for the interest withholding tax exemption, and the only issues was whether it qualified as beneficial owner of the interest for the purpose of the exemption.

The Italian Tax Agency took the position that the Luxembourg holding company was a “passive” holding company, namely, an entity not engaged in any business activity in its country of organization, devoid of any organizational structure or “substance” in Luxembourg, which just held legal title to shares of stock in subsidiaries. As such, according to the Tax Agency, it had to be be regarded as operating solely as an intermediary or agent for the collection of the interest from the Italian borrower and and the repayment of it to the ultimate lender of the group. As a result, the Tax Agency assessed a withholding tax on the interest paid to the Luxembourg holding company, for an amount of approximately 4.7 million euro.

The tax assessment was challenged in the tax courts, and the Italian Supreme Court confirmed the appellate court’s decision, ruling against the Tax Agency and in favor of the taxpayer.

In support of its ruling, the Italian Supreme Court relied on the interpretation and meaning of the term beneficial owner as it applies in the context and for the purpose of international tax treaties. The Court referred to the Commentary of the OECD Model of Income Tax Treaty, according to which beneficial ownership requires that the recipient hold the full right to use and enjoy the income, unconstrained by a contractual or legal obligation to pass the payment it receives up to any other person not eligible fort the benefits of a treaty.

The Court also referred to the decisions of the European Court of Justice in the so called Danish cases, according to which a withholding tax exemption granted under a E.U. Directive does not apply whenever the recipient is a conduit, whose sole activity is the collection and repayment of the income to another person that is not eligible for the exemption.

Against that background, the fundamental holdings of Supreme Court’s ruling n. 14756 can be summarized as follows.

First, according to the Court, the fact that a holding company operates as a “pure” or “passive” holding company, namely, it is not engaged in any active business, and does not employee people, own or rent offices or establish and maintain any other physical footprint in its country of organization, in an on itself, is not dispositive of its status as beneficial owner of the income it receives from controlled entities.

Rather, according to the Court, focus must be placed upon whether or not the holding company enjoys sufficient independence in adopting decisions which concern its own governance, the direction, supervision, management and control of its shareholdings in subsidiaries and controlled entities, and the receipt, use and enjoyment of its income.

By making reference to its own jurisprudence in dividend withholding cases, the Court expressly pointed out that it had already held that a pure holding company can be the beneficial owner of the dividend, whenever it properly books the dividend in its financial statement, is the legal owner of the dividend, and the dividend income can legally be attached by its creditors.

Second, according to the Court, in determining the holding company’s status as beneficial owner, reference must be made to the activities and all items of income of the holding company, as a whole, rather than focusing only on the specific item of income in respect of which the status of beneficial is called in question.

Based on the above principles, the Court ruled that the Luxembourg holding company had to be regarded as beneficial owner of the interest, considering that it carried various loans on its books, with respect to which it collected and reported substantial income in Luxembourg, retained some non insubstantial profit, performed active financing and treasury functions to the benefit of the parent and other affiliated companies of the group, and took on an active role in various acquisition transactions carried out by the group.

Also, according to the Court, the Luxembourg holding company retained a sufficient level of control over the interest and made a sufficient net profit out of the loan to its Italian subsidiary.

Finally the Court found no evidence that, under the facts of the case as summarized here above, the Luxembourg holding company operated solely as a conduit for the collection and repayment of the interest.

We believe ruling n. 14756 is of particularly significance, in the part in which the Court focuses on the nature and scope of the legal arrangements involving the holding company, its governance structure, and its legal operation and activities, while it dismisses other factors such as employees, offices, or organization of the holding company in its country of organization (so called “substance”), which have a meaning with respect to traditional industrial or commercial companies, but not equal meaning with respect to holding companies.

With some years now on record after the enactment of Italy’s tax rules on special tax regime for high net worth individuals, we attach and article (Italy’s Special Tax Regime for High Net Worth Individuals, Three Years In) recently published on the topic.

The distinctive features of the Italian special tax regime are the following:

– a low fixed amount tax in lieu of the Italian regular income tax (100,000 euro, with an increase of 20,000 euro for each family member who decides to join the main applicant);

– complete exemption from regular income tax for all foreign-source income (as defined under Italian internal tax law sourcing rules);

– complete exemption from Italian estate and gift tax on foreign-located assets;

– complete exemption from Italian asset value-based taxes on foreign real estate assets (so called IVIE) and financial investments (so called IVAFE);

– complete exemption from International tax reporting of foreign investments and financial accounts on sector RW of Italian income tax return;

– ability to use the network of Italian tax treaties to eliminate or reduce foreign taxes on foreign source income subject to the special tax regime in Italy;

– ability to entirely opt out of the regime at any time, by simply transferring the tax residency outside of Italy;

– ability to selectively opt out of the regime for income derived from specific foreign-countries, in order to be able to claim a foreign tax credit in Italy for foreign taxes charged on that income under a tax treaty between Italy and selected foreign countries.

Italy does not require that foreign-source income falling within the scope of the special tax regime be kept offshore and not be repatriated in order to benefit of the forfait tax.

Also, a taxpayer does not lose the benefits of the Italian forfeit tax if he or she is employed or engaged in a trade or business in Italy (but Italian source employment or business income is subject to Italian regular income tax).

To be eligible for the regime, a taxpayer must not have been a resident of Italy for Italian income tax purposes for more than one year in the last ten years prior to the special tax regime election.

Taxpayers who intend to benefit from the special tax regime can apply for an advance tax ruling, both on the tax residency issue and on any issue concerning the proper characterization and sourcing of their expected items of income falling within the scope of the forfait tax.

The ruling is binding upon the Italian tax administration and stands until any material fact submitted in the ruling application changes.

Alternatively, they can elect for the special tax regime with the filing of their first Italian income tax return after establishing their tax residency in Italy.

A taxpayer who is an Italian tax resident and is subject to the special tax regime in Italy should still be able to claim the benefits of Italian tax treaties with any foreign treaty country.

On December 23, 2019, the Italian Ministry of the Economy and Finance published on its web site a draft of the Ministerial Decree setting forth the provisions for the establishment and operation of the Register of Beneficial Owners of business entities, non-commercial entities and trusts. The establishment of the Register of Beneficial Owners is required by article 21 of the Legislative Decree n. 231 of November 21, 2007, which contains the domestic legislation implementing the European Union Anti Money Laundering Directives into Italian law. The draft Decree is open to public discussion, and comments and observations can be submitted through the Ministry’s web site until February 28, 2020. The final decree will be published and enter into force within July 3, 2020

In an article published on Tax Notes International on January 20, 2020 (Preparing for Italy’s Beneficial Ownership Register, Tax Notes International, January 20, 2020) we provide and analysis of the proposed rules.

The new beneficial owners’ filing obligations will apply to commercial entities, private non commercial organizations, trusts, foundations and other fiduciary arrangements. They will require disclosure of information on directors, managers, trustees, administrators and entity’s ultimate owners.

Members of the public can have access to the information filed with the register provided that they have standing, meaning, upon showing that they have a direct, present and ascertainable legal interest, right or claim the pursuance of which requires access to the information.

Individuals classified as beneficials owners and subject to the disclosure can preemptively object to the filing of their personal information on the ground that disclosure would expose them to an excess risk of threat, kidnapping, blackmailing, and similar dangers.

The new filing obligations will pose significant challenges and require specific attention on part of entities and individuals falling within the scope of the rules.