In the process of implementing the EU Directive n.2016/1164 (so-called ATAD Directive), and in adapting the Italian legislation to the EU provisions, with Legislative Decree n.142/2018, Italian legislation has reformed the Controlled Foreign Companies rules (or CFC rules), also with the aim of reducing the complexity of the related application mechanism.
What are the changes made and the differences compared to the previous rules?
It has been tried to maintain a “balance” between the need to simplify the rules, as provided for by the ATAD Directive, and the need to preserve the existing Italian regulations. In any case, the changes made have a significant impact for all the international groups concerned and involved in the mapping of subsidiaries resident abroad.
With respect to the changes introduced, the Tax Authorities have provided important clarifications in Circular 18/E and in the Implementation Measure, both dated December 27, 2021.
The new subjective aspects
In line with the previous legislation, it has been maintained the application of the CFC rules to resident entities regardless of their legal form (individuals, partnerships and limited companies). The novelty concerns the extension to permanent establishments in the territory of the State of non-resident subjects, which control non-resident subjects (therefore, in fact, relating to the participation in the foreign subsidiary that are part of the assets of the permanent establishment).
The concept of “control” is also broadened to include, in addition to the provisions of article 2359 of the Civil Code, the direct or indirect holding of more than 50% of the share in profits, “through one or more subsidiaries […]”.
In addition to the above, the new regulations include, among the cases of non-resident-controlled entities, the permanent establishments abroad of foreign controlled entities, as well as permanent establishments abroad of resident entities for which the option for the branch exemption has been made.
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Simplifications regarding application of the CFC rules
In this regard, the distinction, provided for by the old regulations, between subsidiaries resident outside the EU (and meeting the blacklist requirements, i.e. with a nominal level of taxation lower than 50% of the Italian one) and subsidiaries wherever they are resident but receiving passive income for more than 50% of the income and with taxation lower than half the Italian one, is abolished.
For the new regulations there is only one type of CFC represented by a subject wherever resident (EU/Extra-EU), to which the discipline is applied only if the following requirements are verified jointly:
- the effective taxation is less than half of the one the foreign subsidiary would have been subject if it were resident in Italy (thus making a comparison between the “effective foreign tax rate” and the “virtual domestic tax rate”)
- more than a third of the income is attributable to passive income.
An important clarification indicated in Tax Authority Circular no. 18/2021 (which represents a change with respect to the pre-reform regulations), is linked to the calculation of the virtual Italian taxation: for this purpose, only the determination of IRES is relevant, and therefore, unlike what happened before the implementation of the ATAD directive, any additional taxes, nor IRAP, are no longer considered.
Changes linked to situations of exclusion from the discipline
Compared with the previous formulation, the two exemptions[1] for which the discipline did not apply have been eliminated. In their place, a single circumstance has been introduced which permits exemption from the regulations by demonstrating the carrying out of an effective economic activity through the use of personnel, equipment, assets and premises. The taxpayer can demonstrate this in advance, through the optional ruling, or later, on the occasion of an audit.
Determination of the income of the controlled party
The most important novelty concerns the specifications introduced on the determination of the income of the non-resident-controlled entity: in addition to applying the rules for the determination of income for IRES purposes (previously provided for), it has been specified that the provisions regarding shell companies, companies with systematic tax losses, “Studio di settore” parameters, aid to economic growth (ACE) and the taxation of capital gains by instalments, are not applied.
Conclusions
The innovations introduced are undoubtedly very interesting and of considerable support to the control activities carried out by the parent companies of multinational groups. It has been taken a very important step forward, also thanks to input provided by the European Union, which has been welcomed by operators in the sector. We will analyse further cases of application of this discipline in other articles.
[1] For non-EU CFCs, the exempting circumstances envisaged were linked to the carrying out of an effective industrial or commercial activity, as the main activity, in the market of establishment and not achieving the effect of locating income in countries with preferential taxation. For CFCs wherever they are resident but with passive income, the fact that establishment abroad does not represent an artificial arrangement.