Among the operations that the Italian Revenue Agency has paid particular attention to in recent years, there is the so-called transformation of a non-resident entity’s Permanent Establishment (PE) into a subsidiary, which has been primarily accomplished through a business contribution. In practice, a company resident in a European Union Member State (the transferring entity), equipped with a Permanent Establishment in Italy, intending to transform this into an Italian company (subsidiary), can contribute the business represented by the Permanent Establishment to an Italian company – either pre-existing or newly formed – wholly owned by the transferring entity.
In this regard, the official documents of the Italian Revenue Agency (Resolution 63/E/2018 and the response to query no. 633 of December 31, 2020) have clarified that cross-border contributions relating to business branches attributable to a Permanent Establishment rooted in Italy can benefit from the tax neutrality regime provided for in Articles 178(1) and 179(2) of the Italian Income Tax Consolidation Act (TUIR), subject to the following conditions:
i) The ownership interest in the receiving company should be integrated into the accounting of the contributing Permanent Establishment from which the assets comprising the contributed business branch originate, with the requirement of a functional connection between such ownership interest and the assets of the Permanent Establishment, as stipulated by Article 152(2) of the TUIR.
ii) The ownership interest in the receiving company must, from a tax perspective within the contributing Permanent Establishment, be valued at the same value as the business branch contributed.
Resolution 63/E/2018 specifies that in cases where no functional connection exists between the ownership interest received in consideration of the contribution and the assets of the Permanent Establishment, these ownership interests are deemed to be realized at their fair market value under Article 179(6) of the TUIR, with the potential application of the participation exemption (PEX) regime provided for in Article 87 of the TUIR to any capital gain realized.
According to Assonime, the new demerger with demerger split can serve as a viable alternative to business contribution for the transformation into a subsidiary of a Permanent Establishment, especially when the demerged entity is a foreign company subject to Directive (EU) 2019/2121 on cross-border transactions. This foreign entity can transfer its Permanent Establishment to Italy, creating an Italian beneficiary company through demerger with demerger split, introduced by Article 2506.1 of the Italian Civil Code, and receiving shares or ownership interests in exchange.
Following this regulatory development, the transfer of a business unit from the transferring/demerger entity to a newly established beneficiary can occur through either a contribution or a demerger operation. The choice between “demerger” and “contribution” should ideally not give rise to concerns of abuse under Article 10-bis of Law No. 212/2000, as both these operations appear inherently capable of facilitating the transfer of assets to a newly established company that is wholly owned by the transferring entity.
However, there are some uncertainties surrounding the applicable tax regime. On one hand, the applicable treatment would resemble that described in cases of contribution, whereas on the other hand, the demerger with demerger split may take place in “full” tax neutrality (Article 173 of the TUIR), the natural regime for demerger operations.
In particular, while in the case of contribution, the neutrality regime is linked to the fate of the ownership interests received in exchange by the contributor, in the case of demerger pursuant to Article 2506.1 of the Civil Code, neutrality is a direct consequence of the fact that the legislator has established such a regime for cross-border demergers (which includes the allocation of shares in the beneficiary).
In the event of a subsequent sale of the ownership interests in the beneficiary, it is reasonable to assume that, for income tax purposes and given the operation’s continuity in terms of tax values, one could immediately benefit from the PEX regime provided for in Article 87 of the Italian Income Tax Consolidation Act if the conditions are met.
Considering the recent introduction of demerger with demerger split (pursuant to Article 2506.1 of the Civil Code), it is hoped that the relevant authorities will provide clarification to resolve any interpretational uncertainties regarding the tax aspects of this operation.