New Tax Rules Can Make Italy An Attractive Location For Holding Companies

Thursday, July 1, 2004 - 00:00

The present article will provide an overall view of certain new features of the new 33% Italian corporate tax ("IRES") that have been enacted - for fiscal years starting on or after January 1, 2004 - by Presidential Decree No. 917 of December 22, 1986, as amended (the Italian Tax Code, "ITC"). Such changes may increase the attractiveness of using an Italian corporation ("ItalyCo") as a holding or a sub-holding company in a multinational group. In particular, the present article will briefly outline: (i) the new participation exemption regime; (ii) the new group taxation; and (iii) the new interest deductibility rules. Participation Exemption

Dividends. Dividends received by ItalyCo from both (a) Italian resident companies and (b) foreign companies, other than companies resident in one of the tax havens countries listed in an ad-hoc Ministerial Decree (the "Tax Havens"), would benefit from a 95% exemption for IRES purposes, with no minimum shareholding being required. A full exemption would instead apply to dividends received within a tax group (see below).

Capital gains. Capital gains realised by ItalyCo on the disposal of stock (the "Relevant Stock") held in either: (a) an Italian resident company; or (b) a foreign company, other than a company resident in a Tax Haven, would be fully exempt for IRES purposes, subject to certain conditions being met, with no minimum shareholding being required.

In particular, the following conditions shall be met: (i) ItalyCo must have uninterruptedly held the Relevant Stock for a period starting from - at least - the first day of the 12th month preceding the date of disposal; (ii) the Relevant Stock must have been classified as fixed financial assets in the first financial statements approved by ItalyCo after the acquisition of the same Relevant Stock; (iii) the Relevant Stock must be of a company that (x) is not resident in a Tax Haven (unless an ad-hoc ruling is obtained) and (y) is carrying on an effective business activity. Please note that the conditions under (x) and (y) above must have been uninterruptedly met from the beginning of the third fiscal year preceding the fiscal year in which the disposal occurs.

On the other hand, capital losses on the disposal of the Relevant Stock, as well as expenses incurred for the acquisition of the same Relevant Stock, are not deductible. Group Taxation

Pursuant to new Articles 117 to 142 of ITC, ItalyCo is allowed, under certain circumstances, to elect the application of group taxation with respect to (a) all or part of its qualified domestic subsidiaries (the "Domestic Group Taxation") or, in more limited cases, (b) all of its qualified foreign subsidiaries (the "Worldwide Group Taxation"), or (c) both of the above.

Domestic Group Taxation. Pursuant to Articles 117 to 129 ITC, ItalyCo and each of its Italian subsidiaries willing to participate in the Domestic Group Taxation, can file a three-year election to that effect.

The relevant subsidiaries are those that are resident in Italy and in which ItalyCo - directly or indirectly - owns more than 50% of the voting rights and is entitled to more than 50% of the profits. For the above purpose, the indirect shareholding is to be demultiplied (e.g., should ItalyCo own 60% of company A which, in turn, owns 60% of company B, then ItalyCo could consolidate company A but it could not consolidate company B, since ItalyCo would indirectly own only 36% of it).

Pursuant to the Domestic Group Taxation rules, ItalyCo would consolidate all its own and its relevant subsidiaries' profits and losses and would apply IRES on the algebraic sum thereof, as adjusted (upward or downward) in order to take into account - inter alia (a) the taxable amount (i.e., 5%) of certain dividends and (b) the difference between book value and fair market value of certain assets (if any) transferred among companies participating to the same Domestic Group Taxation. ItalyCo would be the only entity subject to IRES and responsible for it towards the Italian Tax Authorities, while each relevant subsidiary would be jointly and severally liable - on a pro rata basis - in connection therewith.

Specific recapture rules are provided for in case of early termination of the Domestic Tax Group or in case the Domestic Tax Group is not renewed at the expiry of the three-year term.

Worldwide Group Taxation. Pursuant to Articles 130 to 142 ITC, if ItalyCo (assuming it is the ultimate parent company of the group and it is a listed company) is willing to apply for the Worldwide Group Taxation of all its foreign qualified subsidiaries, it can file for a five-year election to that effect. The relevant foreign subsidiaries are those (i) in which ItalyCo directly or indirectly owns more than 50% of the voting rights and is entitled to more than 50% of the profits (also for the above purpose any indirect shareholding is to be demultiplied as described above); and (ii) that have their financial statements audited by a qualified auditing firm.

Pursuant to the Worldwide Group Taxation rules, ItalyCo would apply IRES on the algebraic sum of: (a) all its taxable profits or losses; and (b) the pro-rata taxable profits and losses of all of its qualified foreign subsidiaries (to be calculated based on its shareholding), irrespective of any actual dividend distribution, as adjusted pursuant to certain criteria set forth by the law.

Specific recapture rules are provided for in case of early termination of the Worldwide Tax Group or in case the Worldwide Tax Group is not renewed at the expiry of the five-year term. New Rules On Interest Deductibility

On the other hand, new Articles 98 and 97 ITC provide for tighter rules with respect to those previously provided on the deductibility by ItalyCo of certain passive interest.

Article 98 - Thin Capitalisation. As a general rule, and subject to certain exemptions, interest on loans made to ItalyCo from (or guaranteed by) a qualified shareholder or a related party thereto (the "Relevant Loans"), would not be entirely deductible if the Relevant Loans exceed, on average during a fiscal year, a debt-to-equity ratio (the "Ratio") of 4:1 (as an exception, the applicable Ratio for the fiscal year starting on or after January 1, 2004 is 5:1). A qualified shareholder is defined as either (i) a controlling shareholder pursuant to the relevant provisions of the Italian Civil Code or (ii) a shareholder holding directly or indirectly not less than 25% of ItalyCo's share capital.

The ItalyCo's equity to be compared to the Relevant Loans is represented by ItalyCo's net book value, as resulting from the previous fiscal year's financial statements, gross of the undistributed profits of the relevant fiscal year, and net of (a) any receivables for shareholders' equity contributions that are still due; (b) the book value of ItalyCo's treasury shares; (c) losses which have not been covered within the two fiscal years following the one in which they were incurred; and (d) the lower between (x) the book value and (y) the net worth of the stock held by ItalyCo in its controlled subsidiaries.

Should the Ratio be exceeded, the interest on the Relevant Loans in excess of the Ratio would: (i) be deemed as non-deductible for ItalyCo; and, if paid to a qualified shareholder or a related party thereto, (ii) be treated as a dividend in the hands of the recipient (and taxed accordingly, see above).

Article 97 - The Patrimonial Ratio. The amount of passive interest remaining after the application of Article 98 ITC, net of any active interest received by ItalyCo (the "Remaining Interest") would be deductible for ItalyCo only based on an ad-hoc patrimonial ratio.

More precisely, if at the end of the fiscal year (a) the book value of any Relevant Stock owned by ItalyCo (other than Relevant Stock related to a subsidiary that is part of a group taxation with ItalyCo) would exceed (b) ItalyCo's properly adjusted net worth, the Remaining Interest would be deductible only in part.

In particular, the amount of non- deductible Remaining Interest would be determined (i) by first multiplying the same Remaining Interest by an ad-hoc fraction and subsequently (ii) by subtracting from the amount under (i) the taxable dividends received in connection with the Relevant Stock (if any).

The rationale behind such complex mechanism is to disregard the deductibility of interest on loans utilised (or which are deemed to have been utilised) by ItalyCo to finance the acquisition of the Relevant Stock, the capital gains realized on which would be exempt from IRES. However, as a result of Article 97 ITC, ItalyCo could end up in having a non deductible interest even if (a) it never sells the Relevant Stock; or (b) it sells the Relevant Stock, but without realizing a capital loss.

Overall, howerever, the generous participation exemption regime and the possibility to apply for - inter alia - the Domestic Group Taxation, should make Italy a valid alternative to other long established European jurisdictions as the proper location for holding or sub-holding companies of multinational groups.1 See 359 N.J. Super. 420, 820 A.2d 105, 2003 N.J. Super. LEXIS 139, 2003 WL 1883457 (Apr. 16, 2003).
2 See Maw v. Advanced Clinical Communications, Inc., 179 N.J. 439, 846 A.2d 604, 2004 N.J. LEXIS 461, 2004 WL 943523 (May 4, 2004).
3 See N.J.S.A. 34:19-1 to 34:19-8.
4 See N.J.S.A. 34:19-3(c)(3).
5 See Stephen Mayer, N.J.'s Whistleblower Act, 119 N.J.L.J. 353 (1987).

If you would like more information about why Italy can be an attractive location for holding companies, you may contact MassimoA gostini, who is the Head of Tax of Gianni, Origoni, Grippo & Partners,and can be reached in the Rome office at or(+39)06478751. You may also contact Stefano Crosio, who is the Resident Partner in the firm's NewYork office, and can be reached at or(212) 424-9174.