The Italian tax authority, on September 16, issued guidance clarifying Italy’s controlled foreign company (CFC) tax legislation, providing important details on how to calculate “effective tax paid” for purposes of determining if the CFC rules apply.
The guidance, Protocol No. 143239, follows extensive clarifications made to Italy’s CFC laws in Circular n. 35/E, issued on August 4. Among other things, Circular n. 35/E describes how to calculate the “nominal tax rate” for purpose of determining if a foreign tax regime is deemed a low-tax regime, determines when tax regime is considered a “special” tax regime, provides a non-exhaustive list of examples of special tax regimes, and addresses how to determine CFC income.
New Protocol No. 143239 focuses on paragraph 8 bis of article 167 TUIR. This provision states that the CFC rules will apply to companies located in jurisdictions which are not considered privileged tax regimes, provided that the following conditions are met:
- the effective income tax paid in the foreign jurisdiction is less than 50% of the Italian corporate income tax that would be applicable to the company if it were resident in Italy; and
- more than 50% of the proceeds of the controlled foreign company consist of passive income for CFC purposes (passive income test).
The law does not provide any definition of “effective tax paid.” Hence, the new guidance provides simplified rules to calculate the effective foreign tax of a controlled company and the related virtual domestic tax to determine whether or not the actual income tax paid in the foreign jurisdiction is lower than 50% of the Italian corporate income tax.
The new guidance states that, when determining effective foreign taxation, only income taxes due in the country where the controlled company is located must be taken into account, without including possible tax credits related to income derived in a third country. Where a tax treaty is applicable, the taxes covered by the treaty and any identical or substantially similar taxes that are subsequently imposed must be included in the calculation.
In case of a federation of states, such Switzerland and US, the effective foreign taxation will be determined taking in account federal taxes and local taxes even in cases where they are not explicitly included in the tax treaty between Italy and the jurisdiction of the controlled entity.
Similarly, when determining the Italian tax that would be applicable to the company if it were resident in Italy, only the corporate income tax (IRES) and possible surcharges must be taken into account, without including possible tax credits related to income derived in a third country.
Such calculation must be based on the data available in the financial statements of the controlled company, the guidance states.
Davide Anghileri
Davide Anghileri is a PhD candidate at the University of Lausanne, where he is writing his thesis on the attribution of profits to PEs. He researches transfer pricing issues and lectures for the Master of Advanced Studies in International Taxation and Executive Program on Transfer Pricing.
Anghileri, a Contributing Editor at MNE Tax, previously worked as a policy advisor to the Swiss government on BEPS issues.
Davide can be reached at [email protected].
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