Italy: New companies criteria for tax residence purposes

published on 8 October 2024 | reading time approx. 6 minutes

Legislative Decree No. 209/2023, by amending paragraph 3 of Article 73 of the Italian Income Tax Law (TUIR), established new connecting criteria for companies with the territory of the State, in order to determine their tax residence.

In the following we examine some aspects concerning: (i) the passing of the 'main object' requirement and (ii) the coordination of the rules on tax residence with the rules on Controlled Foreign Companies.

The innovations introduced by Legislative Decree No. 209/2023

In an attempt to increase the legal certainty and competitiveness of the domestic tax system, the delegated legislature has strengthened the connection with 'international practice' (Article 3(1)(c) of the enabling act of 9 August 2023) by amending the content of Article 73 of the TUIR, and by eliminating the rule of the ‘main object' and replacing the rule of the ‘seat of administration ‘with the two criteria of 'place of effective management' and 'principal place of management’, while the general rule of 'registered office addresse' remains in place.

Outlined above, one can appreciate an approximation of Italy to the OECD positions, which already with the 2017 Model pursued a practical and factual criteria, based on the concept of the place of effective management (hereinafter also 'PoEM').

The criteria of the 'place of effective management' and 'principal place of management' express, in fact, the ratio of the new legislation, emphasizing the relevance of factual aspects, opposing to formal requirements. Their combined reading marks the overcoming of the reference to the seat of administration principle, which had led to significant interpretative and applicative difficulties.

Therefore, while the criteria of the 'registered office addresse' (which still exists with respect to the previous wording) represents an element of necessary continuity with the regulations in force before the reform, those of the 'place of effective management' and ''principal place of management' present innovative aspects, and regarding those two it should be appropriate to reflect and raise some considerations in this regard.

Overcoming the main object principle, more clarity for foreign holding companies holding participations and real estate in Italy

The rule set forth in paragraph 3 of Article 73 of the TUIR of 'main object', which, like the concept of 'seat of administration', had its roots in the Civil Code, was eliminated from the list of criteria for tax residence purposes. The tax rule thus transposed an institution of civil law source into the tax system.

In the new version of the third paragraph of Article 73 TUIR, the separation between the concepts of effective place of management and day-by-day management is more evident.

As examined by Assonime in its Circular No. 15 of 2024, the company can be considered resident for tax purposes not only when strategic decisions are taken in Italy (in the 'place of effective management'), but also when day-by-day management is located there (the 'principal place of management), to the extent that day-by-day management acts are not isolated and episodic, but have a certain degree of coordination.

In particular, the connection with the criteria of day-by-day management should put an end to the questions that have arisen in the past, concerning the interpretation of the term ‘main object', which, according to some case law is not the place where the day-by-day management of the company is located, but where the company's assets are located: the issue was of interest, in particular, to real estate companies and holding companies.

The new configuration should reduce the impact of certain distortions, as the two civil law source criteria have been replaced by ones that better reflect the two souls of PoEM (i.e. what the doctrine defines as central management and control and day-by-day management). Indeed, the elimination of the main object criteria should exclude, for example, that foreign holding companies can be considered resident in Italy merely because they mainly own shareholdings in resident subsidiaries (a circumstance hitherto confused having the ‘main object' in Italy). Given the new legislation, it will be easier for such companies to value the lack or absence of a connection criteria with Italy, taking into account how their own activities should coincide, for example, with the evaluation and support in the drafting of the subsidiaries' business plans, rather than in the approval of new investments using the liquidity received from them, just as ordinary management activities should coincide, for example, with the monitoring of the investments made.

Some reflections on the coordination of the new companies criteria for tax residence purposes with the CFC rules

According to the current Article 167 of the TUIR, with respect to the regime of Controlled Foreign Companies, it is possible to opt for the application of a substitute income tax, equal to 15 per cent of the net accounting profit for the year of each subsidiary, regardless of the verification of the level of effective foreign taxation. The legislation was modified by Article 3 of Legislative Decree 209/2023, coordinating the verification of the foreign investee's tax level with the 15 per cent minimum global taxation rules (BEPS Pillar 2) and introduced an innovative optional substitute tax regime.

In order to benefit from the special favorable regime, the annual financial statements of non-resident controlled entities must be audited and certified by professionals authorized to do so in the foreign country of establishment.

However, it is necessary to adequately assess the regulatory novelty as it applies to entrepreneurial choices. In fact, for the sake of simplification in the management of compliance, if the conditions are satisfied, a company might decide to opt for the simplified application of the CFC regulation, choosing not to make use of the possible exempting circumstance. This choice might arise, for instance, from a desire to avoid costly data collection or the involvement of non-resident subsidiaries in the analysis. In such a case, the company, that decides to take advantage of the simplified procedure, could encounter certain difficulties due to a lack of connection between the rules on tax residence and those on controlled foreign companies.

In fact, it cannot be ruled out that for the tax authorities, when a resident company considers the CFC rules applicable, it presupposes that it is the company itself that qualifies the foreign subsidiary that collects passive income as an entity that is not legally and economically independent, which is why - in fact - it opts for the application of the rules; even where this is merely a matter of simplification. Therefore, starting from the 2024 tax year, companies will have to make some in-depth factual assessments of both the economic substance (CFC) and residence criteria, carefully evaluating the rules in light of the changes introduced by the legislator.

In fact, on the one hand, no particular problems should arise as long as one falls under the ordinary taxation by transparency, with the result that the income of the foreign subsidiary is subject to a tax rate of 24 per cent (in which case the 15 per cent substitute tax is not applied). On the other hand, following the above-mentioned case, a company that finds itself in the position of being able to opt for the simplified regime, from which the right to apply a 15 per cent tax on a 'lump-sum' tax base could not exclude, however, the possibility that the tax authorities may subsequently investigate and verify whether the taxpayer intended to avail itself of the institution by applying a milder taxation or whether the effective management headquarters or the ordinary principal management of the company is located in Italy.

If the prerequisites are satisfied, a tax of 24 per cent (imputation by transparency) could therefore be applied to the income of the foreign subsidiary, raising a residency exception under Article 73 of the TUIR, even if the 15 per cent substitute tax (CFC) is applied first.