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Italy introduces permanent establishment investment management exemption
December 2022
In brief
The 2023 Budget Bill, expected to be enacted before year-end, introduces in the Italian Income Tax Act (IITA) an investment management exemption (IME). In brief, the IME is a safe harbor aimed at providing certainty that foreign investment funds (and controlled entities) will not trigger a permanent establishment (PE) due to activities in Italy of a fund’s (senior) asset managers.
Features of the IME in the Budget Bill include:
- A ‘safe harbor’ from PE issues aimed at encouraging the transfer of fund managers to Italy.
- Reduced risk connected to the presence of fund managers in Italy (whether they are traders, deal teams, local partners, etc.), thereby seeking to reduce the attraction and taxation of fund income (and therefore of nonresident investors) in Italy.
- Allowing the operations of sponsor management companies (and PEs) in Italy (with regular taxation of the business income of management companies), and allowing the fund (and therefore the investors) to maintain the tax regime of the country of residence/location.
The Italian Ministry of Economy and Finance will implement the regulation through a decree.
Action item: Foreign investment funds should consider how the IME could impact their operations. They should analyze their position for Italian tax purposes and consider the benefits of the new exemption. In addition, they should consider the potential Italian tax benefits for individuals under the so-called ‘impatriate’ regime).
In detail
Under the definition of agency PE, new para. 7ter of Article 162 of IITA, as drafted from the Budget Bill, provides that a PE does not exist if independent (see below) asset/investment managers (both Italian or non-Italian tax residents, including those operating in Italy thorough a PE), habitually (even if exercising discretionary powers):
enter into contracts for purchasing, selling, or negotiating financial assets, derivatives, and receivables on behalf of the foreign investment vehicles (or their direct / indirect controlled companies), or
actively contribute, including with preliminary and ancillary activities, to the executions of transactions under the previous point.
For purposes of the exemption in the Budget Bill, asset / investment management are deemed independent (new para. 7quater of Article 162 of the Italian Tax Code (ITC)) if all the following requirements are met:
- The foreign investment vehicle (and its subsidiaries) are resident or located in a ‘white list’ country (see Article 11(4)(c) of Legislative Decree no. 239 of 1 April 1996).
- The relationship between the foreign investment vehicle (and controlled entities) and the asset manager meets the following independence requirements (to be detailed by a Ministry of Economics and Finance Decree):
- The asset / investor manager that carries out its activity in Italy, in the name of or on behalf of the foreign investment vehicle,
- does not hold any directorship / managing power on controlling bodies of the investment vehicle (and of its direct or indirect subsidiaries), and
- is not entitled to more than 25% of the profits of the foreign investment vehicle (also considering profits entitlements held by other entities of the group).
- The asset / investor manager that carries out its activity in Italy, in the name of or on behalf of the foreign investment vehicle,
- The Italian tax resident asset / investor manager - or (if any) the PE in Italy of the nonresident entity-should support its remuneration by proper transfer pricing documentation (as set in Article 1(6) of Legislative Decree no. 471 of 18 December 1997). Guidance from the Italian Tax Authorities could provide guidelines.
Additionally, the Budget Bill introduces para. 9bis of Article 162 of ITC regarding the PE fixed place of business exemption for foreign investment vehicles (and their controlled entities). Moreover, if the above conditions are met, the Italian entities - carrying out activity in Italy through Italian-based personnel - do not constitute an Italian PE fixed place of business of the foreign investment vehicle merely because the activity exercised by the Italian enterprise is for the actual benefit of the foreign investment vehicle.
Observation: The new IME regime is particularly relevant considering the potential tax benefits allowed to inbound individuals and the ‘new’ certainty that will be allowed to foreign investment vehicles in Italy.
The so-called ‘impatriate’ regime
The Italian legal system introduced the Inbound Tax Regime in 2015, the aim of which is to attract human capital to Italy in order to contribute to development of the country’s economy.
The Inbound Tax Regime applies once taxpayers have met the following requirements:
- transfer of tax residence to Italy pursuant to Article 2 of the IITA;
- the taxpayer has not been in Italy during the two tax periods preceding the transfer of residence for tax purposes to Italy;
- the new resident undertakes to keep Italian residence for at least two years; and
- the taxpayer carries out his/her activity mainly in Italy.
Upon meeting the above conditions, Article 16 of the Decree provides that individuals who transfer their tax residence to Italy must include only 30% of their employment income (as well as their self-employed and business income) in their taxable income. This provides an effective tax rate for the natural person of approximately 13%.
When the requirements of the Inbound Tax Regime are met, the application of the tax benefits described above will apply to the new resident starting from the year in which the transfer of his / her tax residence took place and for the following four tax periods (with the possibility, provided for by the paragraph 3-bis of the provision in question, to extend the period of eligibility for the regime, under certain conditions, for an additional five tax years).
Observation: The benefits of the new provision on PE IME will become more relevant when considered in combination with the Inbound Tax Regime envisaged by the Italian legal system. Foreign investment funds may consider the incentives deriving, on one hand, from the PE IME in terms of legal certainty, with particular regard to the safe harbor rule concerning the potential existence of a PE in Italy, and, on the other hand, from the Inbound Tax Regime potentially applicable to its managers transferring their tax residence to Italy, since they will be able to benefit from a higher net wage with the same payout for the non-resident investment fund.
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