The Italian Tax Authority confirmed that the participation exemption does not apply to shareholdings that are transferred abroad as part of a going concern (Principle of Law 10/2021). It follows that the participation exemption should be unavailable to mitigate exit tax charges triggered by an Italian holding company’s migration to a different jurisdiction unless its activity was limited to the mere passive management of shareholdings.
Italian exit tax
The transfer of a company’s tax residence to a different jurisdiction (and consequent loss of tax residence in Italy) triggers a tax charge on the difference between the tax basis and fair market value of all of the company’s assets, except for assets that remain connected with a permanent establishment (PE) in Italy (Article 166 of the Italian Income Tax Code (IITC)).
If assets initially allocated to an Italian PE are subsequently transferred abroad, further exit tax charges are triggered. The fair market value is determined in line with applicable transfer pricing regulations and, for transfers of residence to another EU/EEA Member State, payment of the exit tax may be split over five equal yearly instalments.
Article 166 IITC applies to transfers of residence by “persons that carry on commercial enterprises”, but the exit taxation regime (including the ability to pay the exit tax over five yearly instalments) also applies to transfers by companies without business activities, such as pure holding companies (see ECJ Case C-371/10).
Principle of Law 10/2021
As a general rule, if the assets of a company migrating abroad include shareholdings, the participation exemption regime should apply to exempt 95% of the gain from corporate income tax, provided the requirements in Article 87 IITC are met.
Principle of Law 10/2021, however, clarifies that the participation exemption does not apply to shareholdings included among assets transferred abroad if such assets constitute a going concern (azienda or ramo d’azienda). This principle holds true even if the going concern consists mainly of shareholdings. The Italian Tax Office (ITA) recalled Circular 6/2006 which stated that, in the case of sale of a company’s assets (including shareholdings) that qualify as a going concern, “the consideration received for the sale constitutes the value of the company’s assets that qualify as a going concern from which the capital gain – jointly determined – originates”. The result is that the portion of the capital gain related to the shareholdings cannot be taxed separately (such that the participation exemption could apply). Instead, it is part and parcel of the capital gain resulting from the transfer of the going concern which is fully subject to tax (under Article 86 IITC).
Many scholars have fiercely criticised Principle of Law 10/2021 for frustrating the rationale of the participation exemption regime, i.e. to prevent double corporate income tax on the profits of one enterprise (first, on the profits of the enterprise and then at parent company level).
From a practical perspective, Principle of Law 10/2021 gives rise to considerable uncertainty, given that the assessment of whether the company’s assets constitute a going concern is far from straightforward because Italian tax law has no objective definition of “going concern”.
In a number of previous rulings, the ITA accepted the use of the civil law definition of “going concern” for tax purposes. Previous Italian Supreme Court decisions have established that a set of assets and legal relationships, when transferred, constitutes a going concern if, prior to the transfer, the business owner had organised it to conduct the business and, following the transfer, its capacity to be used as a business unit (though not necessarily on a standalone basis) is maintained. The Italian Supreme Court has also confirmed that an organised set of assets constitutes a going concern, even if it provides a transferee merely with the potential for carrying on a business; so, an organised set of assets can constitute a going concern even if it does not include a concession agreement necessary for carrying on the business, or the required workforce.
There should not be a transfer of a going concern (meaning that the participation exemption could apply) if the migrating company is a pure holding company whose activity is limited to the mere passive management of shareholdings. Equally, the transfer of single assets (such as a shareholding which meets the participation exemption requirements) should not constitute a transfer a going concern – which could be relevant if considering later transfers aboard of assets initially retained by an Italian PE. But the borders are likely to be fuzzy.
So, what tools do we have to mitigate the risk of uncertainty?
- Migrating companies could request a ruling on whether the company qualifies as an active/passive holding company and the assets qualify as a going concern (Article 11, paragraph 1, point a), of Law 212/2000).
- It is also possible to request a ruling to determine, in agreement with the ITA, the fair market value of the transferred assets at the time of migration (Article 31-ter of DPR 600/1973).