Italy sets a new way to work with digital economy companies on permanent establishment disclosure

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Domenico Borzumato
International Tax Services leader – Mediterranean Region

The digital economy is a complex issue that continues to impact policymakers and taxpayers alike.

With BEPS Action 1 recommending that countries apply a mix of different BEPS recommendations (as well as Value Added or Sales Taxes) to tax digital activity, and a final report in this area not due until 2020, some countries have chosen to formulate their own approaches, introducing more forensic measures which can be described under the broad umbrella of “diverted profits taxes” after the UK tax of the same name.

The Italian Parliament has passed a new law that represents something slightly different, but with the same overall intention, the results of which will be viewed with interest by all involved in this debate.

The new development centers upon the introduction of a new provision for multinational enterprise (MNE) groups, named the “procedure for cooperation and enhanced collaboration.”

While the Italian media has named the new rule the “Web tax” it does not involve the introduction of a new tax to be levied on taxpayers; rather, it consists of a new voluntary disclosure process designed to aid the taxpayer and the Italian Tax Authority (ITA) reach a conclusion, based upon a joint assessment, as to whether the company has a permanent establishment (PE) in Italy. The process also allows a company to voluntarily disclose the existence of a PE previously not reported.

While the process is voluntary, any decision reached between taxpayer and the ITA is binding upon both parties, and if the taxpayer refuses to sign the settlement agreement, the authorities may proceed with the tax assessment, applying the ordinary penalties. No penalties should apply if a PE is reported and the relevant tax return is filed on time. For the existence of a PE reported in connection with previous financial years which remain open, assessment penalties will apply as described below.

According to legislators, the new provision provides the opportunity for an open discussion between the ITA and large multinational groups doing business in Italy.

The law has now been approved, with full details to be provided within a regulation issued by the Director of the Italian Revenue Agency.

Overview of the rule

An MNE group may file a request with the ITA in order to verify whether business activities carried out in Italy will be considered to lead to the existence of a PE, or to voluntarily disclose the existence of a PE previously not reported. If a PE is deemed to exist, the applicant can define the tax liabilities related to the open fiscal years through a settlement procedure implying the payment of the higher taxes due, interest and reduced tax penalties, but without application of criminal law consequences.

Requirements for admission

MNE groups may access the proposed procedure if the following three conditions are met:

  • Worldwide consolidated annual revenues exceed €1 billion
  • Annual sales in Italy exceed €50 million.
  • The non-resident company has to have availed itself of an Italian company (which will have likely charged a commission fee to the nonresident company for its activity)

Based on the current wording of the rule, MNE groups already under tax audit or inspection in relation to the existence of a PE will not be able to access the procedure.

In general, in the case of assessment of an undisclosed PE, standard tax penalties range from 120% to 240% of the additional taxes due, plus interest for late payment. If a settlement through the above-mentioned procedure is reached:

  • Ordinary tax penalties are reduced to 1/6 of the original amount (the latter being 120% - hence a 20% to 40% penalty)
  • The company also avoids the criminal tax prosecution of its management for the lack of filing of the relevant tax returns

As an additional benefit of reaching such agreement with the ITA, the applicant may also directly access the Italian cooperative compliance regime.

Next steps

Implementing instructions will be provided by the ITA with a separate regulation. In many ways, the law reads like a digital amnesty - which would not be out of keeping with prior experiences in Italy, who have run multiple tax amnesties in the past. But providing such an amnesty opportunity in this new area is interesting - while other countries have introduced DPT or similar measures, Italy is looking for disclosure and settlement.

But of course that asks its own questions – such as “what happens to the corresponding adjustment?" Could this approach drive results for Italy, but with the result of even more upward pressure on things like the Mutual Agreement Procedure?

Taxpayers are advised to assess what impacts the proposed legislation may have in regard to their current business structure and position with the ITA.