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Issue # 4 - May 23, 2005



I. General rules.

Income from real estate property located in Italy is Italian source income and is taxable to foreign investors. Taxable income includes a notional amount of rental income imputed by law (so called rendita catastale), in case of non rented property, or the actual amount of gross rents derived from the property reduced by 15 or 25 per cent as flat allowance for costs and expenditures, in case or rented property, as well as gains from the sale or disposition of real property. Source country tax on gains from the sale or disposition of real estate property typically is not sheltered under income tax treaties. Foreign taxpayers earning Italian source real estate income are obliged to file an income tax return in Italy reporting this income and are taxed at the ordinary statutory rates on it. Any disposition of Italian real estate property is also subject to registration tax at rates varying from 4 to 15 per cent of the sale price or the fair market value of the property transferred, depending on the type of property or rights transferred.


1. Overview.

To reduce the cost and administrative burden associated with taxation of income from real estate investments in Italy, investors may invest through special funds (fondi comuni di investimento immobiliare, or real estate investment funds - REIFs), whose purpose is to invest directly or indirectly in real property. The REIFs regime was introduced at the beginning of the 1994 for the most immediate purpose of allowing Italian government to dispose of its real estate patrimony. The legislation relating to REIFs has undergone several changes since that date, both from a tax and non-tax point of view, and at the end of 2003 the tax regime of REIFs has been amended in order to render it more attractive both to domestic and foreign investors. A REIF is best described as a non-tax-transparent vehicle investing exclusively or predominantly in immovable assets, rights in immovable assets and stock in real estate companies. The REIF is not a legal entity. From a technical standpoint, it is considered as a pool of investments held jointly by the investors who hold units of the fund representing their respective shares of the fund’s total assets and investments. The special regime applies to funds set up in Italy as REIFs and complying with all applicable Italian regulations set forth for REIFs. The REIF is managed by a managing company organized in the form of Società di gestione del risparmio - SGR, which is a special entity contemplated for management of investment funds and governed by specific rules.

2. Tax Treatment of REIFs.

REIFs have no statutory obligation to distribute their profits during their lifetime. However, REIFs are obliged to distribute all the proceeds derived from their activities at the end of their duration. REIFs are totally tax exempt. Rents and gains from the sale and disposition of REIF's assets are not taxable to the REIF. Income received by the REIF in form of interest on bank deposits or accounts, short sale or sale and repurchase of financial instruments and loan of financial instruments is not subject to withholding tax. Other types of investment income received from REIFs is subject to withholding tax as final levy. REIFs are not subject to IRAP and are entitled to recover the VAT charged on asset purchases from the VAT due on the assets sales.

3. Tax Treatment of Unit-Holders.

A 12.5% withholding tax on profits distributed by the REIF is withheld by the SGR. For these purpose, distributed profits include both distributions of money or other property made by the fund during its lifetime and the difference between the official value of fund’s units upon redemption or liquidation and the official value of the units at the time of acquisition or subscription.

Domestic corporate unit-holders include the profits distributed by REIFs as well as the gains realized from the sale or disposition of the units in the REIF in their corporate income tax base and are taxed at the ordinary rates. The 12.5% withholding tax withheld by the SGR can be credited against the final tax liability. The return of capital is a nontaxable event.

For domestic individual unit-holders the 12.5% withholding tax applied by the SGR represents a final levy. If the units are transferred to third parties instead of being redeemed or reimbursed on liquidation, capital gains from the sale or disposition of the units are subject to a flat rate capital gain tax of 12.5%. The return of capital is a nontaxable event.

Foreign unit-holders (both individuals, partnerships or corporations) are subject to the 12.5% withholding tax applied by the SGR on the profits distributed by REIFs. However, (i) foreign investors who are resident in countries that provide for an adequate exchange of information with the Italian tax authorities, and (ii) foreign institutional investors are exempt from the withholding tax. Countries that provide for an adequate exchange of information are enumerated in a specific list updated from time to time by the Italian tax authorities (the so called white list). In order to benefit from the exemption, foreign unit-holders must submit proper documentation to the Italian tax authorities that sufficiently proves that they are resident in a white list country and that they are the beneficial owners of the income received from the REIF. Residence is established on the basis of foreign country’s law. Foreign institutional investors include foreign private equity investments funds, wherever organized either in form of corporation, partnership or trust. In this case, residence and beneficial ownership are determined with reference to the fund, even if this is a tax transparent entity as a matter of foreign tax law, provided that it has not been established just for the purpose of avoiding the withholding tax on the REIF’s income. Capital gains realized by a foreign unit-holders on the sale or disposition of the unit of the REIF are subject to a capital gain tax of 12.5%. However, (i) if the units are traded in an established securities market, or (ii) the unit-holder is a resident of a country that allows an adequate exchange of information with the Italian tax authorities, or (iii) the unit holder is a foreign institutional investor, the withholding tax does not apply. The above illustration of the concepts of resident of a country that allows exchange of information and foreign institutional investors applies similarly also in this context. A foreign partnership or trust is treated as a non-transparent entity for the purpose of determining whether the 12.5% withholding tax or capital gain tax is due or not. Therefore, the exemption applies on the basis of the residence of the partnership or trust and not on the basis of the residence of its partners or beneficiaries.


Under IRC section 965, if several requirements are met certain dividends received by a U.S. corporation from foreign subsidiaries are eligible for an 85% dividend-received deduction (and taxed to the US parent at an effective rate of 5.25%). The essential requirement to benefit from the deduction is that the payment from the foreign subsidiary to its US parent is classified as a dividend for US tax purposes. No foreign tax credit (or deduction) is allowed to the US parent for foreign taxes attributable to the deductible portion of an eligible dividend. The ability of a U.S. corporation to repatriate foreign earnings with the benefit of the deduction may be limited by local tax and corporate law restrictions with respect to distributions to the US parent. We briefly address the issues that may arise as a matter of Italian law with respect to three basic situations: a straight cash dividend from the Italian subsidiary to its U.S. parent, a triangular distribution of cash equivalents from the Italian subsidiary to its U.S. parent, and an inbound liquidation of the Italian subsidiary into the U.S. parent triggering the inclusion of section 1248 amount under section 367(b).

1. Cash dividend.

From a general, Italian corporate law point of view there must be profits or capital reserves available for distributions. From a tax standpoint, a cash dividend would be subject to a 27% withholding tax, reduced under the treaty (5-15 per cent depending on the percentage of stock owned by the U.S. parent) and the EU parent-subsidiary directive (to zero). Distributions in redemption of stock (either pro rata or disproportionate) or in liquidation (either partial or total) would be treated as dividends to the extent that they come from the distributing corporation’s E&Ps. If there are E&Ps for U.S. purposes but there are not E&Ps for Italian tax purposes, amounts distributed out of capital or non-profit reserves either in a current or liquidating distribution would be treated as a nontaxable return of capital that reduces the shareholder’s adjusted tax basis in the stock. Any amount exceeding the shareholder’s adjusted tax basis of the stock would treated as a capital gain and would be exempted from tax if the requirements for the application of the participation exemption rules are satisfied. Dividends paid to an Italian branch of the U.S. parent would not be subject to withholding tax but would be treated as income attributable to the branch subject to tax in Italy on a net basis. However, 95% of the amount of such dividends would be excluded from the taxable income of the U.S. parent’s Italian branch under the Italian participation exemption rules. The subsequent transfer of the cash from the Italian branch to the U.S. parent would have no tax consequences in Italy.

2. Cash equivalents.

If there is no cash available for distribution the Italian subsidiary may be directed by its US parent to liquidate cash equivalents by selling them to a third party and distribute the cash to its U.S. parent, and the U.S. parent may temporarily invest the cash on equivalent securities. In this case, any capital gain realized from the sale of the cash equivalents would be taxable to the Italian subsidiary, unless the cash equivalents are shares of stock or participating financial instruments treated as stock and qualify for the exemption under the Italian participation exemption rules.

3. Liquidation.

Liquidation is a taxable event at the level of both the shareholders and the liquidating company. Therefore, the Italian liquidating subsidiary would be taxable on any gain realized upon the distribution of its assets to the U.S. parent. Cash or other property distributed to the U.S. parent would be treated as a dividends and therefore would be subject to withholding tax, to the extent of the liquidating subsidiary’s E&Ps. Cash or other property distributed to the U.S. parent exceeding the Italian subsidiary’s E&Ps would be treated as a tax free return of capital, to the extent of the U.S. parent’s adjusted tax basis in the subsidiary’s stock, and as a capital gain for any excess, taxable in Italy at the ordinary rates.


A massive set of final, proposed and temporary regulations under IRC section 1446 was released on May 13, 2005 and published in the Federal Register on May 18, 2005. The regulations contain new rules that apply to the withholding taxes to be collected by U.S. and foreign partnerships with respect to foreign partners’ allocable share of partnership’s income effectively connected with a U.S. trade or business. They include specific rules for publicly traded and tiered partnerships. The final regulations are effective for partnership taxable years beginning after May 18, 2005 (but the partnership may elect to apply them to taxable years beginning after december 31, 2004).


The IRS has issued proposed regulations revising the existing regulations on the treatment of dual consolidated losses under IRC section 1503(d). The general purpose of the rules is that of preventing cross border tax arbitrage transactions as a result of which the same losses can be used to reduce the taxpayer’s taxable income in two different jurisdictions. The proposed rules do not have retroactive effect and will apply to dual consolidated losses incurred in taxable years beginning after the date on which the proposed regulations are published as final regulations.

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NEW YORK | 45 Rockefeller Plaza, Suite 2000 | New York NY 10111 (USA) |

LOS ANGELES | 9595 Wilshire Blvd, Suite 900 | Beverly Hills CA 90212 (USA) |

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