Article 166 of the Italian Income Tax Code (TUIR) on the Exit Tax
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Article 166 of the TUIR, as revised by Legislative Decree No. 142/2018 (implementing the ATAD Directive), governs the tax consequences applicable to corporate taxpayers that are fiscally resident in Italy and undertake - as it may be in the context of a cross border restructuring - an outbound transfer of tax residence, as well as to certain extraordinary cross-border transactions, including the transfer of assets, mergers, demergers, and cross-border contributions.
For the purposes of Italian tax law, companies and commercial entities are considered tax resident in Italy if, for the greater part of the tax period, they have their legal seat (sede legale), effective management (sede di direzione effettiva), or main ordinary management (gestione ordinaria in via principale) within the territory of the State. Consequently, a company loses its Italian tax residence if, for the majority of the tax period, none of these connecting factors are present in Italy.
In essence, such transfers are treated as deemed disposals (deemed realizations) of the business assets at fair market value, resulting in a taxable event that triggers the recognition of any built-in (unrealized) capital gains or losses for tax purposes, unless the assets are allocated to a permanent establishment (PE) located within the territory of Italy. The requirements are set forth under the first paragraph of Article 166. Specifically, these provisions apply in the following situations:
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Italian-resident companies that transfer their tax residence abroad
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Italian-resident companies that transfer assets to their foreign PEs, where the branch exemption under Article 168-ter of the TUIR applies
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Foreign-resident companies with a PE in Italy that transfer the entire PE to the head office or another foreign PE
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Foreign-resident companies with a PE in Italy that transfer assets belonging to the Italian PE to the head office or another foreign PE
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Italian-resident companies involved in cross-border mergers with non-resident companies, demergers in favor of one or more non-resident beneficiaries, or the contribution of a PE or business unit located abroad to a foreign-resident entity
In general, the outbound transfer of tax residence by a commercial enterprise constitutes a realization event for the assets and liabilities that are not allocated to an Italian PE, meaning such assets are treated as if they were sold at fair market value to an unrelated third party, thus crystallizing latent gains or losses.
In the case of an Italian-resident company transferring its tax residence abroad, the taxable gain (or loss) is determined as the difference between the overall fair market value of the relevant assets and liabilities (excluding those allocated to an Italian PE) and their corresponding tax basis (fiscally recognized cost).
The fair market value is determined based on the conditions and prices that would be agreed between independent parties operating under arm’s-length conditions and in comparable circumstances. When the valuation concerns a business as a whole or a business unit, the calculation includes goodwill, which is assessed by considering the functions performed and the risks assumed. For determining fair market value, reference is made to the criteria established under the Ministerial Decree of May 14, 2018, issued pursuant to Article 110(7) of the TUIR (Article 166, fourth paragraph, TUIR).
An important exception is provided under Article 166(1) TUIR, which excludes from immediate taxation those business components that are allocated to an Italian PE, as they continue to be subject to Italian taxation. In other words, the continuation of business operations through a domestic PE by a taxpayer that has shifted its tax residence abroad effectively defers (or “freezes”) the recognition of latent gains or losses embedded in the transferred assets. However, taxation of the related capital gains is ultimately applied if the assets are subsequently removed from the Italian PE or otherwise cease to be subject to Italian taxing rights.
Impact on Shareholders: The transfer of tax residence by a corporation generally has fiscal neutrality for shareholders of capital companies (S.p.A., S.r.l.), but gains may be attributed to partners of partnerships based on the transparency principle if assets are not allocated to an Italian PE