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The application of inheritance and gift tax to trusts: the Italian tax courts rule against the opinion of the tax authorities

  • Author : Emiliano Rossi
  • Date : September 2010

In an article published in Trust Quarterly Review in April 20081, I had commented on the view of the Italian Tax Authorities (Agenzia delle Entrate) in relation to the application of inheritance and gift tax to trusts, as expressed in the official notes known as Circolare 48/E of 6 August 2007 (dealing both with inheritance and gift tax and with income tax) and of Circolare 3//E of 22 January 2008 (providing further insight on certain issues concerning inheritance and gift tax)2.

Since then, various Italian first instance Tax Courts (Commissioni Tributarie Provinciali) have ruled in numerous cases on the application of inheritance and gift tax to trusts. In all cases, the Courts decided in favour of the taxpayer and against the position taken in each case by the Agenzia delle Entrate based on their general view expressed in the two above-mentioned official notes. In their decisions, the Tax Courts have confirmed the wide criticism expressed by most authors and commentators against the position taken by the Tax Authorities.

The purpose of this article is to review the Tax Court decisions in order to highlight the difference between the Courts’ interpretation of the Italian rules on inheritance and gift tax and the interpretation of the Agenzia delle Entrate, which the Courts have considered to be incompatible with the flexible nature of trusts, as well as based on a misconstruction of the relationship between the parties involved in their establishment.

Inheritance and gift tax – the law

With Law 286 of 24 November 2006, Italy has reintroduced inheritance and gift tax3. While reintroducing the tax, the new legislation has redefined the scope of application of inheritance and gift tax and has introduced new tax rates applicable both to gifts and to inheritance.

Law 286 of 2006 provides that inheritance and gift tax apply, other than to donations and other transfers of assets without consideration, also to the setting up of ‘vincoli di destinazione’ on certain assets (i.e. on the creation of encumbrances or other restrictions on the use of the assets for a specific purpose such as, for example, the creation of fiduciary obligations)4.

The applicable tax rates differ, depending on the relationship between the deceased (or donor) and the beneficiary. In particular:

1If the beneficiary is the spouse, a descendant or an ascendant, the rate is 4 per cent and the tax is due only on the asset value exceeding Euro 1m for each beneficiary.2If the beneficiary is the brother or the sister, the rate is 6 per cent and the tax is due only on the asset value exceeding Euro 100,000 for each beneficiary.3If the beneficiaries are (i) other relatives, including uncles, aunts, nephews, nieces and cousins, or (ii) certain relatives by marriage, the rate is 6 per cent and no exemption applies.4If the beneficiaries are other persons or entities, the tax rate is 8 per cent and no exemption applies.

No inheritance or gift tax applies to the transfer from the deceased or from the donor to his or her descendants of a business as a going concern, or of the shares of a company, provided that (i) the transfer allows the descendants to gain control over the transferred business or company; and (ii) the beneficiaries continue to conduct the business, or keep control over the company, for a period of at least five years5.

The view of the Tax Authorities (Agenzia delle Entrate)

As anticipated, The Agenzia delle Entrate has provided its interpretation of the rules on inheritance and gift tax described above in the Circolare 48/E of 6 August 2007 and in the Circolare 3//E of 22 January 2008.

The position of the Agenzia can be summarised as follows6:

5The creation of a trust implies the setting up of a ‘vincolo di destinazione’ relevant to the application of inheritance and gift tax pursuant to Law 286 of 2006.6A trust is a complex structure with a single fiduciary cause or aim. Therefore, all acts implied by the creation of a trust are linked, as they all aim at the fulfilment of the same cause. This consists in providing a benefit to (i.e. enriching) the beneficiaries or – in the case of purpose trusts7 – in fulfilling the purpose of the trust.7Therefore, inheritance and gift tax shall be charged at the time of the establishment of the trust as opposed to when the assets are transferred to the final beneficiaries at the end of the trust, because the final aim of the trust is already pursued by its first act of establishment.8The applicable tax rates7 and tax exemptions shall be based on the relationship between the settlor and the beneficiaries (and not on the one between the settlor and the trustee) while, in purpose trusts, the tax will be in any case due at the highest rate (8 per cent) and without any exemption, as no relationship can be established between the settlor and an existing beneficiary.9The tax shall be charged at the highest rate (8 per cent) also in all cases in which the trust was established in favour of beneficiaries identified only in a generic way and without the possibility of determining their actual relationship with the settlor8; and10If the beneficiaries cannot be identified clearly at the time of the establishment and/or it is not possible to determine what assets shall be distributed to each of the beneficiaries at the end of the trust, it will not be possible to apply a tax exemption9.

This view has been widely criticised by commentators, based on the following main considerations:

11The interpretation of the Agenzia delle Entrate is in breach of the constitutional principle of capacità contributiva10 as, at the time of the transfer of the trust assets to the trustee, no taxable enrichment takes place, while an actual enrichment takes place only when the trust assets are transferred to the final beneficiaries. Therefore, there is no economic justification for the application of the tax at the time of the trust settlement.12The interpretation is also in breach of the constitutional principle of equal treatment of all citizens before the law as, in many cases11, the tax cannot be calculated in its exact amount at the time of the establishment of the trust and this can lead to discrimination. Indeed, if the tax is applied at the time of the trust settlement, it may turn out at a later stage that the tax was actually due at a lower rate and that an exemption should have been granted in the specific case.13Discrimination may be avoided only by applying inheritance and gift tax when each beneficiary is identified with certainty and the value of trust assets to be distributed to each beneficiary is finally determined.14Certain kinds of trusts do not imply the enrichment of a beneficiary without consideration, so that gift tax should not be applied to these cases. Also, no taxation should be applied to purpose trusts as, in this case, there is no beneficiary whose assets are increased at the end of the trust.
The Tax Court cases

I will now review the decisions of the Italian first instance Tax Courts that have dealt with the application of inheritance and gift tax to trusts after the publication of Circolare 48/E of 6 August 2007 and of Circolare 3//E of 22 January 2008.

The first relevant decision is the one of the Commissione Tributaria Provinciale of Lodi of 2 January 200912, which dealt with the question of whether all kind of trusts trigger the application of inheritance and gift tax or rather whether certain kinds of trust are outside its scope of application.

The case related to a trust set up on 5 November 2007 by a limited liability company, which transferred to the trustee all of its assets, in order for the trustee to liquidate the company in the interest of creditors and shareholders.

The Agenzia delle Entrate, based on the Circolare 48/E of 6 August 2007, argued that (i) gift tax was due on the transfer of assets to the trustee, and that (ii) the tax was payable at the highest rate (8 per cent) because there was no relationship between the settlor (i.e. the company) and the beneficiaries (i.e. the company’s creditors) which implied a reduction of the tax rate under Law 286 of 2006.

The taxpayer13 claimed before the Court that the setting up of this specific trust did not constitute a ‘vincolo di destinazione’ relevant to gift tax, as the trust was established in order to liquidate a company and not for the purpose of enriching, without consideration, any beneficiary.

The Court ruled that Law 286 of 2006 does not expressly mention trusts among the acts that create a ‘vincolo di destinazione’. Therefore, the applicability of inheritance and gift tax to trusts must be determined on a case-by-case basis, taking into consideration both the actual ‘nature’ of the specific trust and the ‘effects’ produced by it.

In the specific case, the trust was aimed at liquidating the settlor’s assets and was not aimed at enriching any beneficiary without consideration. Therefore, it was not creating any ‘vincolo di destinazione’ relevant for the application of inheritance and gift tax14.

Therefore, according to the Commissione Tributaria Provinciale of Lodi, contrary to what was stated in the two Circolari of the Agenzia delle Entrate, not all trusts indistinctly trigger the application of inheritance and gift tax. On the contrary, those trusts that serve purposes different from the enrichment of the beneficiaries without consideration, fall outside of its scope of application.

The second relevant decision was issued by the Commissione Tributaria Provinciale of Florence n.30 on 12 February 200915, and deals with the question of whether inheritance and gift tax shall be levied on the trust at the time of its establishment or rather at the time of the transfer of the trust assets from the trustee to the final beneficiaries at the end of the trust.

The case related to a trust set up on 13 February 2008, whereby the settlor transferred to the trustee a real estate property located in Italy. The Trust deed provided that, at the end of the trust, the property was to be transferred to the closest surviving relative of the settlor among a group of persons indicated in the trust deed.

The Agenzia delle Entrate, based on the Circolari n. 48/E of 6 August 2007 and n. 3/E of 22 January 2008, argued that (i) gift tax was due on transfer of the real estate property from the settlor to the trustee, considering that the purpose of the trust (the enrichment of the beneficiaries) was already realised at the time of the trust settlement, and that (ii) the tax was payable at the 6 per cent rate, based on the family tie existing between the settlor and the possible final beneficiaries.

The taxpayer16 challenged the payment order issued by the Agenzia, by claiming that (i) trusts aimed at enriching the beneficiaries without consideration can be qualified, in substance, as indirect donations from the settlor to the beneficiaries, (ii) the trustee is the mere executor of the trust programme; (iii) it must be excluded that the trustee is taxable for this indirect donation to the beneficiaries and the transfer from the settlor to the trustee is neutral from a tax perspective, and (iv) only when the trustee will transfer the assets to the final beneficiaries, the application of gift tax will be justified, as only the beneficiaries have a capacità contributiva in this respect.

The Commissione Tributaria Provinciale of Florence, in line with the Court of Lodi, ruled that, as of today, there is no provision in the legislation on inheritance and gift tax that expressly applies this tax to trusts. Therefore, inheritance and gift tax can be applied to a trust only if it is possible to consider that the specific trust implies the setting up of a ‘vincolo di destinazione’ relevant under Law 286 of 2006.

Moreover, Law 286 of 2006 provides that a ‘vincolo di destinazione’ is relevant for the application of inheritance and gift tax only if it is set up‘in favour’ of a third beneficiary. Therefore, a ‘vincolo di destinazione’ is irrelevant from a tax point of view if it does not consist in a transfer of assets in favour of a third beneficiary with the result of enriching said beneficiary. As long as the assets remain in the trust, the final beneficiaries have only an expectation of receiving the trust assets in the future, so that their position is that of a person whose right is subject to a condition precedent.

In conclusion, the Court ruled that the transfer of assets from the settlor to the trustee is neutral from the point of view of inheritance and gift tax. Only if and when the trust assets are transferred to the final beneficiaries, will inheritance and gift tax be payable.17

The following relevant decision on the application of inheritance and gift tax to trusts is the one of the Commissione Tributaria Provinciale of Caserta n. 481/15/09 of 11 June 200918, also dealing with the question of whether inheritance and gift tax shall be charged at the time of the transfer of the assets to the trustee or rather at the time of the transfer from the trustees to the beneficiaries.

The case related to a trust established by a company in order to carry out a specific business project. At the end of the trust, the assets would be transferred to certain identified beneficiaries.

The Agenzia delle Entrate argued that gift tax was applicable to the transfer of assets from the company to the trustee at the 8 per cent, rate, based on the principles expressed in the two above-mentioned Circolari. In the opinion of the Agenzia, the establishment of the trust shall, in all cases, be qualified as the creation of a ‘vincolo di destinazione’, irrespective of the kind of trust, due to the patrimonial nature of the transfer to the trustee.

The taxpayer19 claimed that the establishment of a trust for a specific business project fell within the business scope of the company and was not an act aimed at enriching a beneficiary without consideration. Therefore, only when the trustee transfers the assets to the beneficiaries at the end of the trust, may the tax become payable.

Also in this case, the Court ruled that, due to the absence of any provision specifically applying inheritance and gift tax to trusts, it is necessary to verify case by case whether the specific trust falls within the definition of ‘vincolo di destinazione’ established ‘in favour’ of a third beneficiary. The Court concluded that the transfer of assets to the trustee was not a final transfer to the beneficiaries, whose position was comparable to a right subject to a condition precedent, so that gift tax was not due at this stage.

The last relevant decision on the subject was issued by the Commissione Tributaria Provinciale of Bologna on 30 October 200920.

The case related to a trust created on 27 February 2008 by the prospective seller and by the prospective purchaser of two watercolours for the purpose of ensuring that, for the duration of the trust and until 31 March 2008 (or until an earlier date, should the prospective seller find a purchaser for a higher price within that date), the two watercolours and the sum offered by the prospective purchaser would remain segregated as a guarantee of the correct performance of the agreement for the sale and purchase of the watercolours executed between the two settlors.

The Agenzia delle Entrate deemed that the transfer to the trustee of the two watercolours and of the prospective price was subject to 8 per cent gift tax and claimed before the Court that the tax was due immediately because the precondition for the application of the tax was not the intention of the settlor to enrich a beneficiary but solely the transfer of the assets to a trustee in order for him to manage them in the interest of a beneficiary or for a specific purpose.

The Court again stated that it is necessary to verify case by case – based on the actual ‘nature’ of the trust and on its ‘effects’ – whether the specific trust falls within the definition of ‘vincolo di destinazione’ established ‘in favour’ of a third beneficiary.

Also in this case, the Court held that the beneficiaries only had a conditional right to receive the trust assets at the end of the trust, so that gift tax was not payable on the transfer of the assets to the trustee while only registration tax was due in the fixed amount of Euro 168.

Moreover, in the specific case, the ‘nature’ and the ‘effects’ of the trust were deemed to be different from the creation of a ‘vincolo di destinazione’ in favour of a third beneficiary. The trust was indeed created for the sole purpose of establishing a mutual guarantee between the settlors and was not aimed at enriching the settlors/beneficiaries without consideration. Therefore, gift tax would not be due even on the final transfer of the assets from the trustee to the settlors/beneficiaries.

Conclusion

It is clear from the above that the Italian first instance Tax Courts that have dealt with the matter of the application of inheritance and gift tax to trust have fully contradicted the opinion of the Agenzia delle Entrate as outlined in Circolare 48/E of 6 August 2007 and of Circolare 3//E of 22 January 2008, which has been deemed to be based on principles that are excessively rigid and, therefore, incompatible with the flexible nature of trusts:

In particular, all Courts have consistently stated the following two fundamental principles:

15Trusts do not necessarily create a ‘vincolo di destinazione’ relevant for the application of inheritance and gift tax under Law 286 of 2006. Therefore, the assessment of whether the tax is applicable or not, must be made on a case-by-case basis, taking into consideration the actual ‘nature’ of each trust and its specific ‘effects’. In particular, it must be determined whether the specific trust is aimed at enriching a beneficiary without consideration or not.16In any case, also when the ultimate purpose of the trust is to enrich the final beneficiary without consideration, the transfer of the assets from the settlor to the trustee does not trigger the application of inheritance and gift tax. Indeed, a ‘vincolo di destinazione’ is relevant for the application of the tax only if it is established ‘in favour’ of a third beneficiary. Normally, when the trust assets are transferred to the trustee, the final beneficiaries have only a conditional right or expectation to receive the trust assets at the end of the trust and inheritance and gift tax will be due only when the condition is fulfilled and the final transfer form the trustee to the beneficiaries takes place.

Given the above, it would be advisable that the Agenzia delle Entrate review its position in the light of the decisions of the Tax Courts, which appear to interpret the actual ‘nature’ of trusts and their ‘effects’ in a more correct and less superficial manner.

Nevertheless, it is reasonable to expect that the Agenzia, instead of reviewing its position in the near future, will appeal the Court decisions and wait for the higher Courts to pronounce judgment on the matter, which will take some time to happen.

It would, therefore, be preferable that the uncertainty created by this clash of opinions between the Agenzia delle Entrate and the Tax Courts be resolved by the Legislature, which should provide clarification of this intricate dispute. Nevertheless, as of today, to my knowledge, the issue has not been brought to the attention of the Italian Parliament.

It is, therefore, likely that this state of uncertainty will last until the highest Tax Courts decide on the issue and possibly cause the Agenzia delle Entrate to reconsider the Circolari n. 48/E and n. 3//E.

Emiliano Rossi is a Senior Associate at Pavesio & Associati, Turin

See the article by the present author ‘Recent clarifications of the Italian tax authorities on the tax treatment of trusts: inheritance and gift tax and income tax’ Trust Quarterly Review, Volume 6 Issue 2 (2008) p15. For further information on the same subject, see the article by the present author ‘The reintroduction of inheritance tax and gift tax in Italy: the consequences for trusts’ Trust Quarterly Review, Volume 5 Issue 2 (2007) p12, which provided a first comment on the consequences for trusts of the reintroduction in 2006 of inheritance and gift tax in Italy, prior to the issue of Circolare 48/E of 6 August 2007 and of Circolare 3//E of 22 January 2008.
A Circolare of the Agenzia delle Entrate is a circular note issued by the Tax Authorities expressing their official interpretation of the tax legislation. The Circolare is not binding and any decision or act of the Authorities based on the interpretation expressed in the Circolare may be challenged by the taxpayer before the Tax Courts. Nevertheless, the opinions contained therein are of great importance in tax planning as they allow the taxpayer to know in advance the position that the tax authorities will most probably keep in his specific case. The Supreme Court of Cassation, with the decision of its Joint Divisions n. 23031of 2 November 2007, has ruled that a Circolare of the Agenzia delle Entrate is purely an ex parte opinion and is not binding on the taxpayer.
The inheritance and gift tax had been repealed in 2001 and was not applicable in Italy until the issue of Law 286 of 24 November 2006.
As explained below, the concept of creation of a ‘vincolo di destinazione’ has been deemed to cover also the establishment of a trust, with the consequent application of inheritance and gift tax also to trusts.
This rule was introduced by Law 27 December 2006, n. 296 (the 2007 Budget Law). Later on, Law 24 December 2007, n. 244 (the 2008 Budget Law) added that this rule shall apply also to the transfer of a business or a company to the spouse.
For more details on this point, see the article by the present author ‘Recent clarifications of the Italian tax authorities on the tax treatment of trusts: inheritance and gift tax and income tax’ Trust Quarterly Review, Volume 6 Issue 2 (2008) p15.
As explained above, the rates differ on the basis of the relationship between the donor and the beneficiary.
See, for example, the case of a trust where the settlor reserved to himself or gave to the trustee or to the protector the power to choose the final beneficiaries from a list or a given category.
See, for example, the case of a trust whereby the settlor provided in the trust deed that the final beneficiaries should be his surviving descendants at the end of the trust. In such case, clearly the reduced 4 per cent rate would be applicable but it would be impossible to determine the applicable tax exemptions until the end of the trust, because only in that final moment the exact number of the beneficiaries and the exact assets to be distributed to each of them would emerge.
According to this principle, a tax can be charged only if is has a clear economic justification. For more information on this point, see the article by the present author mentioned in n. 1 above.
See, for example, the cases mentioned in nn. 9 and 10 above.
The decision of the Commissione Tributaria Provinciale of Lodi of 12 January 2009 was published in Trusts e Attività Fiduciarie, May 2009, 296.
In this case, the order of payment of the Agenzia delle Entrate was challenged by the Public Notary who had notarised the deed of transfer of the assets from the company to the trustee, as he was co-responsible for the payment of the tax pursuant to art. 10 and 57 of the Registration Tax Act (TUIR) (Decree of the President of the Republic, 26 April 1986, n. 131.
The Court stated that the absence of a ‘vincolo di destinazione’ could also be inferred from the fact that the trustee had wide discretionary powers in deciding how to liquidate the company. Nevertheless, this reason appears to be less substantial and has not been taken into consideration in the following Court decisions that have dealt with the matter.
The decision of the Commissione Tributaria Provinciale of Florence of 12 February 2009 was published in Trusts e Attività Fiduciarie, July 2009, 425.
Also in this case, the order of the Agenzia delle Entrate was challenged by the Public Notary involved in the transfer of the real estate property from the settlor to the trustee.
The Court concluded that, in the specific case, only the registration tax, the cadastral tax and the land registry tax were due on the transfer of the assets to the trustee in the fixed amount of Euro 168 each, based on art. 58 of D. Lgs. [Legislative Decree] 31 October 1990, n. 346 (Inheritance and Gift Tax Act) and on art. 27, 1° and 2° paragraph, of D.p.r. [Decree of the President of the Republic] 26 April 1986, n. 131 (Registration Tax Act). The same principle has been applied by the Commissione Tributaria Provinciale of Treviso in the decisions n. 47/1/09 and 48/1/09 of 30 April 2009 which related to the application of cadastral tax and land registry tax to the transfer of a business going concern, including a real estate property, to a trustee for the purpose of guaranteeing the going concern’s creditors. The Court ruled that cadastral tax and land registry tax had to be charged on the transfer to the trustee of the real estate property only in the fixed amount of Euro 168 each and not in the proportional amount generally due on the final transfer of real estate properties. This was due to the fact that the full and final transfer of the property in favour of the beneficiaries would take place only when the trustee would transfer the trust assets to the final beneficiaries. Until then, the transfer had to be considered as an indirect donation subject to a condition precedent. The decisions were published in Trusts e Attività Fiduciarie, January 2010, 73.
The decision of the Commissione Tributaria Provinciale of Caserta of 11 June 2009 was published in Trusts e Attività Fiduciarie, January 2010, 71.
Also in this case, the payment order was challenged by the Notary Public involved in the transaction (see nn. 14 and 17 above).
The decision of the Commissione Tributaria Provinciale of Bologna n. 120/02/09 of 30 October 2009 was published in Trusts e Attività Fiduciarie, March 2010, 177.

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