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Italian Revenue Agency issues clarifications regarding TP adjustments and DAC6

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Communicating cross-border mechanisms for DAC6 purposes in a TP adjustment

Federico Vincenti and Alessandro Valente of Valente Associati GEB Partners/Crowe Valente describe how cross-border mechanisms for DAC6 purposes would arise in case of a TP adjustment.

On December 31 2021, the Revenue Agency published Resolution No. 78/E (the resolution) through which clarifications were provided with regard to the cross-border mechanisms subject to the reporting obligation following the implementation of the DAC6 Directive in Italy (Legislative Decree 100/2020).

Tax authorities have provided clarifications with reference to the need to communicate the year-end transfer pricing (TP) adjustments carried out in favour of non-resident subsidiaries (so-called TP adjustments) and located in jurisdictions which:

  • Do not impose any income tax or impose a tax close to zero; or

  • Are considered by the EU or the OECD to be non-cooperative.

These would be transactions having certain distinctive elements (Hallmark) C.1.b.1 and C.1.b.2 included in Annex 1 of the Italian legislation that implemented the DAC6. 

In the solution envisaged by the taxpayers that applied for this specific clarification to Italian Tax Revenue Agency, the preparation of TP adjustments should not be relevant, for the purposes of disclosure obligations under DAC6, even if they are made in favour of subsidiaries resident in jurisdictions having the characteristics indicated in the aforementioned ‘distinctive element’. 

The latter because the implementation of TP adjustments takes place through the adjustment of the prices originally applied to the products, with the precise purpose of enabling the subsidiaries to achieve a marginality in line with the arm’s-length principle. For this reason the adjustments should not be qualified as "deductible cross-border payments made between two or more associated companies" within the meaning of Annex 1, letter C, of Legislative Decree No. 100/2020. 

On the other hand, the Italian Tax Revenue Agency, recalling the provisions of Circular No. 2 of February 10 2021, points out that in order for a mechanism to qualify as subject to the reporting requirement, two criteria must be met:

  • Transnationality i.e. the transnational nature of the mechanism; and

  • Distinctive elements, i.e. the existence of at least one of the hallmarks classified in five categories identified with letters from A) to E), provided for in Annex 1 to Legislative Decree 100/2020. 

There are two other criteria referred to within the circular whose application is only required in the presence of certain categories of mechanisms. These are: 

  • (Potential) reduction of the tax due in an EU country or in a third country with which a specific agreement for the exchange of information is in force regarding cross-border mechanisms subject to the notification obligation; and

  • Presence of a principal tax advantage realised by one or more taxpayers in Italy.

According to the circular in order to assess:

  • Whether there was a principal advantage, it is necessary to verify if the tax advantage deriving from the implementation of one or more cross-border mechanisms prevail with respect to the non-tax related advantages; and

  • Whether there was a potential tax reduction, it is necessary to carry out a hypothetical comparison of the tax effects in view of the mechanism, including those deriving from the application of favourable regulations, with the effects that would occur in its absence; 

Moreover, Circular No. 2 of February 10 2021, referred to in the resolution, clarifies that with reference to the:

  • Mechanisms characterised by the distinctive elements referred to in letters A, B, C.1, b) sub 1), c) and d), both the criterion of tax reduction and that of the main advantage must be met; and

  • Mechanisms characterised by distinctive elements pursuant to letters E and C other than those indicated in the previous point, only the tax reduction criteria must be verified. 

Therefore, the resolution clarified that for the obligation to communicate TP adjustment arise, all the elements belonging to category C of Annex 1 must include:

  • Both the criterion of the potential tax reduction and the criterion of the main advantage if the cross-border transactions are carried out with associated companies located in jurisdictions where no corporate income tax is imposed or the corporate income tax rate is zero or close to zero; and

  • Only the criterion of the potential tax reduction if the cross-border transactions are carried out with associated undertakings resident in a jurisdiction considered by the EU or the OECD as non-cooperative.

With reference to the timeline, the resolution highlights that the reporting obligations must be carried out:

  • For the first communication, within 30 days of the day following the day on which the cross-border mechanism was made available to it for the purposes of implementation, or the day on which implementation commenced; and

  • For the following communications, the 30 days deadline start from the date of approval of the financial statements of the parent company which is making the adjustment.

Therefore, only if and when the above conditions are met, the obligation to communicate cross-border mechanisms for DAC6 purposes would arise in case of a TP adjustment.

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