On 26 January 2022, the Italian revenue agency published circular letter no. 2 concerning the tax discipline of the so-called "hybrid mismatches". The document analyses the provisions contained in the Articles 6 to 11 of the Legislative Decree 142/2018.
The circular examines, in Para. 1, the notion of "hybridism” which is essentially linked to financial instruments, direct and reverse hybrid entities, as well as permanent establishments.
With particular reference to financial instruments, hybrid financial instruments, hybrid transfers, as well as substitute payments of financial returns are analysed.
Para. 2 of the circular also examines the main profiles of the legislation at stake and, therefore, in addition to the subjective scope of application, the notions of mismatch, double inclusion income, hybrid entity, associated company, etc.
There follows an examination of the prevention rules (which operate ex ante) and the "reaction" rules (Paragraphs 3 and 4 of the circular), which operate on the occurrence of certain situations (double deduction, deduction without inclusion, transactions between companies associates, disregarded permanent establishments, etc.).
The prerequisites necessary for the use of the reaction rules are those provided for by Legislative Decree 142/2018, and therefore:
- the presence of a mismatch, i.e. an effect of double deduction (D/D) or deduction without inclusion (D/NI);
- the presence of a hybrid cause;
- the subjective element, i.e. the fact that the mismatch occurs between associated companies, between a taxable person and an associated company, between the head office and the permanent establishment, between two or more PEs, or still within a "structured arrangement" to which the taxable person is a party.
Para. 5.2 of the circular is dedicated to mismatches arising from tax residence which, pursuant to Article 10 of the Legislative Decree 142/2018, come into existence when a taxable person is also resident in more than one state, and a cost is deductible in one state without being offset by a double inclusion income in the other state of residence.
Some procedural provisions on the investigation activities of the tax authorities and some coordination profiles with the provisions of the Italian corporate income tax code are then examined, in particular in connection with interest expense. The Italian revenue agency states that the "reaction rules" should be applied as a matter of priority with respect to Article 96 of the Italian corporate income tax code, as the former operate directly on individual negative income components, neutralising the effects of hybrid mismatches and, therefore, affecting the amount of potentially deductible interest expenses
Furthermore, the agency states that the rules on mismatches are applied both for the purpose of verifying the condition of application of the CFC discipline (ETR test), and for the purpose of determining the income of the foreign subsidiary, to be attributed to the Italian shareholder by way of a look-through approach.
Finally, the examination of the revenue agency completes a review of the main cases of transactions and arrangements that fall within the scope of the aforementioned provisions
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