Sham trusts
'Look-through' rule

On December 27 2010 the tax authorities issued Circular 61/E, which provides further details on the Italian tax treatment of trusts. The circular focuses mainly on when an instrument is considered a 'sham' trust and must be disregarded for income tax purposes - that is, when it may not be considered a separate taxable entity in accordance with Article 73 of the Consolidated Tax Act.

Sham trusts

Since the ratification on October 16 1989 of the Hague Convention on the Law Applicable to Trusts and on their Recognition, trusts have been considered to be consistent with the Italian legal system, provided that they comply with the requirements of the convention.

The convention makes the following main stipulations:

  • Trust assets must be truly separated - or segregated - from the assets of the settlor, the trustee and the beneficiaries;
  • Title to trust assets must be in the trustee's name; and
  • The trustee must have the power and duty - for which he or she is accountable - to manage, employ or dispose of the assets in accordance with the terms of the trust and the special duties imposed on a trustee by law, although the reservation by the settlor of certain rights and powers is not necessarily inconsistent with the existence of a trust.

The circular states that if these requirements are not met, the trustee is not in a position fully and effectively to administer, manage and dispose of the trust's assets, as he or she is controlled directly or indirectly by the settlor or by other parties. In these circumstances, the trust is disregarded for tax purposes and trust income is taxed in the hands of the settlor according to the ordinary rules. In other words, the trust is a sham and could be seen as a settlor's nominee construction.

The tax authorities have drawn up examples of circumstances in which a trust is not recognised for tax purposes; some of these cases were previously listed in Circular 43/2009, but others are new. In particular, the authorities consider a trust to be void for tax purposes where:

  • the trustee must take into consideration the settlor's guidelines in respect of the management of the assets and the trust income;
  • the settlor maintains direct or indirect authority to change the beneficiaries during the lifetime of the trust;
  • the settlor can assign trust income and assets or grant loans to beneficiaries which the settlor is empowered to appoint; and
  • the settlor or the beneficiaries can otherwise restrict or impose conditions on managerial and administrative power over the trust.

Additional examples are included in the circular.

'Look-through' rule

Law 296/2006 amended Article 73 of the act, providing for resident and non-resident trusts to be expressly subject to corporate income tax. On August 6 2007 the authorities issued Circular 48/E, which sought for the first time to clarify the application of the new provisions concerning the tax treatment of trusts for direct as well as indirect tax purposes.

Trusts are generally liable to corporate income tax if they are:

  • resident trusts whose main or exclusive purpose is to carry out a business activity;
  • resident trusts which do not have as their main or exclusive purpose the carrying out of a commercial activity; or
  • non-resident trusts that are subject to tax only on income produced in Italy.

For the sake of simplicity, this update considers a 'trust liable to corporate income tax' to be a discretionary and irrevocable trust.

According to Circular 48/E, if beneficiaries are appointed in the trust deed and are entitled (ie, they have a specific right) to benefit from any income deriving from the fund, a look-through rule will apply - thus, the trust is deemed to have identified beneficiaries.

The rule provides that, in principle, an identified beneficiary of a trust is entitled to benefit from the trust income. Such income is then subject to tax in the beneficiary's hands as personal income, by means of a transparent taxation method; consequent cash distribution out of the trust fund in favour of the (already taxed) beneficiary is irrelevant. Income attributed to a beneficiary under the rule is regarded as income from capital according to Article 44(1)(g)(6) of the act.

The feasibility of the look-through rule does not affect the nature of a discretionary and irrevocable trust. Otherwise, if the trust does not qualify as a look-through entity, its income is taxed in the hands of the trust itself.

However, the new circular appears to change some of the interpretations provided by Circular 48/E. The tax authorities have sought to widen the class of identified beneficiaries that can trigger the look-through taxation of a trust - specifically, the mere appointment of a beneficiary in the trust deed would trigger its identification and the application of the look-through approach. However, some may argue that from a trust law perspective, this interpretation by the tax authorities is inconsistent with the fact that an actual right in the trust's fund income is not recognised in the hands of the beneficiaries (to the extent that a discretionary and irrevocable trust is in place).

In order to broaden the taxable base of such a trust in Italy, the authorities maintain that:

  • resident beneficiaries of non-resident trusts, where they are taxed on a look-through basis, are subject to tax on all income wherever it is generated; and
  • income derived by non-resident beneficiaries of a resident trust is always subject to tax in Italy, notwithstanding the fact that the trust is considered as a separate taxpayer or the potential applicability of the look-through approach. This is a material exception from the general principles of Article 23, whereby Italian source income is taxable within the Italian territory only when paid.


The view taken by the tax authorities in the new circular has been strongly criticised by most tax experts, since it derives from a misleading interpretation of provisions regulating trust taxation and does not take account of general principles of Italian income tax law.

For further information on this topic please contact Marco Abramo Lanza, Simona Zangrandi or Franco Pozzi at Studio Legale Tributario Biscozzi Nobili by telephone (+39 02 763 6931), fax (+39 02 780 146) or email ([email protected], [email protected] or [email protected]).