What do you mean by permanent establishment?
The term “permanent establishment” means a fixed place of business through which a non-resident enterprise carries on business, wholly or partly, within the territory of the State.
In Italy, a permanent establishment is one of the available solutions to do business in the Country (usually what you’d call a branch in Italy). Further below we are going to cover the definition of permanent establishment in Italy, what creates (and what does not) PE in Italy, as well how its taxation works.
If you are looking for further details on how to open a business in Italy, you might be interested in our broader guide on how to set up a company in Italy.
Permanent establishment definition in Italy
The Italian definition of PE is provided in Article 162 of the Income Tax Code in its most recent version. It is substantially aligned with Article 5 of the OECD Convention, which outlines the definition of a permanent establishment at an international level.
Italian tax law considers two distinct scenarios:
- the activity carried out in Italy by a foreign economic operator by means of a series of material assets, organized by the foreign operator (Material or Direct Permanent Establishment);
- the presence of a natural or legal person who habitually negotiates, defines and concludes contracts in the name of the foreign enterprise (Personal or Indirect Permanent Establishment).
In the context of the Budget Law 2018, a new hypothesis of Permanent Establishment in Italy has been introduced. This can be defined as Immaterial or Digital Permanent Establishment, meaning a significant and continuous economic presence in the territory, without having a physical presence in it.
Material and Digital Permanent Establishment
Paragraphs 2 and 3 of Article 162 of the Italian Tax Code list a number of hypotheses that are eligible to constitute a permanent establishment (the so-called positive list).
However, it should be noted that the list is not exhaustive. In fact, it is always possible for the tax authorities to prove that a fixed place of business not included in those expressly indicated constitutes a permanent establishment.
What creates a material or digital permanent establishment?
- Branch Office;
- Mines, deposits, quarries and other places of extraction of natural resources;
- Significant and continuous economic presence without physical structure;
- Construction or assembly sites with a duration of more than three months.
What is not a material or digital permanent establishment?
Paragraph 4 of Article 162 provides a list of hypotheses that, similarly to the OECD model, are considered irrelevant for the purposes of the existence of a permanent establishment (the so-called negative list):
- the use of facilities solely for the purpose of storage, display, or delivery of goods or merchandise belonging to the enterprise;
- the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display, or delivery;
- the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise;
- the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise, or for collecting information, for the enterprise;
- the availability of a fixed place of business used solely for the purpose of carrying on any other activity for the enterprise;
- the availability of a fixed place of business used solely for the purpose of the combined exercise of the activities mentioned in the above subparagraphs.
The common feature of the various hypotheses listed is their preparatory or auxiliary function with respect to the company’s main activity, on the assumption that only the latter is liable to be considered a permanent establishment.
These activities are no longer considered to be excluded, if a fixed base used by an enterprise or an enterprise “closely related”:
- carries on its activity in the same place or in another place constituting a fixed establishment;
- where the activity resulting from the combination of the activities of the two enterprises, in the same place or in two different places, is not of a preparatory or auxiliary nature.
This rule is generally referred to as the anti-fragmentation rule. It aims to prevent any attempt by multinational enterprises to avoid the permanent establishment status, by fragmenting a unitary business into several smaller units, whose activities could be considered auxiliary if individually considered.
Personal Permanent Establishment
In addition to a “material presence”, a permanent establishment may also be found solely in a person (natural or legal), if certain requirements are met. This happens in the presence of persons who have and habitually exercise the power to represent the foreign enterprise in the country.
What creates a personal permanent establishment?
Paragraph 6 of Article 162 provides the definition of “dependent agent“, who is deemed to be a PE if:
- acts within the territory of the State on behalf of a non-resident enterprise;
- habitually concludes contracts or acts for the purpose of concluding contracts without substantial modification by the enterprise;
- the contracts are:
- concluded in the name of the enterprise, or
- concerning the transfer of ownership, the granting of the right to use, or the transfer of goods of the enterprise or which the enterprise has the right to use, or
- relating to the provision of services by the enterprise.
What is not a personal permanent establishment?
The dependent agent does not constitute a permanent establishment if the activity carried out is limited to the performance of the activities listed in the negative list (paragraph 4 of Article 162) and has a preparatory or auxiliary nature.
In addition, paragraph 7 of Article 162 provides the definition of an independent agent, which does not constitute a permanent establishment of a non-resident enterprise if:
- is independent from the commissioning non-resident enterprise, and
- acts on behalf of the foreign enterprise within the scope of its ordinary activities.
PE taxation in Italy
The presence of a permanent establishment constitutes the prerequisite for the taxation of the income-producing economic activity carried out by the foreign enterprise in Italy.
What income is attributable to a PE?
Article 152 of the Income Tax Code states that the taxable income realized by non-resident enterprises in the Italian territory through a permanent establishment is determined on the basis of the profits and losses attributable to it.
This definition reflects the functionally separate entity approach developed by OECD. The approach aims to determine the income that permanent establishments would have achieved if they had been separate and independent entities from the head office.
Italy corporate tax rate
The tax regime for PEs is the same as for corporate Italian entities.
Accordingly, a PE is subject to IRES as well as IRAP. Both taxes are determined on the basis of corporate balances, prepared according to the accounting principles applying to resident enterprises.
The standard rates are as follows:
- 24% for IRES
- 3,9% for IRAP
What if your company constitutes Permanent Establishment in Italy
If the activity carried out by a foreign enterprise constitutes PE in Italy there are 2 solutions:
- Set up a new company in Italy
- Open a branch in Italy