Comparison of EU tax loss regimes shows Italian companies at a disadvantage

With many EU Member States having passed specific provisions to facilitate the use of tax losses incurred during the worldwide economic crisis, Italy now finds itself with one of the most disadvantageous tax loss regimes among those EU countries with essentially similar characteristics in terms of such factors as market size and industrial economic systems.

Article 84 of the Italian Income Tax Code allows taxpayers to offset the losses incurred in a tax period against the taxable income of the following five tax years, after which the losses cannot be used. An exception to the five-year carryforward period applies if the losses are incurred during the first three years of, and relate to, a new business activity, in which case the carryforward is unlimited.

The limited nature of the five-year carryforward in Italy is the first obstacle to offsetting the significant losses many companies incurred in the 2008 and 2009 tax years, particularly considering that 2010 was not a recovery year for many businesses, leaving Italian companies fewer years to generate taxable profits up to the amount of the available tax losses. The second obstacle is the absence of a carryback provision in the Income Tax Code to allow losses of a tax year to reduce the taxable income of preceding years. Carryback provisions are rather common worldwide and allow companies to receive a tax credit for income taxes paid with reference to years preceding a loss year.

As indicated in the table below, only two of the other six EU Member States examined have a time limit on tax loss carryforwards. At nine years for the Netherlands and 15 years for Spain, both are more generous than Italy’s five-year limit. The other countries considered (except Belgium and Spain) also allow the carryback of losses (ranging from one to three years), with attribution of a tax credit for the income taxes paid on prior years’ taxable income that is then offset by the tax loss.

Several countries introduced favorable rules to support resident companies in using the tax losses incurred during the economic crisis. For example, following the lead of the U.S., which extended its carryback period from two to five years for tax losses incurred by resident companies in 2008-2010, the Netherlands and the U.K. extended the ordinary time limit from one year to three for the carryback of tax losses incurred in 2009-2011 and 2009-2010, respectively. The Dutch and U.K. extensions, however, are limited by value and, in the Netherlands, impact the available carryforward period.

Given that Italy’s tax loss regime is generally on parity with the other countries examined in terms of allowing a tax consolidation or group relief, not imposing minimum taxation and having no basket limitations, it is up to the government to ease the restrictions on the carryforward and carryback of losses. The impact of these restrictions on companies is twofold.

First, if the restrictions were eliminated or lessened, the tax burden on companies would be reduced and their cash flow benefited. Second, companies that reasonably expect to use their tax losses could book a deferred tax asset in their financial statements. This option is not available to companies that do not expect with reasonable certainty to generate a sufficient taxable base within the carryforward time limits. Booking the deferred tax asset in the financial statement enhances the net equity of resident companies, which is one of the Italian government’s goals in other recent new law provisions (such as the corporate assets step-up provisions). To achieve the government’s goal, increase the competitiveness of Italian companies and reduce the gap between Italy and other EU countries, it is imperative that the government amend the tax loss regime.

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