Author: itsupport

With the election of a new government and renewed focus on employment and productivity, Finland is hoping to continue the economic growth that has characterised the country over the past few years. The new transfer pricing legislation will place Finland directly in line with its European neighbours, whilst the passing of the Companies Act in 2006 enabled greater flexibility in financing and cross border transactions. Despite the credit crunch, the number of transactions in Finland was at a record high in 2007, with the number of deals exceeding the previous record set in 2000. With forecasts of slowing economic growth and employment concerns due to ageing populations, the new government is streamlining bureaucracy and focussing on innovation to spur Finland’s economic growth.

Continued foreign direct investment activity
The transaction market was active in 2007 with industrial buyers reentering the market and private equity continuing to sell to private equity. The number of transactions was at a record high, with 768 deals exceeding the previous record set in 2000, and a 17 percent increase in deals over 2006. Finnish companies purchased 105 companies abroad, whilst non-Finnish buyers purchased 101 companies from Finnish sellers. Finnish entities sold businesses covering turnover of €5bln both in Finland and abroad. In total, Finnish companies purchased turnover worth €2.8bn, a decrease from €3.2bn in 2006.

In 2007 majority stake transactions, 110 000 employees were transferred under new shareholder control. As the Finns made the largest transactions abroad, about 38 percent of the group, some 41 000 persons, work outside of Finland. Standout deals include Nokia purchasing Navteq for €5.7bn: the purchase price exceeding 14 times the target’s 2006 turnover; Atria, Finnish food product corporation acquiring Swedish Sardus and Finnish Pouttu and Cargotec did 13 acquisitions in 2007.

The State of Finland sold a 30 percent stake of Kemira Growhow, fertilising business, to the Norwegian Yara. M-real, pulp and paper company, divested Map Merchant in the Netherlands, Zanders plant in Germany,

Petöfi plant in Hungary, Tako in Finland and Meulemans in Belgium.

There were two new listings in the OMX Nordic Exchange: SRV Group in June 2007 and Suomen Terveystalo in April 2007. A rather new phenomenon in 2007 was an IPO through a merger: Tiimari merged with listed Leo Longlife, John Nurminen with listed Kasola, and Trainers’ House with listed Satama Interactive. OMX also organised a new market place, First North, for small growth companies.

Impact of the credit crunch
The credit crunch meant that there was a period in the autumn of 2007 in which transactions were delayed and negotiations between parties took longer. It is likely that some transactions did not take place but overall, the effect was not dramatic. Market value of companies listed in the local Stock Exchange decreased some €24bn within a month according to Talouselämä in February 2008. When comparing the October 2007 peak with the current situation, the market values have decreased some €45bn of which Nokia counts only for €10bn. According to the same source, exits by non-Finnish institutional investors and large private investors have played a big role in this development.

Merger of the Financial Supervision and Insurance Supervisory Authority
The merger of the Financial Supervision and Insurance Authority will essentially cover the same duties as the two existing supervisory authorities. The objective would be to enable companies and organisations in financial markets to operate in a balanced business environment, maintain public confidence in financial markets, foster compliance with good practice and disseminate general knowledge about the financial markets. The centralisation will make it possible to supervise more effectively and take into consideration special characteristics of different industries in the financial sector.

Activities within the financial market, including: Icelandic Glittnir acquiring FIM, investment bank, Danish Danske Bank acquiring Sampo Bank, and offers on the OMX Stock Exchange, will have an effect on the roles and responsibilities of the new authority.

Implications of new government
The new government’s approach to taxation has been a movement toward trying to attract business angels to the country, with the Ministry of Employment and Economy and the Ministry of Finance currently drafting a proposal to offer direct tax incentives. This would take the form of exemption on capital gains after a holding period of three years. The incentive would not be targeted to institutional private equity, and although the details have yet to be released, the purpose is to prepare the package by the end of the year.

Despite this, there is also a draft proposal, prepared by the Ministry of Finance, on a new asset classification, which would limit the scope of participation exemption on capital gains. The government recently terminated plans to design a new tax depreciation regime for investments to maintain productive investment activity in Finland. There is also a Real Estate Investment Trust (REIT) discussion pending, as there is currently no tax element included in the REIT legislation.

The Ministry of Employment and the Economy was established on 1st January and its mandate prescribe duties assigned to the current Ministry of Trade and Industry (excluding matters related to immigration and integration), and functions of the Interior Department for Development of Regions and Public Administration (excluding the Regional and Local Administration Unit). The Ministry’s focus will be on innovation, the employment of labour, reforms to meet the challenges of climate change through energy policies and a focus on developing regional co-operation.

2007 transfer pricing legislation
According to Finnish tax law, associated companies are required to comply with the arm’s length principle in their intra-group transactions. The principle may be applied to adjust the profits of a Finnish company in relation to both domestic and cross-border transactions. An adjustment is possible if the taxpayer has agreed to the transaction on conditions differing from those that would have been agreed to between independent parties. Any profits that would have accrued to the company but for the non-arm’s length terms have not, may be included in the company’s profits.

All companies are obligated to comply with the arm’s length principle in their intra-group tradings, even though the transactions would be exempted from documentation requirements. Documentation must be provided separately for each tax year. Satisfactory documentation is to be prepared in accordance with the model set forth in the EU Code of Conduct (COM (2005) 543 Final), taking into account the OECD Transfer Pricing Guidelines.

Under the new regulations, a taxpayer is obliged to provide the documentation within 60 days from the date of request by the tax authorities. The revenue may not request documentation before six months from the end of the company’s accounting period under scrutiny. The tax authorities are also entitled to require additional information regarding the documentation, which is to be provided within 90 days from the date of the request. It should be noted that companies are not obliged to file transfer pricing documentation in connection with the corporate income tax return.

An exemption from documentation requirements applies to small and medium-sized enterprises. However, as the independency criteria set by the EU Commission 2003/361 EC Recommendation apply; Finnish companies that are small and medium-sized on stand-alone basis are required to fulfill the documentation requirements if they are controlled by large non-Finnish corporations. A company is not regarded as an SME if, in accordance with the Commissions Recommendation, the company employs more than 250 persons and has an annual turnover exceeding €50m and/or an annual balance sheet total exceeding €43m.

Transfer pricing has been a subject of increasing interest of the Finnish tax administration during the past decade. In the lack of specific documentation requirements and resources, the Finnish revenue has, in terms of numbers, mostly targeted simple issues, e.g. management fees. During the last ten years or so, especially after the establishment of the Tax Office for Major Corporations in late 90’s, the revenue has placed a certain amount of effort in more complex transfer pricing issues on Finnish based large multinational companies.

Legal issues arising from cross border transactions
Cross-border transactions are subject to documentation requirements and the expectation is that the Finnish revenue will actively monitor the Finnish tax base and there will be more inquiries and disputes in this area of practice. Recent discussions in Finnish tax journals and published case law indicate the revenue’s growing interest in business model conversions as well as issues on intellectual property. Finland actively follows the international tax discussion and it may well be that some of the international developments will be adopted in some form in Finland.

With regard to other legal issues arising from cross border transactions, the amendment of The Companies Act in 2006 allowed greater flexibility in financing and these measures are available for transactions where there is a Finnish acquisition vehicle. There are still some pending tax debates on tax treatment, especially in the area of repatriation.

The documentation should include items listed below:

There is less documentation required if the total amount of the intra-group transactions entered into by the taxpayer does not exceed 500,000 euros. According to the section on penalties, a maximum penalty of 25,000 euros may be imposed if the taxpayer has not prepared sufficient documentation in accordance with the regulations. Standard tax penalties may be levied if income is adjusted

For further information:
Tel: +358 20 755 5314
Email: outi.ukkola@deloitte.fi
Website: www.deloitte.fi

This plethora of deals in Russia represent a rise of 11 percent in the volume and 57 percent in the value of deals from the previous year, which saw $75bn transacted across some 759 deals.

Looking at these deals in a little more detail, it is clear that just as Russian businesses are becoming increasingly acquisitive on the international stage, so too are foreign companies taking more of an interest in Russian assets. Of the deals in 2007, 300 were domestic transactions, 56 saw Russian companies embarking upon international expansion and 489 were deals led by non-Russian firms.

Driving factors
In terms of outbound investment, Russia is home to a number of large corporations that have developed as a result of the abundance of Russia’s large reserves of natural resources, principally gas and mining. In recent years Gazprom has made some significant international acquisitions, including including Natural Gas Shipping Services Ltd in the UK and WINGAS GmbH in Germany.

So far in 2008 Gazprom has concluded two deals outside Russia, acquiring Serbian investment company Naftna Industrija Srbije for $730m and Austria-based Central European Gas Hub GmbH for a undisclosed figure.

But it is not just these traditional sectors that are enjoying popularity. Russia as a nation is rapidly coming up to speed with its Western counterparts, and as such there is considerable investment in sectors that contribute to this development.

Infrastructure-related industries such as real estate, telecommunications, technology and public services have received a boost from private investors, and in the near future government initiatives look set to spur further development.

Western countries have launched a number of Public Private Partnerships (PPPs), designed to revitalise weary public services. And although in Russia, investment in infrastructure is hotly debated, as in other fields, Russia is likely to develop its own unique approach and solution.

Interest in infrastructure development is expected to be big. Investment bank Merrill Lynch estimates that investment in the infrastructure sector could reach as much as £90bn over the next three years. Add to this the downward pressure on the $US, and Russian assets are looking increasingly attractive price-wise.

The fact that international private equity firms are taking a keen interest confirms this. Big names including Texas Pacific, Lion Capital, Mid-Europa, Morgan Stanley, Barclays and Deutsche Bank have all taken significant shareholdings in Russian companies. In 2007 alone there were 60 private equity-backed transactions in Russia, totalling more than £11.3bn in value.

Business framework
With investors queuing at the door, it is just as well that Russia’s business framework is conducive to doing deals. Russian businesses are served by a strong network of advisors, well-equipped to handle the needs of the acquisitive business.

PwC has 2400 professionals on the ground in Russia, offering a range of services including pre and post transaction services.

With 450 employees, one of the largest departments – reflective of the size and importance of the task – is the tax and legal practice. PwC’s tax and legal services provide assistance to businesses involved n M & A, helping them structure the transaction to ensure it is built in the most efficient way, put together as quickly as possible, is focused on value creation and the strategic priorities of the business.

Tax planning at an early stage can add significant value to a transaction, and is essential to reduce both the actual transaction tax costs and the long-term sustainable effective tax rate following the transaction.

Common issues faced on M & A deals in Russia include the tax philosophy or tax culture of the target, which by western standards may be considered either overly aggressive or overly conservative. Tax savings opportunities and strategies employed by the target may not be acceptable to a western buyer. Other tax issues include the complexity of the group structure, underlying transaction flow, related party transactions, transfer pricing practices, unrecorded transactions, and transparency of the target including ownership and control.

Overcoming issues
Russia is a vast country with many different tax jurisdictions, and as such the way certain aspects of tax is handled by one tax authority may differ from that of a neighbouring tax authority.

Bill Henry is a partner and tax specialist, based at PwC’s Moscow office. ‘The authorities are still developing and they are having to adapt quickly to a rapidly-growing business environment. Tax authority risk includes resource constraints, lack of experience and sophistication relative to market developments, harsh and indiscriminate actions of some tax authorities. In some cases, authorities have been viewed as biased against taxpayers and have said to serve as an instrument of pressure.

But it is heading in the right direction. ‘The tax legislation is actually in pretty good shape, and it is possible to get some good letters of clarity. However, the problem is one of scale – the ministry of finance is working hard to bring about better organisation and consistency, but this can’t happen overnight. It is a huge logistical challenge.’

Since the judicial system does not have the expertise to handle the modern business climate, with particular reference to M & A transactions, more time is spent by the advisors in managing tax risks. This provides lots of work for the advisors, but it is such great news if you want to get your deal done quickly and efficiently.

Aside from administration, there are other issues facing a high-growth business community.

Indigenous talent
The main issue is that there is a shortage of people with the correct level of experience and expertise to manage within the business community. This is a result of the speed at which the country has developed – there is just not enough indigenous talent to cope with the amount of work.

Furthermore, the businesses that do employ good Russian staff are finding it increasingly hard to retain them. It is all too common for internationally-trained professionals to quickly change employers for increasing opportunity and reward afforded by the booming economy.

But these problems are just teething troubles – the sign and the stigma of a developing market – and there is no doubt that they will soon be addressed. On balance, the pros of investing in Russia easily outweigh the cons.

One of the biggest attractions of doing business in the Russian market is the way it has fared in the wake of the credit crisis. At a time when billions of dollars has been wiped off the balance sheets of some of the world largest businesses and large corporate acquisitions due to the lack of availability of debt to fund the transactions, Russia has remained relatively unscathed by the turmoil that has hit the West.

Bill Henry comments, ‘The credit crunch has not yet had an impact on Russian transactions – in fact I can only think of one enterprise that has collapsed, and that was more down to the quality of the balance sheet, not the availability of funding.’

One reason for Russia’s near unique position amidst all the credit issues is simple: until recently the country was isolated from the trends of Western banking. As such there is no great levels of consumer debt as is found in the US and the UK, for instance. So when the crisis came, there was much less of a credit crunch in Russia. However, Russian companies will have to refinance short term borrowings. While the expect volume of refinancing is not expected to bring about a crisis, defaults are possible among those who lack credit worthiness in the tighter credit environment.

On the public markets, too, the issues in the credit market are not as pronounced as in some Western markets. Whereas, as expected, there has been a slight slowdown in IPO activity, it does not mirror the near total shutdown in institutional interest for listings.

In 2007, 55 Russian companies achieved a listing, just four fewer than the previous year. Putting this into perspective, in the UK the total number of IPOs fell from 433 to 339 over the same period. What is most interesting is the amounts of money achieved by such listings. The total value of listings by UK companies in 2007 was $16.3bn, as compared with $15bn by Russian companies.

Business landscape
From the huge difference in the number of listings it is clear that many more large cap Russian businesses made it to market that year. Indeed the Russian business landscape is largely characterised by a small number of very large companies.

And there are other plusses that Russia has on its side. There is an affluent middle class in Russia with strong spending power, and this is likely to appeal to retail investors.

Furthermore, although some catching-up is needed, especially in terms of the tax administration, certain aspects of Russia’s business legislation has been more flexible than in many Western nations. One of the most significant is connected with anti-avoidance laws.

Most countries have in place legislation that dictates that if a company enters into a domestic or cross border arrangement primarily for the purpose of reducing their tax burden, the resulting tax advantage can be removed. Therefore, any arrangement that confers a tax advantage should also have a commercial purpose, and should be set up, at least in part, for reasons other than tax planning.

The historical absence of any real anti-avoidance restrictions has been a real advantage for Russian businesses. However, recently there has been an emergence of anti-avoidance practices on a substantive approach including guidance issued by the Supreme Arbitration Court and proposed tax policy instruments including controlled foreign corporation legislation, tax residency based upon the place of management and control, and proposed amendment to transfer pricing rules.

Looking to 2008, it seems that the Russian market is in for another prosperous year. In the first two months alone the total value of M & A deals involving Russian companies tipped 100, with a combined deal value of just over $8bn.

But figures only tell half the tale. It is those on the ground involved in business that count. What does Bill Henry think the future will hold for Russian business? ‘Simply put, the opportunities are unlimited.’

For further information:
Tel: +7 (495) 967 6023
Email: bill.henry@ru.pwc.com
Website: www.ru.pwc.com

Transferring money abroad became a tradition for Germans after World War II. Political instability forced many to divert their assets toward more secure holdings. The post-war revival that followed saw Germany climb the ranks of the world’s strongest economies, but it failed to stem the outflow of cash altogether. The reason: tax rates – among the highest in Europe. But things have just got better for Germany.

Large-scale tax reforms came into force on January 1, 2008. The German Parliament’s decision – criticised in many quarters as not going far enough to enhance economic development – could have a major impact. Domestic businesses and foreign investment should benefit, but there are doubts over whether the reforms have gone far enough.

The 2008 Company Tax Reform Act was essential for many reasons – not least to make Germany more internationally competitive. In the broadest sense, most believe this is where the government has succeeded. The decision to reduce the corporate tax rate from 25 percent to 15 percent is the key. RP RICHTER&PARTNER – one of Germany’s leading tax, audit, accounting and legal service consultants – provides tailor-made solutions to clients with an international approach.

Managing partner Wolfgang Richter, a former senior partner in and head of the tax department at Ernst&Young Munich, welcomes the positive change, but has mixed feelings about other aspects of the reform. “In our opinion the Company Tax Reform Act 2008 is an important step towards a more internationally competitive tax environment in Germany,” he says.

“However, a simplification of the German tax system, which had been planned, did not become reality.”

Complex legal system
If reducing the corporate tax burden was seen as crucial to Germany’s competitiveness, tackling the complex legal system was one of the several requirements that failed to materialise. But it was not all bad. Some simplification was realised following many months of consultation and talks between experts on all sides.

The non-deductibility of the trade tax as business expense, from the trade tax basis and the corporate-income tax basis, was one such benefit. This non-deductibility had no significant impact on the trade tax burden, because the general multiplier to calculate the taxable amount was decreased from 5 to 3.5 (the abolishment of the progressive tariff of the general multiplier for partnerships and sole proprietorships could have an impact on the trade tax burden, but this change will only affect small businesses).

The improvement of this method was that deductibility of the trade tax was such a complex calculation issue. But German tax reform 2008 has been as much about missed opportunities as improvements.

The failure to abolish trade tax – seen as major step towards simplification – is generally perceived as a serious flaw. There is little doubt the predominance of the municipalities, and the anticipated loss of local tax revenue, forced legislators to think again. Numerous transition rules between the old and new also conspired to undermine the anticipated move from old to new, according to experts such as Richter.

His firm operates fully integrated tax, audit, accounting and legal services.

Recognised as one of the leading consultancies in Germany, especially in the tax business (see rankings of JUVE, Legal 500, Tax Directors Handbook and World Tax by International Tax Review), the company has a unique insight of the challenges facing the business sector.

“After much deliberation, the German tax authorities, including the Ministry of Finance, became anxious because they could not calculate the impact of tax revenue loss from the transition rules,” he explains. “Fearing significant losses could have resulted in tax base, simplification failed to materialise.”

Draft publication
Many had feared the worse during the long months leading up to publication of a final draft and the Act being formally adopted by the Bundestag and Bundesrat. Concerns were not just limited to matters of trade tax. Worries surrounded the thin capitalisation rules (so called interest-barrier rule,) which apply not only to shareholder loans but also to any bank loan. The new rules are seen as a significant limitation for high leverage buy outs/investments.

“The tax legislators listened, but made only few changes,” says Frank Schönherr, tax law expert and another founding partner of RP RICHTER&PARTNER. “New rules for shifting of functions and transfer pricing brought quite some disturbances, especially the question of whether the doubling of functions is a taxable shifting of functions.” But while changes to the final draft were small, some amendments were a surprise.

One example was the interest barrier rule. Many businesses successfully raised concerns about the rule, leading to a change. The draft had been tied to the EBIT, but by the latter stages of the legislation process it was aligned to the EBITDA. This led to a higher amount of deductible interest expenses (30 percent of EBITDA is deductible interest expense).

Winners and losers
So who were the major winners and losers from reform? There are two groups of taxpayers that are expected to benefit most:

The first, benefits most from the reduction of corporate tax rate, which was lowered from 25 percent to 15 percent. Taking the trade tax burden into account, the average corporate tax rate was reduced from about 40 percent to 30 percent varying from 23 percent to 33 percent depending on the municipal rate fixed by the municipality (´Hebesatz der Gemeinde´).

Foreign corporations could do even better. Non-resident corporations for example, holding German real estate (PropCos), could under some circumstances be free of trade tax. They will have to calculate with an aggregate tax burden of 15 percent instead of 25 percent. And the losers: highly debt financed companies with low income. This is primarily due to the interest-barrier rule.

“The so called German ‘Mittelstand’ could also be loser of the reform if they do not adjust their structure to the new rules,” says Schönherr. “The Mittelstand is organised generally as the partnerships. “The partnership is liable to trade tax, the individuals holding an interest in the partnerships are liable to income tax. The progressive tax tariff had been increased from 42 percent to 45 percent (so called Rich Tax).” No compensation has been introduced for this increase despite earlier reassurances by the government. To equalise the tax burden of partnerships and corporations, the tax reform introduced a special tax rate for retained earnings of partnerships.

However, if these monies are distributed, the aggregate tax rate on the income derived from the partnership is higher than the taxation of income derived from the partnership at the new top tax rate of 45 percent (plus solidarity surcharge, plus church tax, if any).
Estimates over whether the reforms will result in an aggregate rise in total tax revenues remain in the balance.

“It cannot be excluded that the counter financing of the tax rate reduction through broadening the tax base (new thin capitalisation rules, new add-backs for trade tax purposes) could lead to a higher aggregate tax revenues in total,” explains Schönherr. “But the government is of the (official) opinion that the broadening of the tax base equals the lowering of the tax revenue, resulting from the reduction of the corporate tax rate finally.”

Although Schönherr agrees the impact of reform is likely to be positive, he warns it is impossible to rule out the possibility that broadening might have a negative impact on key sectors of the economy. Real estate investors and real estate leasing companies in particular could suffer from the new interest-barrier rule and the new add-backs for trade tax purposes, he says. Highly leveraged investments are likely to be affected negatively too.

Thin capitalisation rules
There is less doubt about the ‘negative impact’ of the new thin capitalisation rules. When European courts issued a ruling in 2002 declaring German thin capitalisation rules contrary to law, change became inevitable. The first solution of the tax legislators after the Lankhorst-Hohorst case in 2002 was to broaden the scope of application by including loans from domestic shareholders. Due to problems with these early amendments, the Company Tax Reform Act 2008 introduced additional changes to thin capitalisation rules.

The new system applies to any loan irrespective of the status of the lender, as a shareholder or not, and irrespective of whether the lender is a domestic or a foreign one. The effect is that general loans could lead to the non deductibility of interest expenses, according to Claus Lemaitre, international tax partner at RP RICHTER&PARTNER.

“In our opinion many of the unsolved application problems of the old thin capitalisation rules will still arise by the application of the new thin capitalisation rules,” says Lemaitre. “The new rules have a negative impact on the economy in Germany in our opinion because a tax burden could arise even in cases where no positive income is earned by the company.”

The application of the new thin capitalisation rules, flawed or otherwise, meant the legislators did make a significant step towards preventing a shift of interest to foreign countries. But alongside the changes of the add-backs on trade tax, thin cap’ rules will have the most affect on how companies operate in future.

Worrying changes
Changes of the rules regarding the loss of loss carry-forwards have proven a worry too. “This new rule will lead to many unexpected tax issues in the M&A and restructuring context,” Mr Lemaitre says. The write-offs of shareholder loans were ruled by changes of the Tax Act 2008 ‘Jahressteuergesetz 2008’.

In many cases shareholder loans can no longer be written-off. The German tax authorities’ description of this ‘change’ as a ‘clarification’ has not been universally accepted.

“In our opinion and in the opinion of many other tax practitioners the change is not a clarification but the implementation of an unfavourable new rule,” Mr Lemaitre explains. The legislators will perhaps demur, arguing their reforms have certainly made Germany more attractive to overseas companies looking to invest. As for the domestic market – despite the reform set backs, 2008 could be the year that sees the Germany economy out perform some of its rivals.

For further information:
RP RICHTER&PARTNER
Phone: +49 (0)89 55 0 66 – 310
Website: www.rp-richter.de

Since its inception, the Firm has been advising clients with an international focus, on tax, legal, and accounting matters and whilst the firm has grown considerably since its formation, many of its people have been with the firm since its early years. Umberto Belluzzo comments: “Foreign investors in Italy face with the particularities and complexity of the Italian business framework together with the dominant ‘family business’ structure of Italian Industry. We work alongside these investors to bridge and facilitate their understanding of Italian industry.”

“The various issues that our clients face and the multi-faceted nature of our own service offering, led the business to evolve into the functional structure that it is today, with eight departments each of which, is led by an associate.” says Luigi Belluzzo, managing partner of the Firm.

Overseas office
The Firm has strong experience in assisting Italian companies with the process of internationalisation. The Firm soon identified a need for an overseas office an opened an office in London’s St James’ headed by Alessandro Belluzzo. From this base in London, Alessandro Belluzzo consults on Internationalisation and, on Foreign Investments in Italy, commenting: “From London we coordinate an international network of 100 correspondents in major markets and business centres around the world and work with European and Asian Private Equity , looking to invest into Italy and the Italian brand.”

The Firm maintains a classic tax&legal approach which enables the international investor to achieve results in the Italian market, also advising on legal matters such as contracts, company law, tax law and M&A operations.

“Our understanding of the Italian market, the family businesses that preside over much of it, and our strong relationships in Italy are of relevance to foreign investors who upon entering the Italian market, need to consider cultural factors and the existing driving forces in place as much as the pure logistics.” Francesco Lombardo who leads Corporate Law Counselling department says.

Having worked on numerous deals with foreign investors, private equity funds and Italian investors, Luigi Belluzzo says “Our policy is to maintain strict privacy; we seek to ensure where possible, that deals emerge when clients wish them to” adding further: “Perhaps today more than for many years, the way a Firm behaves in Italy and the trust it is able to command, is of fundamental importance. We pride ourselves on the high standing that we have built over time with our colleagues, banks and financial institutions as well as other professionals and entrepreneurs within industry.”

The Firm’s professionals are highly trained and have strong capabilities and qualities that they bring to the firm. We encourage involvement in the wider community through publishing of opinion and articles and teaching activities. Many of the firm’s associates are linked with Universities and professional bodies (eg IFA, STEP) and regularly publish articles in the key trade and industry journals on tax&legal matters, M&A, Estate Planning and more.

The Italian Budget 2008
The following measures announced in the recent Italian Budget can be seen as having created a more favourable tax environment in Italy:

Corporate taxation: For tax periods starting from 1st January 2008 onwards, the corporate tax rate (IRES) is reduced to 27.5 percent (previously, 33 percent), and the regional income tax rate (IRAP) is reduced from 4.25 percent to 3.9 percent

PEX Regime: From 2008, the exempt portion of capital gains on shares realized on years starting from 1st January 2008 onwards is increased to 95 percent (previously 84 percent). The holding period requirement is reduced from 18 months to 12 months.

Extraordinary transactions: The proposed rule, relating to the applicability of a substitute tax of 18 percent payable on goodwill derived from extraordinary transactions, has been amended as follows; in the case of contribution of going concern, the receiving company may elect to apply a substitute tax in order to obtain the step-up of the fiscal value of the assets received. The step-up is available also on the assets received by way of merger or de-merger. The substitute tax applies at the rate of 12 percent, 14 percent and 16 percent depending on the amount of the revaluation: up to €5m, from €5m to €10m, more than €10m, respectively.

The revaluation is disregarded if the stepped-up assets are disposed before the end of the subsequent four years. The new provision applies for tax periods starting from 1st January 2008 onwards.

Application of IAS: The 2008 Budget introduced a new provision, applicable to companies drafting their financial statements under the IAS, stating that the criteria set forth by International Accounting Standard (IAS) are relevant for IRES purposes. In particular, the qualification, timing of accrual and classification of items pursuant to IAS is valid also for IRES.

Stefano Barone, head of Accountancy, Tax and Compliance Advisory, comments: “This measure can be regarded as a positive move for foreign investors into Italy and I am optimistic that we may see further such enhancements in the future”.

Emanuele Lo Presti who leads the M&A, Governance and Corporate Reorganization team comments further on the Budget 2008: “Systematic (fiscal) changes aside, there are still some challenges for the domestic Italian market namely, in opening up to a more international and global environment. This is where we seek to assist clients both Italian and overseas clients by both making the ‘unknown’ more familiar in both a cultural and practical sense, and crucially providing the tax, legal and accounting framework to facilitate cross border deals.”

Investments and trusts
During the last year new rules have been introduced which have modified the Italian stance on the taxation of trusts. The most important of these, was the new legislation regarding the residence of some international trusts that are administered in countries ‘blacklisted’ under Italian tax law (e.g. Guernsey, Jersey etc.), with Italian resident settlors and beneficiaries.

What this means is that where an Italian resident is asked to prove that the trust’s main activities are indeed managed in the country where that trust is resident, there is a potential loss of confidentiality. Where the residence status of the trust is not sufficiently proven, the trust would be treated as ‘Italian resident’ with Italian tax rules therefore applicable.

Alessandro Belluzzo comments: “This change is significant not least because the Trust is commonly used to hold real estate property or Italian companies. We have advised several clients on the impact of these new rules some of whom, have taken the option of moving the trust’s residence to a ‘white-listed’ country in order to avoid the potential requirement for exchange of information and loss of privacy.”

Even given this change though, Italy is by no means a hostile environment for trusts. Indeed, another very notable recent statement on the taxation of trusts was the clarification of the direct tax-exempt status of distribution capital received from a trust, by an Italian resident beneficiary. This was the first time that this had been explicitly clarified and this move, together with a low (between 4-8 percent) indirect rate of tax on distributions by a trust, represents a favourable tax environment for trusts in Italy.

Luigi Belluzzo comments; “There have been considerable moves to take up Italian residence in recent times. The above development in the taxation of trusts, together with the generally low taxation (12.5 percent in some cases) on financial income for Italian residents represents a welcome environment. Any less than positive changes in other tax regimes in Europe – the recently proposed taxation changes for non-domicile in the United Kingdom being one example – may add further to Italy’s attractiveness in this respect.”

The new covered bonds regulation provides for an exceptionally safe regime according to procedures set out in articles 69-70 of Royal Decree 2440 of November 18 1923. These ensure they effectively grant a transfer against the assigned debtor/public entity. This is done through:

1) Notification to the assigned debtor/public entity of the transfer agreement through a Court Bailiff

2) Acceptance by the assigned debtor/public entity of such transfer agreement) that would not be applied unless the agreement from which the receivables originate expressly sets out that, notwithstanding the new legislation, the procedure of Royal Decree 2440 still needs to be complied with to consider any assignment valid

Assets purchased by the SPV represent a segregated portfolio, which may be used by the originating bank as a guarantee for the originating bank’s issued bonds, or in connection with their funding when the SPV is remote from an insolvency.

The guarantee from the SPV must be irrevocable, payable on first demand, unconditional and independent from the obligations of the bank issuing the covered bonds. It will be also enforceable on the issuing bank’s failure to pay or on insolvency, within the limits of the assigned assets, on the basis of the bankruptcy remoteness of the SPV.

Receivables fall into several categories, such as:

New changes, new limits
Under the original 2006 provisions, in order to issue covered bonds the originator/issuer needed consolidated regulatory capital (CRC) of € 500 m, a CRC ratio of at least 10 percent and a consolidated Tier 1 capital ratio of at least 6 percent. These parameters were much criticized by the Italian Banking community as being too restrictive. But the final version of the Bank of Italy Regulation of May 2007 imposes a lower minimum CRC Ratio of 9 percent and accordingly it opens the market to the most significant national players.

These limits are defined as:

Rating agency criteria risk
Most importantly, the new Italian legislation appears to be in line with the criteria envisaged by rating agencies. Fitch has identified four key areas that need to be considered (and the relative weights to be given to each) when measuring the risk that payments owed to investors might be interrupted in the event of an insolvency of the issuer. They are as follows:

1) Segregation of cover assets backing the issues of covered bonds from the bankruptcy estate of the issuing financial institution (50 percent weight) – under the new Italian legislation, asset segregation is achieved by the transfer of the assets to a bankruptcy remote special purpose vehicle acting as a guarantor of the issued covered bonds

2) Alternative management of the cover assets and the covered bonds (15 percent weight) – the legislation provides that in the event of the issuer’s mandatory winding up (liquidazione coatta amministrativa) the SPV shall represent bondholders vis-à-vis the issuer

3) Liquidity gaps between the respective amortisation profiles of the cover pool and the covered bonds (30 percent weight) – the Bank of Italy’s prescriptions provide that the net value of the segregated assets must be at least equal to the net value of the covered bonds and that interests and other revenues generated by the cover pool must match all the costs due on the covered bonds; also, the supervisory legislation introduces specific strategies of asset and liability management for banks to follow in order to bridge potential maturity mismatches

4) Dedicated covered bonds oversight (5 percent weight) – the Bank of Italy imposes specific transaction guidelines and will supervise banks implementation as part of its overall mission to safeguard the stability of the domestic banking environment.

Strict asset segregation satisifies Fitch
Fitch expressed a favorable evaluation on the Italian covered bond regulation in its last research report, published at the end of last January 2008. In particular, Fitch expressed satisfaction for the assets segregation mechanism provided by Italian regulation. Given such strict asset segregation mechanism, Fitch states, “a high degree of credit is given to the ‘true sale’ transfer of the assets to the SPV. In fact, in the case of issuer insolvency, this segregation mechanism will allow,” continues Fitch, “to grant the repayment of the covered bonds holders through the covering assets and the cash flows deriving from them.”

A favorable opinion is expressed also with reference to the supervision role assumed by the Bank of Italy (BoI) in respect of the covered bond issuance. On this point however, Fitch points out that while BoI is the first regulation authority on covered bonds which imposed specific insolvency limits for prospective originators, the Italian framework is less detailed and prescriptive than in some other European jurisdictions, in particular with respect to the ongoing surveillance of asset and liability management. In fact, although there is a generic requirement that issuers have to report to BoI on the proposed management of maturity mismatches and on the system in place to control specific risks, there is no specific provision for a regular audit by BoI to take place, nor is any reference made to stress testing under different scenarios.
Positive feedback sets the tone

The general evaluation made by rating agencies on the Italian covered bond regulations certainly seems positive. The new regime appears to be characterized by a high level of innovation, both legally and commercially. It has introduced liquidity safeguards and robust strategies of asset and liability management designed to maintain a balance between protecting the interests of creditors and the creation of a potentially large covered bond market.

So, when can we expect to see the first Italian covered bond issuance? Due to the recent news in the financial markets – Banca OPI has officially announced its plans to launch a public sector backed deal while UBI Bank recently communicated to have mandated Barclays Capital to arrange its program – maybe by the end of 2008. Meanwhile the foundations for growth have been laid and the future of the Italian covered bond market seems much brighter.

For further information:
Tel: +39 06 362 271
Email: mbaldissoni@tonucci.it
Website: www.tonucci.it

Although traditionally better known for its hot springs, fishing and whaling industries, Iceland has steadily transformed itself into a financial powerhouse in the last 20 years. Icelandic investment firms have continued to buy up, for example, significant tranches of the UK retail High Street. Icelandic investment firm Baugur and FL Group now own House of Fraser and MK One, for example and is now tipped to buy Debenhams.

Iceland’s business turn-around is reflected in the former state-run banks which have all been privatised. Prosperous, well-run Icelandic businesses have increasingly been forced to look overseas for M&A targets, given the lack of appropriate targets at home. Hence the slew of Icelandic companies and investment houses chasing cross-border deals.

The UK, unsurprisingly, has been a target for much of the cross-border interest: many Icelanders speak English and the UK economy is one of the most open and dynamic in the world. So Icelandic-Brit deals look unlikely to abate, especially if UK interest rates continue to slip, as looks likely. According to a recent survey by M&A intelligence and research service Mergermarket, more than half of senior Icelandic managers are considering a deal in the next 12 months.

Iceland’s economy though is one that’s increasingly highly leveraged with significant levels of external debt thanks to the large amounts of M&A and private equity activity. Which means the economy has, to say the least, sizeable imbalances and therefore remains vulnerable to economic crisis. The diminutive population means that the financial players generally are likely to know each other and there’s an abundance of cross-company ownership.

Iceland’s racy makeover
So, what is behind Iceland’s makeover from grey, dull fish exporter to hot tourist spot and international financial mover and shaker? At first glance, Iceland remains a country riddled with contradictions. It is not a low tax economy. Its aggregate tax burden is roughly 40 percent of GDP, significantly higher than the UK and the US, though lower than many other European countries. More revealingly however is Iceland’s corporate tax rates are low at 18 percent. Although this is not quite Ireland or Hungary territory (12.5 and 16 percent respectively), it’s still impressive.

Former Icelandic prime minister David Oddsson, who oversaw much of Icelandic’s key economic reforms in the 1990’s, has to take much of the credit for Iceland’s economic rejuvenation. Corporate rate reductions were slashed in order to promote a pro-growth economy; wealth taxes were abolished and a flat tax rate was also forced through. Widespread financial de-regulation followed.

Domestic investment firms have been astute in making the most of Iceland’s economic comeback, embracing cross-border opportunities. Despite high interest rates, many Icelandic investment companies in the 1990’s were able to borrow money from countries with lower interest rates before depositing this cash on home ground, allowing them to quickly build up reserves. Meanwhile, old state-run industries were also being privatised, with new property rights created.

Iceland’s re-vamp has also been helped by environmental issues and concerns. Blessed with a super-abundance of hydroelectricity and geothermal power sources, Iceland is now actively looking at ways it can export hydroelectric energy to mainland Europe. Icelanders themselves are early adopters of mobile technology and broadband penetration is amongst the highest within the OECD.

Still fiercely independent
Today, Iceland’s economy looks generally highly robust: unemployment rates are one of the lowest in the world. Oddities remain though: Iceland is not a member of the European Union, nor does it seem much interested in joining. This is premised on the concern that Iceland would have to give up control over much of its natural resources, including fishing grounds, were it to join. Given Iceland’s booming economy and high growth curve, there seems no pressing urgency – at least for the moment – for it to join, so say Iceland’s powerful anti-EU lobby.

On the other hand, pro-EU Icelanders point to Iceland’s formidably high cost of living, even by central London or Scandinavian standards. Rising Icelandic inflation continues to make imports expensive. However, Iceland is a member of the European Free Trade Association and in 1992 Iceland became a member of the European Economic Area, allowing Iceland – and other countries including Norway – to join in the EU single market without formally having to join the EU.

Another hot issue is the unwillingness by Icelanders to give up sovereignty to Brussels. It remains a fiercely independent nation as well as an increasingly wealthy one: according to the Organisation for Economic Cooperation and Development (OECD) and the International Monetary Fund, Iceland now ranks as the world’s fifth-richest nation.

FDI remains patchy
Iceland’s own internal FDI – most of it from Europe and the US – is rather muted in comparison with its strenuous investment efforts overseas. However, plenty of FDI has been channelled towards Iceland’s own IT and software industry. It’s estimated since 2003 around $800 million has been invested. Some significant FDI investment in Iceland’s aluminium industry has also taken place.

Supporters of Icelandic FDI point to its strong levels of efficiency and productivity (amongst the highest in the world) and one of the lowest corporate tax rates in the world (18 percent), as well as its strategic location as a bridge between the US and Europe. Tax benefits to overseas investors includes no net wealth tax, no legislation on thin capitalisation; there’s also no branch profits taxes on repatriated profits.

Iceland’s legal market remains small. There are no large international legal players based in the capital Reykjavik and most domestic law firms focus on dispute resolution and family law. However, specialty legal work is booming, helped by the buoyant corporate M&A market.

Tourism ramping up
Away from the business news headlines however, Iceland’s economy – an odd mixture of capitalistic market economy supporting an extensive welfare state – is still strongly dependent on the fishing industry. In recent years, Iceland though has cottoned on increasingly as a tourist destination, particularly with eco-tourists and whale-watching.

In 2006, Euromonitor estimated tourism accounted for more than six per cent of Iceland’s gross domestic product. The main attraction for tourists is the unspoilt nature of much of its glaciers, lakes and lava field.

Although whale watching has also proved popular, Iceland is increasingly popular with adventure tourist and farm holidays. However, extreme seasonality means the tourist industry has to be flexible and focused. There also remains concern about the possible resumption of commercial whaling – and the impact this could have on Iceland as a green or nature lovers holiday destination. There is also a question mark about just how successful Icelandair is likely to be in developing its network and also being able to maintain growth.

Real estate prospects remain positive
Icelandic real estate roughly doubled between 2001 and 2007. The average price of an apartment ballooned from almost ISK 15 million in 2001 to beyond ISK 30 million by the end of 2007. Recently, as in the US and in some parts of Europe, there has been concern about falling price inflation, however the Icelandic market appears, so far, robust.

House prices are forecast to stay more or less at a standstill in 2008, due to tighter access to loans and a cooling labour market, followed by an uplift in 2009 when interest rates are anticipated to fall again.

Iceland’s mortgage market, like its banking market, has become more liberalised over the years, resulting in wider access to credit and borrowing, stoking demand and prices.

Summing up
Perched at the top of the Atlantic, Iceland is a tricky country to summarise. There are some glaring contradictions: despite relatively high rates of personal taxation, corporate taxation is amongst the lowest anywhere. Despite close ties to Europe and Scandinavia, it is stubbornly independent of Brussels. Although Iceland has an abundance of cheap, green energy, it has few natural resources. And though Iceland can claim a high degree of IT and technological prowess, from biotechnology to financial services, it still relies heavily on its ages-old fishing industry to provide 40 percent of its total exports. It also belongs to NATO, but has no armed forces (it declared itself a nuclear-free zone in 1985).

Meanwhile Iceland’s centre-right government, led by Geir Haarde, head of the Conservative Independence Party, continues to steer a delicate path of avoiding overheating the economy while promoting a high standard of living. Per capita GDP is estimated at more than €25,000 and Iceland’s pension system is well capitalised.

Iceland fact-box
Population: 312,000 people

GDP total: $18.4bn

GDP growth (2007): 2.6 percent

Inflation rate (2007): 4 percent

Budget (2007) $6bn

Unemployment: two percent

Net public debt: 17 percent of GDP