According to recent press reports, the Guardia di Finanza, Italy's tax police, considers the directors of the Google group's Italian subsidiary to be liable for an alleged €50 million tax evasion.

The investigation reportedly turns on whether the internet search company's subsidiary can be considered an undisclosed permanent establishment of its Irish parent company.1 The Milan Public Prosecutor's Office has decided to drop criminal charges on the Italian Google subsidiary's directors because of the difficulty of establishing the exact amount of the unpaid taxes - which requires a precise determination of the taxable base of the Italian permanent establishment and the costs relating to its operations. However, the tax police's findings may yet provide a basis for an assessment by the Italian tax authority, the Agenzia delle Entrate.

The future developments of this case could have wider implications, as Google operates a business and marketing model that is common to many other internet companies. Thus, a decision against Google could adversely affect other online businesses with similar corporate structures.

Google's Italian operations and the tax police's findings

Google's Italian subsidiary renders marketing services to its Irish parent company and is remunerated on a cost-plus basis with an 8% mark-up. The subsidiary's manager has reportedly issued a declaration to the tax police which states that the subsidiary negotiated advertising contracts between the parent company and the latter's Italian clients, the parent company's involvement being limited to signing contracts that had been negotiated by the subsidiary and signed by the client.

Although press reports are unclear on the point, the tax police's investigation almost certainly focused on the re-characterisation of Google's Italian subsidiary as an agency permanent establishment of its Irish parent company.

Article 4(4) of the Double Tax Convention between Italy and Ireland states that:

"A person acting in [Italy] on behalf of an enterprise of [Ireland] - other than an agent of independent status... - shall be deemed to be a permanent establishment in [Italy] if [that person] has, and habitually exercises in [Italy], an authority to conclude contracts in the name of the enterprise, unless his activities are limited to the purchase of goods or merchandise for the enterprise."

Article 162(6) of the Income Tax Code provides that a resident or non-resident entity that habitually concludes contracts (other than purchase contracts) in Italy in the name of a nonresident enterprise is considered to be the permanent establishment of the non-resident enterprise.2

Moreover, in a well-known tax dispute against Philip Morris, the Italian Court of Cassation upheld the tax authorities' standpoint, stating that: (i) participation in contracts negotiation can be construed as an activity entailing the presence of a permanent establishment; and (ii) a contract is deemed to be concluded by the agent, not by the principal, if it is negotiated by the agent and merely signed by the principal.3

A threat to the standard internet business model?

The Google investigation may represent a significant indication of the tax authorities' approach to the business models of multinational corporations in the field of e-commerce. Internet companies can operate in almost any jurisdiction with little or no need for a physical presence, thus potentially eroding the taxation rights of national authorities.

Many internet companies use a structure that is similar or identical to that investigated in this case. Local subsidiaries are engaged - to varying degrees - in the marketing of the website and the sale of online advertising space. The website is owned by another group entity, which collects revenues from all sales from all countries in which the website operates. In return, the local subsidiaries receive a fee from that entity. A similar model is used in the television industry: some satellite television channels operate from a central base, with local subsidiaries selling advertising space on the channel to local clients on behalf of a central entity.

Assessing whether the Google case is a serious threat to other operators will depend not only on an analysis of the company's business model, but also on the way in which operations are carried out in practice. For example, one internet company may use a local marketing team for the general promotion of its website, whereas another may also give its marketing team responsibility for other roles, such as surveying the market to identify prospective clients.


The outcome of the investigation will offer a significant precedent for the tax authorities' approach to assessments of multinational internet companies and their business models.

If the Italian authorities successfully challenge the subsidiary's tax position in this case, it will have a significant impact on the way in which foreign companies structure their Italian operations, particularly in light of an increasingly aggressive (and pro-Italian) tax authority approach to permanent establishments and intra-group transfer pricing.

Multinationals, especially those operating in the fields of television, Internet and related sectors would be well advised to follow the dispute closely. Internet companies with a similar business model should consider whether pre-emptive tax-structuring changes could minimise the impact of an adverse outcome for Google Italy.


1 In a similar case in Turkey, tax authorities determined that Google's local subsidiary had underpaid a total of €33 million of income taxes.

2 Section 162(9) of the code also provides a so-called 'anti-single entity' clause, which states that: "The fact that a non-resident enterprise (with or without a permanent establishment in the State) controls, or is controlled by, a resident enterprise or that both enterprises are controlled by a third subject, whether or not it carries on a business activity, is not of itself a sufficient reason to consider one of such enterprises to be a permanent establishment of the other."

3 Decision 7682 of May 25 2002.

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