Abstract: The revised China-Italy Double Taxation Agreement (DTA) marks a significant advancement over its predecessor, providing even more favorable terms for Chinese and Italian investors. While the prior agreement already facilitated cross-border trade, investment, and knowledge exchange, this updated version further improves the business climate for both parties.
The most important innovations of the new agreement is its approach to the taxation of dividends, interest, royalties, and capital gains. Italian investors operating in China will need to carefully review these updates to better manage and optimize their tax obligations.
Under the new DTA,
· beneficial owners holding at least 25 percent of a company's share capital for at least 356 days will qualify for a reduced tax rate of 5 percent, compared to the previous 10 percent under Chinese domestic tax law;
· Additionally, interest payments on loans for investment projects will be subject to a lower tax rate of 8 percent, down from 10 percent;
· Italian investors will also enjoy tax exemptions on interest payments related to securities issued by specific Italian financial institutions;
· The tax rate on royalties for the use of industrial, commercial, and scientific equipment has also been lowered, from 7 percent to 5 percent. This change provides Italy with a competitive advantage over other European countries that have double taxation agreements with China, where royalties are generally taxed at a minimum rate of 6 percent.
As for capital gains, the revised DTA stipulates that only gains from the sale of shares in which the seller has held a 25 percent or greater stake in the 12 months preceding the sale will be taxable. Any capital gains that do not fall within this scope will be taxed solely in the country of the seller's tax residence.
While the prior agreement already facilitated cross-border trade, investment, and knowledge exchange, this updated version further improves the business climate for both parties.
1. Intro: Italy has recently completed the ratification process of the new Double Taxation Agreement (DTA) with China, set to come into force in 2025. Originally signed in 2019, the agreement aims to reduce the tax burden on taxpayers, combat tax evasion, and encourage Italian investments in the Chinese market. Aligning with international standards promoted by the OECD Model Tax Convention, the new DTA introduces significant reductions in withholding taxes on dividends, interest, and royalties, marking an important step forward in economic cooperation between Italy and China.
This article aim to explain the most relevant innovations related to the reform of the international tax framework between China and Italy, underlining the impact that these new provisions will have on investment between the two countries.
2. Structure and scope of application: The DTA is structured in 30 articles plus a Protocol. From article 1 to article 5 are codified the scope of application of the treaty and most relevant definitions, such as the territorial scope, most relevant terminology and interpretative criteria such as tie-breaker criteria for dual residency or the fallback to domestic laws for undefined terms balances flexibility and specificity.
General rule is that in order to be beneficiary of the provisions of the DTA one must be an individual or legal entity resident in one of the two Contracting States, following the criteria and seeing the relevant exceptions set by article 1, 4 and 5. The DTA that will be in force starting from the next year, based on article 2 of the Agreement, expressly specifies that it will cover taxes imposed on total income or elements of income, regardless of the method of collection (e.g., direct payment or withholding).
The taxes cited and thus covered by the treaty are the Chinese individual income Tax (IIT or 个人所得税), the Chinese Enterprise Income Tax (EIT or 企业所得税) and the Italian Personal Income Tax (IRPEF), Corporate Income Tax (IRES) and Regional Tax on Productive Activities (IRAP). Nevertheless, based on the last paragraph of article 2, the treaty also applies to identical or substantially similar taxes introduced after the treaty's signature and to taxes that replace or are added to the existing ones. This provision ensures flexibility since that even in case where tax systems are reformed or new taxes are introduced, the DAT will maintain its relevance over time. In addition, in order to enhance administrative cooperation the treaty also requires to notify each other of any significant changes in their taxation laws.
Article 5 defines the concept of “permanent establishment” (PE) which is defined as a fixed place of business through which the business of an enterprise is wholly or partly carried on. This provision is critical because it determines when a business operating across borders becomes taxable in the source country, ensuring that taxation aligns with the economic presence and activity of a foreign enterprise.
· Aligning with the new relevant international standards now article 5 includes also construction projects lasting over 12 months and service activities exceeding 183 days in a year. However, the articles codifies also the relevant exceptions that exclude the existence of a PE, for example giving the criteria for defining the independency of an agent.
· By defining the circumstances under which a permanent establishment arises, the article ensures that taxation is based on substantial economic presence, prevents treaty abuse, and provides clarity for enterprises and tax authorities.
All these provisions set the foundation for the application of the treaty by defining the types and scope of taxes covered. By listing the specific taxes in China and Italy and allowing for future adaptability and conflicts prevention, it ensures the treaty remains relevant and effective in avoiding double taxation and fostering cross-border economic cooperation.
3. Substantial provisions: As anticipated by the new DTA introduces important innovation in respect the old DTA between China and Italy signed in 1986 that will have a huge impact on the business cross-border economic relations between China and Italy. This section of the article aims to discuss the most relevant innovations and provisions for business operating between China and Italy.
First, article 6 governs the taxing right on income deriving from immovable property.
· The general rule of the article states that the income derived by a resident of one Contracting State from immovable property located in the other Contracting State may be taxed in the State where the property is located. This means the source country (where the property is located) has the primary right to tax such income, even though the taxpayer is a resident of the other State. In order to give more clarity the article also specifies that the term "immovable property" is defined primarily by the laws of the State where the property is situated.
· In addition, the article specifies certain items (e.g. accessory property, usufruct rights) and exclude others (e.g. boats, aircrafts) from considering immovable property, even if not explicitly included under domestic law. Regarding the types of income covered by the provision, article 6 of the DTA broadly covers all forms of income generated from immovable property (e.g. direct use, rent, royalties for the exploitation of natural resources), ensuring comprehensive taxation rights for the State where the property is located.
While this article grants taxing rights to the source State, the residence State typically provides relief (e.g., credit or exemption) to avoid double taxation. This mechanism fosters cross-border investment and compliance.
Second, article 7 sets out the rules for the taxation of business profits earned by enterprises of one Contracting State that conduct business in the other Contracting State.
· The general rule codified by the DTA is that business profits of an enterprise from one Contracting State are taxable only in that State unless the enterprise operates in the other Contracting State through a permanent establishment (PE).
· If there is a PE, the other State can tax the profits, but only the portion attributable to that PE. The provision minimizes the risk of double taxation, as only the portion of profits connected to the PE is taxed in the other State. Aligning with OECD principles such as the arm’s length principle, the profits to a PE are those which the PE would earn if it were an independent enterprise engaged in similar activities under similar conditions, dealing independently with the rest of the enterprise. This framework avoids issues of transfer pricing and prevents profit shifting between the enterprise and its PE. Fairness are granted by allowing the deduction of expenses since expenses incurred for the purposes of the PE, including executive and general administrative expenses, are deductible, regardless of whether they are incurred in the State where the PE is situated or elsewhere, allowing for a full allocation of related costs to determine the taxable profits.
· In addition, aligning with the broader principle that only significant economic activities are taxable, no profits are attributable to a PE merely because it purchases goods or merchandise for the enterprise and also this provision excludes preparatory or auxiliary activities (like procurement) from creating tax liabilities for the PE.
In conclusion, aiming to ensure consistency and predictability in tax assessments, profits attributed to the PE must be determined using the same method year after year unless there is a valid reason to change. If certain types of income (e.g., royalties, dividends) are dealt with under other Articles, those provisions take precedence over this Article.
Third, article 8 establishes specific rules for taxing profits from the operation of ships or aircraft in international traffic by enterprises of one Contracting State.
· The general rule states that profits from the operation of ships or aircraft in international traffic by an enterprise of a Contracting State are taxable only in that State (the residence State of the enterprise). Thus, the source State (where the ships or aircraft may operate or generate profits e.g. through passenger or cargo transport) has no taxing rights under this rule.
· In addition, profits earned through pools, joint businesses, or international operating agencies are also taxable only in the residence State of the participating enterprise.
Fourth, article 9 addresses the taxation of transactions between associated enterprises in the two Contracting States, aiming to ensure fairness by adhering to the arm’s length principle.
· The article in order to prevent manipulation of prices, terms, or other financial arrangements to shift profits unfairly enforces the concept that transactions between associated enterprises must reflect terms that independent parties would agree upon under similar circumstances.
· In order to do so it provides the possibility for the tax authorities of one Contracting States to recalculate the profits and then adjust the taxation of the profits in case where the commercial or financial terms between the two enterprises characterized by common ownership or control differ from those that would have been agreed upon by independent enterprises.
So this provision highlights the need to maintain robust transfer pricing documentation to demonstrate that intercompany transactions comply with the arm’s length principle. By relying on Article 26, disputes over adjustments can be resolved through a structured mechanism that involves the competent authorities of both States.
Fifth, article 10 outlines the rules for taxing dividends paid by a company in one Contracting State to a resident of the other Contracting State.
· The general rule states that dividends paid to a resident of the other Contracting State may be taxed in that State, according to its tax laws.
· Innovation: Dividends may also be taxed in the State where the company paying the dividends is resident, but the withholding tax rate is capped and reduced from 10% agreed in the 1986 DTA to no more than 5% if the beneficial owner is a company that directly holds at least 25% of the capital of the company for a continuous period of at least 365 days (corporate reorganizations such as mergers or divisions do not disrupt this period).
· In addition, the DTA establish a prohibition on additional dividend taxes stating that the source State cannot impose additional taxes on dividends paid by the company unless the dividends are paid to a resident of that State, or the shares are connected to a PE or fixed base in that State. Moreover, The source State cannot impose taxes on the undistributed profits of the company, even if those profits partly arise in that State.
This marks an important innovation from the old DTA of 1986 where the taxation rate was capped at 10% by Chinese Tax law of the gross amount of dividends, now the reduction to 5% will encourage more long-term investments between companies in China and Italy, benefitting Italian companies who receives dividends from Chinese sources and the reduction of the tax rate on qualified holdings, aim to encourage the capitalization of Chinese enterprises in Italy through equity investments.
Sixth, article 11 addresses the taxation of interest payments in cross-border transactions between the two Contracting States.
· General rule states that Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State.
· Innovation: However, interest may also be taxed in the source State (where the interest arises), but the now tax rate is reduced from 10% to 8% for interest paid to financial institutions on loans with a term of at least 3 years for financing investment projects.
· Innovation: In addition, interest arising in the source State is exempt from tax if the payer is a Governmental or Public entity of a Contracting State. Especially it is now specified that interest paid by Italian entities such as the Bank of Italy, Cassa Depositi e Prestiti (CDP), SACE, or SIMEST to residents of China is fully exempt from Italian tax.
The practical implications of this innovation imply on the one hand for business and investors lower financing costs for cross-border loans, making investments more attractive. On the other hand, exemptions for government-backed loans encourage international collaboration on infrastructure and development projects such as project related to the BRI or interest on securities such as Panda Bonds.
Seventh, Article 12 establishes the taxation framework for royalties arising between residents of the two Contracting States.
· The general rule states that royalties may be taxed in the residence State of the beneficial owner.
· Innovation: However, royalties may also be taxed in the source State (where the royalties arise), but the tax is limited to the 10% of the gross amount for royalties defined under sub-paragraph (a) (e.g. copyrights, patents, etc.); or 10% of the adjusted amount for royalties under sub-paragraph (b) (e.g. industrial, commercial, or scientific equipment use). The adjusted amount is now defined as 50% of the gross amount of the royalties. This is a very important innovation because in the DTA of 1986 the adjusted amount was calculated as 70% of the gross amount of royalties, resulting in a 7% tax rate on royalties; while now the tax rate on royalties for the use of industrial, commercial, and scientific equipment has also been lowered, from 7 percent to 5 percent.
This change provides Italy with a competitive advantage over other European countries that have double taxation agreements with China, where royalties are generally taxed at a minimum rate of 6 percent.
Eight, Article 13 governs the taxation of capital gains arising from the sale or transfer of various types of property by residents of the two Contracting States.
· General rule is that gains from the sale of any property not mentioned in this article are taxable only in the residence State of the seller. The article delineates the taxing rights of the residence and source States based on the type of property involved.
· Said so, firstly, gains derived by a resident of one Contracting State from the sale of immovable property situated in the other Contracting State may be taxed in the source State. Secondly, gains from the sale of movable property that is part of the business property of a PE, or pertains to a fixed base used for independent personal services, may be taxed in the source State (where the PE or fixed base is located). Thirdly, gains from the sale of ships, aircraft, or movable property related to their operation used in international traffic are taxable only in the residence State of the enterprise. Gains from the sale of shares deriving more than 50% of their value directly or indirectly from immovable property situated in the source State may be taxed in the source State. Gains from the sale of shares in a company resident in the source State may be taxed in the source State if the seller held a participation of at least 25% (directly or indirectly) in the company during the 12 months preceding the sale.
Clear rules help prevent overlapping taxation, so that residence States typically offering tax credits for taxes paid in the source State.
Ninth, Article 14 governs the taxation of income earned from professional or independent personal services performed by residents of one Contracting State in the other.
· General rule is that income derived from professional services or independent activities is taxable only in the residence State of the individual.
· However, the income may also be taxed in the source State if one of the following conditions is met: the individual has a fixed base in the source State, or the individual's stay in the source State meets a threshold of 183 days in a 12-month period.
Tenth, Article 23 outlines the mechanisms by which China and Italy eliminate or mitigate double taxation on income derived by their residents from the other Contracting State. China ensures relief from double taxation for its residents who earn income from Italy through a tax credit system.
· The general rule allows Chinese residents to offset taxes paid in Italy against their Chinese tax liability on the same income. This offset is capped at the amount of Chinese tax due on the income, calculated according to Chinese tax laws. For dividends, there is an additional provision for Chinese companies holding significant stakes—defined as at least 20% of the shares—in Italian companies. In such cases, the tax credit extends beyond the direct tax on the dividends to include the corporate tax paid in Italy by the dividend-paying company on the profits from which the dividends are distributed. This unique rule incentivizes Chinese companies to invest in Italian firms with substantial ownership stakes, strengthening economic ties and corporate relationships.
· Italy similarly adopts the credit method to mitigate double taxation, but its system incorporates specific nuances. Italian residents earning income in China must include such income in their Italian tax base, as determined by local tax laws. The Chinese tax paid on that income can then be deducted from the Italian tax liability, ensuring relief from double taxation. However, the credit is capped at the portion of Italian tax attributable to the income earned in China. Exceptions to the credit mechanism apply in certain cases. No deduction is permitted when the income is subject to a substitute tax or a final withholding tax in Italy. Additionally, taxpayers opting for substitute taxation at rates equivalent to withholding taxes under Italian law waive their right to claim a tax credit for foreign taxes.
Eleventh, Article 24 introduces a Principal Purpose Test (PPT) to combat treaty abuse, ensuring that the benefits under tax treaties are reserved for genuine cross-border arrangements. This provision reflects modern international tax practices designed to prevent treaty shopping and other forms of tax avoidance, thereby fostering fairness and integrity in the global tax system.
· The general rule established by the PPT denies treaty benefits for an item of income if it is reasonable to conclude that one of the principal purposes of the arrangement or transaction was to secure those benefits. This denial applies even if the arrangement indirectly results in the benefit.
· However, there is an important exception: benefits may still be granted if it can be demonstrated that doing so aligns with the object and purpose of the treaty provisions, such as promoting legitimate cross-border trade or investment.
· The PPT relies on several key elements to ensure effective implementation. First, the test itself is designed to prevent inappropriate use of tax treaties by taxpayers who structure transactions with the primary aim of gaining treaty benefits, such as reduced withholding tax rates or exemptions. To apply the PPT, tax authorities assess the facts and circumstances surrounding the transaction to determine the taxpayer's intent. Second, the standard for denial is based on a reasonable conclusion rather than absolute proof of intent. It suffices if there is enough evidence to reasonably conclude that obtaining the benefit was a principal purpose of the arrangement. Third, even when the PPT is triggered, the taxpayer can still access treaty benefits by demonstrating that the transaction aligns with the treaty's object and purpose, reinforcing its legitimacy.
Twelfth, Article 25 establishes a comprehensive framework to prevent unfair or discriminatory taxation of nationals and businesses of one Contracting State in the other.
· The general rule of the article mandates that nationals of one Contracting State should not be subject to taxation or tax-related requirements in the other State that are more burdensome than those imposed on its own nationals in similar circumstances. This rule applies to both taxation and related obligations, such as filing requirements and procedural rules, and extends protection to non-residents. By doing so, the provision ensures a level playing field for nationals of China and Italy, safeguarding against tax discrimination and protecting non-residents engaged in business or earning income in the other State.
· The article also protects permanent establishments (PEs) of enterprises from one State operating in the other. These PEs must not be taxed less favorably than local enterprises engaged in similar activities. However, the provision allows exceptions for personal tax benefits, such as allowances or deductions, which remain reserved for residents of the taxing State. This ensures equitable treatment for PEs, reducing barriers for cross-border business operations, while respecting domestic tax policies on personal tax benefits.
· The non-discrimination principle extends to payments such as interest, royalties, and other disbursements made by an enterprise to a resident of the other Contracting State. Such payments must be deductible under the same conditions as those made to residents of the same State. However, this rule does not override specific treaty provisions, including those related to associated enterprises, special rules for interest, and royalties. This ensures that cross-border payments are treated fairly without undermining the treaty's anti-abuse safeguards.
· The provision further prohibits discriminatory taxation or requirements for enterprises in one State that are wholly or partially owned or controlled by residents of the other State. These businesses must not face more burdensome taxation than domestic enterprises in similar situations. This clause supports foreign investment by reducing the risk of discriminatory treatment for foreign-owned or controlled enterprises. The non-discrimination provisions of Article 25 apply broadly to all types of taxes, not just those explicitly covered under Article 2 of the treaty. This extends protection against discriminatory treatment to indirect taxes, such as VAT and property taxes, ensuring comprehensive equality in taxation across all categories.
The article guarantees a level playing field for foreign-owned enterprises and PEs, allowing them to operate under tax conditions equivalent to those faced by local companies. It also clarifies that payments to foreign residents are treated equivalently to domestic payments, minimizing uncertainty in tax planning. So nationals of China and Italy are assured of fair treatment when working, earning income, or conducting business in the other State, reducing concerns about discriminatory taxation.
In conclusion, Article 26 which introduces a framework for resolving disputes and ambiguities in the interpretation or application of the treaty.
· Through the Mutual Agreement Procedure (MAP), taxpayers and competent authorities can address taxation that violates treaty provisions, fostering fairness and collaboration.
· Taxpayers who believe they are subject to taxation inconsistent with the treaty can present their case to the competent authority of their State of residence or, in cases involving non-discrimination under Article 25, their State of nationality.
· Cases must be initiated within three years of the first notification of the action leading to disputed taxation. This right operates independently of domestic remedies, providing an additional treaty-based avenue for relief. By providing clarity and predictability, MAP enhances confidence in cross-border transactions and reduces barriers to economic integration.
The MAP provides a recourse for resolving disputes over double taxation or treaty misapplication. Taxpayers benefit from an independent process that avoids prolonged domestic litigation, provided they adhere to the three-year deadline for initiating cases.
4. Conclusion: The newly ratified Double Taxation Agreement (DTA) between China and Italy, effective from 2025, marks a significant enhancement in the economic relationship between the two countries. By introducing several key innovations, the DTA aims to facilitate smoother cross-border investments, reduce the tax burden on businesses and individuals, and foster greater economic cooperation. With clear provisions on the taxation of dividends, interest, royalties, capital gains, and business profits, the DTA creates a more predictable and favorable environment for investors from both sides. Among the most notable changes, the reduction in withholding taxes on dividends, interest, and royalties enhances the appeal of both China and Italy as investment destinations. The provisions on business profits, permanent establishments, and capital gains create greater clarity and fairness for enterprises operating across borders. Furthermore, the treaty’s inclusion of mechanisms to prevent tax discrimination and abuse, such as the Principal Purpose Test (PPT) and dispute resolution procedures, ensures that the benefits of the DTA are directed at legitimate cross-border transactions and that businesses are protected from unfair treatment. The treaty also includes forward-looking provisions that ensure its relevance even as tax systems evolve in both countries. By covering new or substantially similar taxes and offering mechanisms for resolving disputes, the DTA fosters a robust legal framework for continued collaboration between China and Italy. As a result, the new agreement offers both Chinese and Italian investors greater security and incentives to expand their business operations and deepen economic ties, ultimately contributing to stronger, more integrated markets between the two nations.
Franco Fornari
Senior Head of Department
Foreign Legal Affairs
Email: Fornari@wjngh.cn
Christian Martinengo
Foreign Legal Affairs Intern
Email: foreignlegalaffairs@wjngh.cn
