Italian tax changes to boost lending

Recently announced proposals by the Italian government to abolish withholding tax on loan interest payments and lift restrictions on direct lending to Italian companies are expected to give a major boost to the country’s loan market.

The moves should make it much easier and cheaper for foreign banks and other institutions to lend to Italy, boosting loan market liquidity as the country slowly emerges from financial crisis.

“This could really open up the Italian loan market. Liquidity will be boosted, there will be increased competition, and we may even see improved transparency in a market that has up to now been dominated by domestic players,” a senior loans banker said.

With just over US$10bn of Italian syndicated loans completed so far this year, Italy has some way to go to catch up with fellow peripheral economy Spain, which has already seen more than US$27bn in loans.

Bankers are hopeful that the Italian proposals will act as a spur to the loan market in much the same way as the reforms of June 2012, which saw the removal of the withholding tax that unlisted companies had to pay on Italian bond issuance, boosted the Italian bond market at a difficult time.

The abolition of withholding tax on loan interest, which has been mooted for many years, could be made law as soon as August 24, according to two sources.

Under existing arrangements, non-resident banks without an onshore branch in Italy have to pay 26% withholding tax, recently increased from 20%, on the interest they earn on loans to Italian companies.

International banks wanting to get around withholding tax have made use of highly complex and potentially risky fronting bank structures whereby an Italian fronting bank receives loan repayments without withholding tax deductions and then sub-participates the loan to international banks.

Foreign lenders have also resorted to lending though countries such as Switzerland that have double taxation treaties to reduce the amount of tax to be paid, while “international” sub-tranches on larger deals have also allowed international banks to participate in loans without the payment of the tax.

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Under the new proposals, it will be far easier for Italian borrowers to tap alternative, non-bank funding sources such as insurance companies, securitisation vehicles and credit funds, which would be allowed to lend directly to Italian companies.

“If the proposal is enacted in legislation it will mean that anyone can now lend to Italy from outside. It will be much easier and bring more liquidity in,” a second banker said.

Existing law means only Italian and other EU-passport banks or non-EU banks acting through an Italian branch are able to lend to Italian companies.

“The proposal may be extended to institutional investors as well, which will really help drive LBO activity and lending to leveraged corporates, which has previously been constrained by the need for fronting bank arrangements,” the first banker said.

Larger Italian banks will welcome the move as it gives them a far wider investor base to approach, although smaller domestic banks may not welcome the increased competition.