It is well-known that an effective and aggressive management of debts plays an important role in order to limit the damage caused by debtors defaulting on payment, damage now increased in our country by the recent reduction of legal interest rate, not to mention the chronic crisis of the enforcement of civil judgements by ordinary proceedings.

Now, as already discussed in the Newletter no. 22, the advantage of an early commenced debt collection is not only that of maximising the chances of actual recovery and size of the net amount recovered (that is, less legal costs and damages suffered for delay), but also that of allowing, in the worst case, an early write-off of the debt for fiscal purposes, following a declaration of insolvency of the debtor.

Commencing bankruptcy proceedings (or an unsuccessful attempt to execute the debt) today gives creditors having a permanent place of business in Italy a further advantage, in fiscal terms, as a result of the amendment introduced by the Law 28/02/97 no. 30 (which converts Law Decree no. 669/96 Art 26, para 2, of the Presidential Decree n 633/72, the law which introduced the Value Added Tax in Italy).

In particular, the measure provides that "if the taxable amount of transaction which involves the issue of an invoice, is cancelled or reduced after the registration of the relevant invoice in the accounting books according to Arts. 23 and 24. [...] because of non-payment due to the commencement of bankruptcy proceedings or the failure of civil enforcement, the seller or service provider is entitled to deduct under Art 19 the tax corresponding to the variation, by recording the corresponding amount in accordance with Art 25".

The reform in question restores, or at least maintains, the principle of VAT "neutrality", so that the burden of such tax continues to be born exclusively by the ultimate consumer as required by law, with no economic consequences for the businesses located at the various intermediate stages of production and of the supply and marketing chain. In fact, until the law came into force, the seller of a product or service provider had to invoice the transactions in question, and to record the consequential credits in his books, taking them into account at their face value in the periodic assessments of VAT. Therefore, whenever the invoice was not settled, the seller or service provider was obliged to pay the tax assessed in the invoice, but never obtained from the debtor; while the purchaser was unfairly entitled, on the basis of the invoice recorded, to deduct the same tax, having never paid the same to the creditor.

This reform is of even greater importance than it may seem prima facie.

As a matter of fact, as it is well-known by those who use the Firm's services in this field, while in theory there is the possibility, in bankruptcy proceedings, of obtaining priority in the ranking of creditors for the credit related to VAT on the purchased goods, in practice there is often a great deal of difficulty in obtaining judicial recognition of such priority; this because the receiver, supported by the supervising judge, ends up objecting to the grant of VAT priority, on the ground that the purchased goods have not be recovered by the receivership; or merely and unfairly relying upon the obvious reluctance of creditors to embark in lengthy and expensive judicial challenges of such findings, which amount to an ordinary trial, without any guarantee that a favourable judgement will practically benefit their position (even if the case were found in favour of the plaintiff, the bankruptcy funds might of course be insufficient to comply with the judgement).

Finally, we would like to briefly point out the implications of the new legislation having regard to the second event which allows creditor to recover the unpaid VAT by entering a special note of variation in the accounts; an attempt which has failed to enforce the debt against the purchaser.

The wording of the law ("non-payment in whole or in part because of enforcement procedures which remained fruitless have been commenced...") is far from clear and conspicuous. While the non-payment could very well be caused by the beginning of bankruptcy proceedings, which have in themselves the effect of suspending payments, the non-payment obviously cannot be caused by the fact that the creditor has tried to enforce his rights, but instead is caused by the fact that he has not been able to find assets to attach!

Furthermore, the only logical interpretation of the law is to assume that the provision is always applicable whenever an attempt to attach goods or credits (that is, earnings or bank funds...) has failed. Now, this seem to imply that the creditor complies with such legal requirement even by requesting the court bailiff to research an address where the creditor is perfectly aware that no assets belonging to the debtor exist. As the above involves a legal presumption of diligence by the creditor in the realisation of his right, it would appear reasonable an interpretation of the law, or even better a explicit statutory provision, which allow the creditor to benefit from the reform herein discussed by merely refraining from the commencement of enforcement procedures which have no chance of success given the debtor's insolvency and would only amount to a pointless waste of money and of law enforcement agencies resources, which are overburdened enough.

As it is generally admitted with regard to the writing-off of credits, this is the case whenever the recovery is either "economically impossible" - ie, not viable, as the expected costs exceed the likely benefits of the commencement of enforcement procedures - or "factually impossible", as in the event of a complete dissolution of the business involved, which the court nevertheless refuses to declare bankrupt, for example because the statutory time limit after the business closure has expired, or because it deems it a "small business", as such non subject to bankruptcy according to Italian insolvency law.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.