"For me, everything was in order," Ancelotti said. "I never thought about committing fraud."
Taking the stand on Wednesday on the first day of a three-day trial, the Italian said that when joining the Spanish team he had simply requested a net salary of 6 million euros ($A10.3m) and had left it up to the club and his British adviser how that was structured.
"I thought it was quite normal because at that time all the players and the previous coach had (done the same)," added Ancelotti, who testified for around 40 minutes.
He is the latest of several soccer celebrities to be investigated by the Spanish tax authority for alleged tax fraud.
While some leading players such as Portugal's Cristiano Ronaldo and Spain's Diego Costa have settled out of court with large fines, others such as Bayer Leverkusen coach Xabi Alonso decided to defend their innocence in court.
The Supreme Court in 2023 upheld Alonso's acquittal.
The prosecutor is seeking a prison term of four years and nine months for Ancelotti and a fine of 3.2 million euros ($A5.8m) for two counts of tax evasion in 2014 and 2015.
It argues that he had only reported the salary he was paid by Real Madrid and had omitted income from his image rights in his tax returns.
Ancelotti said that image rights were not significant for coaches in the way they are for players.
"For coaches (image rights) don't mean the same as they do for players because they don't sell shirts," he added.
Before the hearing, the prosecutor said Spain's tax authority had seized the debt plus interest from Ancelotti.
The parties could reach an out-of-court agreement at any point in the process.
Ancelotti, a former player who was capped 26 times for Italy and played in the 1990 World Cup, returned to Real Madrid for a second stint as coach in 2021.
He has won the Champions League five times as a coach, twice with AC Milan and three times with Real.
