An extract from The Corporate Tax Planning Law Review – Edition 3
Local developments
i Entity selection and business operationsEntities
Non-corporate entities include general and limited partnerships. They are rarely used by large businesses because general partners must be individuals and have unlimited personal liability.
Collective investment schemes include investment companies with variable capital (open-end), fund contracts (open-end) and limited partnerships for collective investments (closed-end).
The above structures are transparent for income tax purposes (except for real estate funds), so the assets and income derived therefrom are attributed to the partners or fund participants based on their share of the partnership or fund; Swiss collective investment schemes must pay withholding tax on the income they realise (irrespective of whether such income is distributed or accumulated).
Companies limited by shares require a minimum share capital of 100,000 Swiss francs, whereas LLCs require a minimum share capital of 20,000 Swiss francs.
Although less common than the two aforementioned types of companies, Swiss law also permits partnerships limited by shares.
Companies are legal persons, and thus are subject to Swiss taxes. Direct corporate taxes include federal and cantonal corporate income tax and cantonal capital tax. Companies are also responsible for collecting withholding tax on dividend distributions.
Certain legal entities may be exempt from taxes; for example, public benefit companies, charities and pension funds.
Corporate income tax principlesCorporate tax liability and tax rates
Companies with either their statutory seat or their place of effective management in Switzerland are considered Swiss residents for tax purposes.
A company is considered to have its place of effective management in Switzerland if its economic centre is located in Switzerland.
In determining the economic centre, the tax authorities consider a variety of factors and the presence of multiple connecting factors with Switzerland is sufficient to consider that the place of effective management is in Switzerland. The predominant factor is the place where management is carried out (i.e., the day-to-day actions required to carry out the company’s statutory purpose). Secondary factors include the place where fundamental decisions are made and the place where administrative work (e.g., accounting, correspondence) is carried out. A passive company’s (e.g., a group financing company) place of effective management is where its strategic decisions (e.g., decisions about refinancing, loans and loan conditions) are made.
Swiss-resident corporate taxpayers are subject to corporate income tax on worldwide income, with the exception of income from foreign real estate, permanent establishments and business enterprises. Corporate income tax is levied on the net profit.
Swiss permanent establishments of foreign companies are subject to Swiss corporate income tax on income attributable to it. Non-resident companies with real estate in Switzerland are subject to income tax arising from the real estate.
The federal corporate income tax rate is 8.5 per cent on profit after tax; cantonal and communal corporate income tax rates vary.
Following the Tax Reform Act’s entry into force on 1 January 2020, many cantons lowered their corporate income tax rates. Current effective rates (including federal, cantonal and communal taxes) are the following: 13.04 per cent in Basle; 13.99 per cent in Geneva; 13.79 per cent in Lausanne (Vaud); 11.91 per cent in Zug; and 18.19 per cent in Zurich.
Corporate tax base
In principle, the taxable income is the same as the profit listed in statutory financial statements, which is determined using the accrual-basis accounting method. Generally, all expenses are deductible, provided they are commercially justified. Corrections are allowed when tax law stipulates that a value different from that in the books of account should be used. For instance, if the tax authorities consider depreciations or provisions excessive, they will be reduced or denied.
Companies may record depreciations using either the declining-balance method or the straight-line method, but for tax purposes certain minimum rates must be respected (e.g., for commercial buildings, 3–4 per cent using the declining-balance method and 1.5–2 per cent using the straight-line method; and for intangibles, 40 per cent using the declining-balance method and 20 per cent using the straight-line method).
A lump-sum provision for one-third of the inventory value is permitted for federal and cantonal tax purposes. Further lump-sum provisions for accounts receivables are allowed. The standard amount is 5 per cent for Swiss receivables and 10 per cent for foreign receivables.
Under Swiss tax law, losses may be carried forward for seven years; there are no provisions for carry-back. Losses must be carried forward using the first in, first out (FIFO) method.
Older losses (more than seven years) may be carried forward during a financial restructuring resulting from insolvency, if carrying forward said losses will allow the company to balance its books of account.
Interest is deductible. The Federal Tax Administration (FTA) publishes annual safe harbour interest rates for loans granted to related parties. Interest payments exceeding the safe harbour rates are reclassified as constructive dividends if paid to a shareholder or related party. Consequently, this interest is not a deductible expense for federal and cantonal income tax purposes and is subject to withholding tax at a rate of 35 per cent (which may be reduced under an applicable double tax treaty).
Similar rules apply to interest paid on debt exceeding the maximum allowed debt. Swiss federal and cantonal tax rules contain thin capitalisation safe harbour provisions (maximum debt rule per asset class based on their book or fair market value); for example, 100 per cent for cash, 85 per cent for accounts receivable and inventory, 70 per cent for investments in subsidiaries, 50 per cent for furniture and equipment, 70 per cent for property and plant (commercially used) and 70 per cent for intangibles.
However, the rules set out above are merely safe harbour rules, and the taxpayer may prove that a different arm’s-length debt-to-equity ratio or interest rate should be used.
Participation relief and foreign-source income
As a rule, both income and capital profit are subject to federal, cantonal and communal corporate income taxes.
However, participation income is eligible for participation relief if the receiving company owns at least 10 per cent of the equity in the distributing company, if the participation is worth at least 1 million Swiss francs (for dividends) or if the receiving company is entitled to at least 10 per cent of the distributing company’s profit and reserves. Participation relief is granted for capital gains if the shareholder owns at least 10 per cent of the equity and the participation has been held for at least one year.
There is no rule limiting the use of the participation relief based on the amount of tax paid by the subsidiary.
Depreciations on participations are possible and tax deductible. However, a recapture rule stipulates that depreciations must be reintegrated as profit if the participation fulfils the criteria for participation exemption and its fair market value exceeds its book value.
Foreign-source income is subject to corporate taxes if it is included in the legal entity’s statutory financial statements, with the above-mentioned exception for income from foreign real estate, permanent establishments and business enterprises.
As a rule, Swiss double tax treaties use the exemption method to eliminate international double taxation; however, the credit method is used for foreign-source dividends, interest and royalties.
A Swiss company may offset losses incurred abroad by a foreign permanent establishment against domestic profits even though the foreign-source income is tax-exempt. If the permanent establishment makes a profit within seven years, the Swiss company’s initial taxation is revised to recapture the offset foreign losses.
Holding company regimes
Previously, holding companies were exempt from most cantonal and communal corporate income taxes. However, this was abolished when the Tax Reform Act entered into force on 1 January 2020. Nevertheless, holding companies continue to benefit from participation relief for qualifying participations.
Withholding tax
Swiss companies must levy a 35 per cent withholding tax on profit distributions (including constructive dividends and liquidation proceeds) to shareholders or related parties, irrespective of whether the beneficiary is a Swiss tax resident.
Although interest on bonds and other debt certificates issued by Swiss companies is subject to withholding tax, withholding tax is not levied on interest paid on private loans, including intercompany loans.
Under the 10/20 non-bank rule, loans from 10 non-bank lenders with identical terms (loan debentures) and loans from 20 non-bank lenders with variable terms (cash debentures) are treated as bonds, provided that the financing exceeds 500,000 Swiss francs. Exceptions exist for intercompany loans.
In practice, these rules often make the issuance of bonds by Swiss issuers fiscally unattractive and can make non-bank financing difficult, especially when it comes to financing from debt funds and particular attention must be paid to avoid loans that could be requalified as bonds for withholding tax purposes. In practice, it is recommended to have a transfer restriction clause in financing agreements to avoid having more than 10 or 20 non-bank lenders, as well as various Swiss-specific provisions in the loan agreement.
Withholding tax is not levied on royalties.
Swiss taxpayers (companies and individuals) may request a withholding tax refund. The refund will be granted if certain conditions are fulfilled (e.g., the taxpayers have fulfilled all of their reporting obligations).
Non-resident taxpayers may claim a partial or total refund of Swiss withholding tax if there is a DTT between Switzerland and their country of residence.
Capital tax
Capital tax is a direct tax that is levied on companies’ net equity (paid-up capital, as well as open reserves and taxed hidden reserves). Capital tax is levied annually and rates vary (0.001–0.525 per cent) between cantons.
Some cantons permit corporate income tax to be credited against capital tax, meaning capital tax is levied only if it exceeds the cantonal corporate income tax due. There is no federal capital tax; it is only levied by the cantons. In the event of thin capitalisation, the part of the loan reclassified as equity is subject to capital tax.
ii Common ownership: group structures and intercompany transactionsAbsence of tax grouping and transfer pricing rules
Switzerland tax law does not permit consolidated taxation for corporate income tax purposes. This means that each legal entity is treated as an independent entity and must comply with the ‘dealing at arm’s length’ principle.
On the basis of this rule, Swiss tax authorities can correct intra-group transactions that are not at arm’s length. When a transaction does not respect the arm’s-length price, the difference between the price paid and the arm’s-length price is treated as a constructive dividend and the taxable income is adjusted. The arm’s-length principle is also applicable when choosing the method to determine the mark-up.
In assessing whether an intra-group transaction is at arm’s length, the Swiss tax authorities follow the OECD Transfer Pricing Guidelines. It is possible to request an advance pricing agreement from the Swiss tax authorities; the competent authority is the State Secretariat for International Financial Matters.
With respect to intercompany loans, the FTA publishes an annual circular letter with rules regarding safe-harbour interest rates on loans and advances between related parties. This circular letter sets out maximum rates for loans from shareholders to the company and minimum rates for loans from the company to shareholders and related parties.
Regarding interest, thin capitalisation rules may affect the deductibility of interest. However, in most cases, and in view of the generous thin capitalisation rules, it may be worthwhile to finance Swiss subsidiaries through interest-bearing debt.
Participation relief on intercompany dividends and capital gains
Dividends paid to other group companies may benefit from participation relief. In the case of dividends received from, or capital gains on, the sale of a foreign affiliate, participation relief applies irrespective of the withholding tax (see Section II.i, ‘Participation relief and foreign-source income’).
Reorganisation
In principle, reorganisations (mergers, demergers, conversions and asset transfers) are tax-neutral. The following conditions must be respected for a reorganisation to be tax-neutral: (1) the company remains subject to tax in Switzerland; and (2) there is no re-evaluation of commercial assets.
Additionally, in the event of a demerger, a business unit or part of a business unit must be transferred. Similarly, the intra-group transfer of assets is tax-free, but only for business units or operational assets; there is a blocking period of five years (participations and assets that were part of the reorganisation cannot be sold for five years).
Losses from both companies may be carried forward during a merger, except in the case of tax avoidance or abuse of a right (e.g., merger with a company that has liquidated most or all of its assets). In the event of a demerger or transfer of a business unit, the losses survive and must be allocated between the companies based on economic criteria.
Anti-avoidance rules and CFC
In Switzerland, general anti-avoidance rules (GAARs) are not contained in a specific act. However, the Swiss Federal Supreme Court has developed a general principle of tax avoidance and abuse of rights, applicable to all Swiss taxes. In accordance with this principle, in certain situations, tax authorities have the right to tax a taxpayer’s structure based on its economic substance, rather than its legal structure.
According to case law, there is tax avoidance if:
- the taxpayer has chosen an abnormal structure;
- it was done with the intention to save on taxes; and
- the taxpayer would save on taxes if permitted to use the structure.
Switzerland does not have CFC rules. However, the case law of the Swiss Federal Supreme Court stipulates that a company whose statutory seat is located abroad, but has little or no substance abroad and is effectively managed from Switzerland, may be deemed a Swiss taxpayer.
Withholding tax on intercompany transactions and treaty exemption
As explained above, Swiss companies must levy a 35 per cent withholding tax on profit distributions (including constructive dividends and liquidation proceeds). To qualify for treaty benefits, the foreign parent company must be the beneficial owner of the dividend income. Furthermore, the withholding tax refund will not be granted if the FTA determines that there is treaty abuse. In assessing beneficial ownership and whether a structure is abusive, the FTA examines whether there is sufficient capitalisation (30 per cent) and whether the parent company has substance (personnel and premises) in its country of residence. Generally, holding companies must demonstrate that they hold multiple companies, not just the Swiss company requesting treaty exemption.
Rather than paying withholding tax, companies can request permission to use the simplified notification procedure (withholding tax relief) for intra-group distributions to Swiss parent companies or to parent companies resident in a DTT country.
The Swiss Federal Council recently proposed overhauling the withholding tax system. The current withholding tax system makes it disadvantageous for companies to issue domestic bonds, so bonds are often issued through a foreign affiliate. To rectify this, the Federal Council has proposed switching to the paying agent principle. Under this system, instead of the company being responsible for paying withholding tax (as the debtor of the interest payment), withholding tax would be paid by the investor’s paying agent (the custodian bank). Furthermore, withholding tax only would be levied on payments to Swiss resident individuals; domestic legal entities and foreign investors would be exempt. Contrary to the company, the paying agent would know the identity of the investor, so they could guarantee that withholding tax is only levied when required by law.
This new system would only apply to bonds (including structured products and collective capital investments) and not to dividends or interest on customer bank balances.
iii Third-party transactionsAsset deals
Asset deals tend to be more favourable for buyers, since a step-up in basis is allowed, while share deals are beneficial for sellers, in particular for individual sellers, since individuals are not subject to tax on gains arising from private assets, but are subject to income tax on dividends.
Asset deals permit the company to record part of the purchase price as goodwill. Payment in excess of the assets’ market value is recorded as goodwill; goodwill can be depreciated.
Transferred assets may be subject to VAT and transfer stamp duty (for transfers of securities).
Share deals
In the case of a share deal, the purchase price is recorded in the books of account as the share value. This value cannot be decreased (unless the market value decreases). If the buyer or seller is a professional securities dealer then transfer stamp duty will be levied.
From the perspective of corporate sellers, capital gains realised by Swiss-resident companies may benefit from participation relief if the participation fulfils the aforementioned conditions (i.e., participation of 10 per cent or more and a holding period of at least one year).
Share deals are particularly beneficial for individual sellers, since Swiss-resident individuals are not subject to capital gains tax on gains arising from private assets, but are subject to income tax on dividends.
However, for individuals resident in Switzerland, special attention must be paid to rules concerning indirect partial liquidation and transposition during share deals involving sales by individuals resident in Switzerland, since tax-free capital gains can be retroactively reclassified as taxable participation income.
The criteria for indirect partial liquidation are as follows:
- the sale of at least 20 per cent of the share capital in a Swiss or foreign company to a third party;
- the shares are transferred from the seller’s private assets to a company or to the acquirer’s business assets (in the case of acquisition by an individual);
- the target company has commercially distributable reserves at the moment of the transfer and assets beyond those required to run the business; and
- these assets are distributed to the acquirer during the five years following the acquisition.
Generally, indirect partial liquidation can be avoided by adding a clause to the share purchase agreement that prevents distributions during the five years following the transfer.
From the purchaser’s perspective, acquisitions can be carried out using a local or foreign entity. An acquisition in and of itself does not trigger withholding tax.
When the purchaser is a Swiss company, the purchase price is recorded in the books of account at the share value. This value cannot be decreased (unless the market value decreases).
In the case of a leveraged acquisition, the absence of consolidated taxation for company groups means that interest on the acquiring company’s debt cannot be deducted by the target company if the latter does not have operational income. Additionally, the Swiss tax authorities may treat debt push-down strategies in a leveraged acquisition as tax avoidance. Withholding tax must also be considered when structuring a leveraged acquisition with a Swiss borrower because withholding tax is levied on bonds and certain non-bank loans are requalified as bonds under the 10/20 non-bank rule.2
When using a foreign parent company to hold a Swiss company, investors should ensure that the foreign parent company is located in a jurisdiction that has a DTT with Switzerland to reduce or eliminate withholding tax on dividend distributions. Otherwise, it is advisable to use an intermediary holding company located in a jurisdiction that has a DTT with Switzerland, provided it complies with the criteria for treaty exemption.
In international situations, investors should also be aware of the ‘Old Reserves Theory’. Under this theory, if a foreign shareholder transfers shares in a Swiss company to a shareholder located in a jurisdiction with a more favourable DTT, withholding tax may continue to be levied on distributable reserves at the same rate applicable to a tax resident of the first jurisdiction if at the time of the transfer the company had commercially distributable reserves and assets not economically required.
Attention must also be paid to ‘liquidation by proxy’ in the event of an acquisition in which a Swiss entity acquires a Swiss target entity that was previously held by non-Swiss resident shareholders who were ineligible for a withholding tax refund with respect to dividends paid by the Swiss target entity. In accordance with the Swiss anti-avoidance rules, were that entity to be partially or totally liquidated shortly after the sale, it is possible that the Swiss acquiring company would be ineligible for a withholding tax refund.
Share-for-share exchange
In practice, share-for-share exchanges are common and qualify as tax-neutral quasi-mergers. They take place through an in-kind contribution of shares in exchange for shares in the acquiring company. This requires increasing the acquiring company’s share capital, as well exchanging shares with the acquired company’s shareholders. A cash consideration is permitted, but it must not exceed 50 per cent of the total consideration.
Capital gains resulting from quasi-mergers are tax-free for individual sellers, unless there is a case of transposition.
Transposition occurs if:
- transfer is of at least 5 per cent of the share capital of a company;
- from the private assets of an individual to a partnership or company in which said individual holds at least 50 per cent of the capital after the transfer; and
- the consideration is worth more than the nominal value of the transferred shares.
Income resulting from transposition is taxed as dividend, rather than as a capital gain. The Tax Reform Act abolished the 5 per cent threshold.
Share-for-share exchanges may lead to the creation of reserves resulting from capital contributions, which may be redistributed in a tax-neutral manner to shareholders and are not subject to withholding tax. Therefore, it may be used in the context of public company transactions.
iv Indirect taxesIssuance stamp duty
Issuance stamp duty is levied on capital contributions from shareholders to Swiss companies, meaning it is levied on both the initial creation of share capital as well as subsequent increases of share capital and contributions without the issuance of new shares. Stamp duty is levied at 1 per cent.
The first 1 million Swiss francs in share capital is exempt from stamp duty. Exemptions are also granted following a merger or similar restructuring.
The formal nature of stamp duty means that it is only levied when there is a contribution from a shareholder, so it is possible to avoid issuance stamp duty if the contribution is made by an affiliated company that is not a direct shareholder.
Transfer stamp duty
Transfer stamp duty is levied when there is a transfer against consideration of a security subject to stamp duty and the transfer involves a Swiss securities dealer. Securities subject to stamp duty include Swiss and foreign bonds, shares, participation certificates, dividend rights certificates and units in collective investment schemes; Swiss securities dealers are defined as banks, securities traders and professional intermediaries (individuals and legal persons) and companies holding over 10 million Swiss francs in taxable securities. Transfer stamp duty is levied at 0.15 per cent for securities issued by Swiss residents and 0.3 per cent for foreign securities.
The Swiss Federal Council recently proposed changes to transfer stamp duty. Under the proposal, transfer stamp duty would be abolished on the transfer of domestic bonds.
VAT
The ordinary VAT rate is 7.7 per cent. VAT on accommodation is 3.7 per cent and VAT on essential goods is 2.5 per cent.
Legal entities with a common management can benefit from group taxation for VAT purposes.
Although income from investments does not qualify as turnover from a VAT standpoint, it is possible, and recommended, that holding companies voluntarily register to be subject to VAT, so that they can recover VAT that they have paid and avoid an irrecoverable VAT charge on the acquisition of services from abroad under the reverse charge mechanism. The same advice applies to international companies with an annual turnover under the 100,000 Swiss francs required for mandatory VAT liability.