By Lowtax Editorial
23 July, 2014
The location of about a quarter of the worlds assets under management, Switzerland is a landlocked, independent country strategically located at the heart of continental Western Europe and measuring 15,941 square miles. It is bordered on the west by France, on the north by Germany, on the east by Austria and the principality of Liechtenstein, and on the south by Italy.
Communications and telecommunications are what can be expected from a modern industrialized nation with one of the highest standards of living in the world. Switzerland has a dense road and rail network with multiple connections to all five bordering countries and with several national airports providing direct and connecting flights to all major international destinations. The two most important are Zurich and Geneva.
With a population that stands at approximately 8m people, the culture could be described as a blend of German, French and Italian influences and this is reflected in its official languages: German, French and Italian are spoken by approximately 64%, 20% and 7% of the population respectively.
Switzerland is a federal state with 23 sovereign cantons and 3 semi-cantons (making 26 cantons in all). In addition there are over 3,000 political communes (autonomous self-governing bodies endowed with legal personality). This complex combination of multiple sovereign bodies is reflected in the Swiss legal and taxation system and has resulted in political and administrative responsibilities being split between federal, cantonal and municipal levels of government. The responsibilities of the Federal Government include the supervision of external and internal security, foreign and military affairs, transportation, forestry, water conservation, telecommunications, the monetary system, social security and the uniform administration of justice in areas of civil and criminal law.
Legislative power rests with the bicameral Federal Assembly comprising both a National Council consisting of 200 deputies elected every four years by a system of proportional representation and the Council of States in which each canton is represented by 2 deputies. Executive power vests in the Federal Council, a seven-member board consisting of elected deputies each of whom presides over a federal department. Although each canton elects and maintains its own magistracy for ordinary civil and criminal trials, ultimate judicial power is vested in the Federal Supreme Court based in Lausanne. The Swiss Civil Code of 1912 has served as a model for the administration of justice in many countries.
Switzerland's economy consists predominantly of low-bulk, high-value, service-orientated, export-driven activities utilizing a highly skilled, highly paid workforce. However, the country is best known as the world's predominant private banking center and Switzerland is estimated to be the home of 35% of the world's private wealth. Indeed, financial services are said to account for almost 15% of GDP and 16% of total tax revenues.
Switzerland remains the country with the highest quality of living according to a survey designed to help governments and multinational companies place employees on international assignments. GDP was an estimated USD54,800 per head in 2013. Apart from 2009, the economy has grown steadily each year. GDP grew by 1.5% in 2012, and by 2% in 2013. In 2013/14, Switzerland maintained its place at the top of the World Economic Forums Global Competitiveness Report rankings.
There are no exchange controls in Switzerland, and the Swiss Franc (CHF) is one of the world's strongest currencies. The Swiss Franc has appreciated strongly against the US Dollar over the last 30 years, a factor which encourages international investors to locate their assets in this country. At the time of writing, USD1 was worth CHF1.10, compared to an exchange rate of almost CHF3 to USD1 in 1985.
There are also no controls on inward investment, or on the repatriation of profits or capital on disinvestment, other than applicable taxes (see below). There is little official support for inward investment at the federal level. However, a wide variety of support schemes are available at cantonal level, and cantons frequently compete vigorously to secure attractive projects. In many cases, the level of applicable taxes on a new project is negotiable with cantonal authorities.
Switzerland's well-known attractions as a home for money are based on its widely perceived safe-haven status which is a direct consequence of its iron-clad banking secrecy provisions, the ever-appreciating value of the Swiss Franc, and the country's long history of neutrality.
Switzerland is home to over 300 major banking institutions while assets under management of Swiss banks are estimated to be approximately CHF6 trillion. Switzerland is therefore among the worlds leading trio of wealth management centres, alongside the United States and the United Kingdom. The countrys largest banks, UBS and Credit Suisse, rank among the worlds largest wealth management firms.
More recently the country's decision not to join the European Union has made it a major beneficiary of investment funds fleeing high taxation and the effective ending of banking confidentiality in the EU under the Savings Tax Directive.
The Savings Tax Directive does however apply in Switzerland through a separate agreement reached between the country and the EU, under which Switzerland applies a withholding tax (35% since July 1, 2011, 20% from July 1, 2008) to returns on savings paid to the citizens of EU Member States, and which in various other ways is less onerous than the original Directive. Three quarters of the withholding tax revenues collected in Switzerland are remitted to the EU Member States.
According to the Swiss Federal Department of Finance, gross revenue generated from the system of tax retention on interest payments made in Switzerland to EU taxpayers amounted to CHF510.1m for the 2013 tax year. This figure compares with the CHF615.4m withheld by the Confederation in 2012.
Currently, the EU is attempting to extend the ambit of the Directive by enforcing automatic exchange of information between EU tax authorities and certain third countries, of which Switzerland is one, and in December 2013, the Swiss Federal Council adopted a mandate for negotiations regarding proposed amendments to the law. The revision is designed to close loopholes in order to prevent the taxation of interest income from being circumvented by using intermediary companies or certain financial instruments (see below).
In recent years a combination of legislative measures and market forces have re-orientated the Swiss banking services market so that banks cater less and less to the traditional small-to-medium-sized private accounts and more and more to large professional clients for whom sophisticated services are being offered at competitive prices. One of the driving forces behind these changes has been Switzerland's desire to be seen internationally to be playing a meaningful part in the war against organized crime and money laundering.
However, the Banking Law contains stringent provisions to ensure secrecy, and these are important components of Swiss banks' appeal to investors and depositors. The secrecy provisions are subject to limited exceptions contained in the domestic and international legislation that Switzerland has adopted as part of its campaign against money-laundering.
Nevertheless, there are a number of international initiatives underway which are seeking to weaken banking secrecy in Switzerland in response to a number of tax evasion scandals, driven mainly by the United States and the EU (see below). These have cast some uncertainty over the future of Switzerlands banking and wealth management industries.
Due to the federal structure of Switzerland there is no centralized tax system, with some taxes being levied exclusively by federal authorities whereas other taxes are concurrently levied at cantonal, communal and federal levels. Although the rate of tax levied at federal level is uniform, that levied at a cantonal level varies from canton to canton. Because significant differences presently exist in the rates of taxes levied at cantonal level the choice of canton is an important element in all tax planning.
For corporate income tax purposes a company is deemed resident in Switzerland if it is either incorporated in Switzerland or effectively managed from there. The General Assessment Rule is that resident companies are assessed on their worldwide income except for profits generated by enterprises, permanent establishments and real estate situated abroad, whereas non-resident companies are only assessed on profit generated by enterprises, real estate and permanent establishments situated in Switzerland as well as interest on loans secured on Swiss real estate.
Corporate income tax payable to the federal authorities may be tax deductible for the purposes of an assessment to cantonal corporate income tax and vice versa.
The federal corporate income tax rate is 8.5% flat. Cantonal tax rates are levied at rates of up to 24% using a scale based on the relationship of profits to net worth. Cantonal corporate taxes average about 18%. Municipal tax on corporate income is calculated as a small proportion of cantonal tax. The Swiss branch of a foreign company pays the same rates of corporate income tax on profits, income and capital gains as would be paid by a Swiss-resident corporate entity. Profits remitted abroad by the branch are not subject to any tax in Switzerland.
A note of caution, however: there are substantial differences between the federal government and cantons, and between individual cantons, in the calculation of taxable income. The applicable rules must therefore be checked in any given situation.
Generally speaking capital gains are taxed as corporate income at federal, cantonal and municipal levels.
For federal tax purposes the tax year is the company financial year whereas for cantonal and communal tax purposes the tax year is the calendar year. Although the cantonal basis of assessment differs amongst cantons (i.e. it is occasionally annual) assessment is generally on a bi-annual basis meaning that it is based on the average profits of the previous two calendar years.
Switzerland has, however, been engaged in a long stand-off with the European Union over its corporate tax regime, which Brussels insists is harmful to the rest of the EU because tax exemptions granted by cantonal governments erode the tax bases of member states and distort the Single Market. In April 2014, the Swiss cantons expressed their support for plans to reform and improve the nation's corporate tax system, but five corporate tax regimes deemed harmful by the EU will be dismantled under an agreement struck between Switzerland and the European Commission in June 2014.
There is also a net worth tax levied in Switzerland based on the value of a corporate entity's assets, normally equal to shareholders' equity (paid-in capital, legal reserves, and other retained earnings, public or otherwise). The net worth tax is imposed by both the federal authorities and cantons and may be credited against the income tax liability in many cantons.
A 35% withholding tax is imposed mainly on dividends distributed by resident companies, as well as on interest from bonds issued by Swiss debtors and on bank deposits. However, dividends paid by Swiss companies can often be made free of withholding tax under Switzerlands tax treaties, and the country has an extensive network of these. Interest on loans and royalty payments is not subject to withholding tax.
Foreign branches based in Switzerland are only assessed on the value of their Swiss assets for the purposes of this tax. Resident companies are not assessed on the value of any foreign-based real estate assets.
There are several company forms available to foreign companies which provide opportunities for non-resident companies to make significant tax savings, including the Holding Company, the Domiciliary Company, the Auxiliary Company, the Service Company and the Mixed Company. Further details of these can be viewed on the Lowtax.net Switzerland pages.
Personal income tax is also levied at federal, cantonal and communal level, and because there is no centralized system there can be significant differences in taxes payable depending on the canton of residence.
Residence is the relevant criteria in determining whether an individual is or is not subject to Swiss personal income tax. A person is deemed resident in Switzerland if:
- He has Swiss employment (to work in Switzerland a non-national needs a work permit limited work permits of 90-120 days can be granted and where granted lead to limited taxation);
- He carries on a business in Switzerland; or
- He lives in Switzerland for not less 180 days in any one year. If however he remains in the same abode the time required to be a resident for tax purposes drops to 90 days.
Personal income tax is progressive in nature, rising to a maximum of 11.5% for incomes over CHF686,000 at federal level (CHF813 for married couples), and approximately twice that at cantonal level. Municipal rates are usually a small fraction of cantonal rates. The total rate does not usually exceed 40% and in most cases, the maximum tax rate is much lower than this.
Wealthy foreign nationals who wish to make Switzerland their home but do not wish to work in the country may qualify to pay personal income tax under the 'fiscal deal' or 'lump sum assessment' basis which entitles them to pay considerably less tax than a Swiss national with an equivalent income.
This method, which couples a residence permit with the tax deal, involves a negotiation with the canton in which residence is planned. The individual's income might, for instance, be deemed to be the amount of expenditure he incurs on certain items. Thus his deemed taxable income may be twice what he pays for food and accommodation or five times what he pays for lodgings whichever the higher, conditional on this sum not being less than a figure calculated according to a complex formula relating to his Swiss source income.
An applicant for the 'fiscal deal' must have a certified net wealth of not less than CHF2m. The individual concerned must not involve himself in any lucrative economic activity in Switzerland. Whilst such individuals are considered residents for tax treaty purposes some double tax treaties contain limitations as to what benefits such residents can obtain under the treaty terms.
The rates of tax payable under the lump sum basis are the same as would apply normally, but they apply to a much small portion of the taxpayers income. However, the benefits of these tax arrangements are steadily being eroded due to their growing unpopularity among Swiss citizens.
During a recent sitting, Switzerland's Federal Council adopted a resolution rejecting a Swiss people's initiative calling for an end to the flat tax regime currently benefiting wealthy foreigners in the Confederation.
The flat tax regime was toughened in September 2012. Consequently, from 2016, the tax base for calculating direct federal and cantonal tax will be seven times the cost of living, compared with five times as is currently the case. In addition, as regards direct federal tax, a minimal taxable income of CHF400,000 will apply. The Swiss cantons will be required to determine their own minimum taxable amounts.
In May 2014, the Swiss National Council rejected a proposal from the Alternative Left party for an "end to tax privileges for millionaires", which would have withdrawn the flat tax regime for wealthy foreigners.
Lawmakers argued that the system makes Switzerland an attractive location for wealthy foreigners, and generates considerable tax revenue for the regions. Nevertheless, the incentive has already been repealed in five cantons.
About 5,600 wealthy foreigners were taxed according to their living costs in 2012, yielding revenue worth about CHF695m. A study conducted on behalf of the Swiss Federal Council showed that these residents spend over CHF1bn each year in Switzerland, generating annual value-added tax revenues of between CHF70m and CHF80m.
Because it is such an important feature of Switzerlands legal and economic landscape, and because tax avoidance is such an important issue globally, we deal with the thorny subject of banking secrecy in separate sections.
The Lex USA Bill
At a meeting held on July 3, 2013, the Federal Council set out the parameters for cooperation between Swiss banks and the US authorities, to resolve the tax dispute between the two countries within the scope of existing law, and particularly within the scope of current data protection and employment law provisions.
On the basis of these parameters, Swiss banks will have the option of applying for individual authorization to cooperate with the US, based on Article 271 of the Swiss Criminal Code.
The announcement follows the Swiss parliaments rejection of the Federal Act on Measures to Facilitate the Resolution of the Tax Dispute between Swiss Banks and the United States.
This so-called "Lex USA" legislation was designed to end the row with the US, over the precise role of Swiss banks in assisting US clients in escaping their US tax obligations. Intended to draw a line under the past disagreements, the bill would have authorized all of the Confederations banks to cooperate with the US authorities and to make available the information necessary to safeguard their interests.
Despite the parliamentary rejection of the Lex USA text, both the Swiss National Council and the Council of States each approved an identical statement in which they concluded that Swiss banks should put the past to rest in the tax dispute with the US, and recognized the need to find a swift solution, urging the Federal Council to take every measure within the scope of existing law to enable the banks to cooperate with the Department of Justice (DoJ).
Commenting on the Federal Council's decision, the Swiss Federal Department of Finance (FDF) explains that:
"As was the case in the urgent federal act, the personal rights of potentially affected employees and third parties must be taken into account by the obligation to provide information and the right to information. For current and former employees provision has also been made for expanded welfare obligations and adequate protection against discrimination as conditions for approval."
"Beneficiary banks featuring in the so-called leaver lists are also considered to be affected third parties. The leaver lists contain non-personalized data in connection with the closure of accounts and the associated transfer of funds to another bank in Switzerland or abroad. Client data is not covered by the authorization in accordance with Article 271 of the Criminal Code. This data can only be supplied within the scope of existing agreements with the US in the area of double taxation via administrative assistance."
"All of the banks against which criminal proceedings have already been initiated are reliant on the authorizations. Moreover, further talks are being conducted with the DoJ, on the basis of the parameters approved, concerning the start of a unilateral US program to reach an arrangement for the past for Swiss banks against which no criminal proceedings have been initiated. Participation in the program for these banks would also require authorization within the scope of the approved parameters."
US Tax Dispute Settlement Programme
In May 2014, Swiss Federal Councillor Eveline Widmer-Schlumpf met for talks in Washington with US Attorney General Eric Holder to discuss the US tax dispute settlement program for category two, three, and four banks, as well as the ongoing US criminal investigations into category one banks domiciled in Switzerland.
Swiss banks under criminal investigation in the US for alleged tax-related offences that are seeking a Deferred Prosecution Agreement are known as category one banks, while those seeking non-prosecution agreements, who have reason to believe they may have committed a tax offence and may therefore face a penalty, are category two. Meanwhile, banks that have not committed an offence can apply as category three, and banks deemed compliant and with a local client base are category four.
The Swiss Federal Department of Finance said it did not wish to comment on the ongoing proceedings involving group one banks, but noted that the US tax dispute settlement program for category two, three, and four banks is going "according to plan."
The FDF added: "Switzerland is committed to ensuring with the US authorities a fair and balanced procedure in accordance with the principle of proportionality in order to prevent Swiss banks from being treated worse than other banks."
Signed by Switzerland and the US on August 29, 2013, the program provides a framework permitting eligible Swiss banks seeking non-prosecution agreements to resolve past "cross border criminal tax violations." By cooperating with the US authorities and disclosing information on US account holders, Swiss banks are able to avoid prosecution. Banks will nevertheless be subject to a hefty fine of between 30 and 50 percent of the total sum of undeclared US assets.
In January 2014, the US Department of Justice said that it had received 106 requests from Swiss credit institutions willing to participate in the programme.
The Foreign Account Tax Compliance Act (FATCA) Act, together with the ordinance on disclosure obligations, went into force on June 30, 2014, to ease Swiss financial institutions' implementation of the new disclosure rules.
The Swiss parliament approved the FATCA-implementing Act in September 2013, at the same time as it approved the FATCA intergovernmental agreement between Switzerland and the US, which came into force on June 2, 2014, through an exchange of notes.
The FATCA agreement simplifies matters for Swiss financial institutions in their compliance with the US FATCA, which covers deposits held on behalf of US persons. FATCA implementation in Switzerland will be facilitated by a Model Two Intergovernmental Agreement, which requires Swiss financial institutions to disclose account details directly to the US tax authority with the consent of the US clients concerned. The US will have to request data on any recalcitrant clients through the normal administrative assistance channels.
The Savings Tax Directive
The EU Savings Tax Directive has applied in Switzerland as from 1 July, 2005, through a separate agreement reached between the country and the EU, under which Switzerland is levying a withholding tax.
Although bank interest and dividends are caught by the Directive, payments made by what are called 'residual agents' (including, for instance, trusts) are apparently excluded under the Swiss agreement, which is not the case in Member States. Furthermore, the Directive applies only to individuals who receive payments; companies and other organisational forms do not fall under its aegis.
The Commission first adopted an amending proposal to its Savings Tax Directive in November, 2008. The aim was to close existing loopholes (of which there are many), better prevent tax evasion, and ensure the taxation of interest payments channelled through intermediate tax-exempted structures. The Commission also wants all EU Member States and certain third countries to adopt the automatic exchange of information for tax enforcement purposes under the Directive.
Given that there are still some Member States that have sensitivities on the issue of banking secrecy, notably Austria and Luxembourg, the Commission has been engaged in a long, hard slog to get everyone around the table to agree to its new proposals.
A breakthrough was made in May 2013 when the EUs Economic and Financial Affairs Council reached an agreement on a mandate to allow the European Commission to negotiate amendments to agreements under its Savings Tax Directive. Tax Commissioner emeta confirmed following the meeting that, after two years of discussions, ministers had agreed to give the Commission the go-ahead to launch talks with Switzerland, San Marino, Andorra, Lichtenstein and Monaco.
Following stubborn resistance from Austria and Luxembourg, EU member states finally adopted the proposed amendment formally at a meeting of the European Council in March 2014.
Switzerland and the EU have it seems, already been talking about the revised Savings Tax Directive and automatic exchange of information as part of their ongoing dialogue on tax issues the same talks which have produced very little in the way of progress. So it remains to be seen therefore if the Commission is able to persuade the Swiss to sign up to the revised Directive.
Withholding Tax Agreements
The EU is also unhappy that Switzerland has found its own solution to the problem national tax authorities have with banking secrecy, in the form of three bilateral withholding tax agreements signed with Austria, Germany and the United Kingdom. While the Austrian and UK agreements are now in force, the German parliament failed to ratify the Swiss/German agreement, although Switzerland has expressed its willingness to hold talks on a possible renegotiation.
The idea is that once effective, residents in the signatory countries will be able to retrospectively pay tax on existing bank relationships in Switzerland, either by making a one-off tax payment or by making a full disclosure of their banking affairs to their home revenue authorities. An anonymous lump sum payment will be possible providing that the account in question was open on December 31, 2010 and remains open on May 31, 2013.
In the case of the UK agreement, which became effective on January 1, 2013, tax is charged at a rate between 19% and 34%, dependent on the assets in question and determined by both the duration of the client-bank relationship and the initial and final amount of capital held in the account. According to the UK Treasury, this will settle all income tax, capital gains tax, inheritance tax and VAT liabilities related to the funds in question.
In addition, the agreement provides for a final withholding tax to be levied on any future investment income and capital gains of UK bank clients in Switzerland. A 48% tax is charged on investment income, with 27% levied on capital gains. Once again, this payment will satisfy all UK liabilities on income and capital gains, and will not apply if the taxpayer offers HMRC a full disclosure.
Crucially, the deal also permits the UK to submit information requests to Swiss authorities, with the aim of preventing the future deposit of undeclared funds. Any such requests must be made in the context of a safety mechanism, which will state the name of the client, but not necessarily that of the bank. A limited number of requests will be allowed each year (up to 500), and the Treasury says this agreement goes further than the information exchange provisions of the existing double tax treaty.
At the time these agreements were signed in 2011, Switzerland hinted that many more agreements of this type were on the horizon. These remain the only three of their type so far however.
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