Switzerland's Corporate Tax Reform lll

The Tax Management Transfer Pricing Report ™ provides news and analysis on U.S. and international governments’ tax policies regarding intercompany transfer pricing.

Andreas Staubli, Armin Marti, Remo Küttel and Laurenz Schneider, PwC, Switzerland

The EU is expecting material progress by summer this year

Switzerland has established itself in the past as one of the preferred international locations for multinational companies and today is considered one of the most integrated nations in the world economy. One of the most influential success factors was and is the development of a competitive corporation tax landscape, which is a characteristic of Switzerland.

As is well known, however, Switzerland has been under pressure for some time from the European Union (EU), which demands conformity with EU standards in relation to various corporate tax rules, although Switzerland is not a member state of the EU. In the past the EU primarily criticised the validity of the tax regimes of certain cantons (namely holding, administrative and mixed companies). The EU complained that the unequal treatment of domestic and foreign income qualifies as unlawful state aid and is a violation of the 1972 Free Trade Agreement between Switzerland and the EU. Against the background of the EU Code of Conduct for business taxation the EU consequently extended its criticism to additional Swiss corporate taxation rules (for example the granting of tax holidays or the participation relief regime, etc) and demanded measures to achieve an EU compatible corporate taxation in Switzerland.

This tax controversy is marked by continually increasing pressure for negotiation from the side of the EU, whereby it was communicated at the end of last year that the EU is expecting material progress from Switzerland by summer 2013. Otherwise, according to the open threat of the EU, Switzerland will be put on a black list of tax havens. The increased pressure from the EU has prompted Switzerland to treat as a priority the question of international acceptance of key features of its domestic corporate taxation legislation and the further development of its tax competitiveness as a business location, pressing ahead with the Corporate Tax Reform III (CTR III). The reform was originally announced in 2008, however only properly launched in September 2012 after the Federal Department of Finance and the Cantons set up the project organisation for drawing up the reform proposals. The illustration depicts the development of both the CTR III and the tax controversy between Switzerland and the EU along the time-line.

l. Importance for Switzerland

Due to the advantageous locational conditions numerous multinational companies have opted to set up and extend international activities in Switzerland, where has in many cases been carried out in the tax “vehicle” of regime companies. The aforementioned regime companies in the meantime have become of significant importance in the Swiss economy. They provide a large number of highly-qualified jobs, create a significant demand for third-party services and, not last, are responsible for about half of the annual direct federal corporate income tax revenues.

The international acceptance of Switzerland's tax system from a corporate point of view is indispensable for these groups. Such acceptance provides for the necessary legal and planning certainty. Furthermore an attractive taxation is also of significant importance because of the comparatively high labour and infrastructure costs which are required for international activities managed from Switzerland and which need to be justified. Against the background of the smouldering tax controversy with the EU and the mobility of the business activities located in Switzerland, the question of international acceptance of the corporate tax legislation is, as such, of central importance for Switzerland.

The focus of long-lasting attractive tax rules for Switzerland must be aimed at mobile business activities such as R&D, exploitation of intellectual property, financing activities, trading activities, and also centralised functions of corporate headquarters (activities of principal companies). Due to their mobile nature, these activities are exposed to intense location competition, and multinational groups predominantly situate them in attractive countries. As a consequence, if a country loses its tax attractiveness, there is the latent risk that the current business activities will be shifted to a more attractive location, with the additional threat that new activities and related investments will not be set up in Switzerland. Due to the significant economic contribution of such international activities, Switzerland cannot afford for regime companies to leave or move part of their (mobile) activities outside Switzerland in the future.

ll. The need for action

Switzerland has to ensure that the Swiss corporate taxation system is (or continues to be) internationally accepted to keep up with the international competition for mobile business activities and the related mobile revenues. The need for action is therefore significant.

The approach to a possible solution is multifaceted due to the complexity of the problem. Measures must be developed and implemented at various levels of government. Based on the assumption that current individual corporate taxation rules, in particular the regime companies, will have to be modified from a medium to long-term perspective, suitable substitute measures need to be developed and implemented.

As already mentioned, due to the international competition for mobile business activities, the focus must primarily be on substitute measures for the related taxation of mobile revenues. The corresponding demands of exponents of the economy include substitute measures such as, for example, the introduction of an innovation / licence box and interest box regime as well as a more flexible approach to the “tax follows accounting” principle, by which variations from the statutory financial statements for tax purposes should be allowed not only against but also in favour of the taxpayer. Various further measures are also possible, such as incremental (compensating) decreases of the corporate income tax rates at both federal and cantonal level and the abolition of further corporate tax obstacles, e.g. issuance stamp tax on equity, restraints in relation to third-party group financing (withholding tax) or the improvement of the Swiss participation deduction scheme (from a modification to the direct exemption of dividend income). However, the first mentioned substitute measures as regards the taxation of mobile revenues are clearly to be prioritised.

The outlined substitute measures do not only require to sustain Switzerland's tax attractiveness; rather, they must be internationally accepted and be financially tolerable for the Confederation and the Cantons. The substitute measures must be based on the premise that “what is accepted in the EU is also viable for Switzerland”. Thus, the basic principle is that any special taxation rule which is applicable in EU member states is also an alternative for Switzerland even if the EU or the OECD look at certain rules with scepticism (but tolerate them). Against this background, substantial room for action must be granted to the Cantons to ensure the establishment of the basis for both a more flexible and dynamic future development of tax law and tax practice.

lll. How to proceed?

As mentioned at the outset, with regard to the tax controversy at hand the EU is expecting material progress from Switzerland by summer 2013. Therefore, the preparations for CTR III are currently being carried out at full speed. The challenges with which our corporate tax system is confronted are significant but they can be overcome.

Potential options for action are to be analysed and their opportunity must be checked in the light of the challenges mentioned above, and recent political developments require careful monitoring. PwC Switzerland is actively engaged in discussions with key decision makers and involved in developing substitute measures. In view of the international developments, it is also of significant relevance that Switzerland is not (further) impaired by unilateral and unnecessary tightening of tax practice in connection with internationally accepted Swiss tax rules.

The authors may be contacted by email at:
Andreas Staubli
Armin Marti
Remo Küttel
Laurenz Schneider


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