Switzerland: How To Take Best Advantage Of This New Tax Privilege?

Last Updated: 9 July 2012
Article by Philipp Kruse

1 SUMMARY

Until 31 December 2010 any repayment of share premiums or shareholders' contributions was treated like a distribution of profits. Thus, it was subject to Swiss withholding tax ("WHT") and as far as Swiss private investors were concerned also to Swiss income tax. This applied to all repayments of equity other than the refund of registered nominal share capital. This traditional tax regime – known as "Nominal Value Principle" – was increasingly criticized and is now abolished. As of 1 January 2011 redemptions of qualifying shareholders' contributions will have the same privileged status as registered nominal share capital. Neither WHT nor Swiss income tax will be levied. This socalled "Capital Contribution Principle" is based on three short legal provisions1, which recently where substantiated by the Swiss Federal Tax Administration's ("SFTA") Circular No. 29 ("SFTA-Circular").

The new legislation applies to any shareholders' contributions made since 1 January 1997 and is applicable on all three federal levels. This reform represents a substantial change in Swiss tax law and is one of the key elements in the Swiss Corporate Tax Reform II. It provides some new benefits and attractive options for tax planning for both shareholders and corporations. Even Swiss shareholders of non-Swiss companies will have a benefit, as well as foreign shareholders of Swiss companies. The Capital Contribution Principle will further provide useful planning opportunities in restructuring situations, upon relocation of corporate domiciles into Switzerland, as well as upon corporate capitalisations by contributions in kind and further special cases.

As significant as this change is, as elaborated are the formalities to be observed for this new tax privilege to apply. The time for providing all relevant documents and formal notifications should not be underestimated. Immediate action is required where repayment of share premiums or shareholders' contributions is planned for the near future (see below, para. 5.2).

2 WHO WILL BENEFIT?

The new legislation is applicable in constellations where refunds of shareholders' contributions will be made by companies limited by shares (SA; AG), by limited liability companies (SàRL; GmbH) and cooperatives. These three different kinds of legal entities are referred to in this newsletter as "companies" or as "corporations".

The main benefi ciaries of this new legislation are Swiss resident individuals, who will avoid Swiss income tax. The domicile of their company will not matter in this context – be it in or outside Switzerland. Swiss corporate shareholders (Holdings etc.) might also enjoy a benefit, at least indirectly, since inherent tax for future shareholders is now eliminated, eventually allowing for a better price upon disposal of the shares. The elimination of any WHT will be a relief also for shareholders with domicile outside Switzerland: Both individual and corporate shareholders will be allowed to have their former or future capital contribution repaid free of any WHT without the need for any double taxation relief.

Last but not least, the corporations themselves will also have a benefit since the new enactment renders basic parameters more attractive for raising non-registered equity ("flexible capital").

3 WHEN DO SHAREHOLDERS' CONTRIBUTIONS QUALIFY?

Contributions from shareholders will qualify for a tax neutral refund, as far as they are made above par value of the respective share, be it in cash or in kind. Capital contributions will only qualify if directly contributed by a shareholder. Contributions from sister companies or related persons will not be accepted by the SFTA. The most common categories of qualifying contributions are paid-in share premiums ("Agio"), disclosed capital contributions (payments; gifts; legacies etc.) and under certain circumstances also waiver of shareholders' loans. Existing shareholders contributions' might be passed over from one entity to another by way of a merger, a split off or through other restructuring measures.

contributions, as far as they were made after 31 December 1996. As a further prerequisite, qualifying contributions must in any case be accounted for to the company's disclosed equity reserves. For the statutory accounts with closing date in 2011 and onwards, specific accounting rules do apply (see below, para. 4). Qualifying contributions will lose their privileged status upon consumption by offset against losses (e.g. in debt restructuring proceedings). Such capital contributions are lost and might not be revitalised through subsequent accumulated profits.

In a nutshell, these key elements will have to be established:

  1. Contribution value (in cash or in kind) is above registered par value of the share;
  2. Contribution is made directly by shareholders;
  3. Contribution is openly disclosed in the balance sheet on a separate account (see below, para. 4);
  4. Contribution was made after 31 December 1996;
  5. Contribution was/is not consumed by losses nor has it been distributed.

4 NEW ACCOUNTING RULES?

The refund of shareholders' contributions on a tax neutral basis will be possible provided the respective contributions had been openly accounted for in the books. Undisclosed contributions (hidden capital contributions) will not be admitted for a tax free refund. Retroactive disclosures of hidden contributions will be disregarded by the SFTA, unless the correction would take place before approval of the statutory accounts by the shareholders' general assembly.

Whereas for statutory accounts ending before 1 January 2011 no further requirements exist, subsequent business years are subject to specific new accounting rules. Shareholders' contributions will have to be accounted for under a distinct equity account ("reserves from shareholders"; "Réserves d'apports de capital"; "Reserven aus Kapitaleinlagen"). Although being part of the general legal reserves (under civil law terms) the SFTA would not accept shareholders' contributions to be mixed with the general legal reserves. Neither would the mere reference in the annex to the statutory accounts be sufficient. These new accounting rules will apply (as far as tax matters are concerned) to all statutory accounts with due date in 2011 or later. The respective civil law accounting provisions will be adapted accordingly in the near future.2

5 WHAT MUST BE DONE AND WHEN? (see also synopsis)

It is the company's duty to prove and notify its shareholders' contributions to the SFTA before or upon their refund. This notifi cation is due unsolicited and in accordance with the SFTA-Circular. The SFTA's assessment will be binding also for the cantonal tax authorities for direct taxation purposes. Since the formal requirements are far reaching and might apply to up to 14 business years, it is advisable to start with this undertaking as soon as possible.

5.1 Recommended immediate measures

All companies are well advised to establish a comprehensive inventory of their historically grown capital reserves as per 31 December 2010, if any: For each business year a clear distinction will have to be made between reserves deriving from shareholders (i.e.: "shareholders' contributions") and those deriving from profits (i.e.: "other reserves"). SFTA provides a helpful Excel form for this task (see below, para. 5.2; 5.3). Furthermore any exhibit or record for the existence of capital contributions under civil law terms should be collected. Relevant might be documents like a share subscription pledge; foundation report; capital increase report; capital contribution agreement; waiver of shareholder loans; statutory documents regarding restructuring measures etc.

5.2 Where refunds are to be made very soon

An accurate account of all historic capital reserves is of particular urgency, where capital reserves shall be refunded before approval of the statutory accounts 2011. The respective notification is due at latest 30 days after the refund (resp. due) date with a specific set of documents and forms: (i) Balance Sheet 2010; (ii) Formal resolution of shareholders' meeting defining the amount of qualifying contributions to be refunded; (iii) SFTA-Excel Form, covering the entire "history" of the corporation's reserves from 1.1.1997 to 31.12.2010; (iv) SFTA-Form no. 170, showing the development of qualifying reserves since 1 January 2011; (v) Supporting documents evidencing the existence of qualifying contributions since 1 January 1997 under civil law terms (see above, para. 5.1).

For any distribution to benefit from the new legislation the shareholders' general assembly will have to issue an explicit resolution, clearly stating which amount shall be accounted for as (tax free) refund of shareholders' contributions and which as (taxable) distribution of accumulated profits. By lack of any detailed resolution, the SFTA would assume that taxable profits were distributed.

5.3 Last possible notification

The very last moment for notifying qualifying contributions of the past (1.1.1997 – 31.12.2010) expires 30 days after acceptance of the statutory accounts 2011 by the general assembly. Historic capital contributions that would not be accounted for on a distinct main account in the 2011 accounts would be treated like accumulated profits. This balance sheet 2011 is an essential part of the notification to the SFTA together with the documents and forms as already listed above (para 5.2; (ii) – (v)). An earlier notification of quali fying historic reserves is possible at any time from 1 January 2011.

5.4 Measures to be taken in subsequent years

The formal duties will persist do be relevant also after ordinary fi rst notification of past contributions. Even without any changes, existing capital reserves will have to be notifi ed to the SFTA as long as the company holds any of them. Privileged refunds will always have to be notified to the SFTA not later than 30 days after the refund (resp. due) date.

5.5 What about the cantonal tax authorities?

The SFTA's assessment regarding capital reserves of any given Swiss company will be passed on to the respective cantonal tax authorities for direct taxation purposes. This SFTA's notifi cation will be deposited in the respective tax fi les of both the company and its shareholders and is binding for the cantonal tax authorities. Apart from this peculiarity, the procedure of filing ordinary tax returns will remain unchanged. Nevertheless, capital reserves will have to appear in the statutory accounts as described already above (para. 4). Thanks to the SFTA's notifi cations, shareholders of Swiss corporations would (as a rule) not have to provide any specific proof confirming the qualifi cation of their income tax free refund. Shareholders of foreign companies however, are well advised to demand some sound documentation regarding capital reserves from their companies, if any.

6 SPECIAL CASES

Shareholders of foreign companies might be pleased to note that the legal qualification of their capital contributions will remain unchanged upon relocation of their company into Switzerland.

Shareholders' capital reserves might be transferred also in the course of a merger. This is why it is advisable to carefully examine qualification and composition of all involved companies' reserves in the pretransaction accounts. Unfortunately, some restructuring measures will not allow to transfer or to preserve capital reserves from shareholders' contributions. This will be the case with an upon up-stream merger and with a down-stream merger between a parent company and its subsidiary. In both situations qualifying reserves of the subsidiary would be lost. Against this background, shareholders' capital contributions should be quantified and the consequences of the envisaged transaction as regards the capital reserves should carefully be analysed in advance of any transaction. There might be alter native measures allowing for the preservation of the privileged reserves.

The narrow legal framework of Swiss income tax schemes like Indirect Partial Liquidation ("IPL") or Transposition ("TP") will unfortunately not disappear under the new legislation. However, thanks to the Capital Contribution Principle, the income tax exposure in all TP-constellations will at least be reduced as far as any qualifying reserves are transferred to a new owner in the course of such a transaction.

The SFTA-Circular provides useful guidelines as to all major relevant restructuring constellations and to further special cases. Since not all practical questions are resolved yet, doctrine and practise remains to be closely followed.

7 CONCLUSIONS

The current regime change is far reaching and highly welcome. It fi nally allows Swiss shareholders to enjoy a tax free refund of their capital contributions, whether registered capital or not. For foreign shareholders no withholding tax will apply. From the corporations' perspective, the new legal framework reduces the overall costs for raising new flexible equity and allows for a more flexible equity structure. Planning opportunities will be given with respect to restructuring situations, foundations and capital increases by capital contributions, corporate relocations to Switzerland and many further constellations. Depending on the size, age and activities of any company the formal conditions for this tax benefit might result in a more or less substantial "due diligence".

Our tax experts will gladly assist you in taking best advantage of this new tax privilege.

Footnotes

1 Swiss Federal Act on Direct Taxation, Art. 20 para 3 and Art. 125 para. 3; Swiss Federal Act on Withholding Tax, Art. 5 para. 1bis.

2 See draft for new Art. 671 Swiss Code of Obligations.

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.

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