Tax-free capital gains are attractive for investors and entrepreneurs in Switzerland. However, what appears to be an advantage at first glance can turn out to be a tax trap. Under certain circumstances, capital gains can be classified as income - with significant tax and social security consequences. This article shows what shareholders and investors should be aware of.
Private capital gains are generally tax-free in Switzerland - a significant advantage for investors and entrepreneurs. However, a recent ruling by the Federal Supreme Court [1] highlights the com-plexity of distinguishing between tax-free capital gains and taxable income. This ambiguity can result in unexpected tax consequences under specific circumstances. The matter becomes par-ticularly complex when commercial securities trading or a self-employed activity is suspected. If a capital gain qualifies as taxable income, it may result in significant and often unanticipated income tax and social security contributions. This article highlights the main issues.
The realization of a tax-free capital gain preconditions the (profitable) sale of private assets. By contrast, gains from the sale of business assets are in any case subject to income tax and social security contributions.
The assumption of business assets presupposes the exercise of a self-employed activity. If no such activity is carried out, no business assets can be assumed against the will of the taxpayer, meaning that all assets held constitute private assets from which tax-free capital gains can be generated. If a taxable person – consciously or unconsciously – is self-employed, it must be determined on a case-by-case basis whether an asset is to be classified as private or business asset. This depends on the individual circumstances, whereby the so-called technical-economic function of the asset in question plays a central role. In this context, it should be noted that the holding and management of assets themselves – be it securities, real estate or other stores of value – could, under certain circumstances, constitute (part-time) self-employment. The intention to actually be self-employed is not decisive in this respect.
The term self-employment is not defined by law, but all income from a trade, business, liberal profession or other self-employed activity is subject to tax. In practice, the term is interpreted broadly. Accordingly, all profits from activities that go beyond the simple management of private assets are considered taxable income. This also includes capital gains from the sale or use of business assets.
The determination of whether a person is self-employed hinges on the specific circumstances of each individual case. The Federal Supreme Court takes the following indicators into account:
Each of these indicators may be sufficient together with others but may also be sufficient on their own to assume self-employment. The fact that typical elements of self-employment are not fulfilled in individual cases can be compensated for by other elements that are particularly pro-nounced. The individual aspects may not be considered in isolation and can also vary in intensi-ty. The decisive factor is that the activity as a whole is aimed at earning income.
The assessment of all the circumstances without a clear hierarchy of the listed indications makes it difficult to assess in individual cases whether or not self-employment is to be assumed. The fact that even a single indication can be sufficient if it is particularly pronounced shows that the hurdle for assuming self-employment is relatively low. This – of course – is particularly relevant when the activity is profitable.
The distinction between private and business assets is made according to the technical and eco-nomic function of the asset in question. This refers to the connection of the asset with a possi-ble self-employed activity.
A sufficiently close connection is generally deemed to exist if an asset is objectively recogniza-ble as being used for business purposes or actually serves the self-employed activity. The ques-tion is therefore whether an asset (e.g. a shareholding) serves to increase income or reduce expenses of the self-employed business activity. If a participation grants significant influence over a company in the same or a related industry as the owner's own company, this is consid-ered an indication that the participation qualifies as business asset. This assumption is in general confirmed, if the participation generates mandates for the owner's own company. This is the case, for example, with an architect who holds shares in real estate companies and acquires ar-chitectural contracts for his own architecting company from these companies.[2]
However, it is important to note that not only shareholdings in the same sector can qualify as business assets. Shareholdings outside the same sector can also be regarded as business as-sets if they are suitable for usefully expanding or supplementing the field of activity of the parent company or for diversifying business activities. In any case, the decisive factor is the intention of the person concerned to use the participation specifically to improve the operating result of their own company or its opportunities on the market.
Against this background, the Federal Supreme Court recently ruled [3] that self-employed lawyers are not prohibited from holding additional securities of their clients as private assets. The Feder-al Supreme Court thus protected the position of the taxpayer and upheld his appeal. In its rea-soning, the court stated that the lawyer's activities, repeated advice, investment activities and membership of the board of directors were not in themselves sufficient evidence to classify the shareholding as (self-employed) business activity. As long as the purpose of the participation is not to increase income or reduce expenses within the scope of the original gainful activity (in this case the activity as a lawyer), there is no room to assume that the participation is a business asset or to assume self-employment. Nevertheless, the qualification as business assets is not excluded, as the participation could also form part of commercial securities trading.
Under certain circumstances, the (profitable) sale of shares can be regarded as commercial se-curities trading and thus as self-employment. In practice, the following criteria are used for this purpose [4]:
In this context, reference should be made to a ruling by the Federal Supreme Court [5], in which it had to deal with the sale of a shareholding that was classified as commercial securities trading by the lower courts. Specifically, a person who was initially still working as an independent man-agement consultant acquired a stake in a holding company that held two subsidiaries operating in the packaging industry. These companies were in financial difficulties, which made restructuring measures necessary. Together with another business partner, the person concerned succeeded in restructuring the companies and then selling them at a profit. The responsible tax office and the Federal Tax Administration were of the opinion that this approach went beyond the scope of private asset management, meaning that the realized increase in value would constitute (subse-quent) remuneration for the intensive restructuring efforts and thus income from self-employment from an economic point of view. In this regard, the Federal Supreme Court stated that, from a tax perspective, owners of participations are not prohibited from attempting to in-crease the value of the participation by participating in the company. [6] In this specific case, there was therefore no basis for a subsequent reclassification of the capital gain as remuneration for work performed, meaning that the gain could be recognized as a tax-free capital gain.
Although the term "trader" is often associated with repeated purchases and sales, the single sale of an asset can also be regarded as self-employment under certain circumstances. From a tax perspective, it is questionable whether the single sale of an asset can lead to the assumption of self-employment as a trader.
According to the case law of the Federal Supreme Court, the mere one-off sale of an asset does not in principle protect against the assumption of self-employment. For example, the sale of a single property or the (partial) sale of a shareholding can lead to the assumption of (part time) self-employed. However, this requires that the asset in question was acquired as part of a planned, acquisition-oriented activity and managed with a view to a future profitable sale. A tax-free capital gain from the sale of an individual asset is therefore only possible if the sale can still be attributed to private asset management. This is invariably the case when a one-time oppor-tunity is taken - whereby the burden of proof lies with the taxpayer. As long as the threshold for self-employment is not exceeded, a certain asset management activity in relation to the asset to be sold should not be detrimental. However, the circumstances of the specific individual case must always be considered.
According to federal court rulings, if an occupation is primarily held as a form of employment, part-time self-employment may be considered in exceptional cases and under specific circum-stances. Indications in this regard include any external financing, risks taken or a particularly sys-tematic or planned approach. The proximity to the profession and the specialist knowledge used are also indications to be considered. The Federal Supreme Court has determined that the amount of profit made is of secondary importance.[7]
A current example is provided by the Federal Supreme Court [8]: In this instance, the revenue de-rived from the one-time sale of a share was classified as income from self-employment. The decisive factor was that the taxpayer was systematically and entrepreneurially involved in the project over a longer period of time, invested considerable financial resources, took entrepre-neurial risks and cooperated with an experienced business partner. Despite the lack of repetition of this activity, these circumstances were sufficient to assume a taxable gainful activity.
The distinction between tax-free capital gains and taxable income is complex in many cases and depends on various indicators. In order to realize a tax-free capital gain, it is important to careful-ly examine the relevant criteria and, if necessary, take measures in good time to avoid tax disad-vantages. Early and forward-looking planning is essential in view of the tax consequences of refusing the benefit of tax-free capital gains. This applies all the more as social security contribu-tions are due on the capital gain in addition to income tax.
[1] Cf. judgment FSC 9C_454/2023 of December 11, 2024.
[2] Cf. judgment FSC 2A.547/2004 of April 22, 2005.
[3] Cf. judgment FSC 9C_454/2023 of December 11, 2024.
[4] Cf. circular letter of the FTA no. 36, section 4.3.2.
[5] Cf. judgment FSC 2C_115/2012 and 2C_116/2012 of September 25, 2012.
[6] Cf. judgment BGer 2C_115/2012 and 2C_116/2012 of September 25, 2012 E. 2.5.3.
[7] See in particular.judgment BGer 9C_403/2023 of June 25, 2024 E. 5.5.
[8] See in particular. judgment BGer 9C_403/2023 of June 25, 2024.
In its ruling 9C_690/2022 of July 17, 2024, a five-judge panel of the Swiss Federal Supreme Court ruled on the binding effect of the "safe harbour" interest rates published annually by the Swiss Federal Tax Administration ("SFTA"). According to the Supreme Court, the tax authorities are not bound by the published interest rates if interest rates agreed between associated companies are below or above the published minimum or maximum rates. In this case, according to the Federal Supreme Court, the tax authorities must instead determine the "actual" arm's length interest rate.
The appellant company (A. AG), a subsidiary of a corporation incorporated based on federal law (B. AG), is subject to limited tax liability in the Canton of Zurich on the basis of permanent establishments. [1] In 2013, A. AG entered into a credit facility agreement with its parent company with a maximum credit limit of CHF 1 billion. On the basis of this agreement, the two companies agreed on a fixed term loan (61 months) of CHF 500 million at an interest rate of 2.5% per annum. For the difference between the credit limit and the fixed loan, a current account was agreed at an interest rate of 3% per annum.
The Cantonal Tax Administration of Zurich ("TA ZH") took the view that the agreed interest rates were not at arm's length, in particular because the existing government guarantee of the parent company had not been taken into account when determining the disputed interest rates. The TA ZH subsequently claimed deemed dividends for the 2014 and 2015 tax periods. The deemed dividends were initially calculated on the basis of an interest rate of 1% per annum, which was determined at the discretion of TA ZH. A. AG's objection to this was partially upheld by the tax administration and the at arm's length interest rate was set at 1.08%. The TA ZH calculated the rate of 1.08% on the basis of the average interest rate for the refinancing of B. AG with bonds of 0.83% and added a margin of 0.25%. This approach was confirmed by the Tax Appeal Court of the Canton of Zurich in its decision of March 10, 2002.
The Administrative Court of the Canton of Zurich partially upheld the appeal against the ruling of the Tax Appeals Court and referred the case back to the lower court for recalculation and a new ruling in line with the considerations. In essence, the Administrative Court was of the opinion that the interest rates published annually by the SFTA should be adhered to and that these rates define the arm’s length range of applicable interest rates. A correction of a not at arm’s length interest rate was therefore only possible to the amount of the published minimum or maximum interest rates. The TA ZH appealed against this ruling to the Federal Supreme Court, which rejected the position of the Administrative Court and upheld the opinion of the TA ZH.
On the merits of the case, the Federal Supreme Court addressed the objection raised by TA ZH that the interest rate circulars published by the SFTA are not applicable to state and cantonal income taxes and are only binding for the purposes of federal income tax and withholding tax. In this respect, the Federal Court recalled that the income tax rules are harmonised between the federal and cantonal levels, which means that the SFTA interest rates are also applicable to federal and cantonal income taxes.[2]
With regard to the nature of the SFTA circulars on permissible interest rates, the Federal Supreme Court first stated that they serve to simplify the application of the arm's length principle. The simplification lies in the fact that the published interest rates, as "safe harbour rules", justify the assumption that there is no deemed dividend if the taxpayer complies with these rules. [3] Conversely, or if the taxpayer deviates from the published rates, there is a rebuttable presumption of a deemed dividend. In this case, it is up to the taxpayer to prove that the interest payments are in fact at arms' length. In addition, the Federal Supreme Court stated that the interest rate circulars of the SFTA should only be deviated from if the applicable legal provisions are not convincingly specified. [4]
With regard to the case at hand, the Federal Supreme Court stated that the binding effect of the interest rate circulars only exists as long as the taxpayer itself adheres to the interest rates defined therein. If the taxpayer deviates from these rates, there is no reason why the tax authority should continue to be bound by the safe harbour rules and not be allowed to determine the actual arm's length interest rate. [5] In these cases, there is neither a violation of the protection of legitimate expectations nor of the principle of equal treatment, especially since the taxpayer itself has deviated from the SFTA interest rates. Finally, the deviation from these interest rates would also undermine the purpose of the safe harbour rules, i.e. administrative simplification, as the tax authorities would have to check in these cases whether the interest rate claimed was in line with the arm's length principle. [6] Against this background, the Federal Court did not see any violation of the law in the TA ZH's determination of what it considered to be the arm's length interest rate, which deviated from the FTA interest rates.
However, with regard to the actual determination of the arm's length interest rate by the TA ZH, the Federal Supreme Court found that the Administrative Court of the Canton of Zurich had not addressed the issue of the legitimacy of taking into account a "margin" of 0.25% based on the interest rate circulars of the SFTA. In this respect, the Federal Supreme Court referred the matter back to the lower court for reconsideration.
The above-mentioned decision of the Federal Court raises several questions, both in terms of its reasoning and its possible consequences for practice, which will be addressed in the following.
To the extent that the Federal Court has denied a violation of the principle of equal treatment, one can agree with the court as long as it will be ensured that the tax authorities consistently apply the arm's length interest rate in all cases where a taxpayer deviates from the SFTA interest rates. In other words, the tax authorities should not be able to rely on the SFTA rates on a case-by-case basis as this would lead to unequal treatment of taxpayers who deviate from the SFTA rates. Similarly, the individual application of the effectively higher administrative costs by the tax authorities when assessing the participation exemption would also violate the principle of equal treatment – to the extent that this was actually intended by the legislator .[7] – gegen den Grundsatz der Gleichbehandlung.[8]
The Federal Court's argument that the purpose of the interest rate circulars in terms of administrative simplification can no longer be achieved if the taxpayer deviates from the maximum permissible interest rates is not entirely convincing, if at all. According to the case law of the Federal Supreme Court, the tax authorities can no longer limit themselves (while maintaining the principle of equal treatment) to examining the transfer pricing studies submitted as evidence of the arm's length principle, but must now - if they are of the opinion that the arm's length principle has not been verified - determine the effective market interest rate. It is true that the taxpayers' (attempted) proof of arm's length interest rates, as opposed to the SFTA interest rates, involves additional work for the tax authorities. However, this in itself only partially limits the purpose of administrative simplification. This purpose is only completely thwarted by the TA ZH's position, now confirmed by the Federal Court, that it is the tax authority's task to determine the specific market interest rate to be applied (and not merely a range of arm’s length interest rates). If it is indeed (only) a matter of administrative simplification, there is no obvious reason why the SFTA interest rates could no longer be used as a basis (for simplification reasons) if the arm's length interest rate cannot be proven. Instead, the tax authorities will have to determine the arm's length rate in accordance with best practice.
With regard to the requirements for the tax authorities to provide evidence of what they consider to be the arm's length interest rate, it seems reasonable to apply the same requirements for the evidence of the arm's length principle or the transfer pricing study as those defined in the SFTA applicable to taxpayers. The transfer pricing study to be carried out by the tax administration would therefore have to include the following elements, whereby the taxpayer's duty of cooperation could be invoked for the first two points[9]:
In terms of applicable transfer pricing methods, the Comparable Uncontrolled Price Method (CUP Method) is the primary transfer pricing method to be used for interest rates. In addition, the cost of funds method is also recognised in Swiss practice and appears to have been used by TA ZH in the present case. According to this method, the interest rate is determined on the basis of the lender's cost of funds plus a risk premium and a profit margin. The determination of the margin requires a case-by-case assessment, taking into account the borrower's credit rating. Against this background, the Federal Court's decision to refer the case back to the Administrative Court with regard to the 0.25% interest margin applied by TA ZH, which in turn is based on the SFTA's interest rate circular, is only consistent in the light of the other considerations.
Lastly, the statement by the Federal Court that it is the task of the tax authority to determine a specific interest rate to be applied and not (merely) a range of interest rates also raises questions. This statement cannot be reconciled with state-of-the-art transfer pricing methodology. The Federal Court fails to recognise that, in principle, only a range can be determined for the market interest rate or that it is unlikely that there is only one market interest rate for a specific transaction. [10] The principle applies that a correction to the actual terms agreed between related parties is only permitted at the upper or lower end of the identified arm’s length range. This principle has now been unnecessarily called into question by the Federal Supreme Court, at least as far as interest rates are concerned. It is also questionable to what extent the interest rates published by the SFTA correspond to the arm's length principle, if they cannot be used as a basis for determining deemed dividends. In this context, it should be noted that some tax administrations have taken the view that the range of arm's length interest rates is relatively narrow, meaning that a deviation of more than 25% from the SFTA interest rates is per se inconsistent with the arm's length principle and that the taxpayer is (effectively) denied the opportunity to provide rebuttal evidence. [11] This position can no longer be maintained if the case law of the Federal Court is consistently applied.
With regard to the specific facts of the present case, it can be said that the deviation of the TA ZH from the SFTA interest rates can be regarded as appropriate in individual cases. However, the reasoning chosen by the Federal Supreme Court to justify the deviation from the SFTA interest rates is not convincing and leads to unnecessary uncertainties. It would have been more appropriate to emphasise the special nature of the individual case at hand and thus follow a factual line of reasoning. In this respect, the Federal Supreme Court could have referred to the general rule that the interest rate circulars of the SFTA can (only) be deviated from if they do not convincingly specify the applicable legal provisions, which could certainly have been argued in the present case.
It would now be desirable for the SFTA to take the present decision of the Federal Court as an occasion to amend its interest rate circular and, in particular, to define more precisely the scope of application of the safe harbour rules. [12] This would increase legal certainty for taxpayers, and the expected additional workload for the tax authorities could be mitigated. In this context, it should be noted that the credit rating of the borrower and the specific structure of the financing are of considerable importance in determining an arm's length interest rate on a case-by-case basis. For example, the impact of collateral, maturity and prepayment rights (or lack thereof), as well as whether and how implicit group support or a group rating should be taken into account, must be assessed.
Since deviation from the SFTA's interest rate circulars has always led to a de facto obligation to provide evidence of the arm’s length of the interest rates used, it is still recommended - also in light of the discussed decision - that groups prepare a robust transfer pricing analysis and documentation.
Zurich, August 23, 2024
[1] For a more detailed description of the facts, see the ruling of the Administrative Court of the Canton of Zurich SB.2021.00056 of May 25,2022..
[2] Judgment FSC 9C_690/2022 of July 17, 2024, E. 6.1.
[3] Judgment FSC 9C_690/2022 of July 17, 2024, E. 4.1.
[4] Judgment FSC 9C_690/2022 of July 17, 2024, E. 4.2.
[5] Judgment FSC 9C_690/2022 of July 17, 2024, E. 6.2.
[6] Judgment FSC 9C_690/2022 of July 17, 2024 E. 6.2. in fine
[7] Cf. GRETER, Der Beteiligungsabzug im harmonisierten Gewinnsteuerrecht, Diss., Zurich 2000, p. 142.
[8] Cf. Attenhofer, in: Klöti-Weber/Schudel/Schwarb, Kommentar zum Aargauer Steuergesetz, 5th edition, Bern 2023, para 35 to § 27b; Vitali, ibid., para. 86 to § 76,
[9] See https://www.estv.admin.ch/estv/de/home/internationales-steuerrecht/verrechnungspreise.html, question 23.
[10] See https://www.estv.admin.ch/estv/de/home/internationales-steuerrecht/verrechnungspreise.html, question 32.
[11] See Harbeke/Hug/Scherrer, Verrechnungspreisrecht der Schweiz, Grundlagen und Praxis, Zürich, 2022, para. 1188.
[12] See also the criticism of the SFTA interest circulars in Harbeke/Hug/Scherrer, a.a.O., para. 1226.
A AG is active in the procurement, holding, financing, operation, rental and leasing of aircraft. A AG is held by the company B. The owner of B is the C family.
In 2012, A AG acquired an aircraft and concluded an "Aircraft Management and Charter" agreement with D. In the agreement, A AG transferred the exclusive right to manage the aircraft and operate it vis-à-vis third parties to D.
All flights carried out with the aircraft were invoiced by the D. company. D retained a certain amount of the fees received as commission. D reimbursed the remaining amount to A AG as a rental payment. In detail, the agreement provided for the following:
The contract also stipulated that D had to obtain the prior consent of A AG for each charter flight. In addition, it would inform A AG of all flight enquiries from potential charter customers at A AG's request. A AG reserved the right to approve or reject any charter flight offered by D at its own discretion.
In 2012, the FTA confirmed A AG's input tax deduction with regard to import tax on the aircraft and domestic tax invoiced by D. The decision was based on a ruling request, which was based on the following utilisation forecast:
It later transpired that more than 50% of the actual use was for the private needs of A AG and related parties. As a result, the FTA denied the input tax deduction to the extent of the use for non-commercial purposes and qualified the structure in relation to the aircraft as abusive.
The main issue in dispute is whether input tax deduction is excluded if the aircraft is used for the private use of the beneficial owners (A AG and related parties).
9C_775/2023
In its earlier judgement (BGE 149 II 53), the Federal Supreme Court was guided by the practice of the FTA when determining the threshold above which private use of an aircraft is no longer considered part of a business activity. Accordingly, private use of up to 20 % is not harmful. If this value is exceeded, the entire private use of the aircraft by the beneficial owner and related parties falls outside the scope of VAT and does not entitle the beneficial owner to deduct input tax.
Both the lower court and the appellant are correct in assuming that A AG forms an entrepreneurial unit (in accordance with the principle of the unity of the company in BGE 142 II 488), which is also confirmed by the Federal Supreme Court in the present case. However, even if a business unit exists, input tax deduction is only possible to the extent of the business activity.
The appellant's activity raises the question of whether an input tax adjustment is necessary, even though the structure provides for the aircraft to be used exclusively for business purposes. The Federal Supreme Court answered in the affirmative, as the private use accounts for more than 20% of the total use and therefore does not fall within the scope of VAT. In this respect, in the court's opinion, there was never a right to claim input tax.
Aircraft holding structures are regularly the focus of VAT auditors. The judgement essentially confirms the practice of the FTA and its restrictive approach. The judgement goes beyond aircraft holding structures and taxable persons should always keep an eye on the proportion of "de facto" private use of these items in relevant constellations (e.g. holiday homes, vehicles, boats).
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