For more background, we invite you to revert to our newsletters from January 2016 and April 2016 on the same topic
On June 17, 2016, the two chambers of the federal parliament reached an agreement and closed the parliamentary process regarding the corporate tax reform III (CTR III). The adoption of the CTR III represents an important stage as it ensures legal certainty for the companies and allows Switzerland to have a tax regime that is in accordance with the requirements of the OECD’s BEPS programme, while also resolving the tax conflict with the EU.
The adopted measures
Abolition of the special tax regimes
The reform’s main measure is the suppression of the special tax regimes granted to a certain kind of companies (at federal level: principal companies and finance branches, at cantonal level holding, mixed and auxiliary companies), which attracted a large number of companies with a predominately foreign-oriented activity, as well as holding parent companies. These companies currently benefit from an advantageous tax treatment, however, once the CTR III will enter into force, they will have to pay the same taxes as regularly taxed companies. In order to maintain Switzerland’s tax attractiveness and to avoid the migration of those companies, the CTR III provides for several new measures which are explained below. Moreover, many cantons plan to lower their corporate tax rates to complement those measures (see point 6.). Once the reform will enter into force, Switzerland will offer an internationally very competitive corporate tax regime. Therefore, while being in accordance with the OECD’s BEPS obligations, the CTR III allows companies to undertake long-term tax planning.
Notional interest deduction
Controversially discussed in parliament, the notional interest deduction (NID) was finally adopted.
The NID is a fictional deduction of interest on so-called security equity (the part exceeding necessary equity). Companies having a high percentage of self-financing will benefit most from this measure. However, the deductible interest will be equivalent to the yield of the Swiss federal government’s 10-year bonds. The gross-up of 0.5% on that yield has been removed due to the Council of States’ opposition. It should be mentioned that the federal bonds have currently a negative yield (-0.53% as of June 16, 2016). Therefore, this tax relief won’t have any practical impact in the foreseeable future. However, for a company whose equity is composed of loans from people with a close relation to it, the application of an interest rate equivalent to what third persons would demand could be requested. The deduction of the notional interest is introduced for the direct federal tax.
The cantons are free to introduce the NID into their legislation, provided that they tax the dividends and other distributions of qualified participations (at least 10%) at at least 60%. There are currently sixteen cantons which apply a reduction of 50% or more. It should be noted that the Federal Council had initially proposed an increase of that partial taxation of participation income at 70%, considering the expected general lowering of corporate tax rates in the cantons.
The patent box
The CTR III introduces the patent box, which complies with the OECD’s international requirements. The patent box allows a partial exemption of the profit resulting from patents which are linked to the companies’ research expenses (nexus approach). The maximum exemption rate of the patent’s profit is fixed at 90%. The cantons are free to introduce a lower rate in their legislation. The patent box is a cantonal and communal measure, while for the federal taxes no reduction will be applied.
The R&D « super-deduction »
Another measure called the super-deduction is introduced. The super-deduction is a tax deduction that goes beyond the commercially justified research and development expenses. The super-deduction is optional for the cantons, it is however limited at 150% of the actual costs.
The aim of these tax reliefs is to decrease the tax cost of research activity, from basic research until the arrival on the market (patent), in order to attract high-quality economic value-added.
Moreover, the CTR III introduces a step-up, which allows a tax neutral declaration of hidden reserves at the beginning and at the end of the tax obligation. The declaration of these hidden reserves when immigrating into Switzerland (step-up) will be tax free. As a consequence, depreciations and amortizations will reduce the profit during the years following the step-up. However, such a declaration makes sense mainly if the company comes from a country where there is no taxation of its hidden reserves when leaving. If that country is an OECD member and provided it has already implemented the respective BEPS measures, at least one of the two countries must tax the hidden reserves in case of realisation in order to avoid a double non-taxation, which is prohibited within the BEPS programme.
Moreover, as the reform does not provide any transitional period regarding the special tax regimes, in order to soften the loss of the special status for those companies, a possibility of a special taxation of the existing hidden reserves is introduced. Provided that these reserves cannot be taxed under the current regime, a separate taxation of the hidden reserves, distributed over five years, can be introduced by the cantons.
The canton’s participation on the federal tax
The federal income tax is determined and levied by the cantons for the Confederation. The cantons do not pay the full amount of the federal tax levied to the Confederation, but withhold a part in order to cover their related expenses. That share has been increased to 21.2% of all federal taxes and fines levied. This will grant the cantons more flexibility when decreasing their corporate income tax rates. In fact, most cantons, especially those in the French part, plan to reduce their corporate tax rates. The canton of Vaud has already enacted an average tax rate of 13.79% from 2019 onwards. This will be a global tax rate, including the direct federal tax. Regarding Geneva, the political process is still in progress, however the government has confirmed its decision to envisage a very competitive tax rate of 13%. The canton of Fribourg’s government has also expressed to plan to decrease its cantonal tax rate to 13.72%. The canton of Zug and Schaffhausen both plan to lower their tax rates to 12%, while Zurich goes for 18%. Furthermore, the Zurich government wants its companies to be able to benefit as much as possible from the new measures by proposing R&D costs deduction of 150%, a patent box exemption of 90% and by introducing the deductibility of notional interest.
The tonnage tax
A tonnage tax had been proposed during the debate on the CTR III. The tonnage tax is merely a method to determine the income of shipping companies based solely on its transport capacity. This measure has been rejected by the Council of States and might be taken up again in a separate attempt.
Referendum and entry into force
Regarding measures like the NID or the R&D super-deduction, the cantons will be able to start their legislative process once the CTR III will enter into force. In Switzerland, each federal act decided by the federal parliament is subject to a referendum if 50'000 signatures are collected within 100 days following the final vote (in this case, until October 6, 2016). The socialist party has already initiated a referendum procedure because they deem the public finance losses of the CTR III to be too heavy. The reform will be therefore most likely subject to the approval of the population.
This vote will most likely take place in February 2017. In case of a positive outcome, the entry into force of the reform at federal and cantonal levels will be probably in 2019. In case of the population’s rejection of it, the whole project will be null and void. This means that the special tax regimes will remain in force, and that it will be possible to request new ones. As Switzerland has committed to suppress them, the federal parliament will have to review this project and postpone by a few years the suppression of the special tax regime.
The adoption of the CTR III allows Switzerland’s business place to be very competitive with regards to corporate taxes. The tax rates planned by the cantons are among the lowest in the OECD. Moreover, companies with scientific activity will be able to take advantage of a reduced taxation, adapted to their situation, which will incentivise them to do important investments. Provided the reform’s approval in the referendum, the adoption of the CTR III will allow companies to start their long-term tax planning. However, it is important to note that the effects of this reform on public finances is yet uncertain, especially at cantonal and communal level.
It has to be mentioned that the cantons will be constrained by a provision of the CTR III that limits these three new deductions to 80% of a business year’s corporate income before deduction of previous years’ losses carried forward. Also, the losses created by these new deductions cannot be carried forward. The cantons are free to set a lower limit than 80%.
We will keep you informed on the development of the project, especially on the implementation of the CTR III in the cantons with a high taxation rate.
If you have any question on the matter, do not hesitate to contact Mr. Daniel Spitz, certified tax expert, at +21 311 00 21, or at firstname.lastname@example.org .